<PAGE>
UNITED STATES SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark One)
X QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES AND
- ---
EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 1999
OR
- -- TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES AND
EXCHANGE ACT OF 1934
For the transition period from _______ to ________.
Commission file number 0-25034
GREATER BAY BANCORP
(Exact name of registrant as specified in its charter)
California 77-0387041
(State or other jurisdiction of (IRS Employer
incorporation or organization) Identification No.)
2860 West Bayshore Road, Palo Alto, California 94303
(Address of principal executive offices) (Zip Code)
(650) 813-8200
(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes X No ___
---
Outstanding shares of Common Stock, no par value, as of November 12, 1999:
12,261,402
<PAGE>
GREATER BAY BANCORP
INDEX
Part I. Financial Information
<TABLE>
<S> <C>
Item 1. Consolidated Financial Statements
Consolidated Balance Sheets as of
September 30, 1999 and December 31, 1998...................................................... 3
Consolidated Statements of Operations
for the Three Months and Nine Months Ended
September 30, 1999 and 1998................................................................... 4
Consolidated Statements of Comprehensive Income
for the Three Months and Nine Months Ended
September 30, 1999 and 1998................................................................... 5
Consolidated Statements of Cash Flows for the
Nine Months Ended September 30, 1999 and 1998................................................. 6
Notes to Consolidated Financial Statements.................................................... 7
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations........................................................... 14
Item 3. Quantitative and Qualitative Disclosures About Market Risk....................................... 33
Part II. Other Information
Item 1. Legal Proceeding................................................................................. 39
Item 2. Changes in Securities and Use of Proceeds........................................................ 39
Item 3. Default Upon Senior Securities................................................................... 39
Item 4. Submission of Matters to a Vote of Securities Holders............................................ 39
Item 5. Other Information................................................................................ 39
Item 6. Exhibits and Reports on Form 8-K................................................................. 39
Signatures.................................................................................... 40
</TABLE>
2
<PAGE>
GREATER BAY BANCORP AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
<TABLE>
<CAPTION>
September 30,
1999 December 31,
(Dollars in thousands) (unaudited) 1998*
- ----------------------------------------------------------------------------------------------------
<S> <C> <C>
ASSETS
Cash and due from banks $ 98,863 $ 69,583
Federal funds sold 183,800 62,800
Other short term securities 38,936 77,576
---------------------------------
Cash and cash equivalents 321,599 209,959
Investment securities:
Available for sale, at fair value 277,187 257,258
Held to maturity, at amortized cost (fair value:
$118,367 and $94,890 at September 30, 1999 and December
31, 1998, respectively) 120,377 94,209
Other securities 7,083 6,044
---------------------------------
Investment securities 404,647 357,511
Loans:
Commercial 687,402 483,668
Real estate construction and land 287,761 215,274
Real estate term 413,536 332,478
Consumer and other 100,851 88,458
Deferred loan fees and discounts (5,531) (3,896)
---------------------------------
Total loans, net of deferred fees 1,484,019 1,115,982
Allowance for loan losses (29,680) (23,379)
---------------------------------
Total loans, net 1,454,339 1,092,603
Property, premises and equipment 15,724 11,380
Interest receivable and other assets 87,578 66,736
---------------------------------
Total assets $2,283,887 $1,738,189
=================================
LIABILITIES AND SHAREHOLDERS' EQUITY
Deposits:
Demand, noninterest-bearing $ 375,302 $ 302,006
MMDA, NOW and savings 1,242,114 922,581
Time certificates, $100,000 and over 353,687 190,312
Other time certificates 61,634 64,048
Total deposits 2,032,737 1,478,947
Other borrowings 52,000 75,085
Subordinated debt - 3,000
Company obligated mandatorily redeemable cumulative
trust preferred securities of subsidiary trusts holding
solely junior subordinated debentures 50,000 50,000
Other liabilities 29,112 24,116
---------------------------------
Total liabilities $2,163,849 $1,631,148
=================================
Commitments and contingencies
SHAREHOLDERS' EQUITY
Preferred stock, no par value: 4,000,000 shares
authorized; none issued - -
Common stock, no par value: 24,000,000 shares
authorized; 11,325,572 and 11,011,462 shares issued and
outstanding as of September 30, 1999 and December 31, 1998,
respectively 67,085 63,079
Retained earnings 56,951 44,060
Accumulated other comprehensive loss (3,998) (98)
---------------------------------
Total shareholders' equity 120,038 107,041
---------------------------------
Total liabilities and shareholders' $2,283,887 $1,738,189
equity =================================
</TABLE>
* Restated on an historical basis to reflect the merger with Bay Area
Bancshares ("BA Bancshares") on a pooling of interests basis.
See notes to consolidated financial statements.
3
<PAGE>
GREATER BAY BANCORP AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
<TABLE>
<CAPTION>
Three Months Ended September 30, Nine Months Ended September 30,
--------------------------------- ------------------------------
(Dollars in thousands, except per share amounts) (unaudited) 1999 1998* 1999 1998*
- ------------------------------------------------------------------------------------------------- ------------------------------
<S> <C> <C> <C> <C>
INTEREST INCOME
Interest on loans $ 33,234 $ 24,132 $ 90,946 $ 68,973
Interest on investment securities:
Taxable 5,756 5,418 15,499 12,840
Tax - exempt 897 626 2,406 1,448
------------------------------- ----------------------------
Total interest on investment securities 6,653 6,044 17,905 14,288
Other interest income 2,821 2,822 7,361 8,385
------------------------------- ----------------------------
Total interest income 42,708 32,998 16,212 91,646
------------------------------- ----------------------------
INTEREST EXPENSE
Interest on deposits 15,749 11,933 41,315 31,883
Interest on long term borrowings 1,861 1,902 6,107 4,556
Interest on other borrowings 2 112 292 1,266
------------------------------- ----------------------------
Total interest expense 17,612 13,947 47,714 37,705
------------------------------- ----------------------------
Net interest income 25,096 19,051 68,498 53,941
Provision for loan losses 3,518 1,881 6,075 4,294
------------------------------- ----------------------------
Net interest income after provision for loan
losses 21,578 17,170 62,423 49,647
------------------------------- ----------------------------
OTHER INCOME
Trust fees 768 642 2,216 1,809
Loan and international banking fees 747 165 1,514 501
ATM network revenue 615 518 1,643 1,380
Service charges and other fees 520 431 1,332 1,322
Gain on sale of SBA loans 253 290 835 755
Gain on sale of investments, net - 4 - 54
Other income 1,170 129 1,873 301
------------------------------- ----------------------------
Total, recurring 4,073 2,179 9,413 6,122
Warrant income - 134 230 497
------------------------------- ----------------------------
Total other income 4,073 2,313 9,643 6,619
------------------------------- ----------------------------
OPERATING EXPENSES
Compensation and benefits 7,960 6,587 22,855 19,047
Occupancy and equipment 2,685 1,852 7,476 5,268
Telephone, postage and supplies 586 474 1,759 1,406
Legal and other professional fees 551 537 1,622 1,631
Marketing and promotion 398 409 1,215 959
Client services 280 128 785 421
FDIC insurance and regulatory assessments 138 93 341 273
Insurance 110 108 286 262
Other real estate owned 30 43 66 58
Other 1,251 1,099 3,672 3,305
------------------------------- ----------------------------
Total, recurring 13,989 11,330 40,077 32,630
Merger and other related nonrecurring costs - 537 3,965 2,661
Contribution to the GBB Foundation - 192 323 893
------------------------------- ----------------------------
Total operating expenses 13,989 12,059 44,365 36,184
------------------------------- ----------------------------
Income before provision for income taxes and
extraordinary items 11,662 7,424 27,701 20,082
Provision for income taxes 4,295 2,409 10,580 6,767
------------------------------- ----------------------------
Net income before extraordinary items 7,367 5,015 17,121 13,315
Extraordinary items - - (88) -
------------------------------- ----------------------------
Net income $ 7,367 $ 5,015 $ 17,033 $ 13,315
=============================== ============================
Net income per share - basic $ 0.65 $ 0.46 $ 1.52 $ 1.23
=============================== ============================
Net income per share - diluted $ 0.62 $ 0.43 $ 1.44 $ 1.14
=============================== ============================
</TABLE>
* Restated on an historical basis to reflect the merger with Pacific Rim Bancorp
("PRB"), Pacific Business Funding Corporation ("PBFC") and Bay Area Bancshares
("BA Bancshares") on a pooling of interests basis.
See notes to consolidated financial statements.
4
<PAGE>
GREATER BAY BANCORP AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(UNAUDITED)
<TABLE>
<CAPTION>
Three Months Ended September 30, Nine Months Ended September 30,
--------------------------------- ----------------------------------
(Dollars in thousands) 1999 1998 * 1999 * 1998 *
- ---------------------------------------------------------------------------------------- ----------------------------------
<S> <C> <C> <C> <C>
Net income $ 7,367 $ 5,015 $17,033 $13,315
--------------------------------- ----------------------------------
Other comprehensive income:
Unrealized gains on securities:
Unrealized holding gains arising during
period (net of taxes of $(1,605) and $1,222,
for the three years ended September 30, 1999
and 1998, respectively, and $(3,791) and
$1,746 for the three months ended and nine
months ended September 30, 1999 and 1998,
respectively) (2,296) 1,604 (5,421) 2,497
Less: reclassification adjustment for gains
included in net income (net of taxes of
$2 and $22 for the three and nine months
ended September 30, 1998, respectively) - 2 - 32
--------------------------------- ----------------------------------
Net change (2,296) 1,602 (5,421) 2,465
--------------------------------- ----------------------------------
Cash flow hedges:
Net derivative gains arising during period
(net of taxes of $(32) and $969 for the three
and nine months ended September 30, 1999) (46) - 1,386 -
Less: reclassification adjustment for expenses
included in net income (net of taxes of $(32)
and $(95) for the three and nine months
ended September 30, 1998) (46) - (135) -
--------------------------------- -------------------------------
Net change - - 1,521 -
--------------------------------- -------------------------------
Other comprehensive income (2,296) 1,602 (3,900) 2,465
--------------------------------- -------------------------------
Comprehensive income $ 5,071 $ 6,617 $13,133 $15,780
================================= ===============================
</TABLE>
* Restated on an historical basis to reflect the merger with PRB, PBFC and BA
Bancshares on a pooling of interests basis.
See notes to consolidated financial statements.
5
<PAGE>
GREATER BAY BANCORP AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
Nine Months Ended September 30,
--------------------------------
(Dollars in thousands) (unaudited) 1999 1998*
- ----------------------------------------------------------------------------------------------------------------
<S> <C> <C>
Cash flows - operating activities
Net income $ 17,033 $ 13,317
Reconcilement of net income to net cash from operations:
Provision for loan losses 6,525 4,294
Depreciation and amortization 3,176 1,378
Deferred income taxes (2,593) (1,427)
(Gain) loss on sale of investments, net - (54)
Changes in:
Accrued interest receivable and other assets (9,496) (2,177)
Accrued interest payable and other liabilities 7,581 1,717
Deferred loan fees and discounts, net 1,635 79
--------- ---------
Operating cash flows, net 23,861 17,127
--------- ---------
Cash flows - investing activities
Maturities of and partial paydowns on investment securities:
Held to maturity 12,043 31,714
Available for sale 29,774 217,402
Purchase of investment securities:
Held to maturity (38,232) (73,335)
Available for sale (84,463) (522,298)
Other securities (1,039) (2,539)
Proceeds from sale of available for sale securities 24,783 162,926
Loans, net (369,896) (124,461)
Proceeds from sale of other real estate owned 451 -
Purchase of property, premises and equipment (6,734) (3,788)
Purchase of insurance policies (6,477) (21,985)
--------- ---------
Investing cash flows, net (439,790) (336,364)
--------- ---------
Cash flows - financing activities
Net change in deposits 553,790 242,410
Net change in other borrowings - short term (23,085) (11,120)
Proceeds from other borrowings - long term - 70,000
Principal repayment - long term borrowings (3,000) -
Company obligated mandatory redeemable preferred
securities of subsidiary trust holding solely junior subordinated
debentures issued - 30,000
Proceeds from sale of common stock 4,006 3,730
Cash dividends (4,142) (4,315)
--------- ---------
Financing cash flows, net 527,569 330,705
--------- ---------
Net change in cash and cash equivalents 111,640 11,468
Cash and cash equivalents at beginning of period 209,959 250,680
--------- ---------
Cash and cash equivalents at end of period $ 321,599 $ 262,148
========= =========
Cash flows - supplemental disclosures
Cash paid during the period for:
Interest $ 47,848 $ 33,801
Income taxes $ 9,503 $ 7,320
Non-cash transactions:
Additions to other real estate owned $ - $ 105
</TABLE>
* Restated on an historical basis to reflect the merger with PRB, PBFC and BA
Bancshares on a pooling of interests basis.
See notes to consolidated financial statements.
6
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
As of September 30, 1999 and December 31, 1998 and for the
Three and Nine Months Ended September 30, 1999 and 1998
NOTE 1-SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
The results of operations for the three and nine months ended September 30,
1999 are not necessarily indicative of the results expected for any subsequent
quarter or for the entire year ended December 31, 1999. The financial statements
should be read in conjunction with the consolidated financial statements, and
the notes thereto, included in the Annual Report on Form 10-K for the year-end
December 31, 1998 and the supplemental consolidated financial statements and
notes thereto included in the current Report on Form 8-K dated July 1, 1999, as
amended by Form 8-K/A dated July 16, 1999.
Consolidation and Basis of Presentation
The supplemental consolidated financial statements include the accounts of
Greater Bay Bancorp ("Greater Bay" on a parent-only basis, and the "Company" on
a consolidated basis) and its wholly owned subsidiaries, Mid-Peninsula Bank
("MPB"), Cupertino National Bank ("CNB"), Peninsula Bank of Commerce ("PBC"),
Golden Gate Bank ("Golden Gate"), Bay Area Bank ("BAB"), GBB Capital I and GBB
Capital II and its operating divisions Greater Bay Bank Santa Clara Valley
Commercial Banking Group, Greater Bay Corporate Finance Group, Greater Bay Bank
Contra Costa Region, Greater Bay International Banking Division, Greater Bay
Trust Company, Pacific Business Funding and Venture Banking Group. All
significant intercompany transactions and balances have been eliminated. Certain
reclassifications have been made to prior years' consolidated financial
statements to conform to the current presentation. The accounting and reporting
policies of the Company conform to generally accepted accounting principles and
the prevailing practices within the banking industry.
Use of Estimates in the Preparation of Financial Statements
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of certain assets and liabilities
and disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of certain revenues and expenses during the
reporting period. Actual results could differ from those estimates.
Comprehensive Income
On January 1, 1998, the Company adopted Statement of Financial Accounting
Standards ("SFAS") No. 130, "Reporting Comprehensive Income". This statement
requires companies to classify items of other comprehensive income by their
nature in the financial statements and display the accumulated other
comprehensive income separately from retained earnings in the equity section of
the balance sheet. The changes to the balances of accumulated other
comprehensive income are as follows:
<TABLE>
<CAPTION>
Accumulated
Unrealized Gains (Losses) Cash Flow Other Comprehensive
(Dollars in thousands) on Securities Hedges Income (Loss)
- --------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Balance - as of December 31, 1998 $ 579 $ (677) (98)
Current period change (5,421) 1,521 (3,900)
---------------------------------------------------------------
Balance - as of September 30, 1999 $ (4,842) $ 844 $ (3,998)
===============================================================
</TABLE>
7
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
As of September 30, 1999 and 1998 and for the
Three and Nine Months Ended September 30, 1999 and 1998
Per Share Data
Net income per share is stated in accordance with SFAS No. 128 "Earnings
Per Share". Basic net income per share is computed by dividing net income by the
weighted average number of common shares outstanding during the year. Diluted
net income per share is computed by dividing net income by the weighted average
number of common shares plus common equivalent shares outstanding including
dilutive stock options. All years presented include the effect of the 2-for-1
stock split effective as of April 30, 1998.
The following table provides a reconciliation of the numerators and
denominators of the basic and diluted net income per share computations for the
three months and nine months ended September 30, 1999 and 1998.
<TABLE>
<CAPTION>
For the three months ended September 30, 1999 For the three months ended September 30, 1998
--------------------------------------------- ---------------------------------------------
Average Average
(Dollars in thousands, except per Income Shares Per Share Income Shares Per Share
share amounts) (Numerator) (Denominator) Amount (Numerator) (Denominator) Amount
- ------------------------------------------------------------------------------------- ---------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Net income $ 7,367 $ 5,015
Basic net income per share:
Income available to common
shareholders 7,367 11,285,000 $ 0.65 5,015 10,924,000 $ 0.46
Effect of dilutive securities:
Stock options - 626,000 - - 698,000 -
--------------------------------------------- ---------------------------------------------
Diluted net income per share:
Income available to common
shareholders and assumed
conversions $ 7,367 11,911,000 $ 0.62 $ 5,015 11,622,000 $ 0.43
============================================= =============================================
For the three months ended September 30, 1999 For the three months ended September 30, 1998
--------------------------------------------- ---------------------------------------------
Average Average
(Dollars in thousands, except per Income Shares Per Share Income Shares Per Share
share amounts) (Numerator) (Denominator) Amount (Numerator) (Denominator) Amount
- ------------------------------------------------------------------------------------- ---------------------------------------------
Net income $ 17,033 $ 13,315
Basic net income per share:
Income available to common
shareholders 17,033 11,189,000 $ 1.52 13,315 10,848,000 $ 1.23
Effect of dilutive securities:
Stock options - 621,000 - - 801,000 -
--------------------------------------------- ---------------------------------------------
Diluted net income per share:
Income available to common
shareholders and assumed
conversions $ 17,033 11,810,000 $ 1.44 $ 13,315 11,649,000 $ 1.14
============================================= =============================================
</TABLE>
There were options to purchase 55,000 shares and 478,000 shares that were
considered anti-dilutive whereby the options' exercise price was greater than
the average market price of the common shares, during the three months and nine
months ended September 30, 1999. There were no options that were considered
anti-dilutive during the three months and nine months ended September 30, 1998.
Weighted average shares outstanding and all per share amounts included in
the consolidated financial statements and notes thereto are based upon the
increased number of shares giving retroactive effect to the mergers with PRB,
PBFC and BA Bancshares at a total of 950,748, 298,000 and 1,399,321 shares,
respectively.
8
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
As of September 30, 1999 and 1998 and for the
Three and Nine Months Ended September 30, 1999 and 1998
Segment Information
In 1998, the Company adopted SFAS No. 131 "Disclosures about Segments of an
Enterprise and Related Information" ("SFAS No. 131".) SFAS No. 131 supersedes
SFAS No. 14, "Financial Reporting for Segments of a Business Enterprise",
replacing the "industry segment" approach with the "management" approach. The
management approach designates the internal organization that is used by
management for making operating decisions and assessing performance as the
source of the company's reportable segments. SFAS No. 131 also requires
disclosures about products and services, geographic areas, and major customers.
The adoption of SFAS No. 131 did not affect results of operations or financial
position but did affect the disclosure of segment information.
NOTE 2--MERGERS
On April 30, 1999 the Company and Bay Commercial Services, the parent of
Bay Bank of Commerce, signed a definitive agreement for a merger between the two
companies. The transaction was completed on October 15, 1999. Bay Commercial
Services shareholders received 907,240 shares of Greater Bay stock in a tax-free
exchange accounted for as a pooling-of-interests. Following the transaction, the
shareholders of Bay Commercial Services owned 7.4% of the combined company. Bay
Bank of Commerce has banking offices in San Leandro, San Ramon and Hayward,
California. The financial information presented herein has not been restated to
reflect the merger with Bay Commercial services on a pooling-of-interest basis.
On September 15, 1999 the Company and Mt. Diablo Bancshares, the parent of
Mt. Diablo National Bank, signed a definitive agreement for a merger between the
two companies. The agreement provides for Mt. Diablo Bancshares' shareholders to
receive approximately 1,500,000 shares of Greater Bay stock subject to certain
adjustments based on changes in the Company's stock price, in a tax-free
exchange to be accounted for as a pooling-of-interests. Following the
transaction, the shareholders of Mt. Diablo Bancshares will own approximately
9.5% of the combined company. The transaction is expected to be completed in the
first quarter of 2000, subject to Mt. Diablo Bancshares' shareholders and
regulatory approvals. Mt. Diablo National Bank has banking offices in Danville,
Pleasanton and Lafayette, California.
9
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
As of September 30, 1999 and 1998 and for the
Three and Nine Months Ended September 30, 1999 and 1998
The following table sets forth certain historical information concerning
the operations of the Company, Bay Commercial Services and Mt. Diablo Bancshares
for the period indicated and proforma combined information assuming the
acquisitions of Bay Commercial Services and Mt. Diablo Bancshares had been
consummated at the beginning of the period presented.
<TABLE>
<CAPTION>
For the nine months ended
(Dollars in thousands) September 30, 1999
--------------------------------------------------------------------------------------
<S> <C>
Net interest income:
Greater Bay Bancorp $ 68,498
Bay Commercial Services 5,619
Mt. Diablo Bancshares 7,061
-------------------------
Combined $ 81,178
=========================
Provision for loan losses:
Greater Bay Bancorp $ 6,075
Bay Commercial Services 161
Mt. Diablo Bancshares 596
-------------------------
Combined $ 6,832
=========================
Net income:
Greater Bay Bancorp $ 17,033
Bay Commercial Services 1,153
Mt. Diablo Bancshares 2,047
-------------------------
Combined $ 20,233
=========================
</TABLE>
There were no significant transactions between the Company and Bay
Commercial Services prior to the merger and there have been no significant
transactions between the Company and Mt. Diablo Bancshares. All intercompany
transactions have been eliminated.
10
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
As of September 30, 1999 and 1998 and for the
Three and Nine Months Ended September 30, 1999 and 1998
NOTE 3--BORROWINGS
Other borrowings are detailed as follows:
<TABLE>
<CAPTION>
September 30, December 31,
(Dollars in thousands) 1999 1998
-----------------------------------------------------------------------------------------------------
<S> <C> <C>
Other borrowings:
Short term borrowings:
Short term notes payable $ - $ 135
FHLB advances - 500
---------------------------------------------------
Total short term borrowings - 635
---------------------------------------------------
Long term borrowings:
Securities sold under agreements
to repurchase 30,000 50,000
FHLB advances 22,000 22,000
Promissory notes - 2,450
---------------------------------------------------
Total other long term borrowings 52,000 74,450
---------------------------------------------------
Total other borrowings $ 52,000 $ 75,085
===================================================
Subordinated notes, due September 15, 2005 $ - $ 3,000
---------------------------------------------------
Total subordinated debt $ - $ 3,000
===================================================
</TABLE>
During the nine month period ended September 30, 1999 and the twelve month
period ended December 31, 1998, the average balance of securities sold under
short term agreements to repurchase were $10.4 million and $15.3 million,
respectively, and the average interest rates during those periods were 4.89% and
5.35%, respectively. Securities sold under short term agreements to repurchase
generally mature within 90 days of dates of purchase.
During the nine month period ended September 30, 1999 and the twelve month
period ended December 31, 1998, the average balance of federal funds purchased
was $9,000 and $681,000, respectively, and the average interest rates during
those periods were 4.94% and 5.53%, respectively. There were no such balances
outstanding at September 30, 1999 or December 31, 1998. The maximum amount
outstanding at any month end was $0 and $0 for the nine and twelve month periods
ended September 30, 1999 and December 31, 1998, respectively.
The short-term FHLB advances have an average interest rate of 5.89%. The
advances are collateralized by securities pledged to the FHLB.
11
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
As of September 30, 1999 and 1998 and for the
Three and Nine Months Ended September 30, 1999 and 1998
The Company has sold securities under long term agreements to repurchase
which mature in the year 2003 and have an average interest rate of 5.21%. The
counterparties to these agreements have put options which give them the right to
demand early repayment. As of December 31, 1998, $40.0 million of these
borrowings are subject to early repayment and $10.0 million are subject to early
repayment beginning in 2000.
The long term FHLB advances will mature in the year 2003 and have an
average interest rate of 5.17%. The advances are collateralized by loans and
securities pledged to the FHLB. Under the terms of the advances, the FHLB has a
put option on $20.0 million of the advances which gives it the right to demand
early repayment.
The short term notes payable, which bore an interest rate of 13.76% and
provided for maturity on April 15, 2000, were issued to PBFC's officers along
with other accredited investors within the definition of Rule 501 under the
Securities Act of 1933, as amended. The Company redeemed these notes in January
1999.
On March 15, 1999 the Company redeemed the $3.0 million in subordinated
debt issued in 1995. The Company paid a premium of $150,000 ($88,000 net of tax)
on the pay off of the debt. The premium was recorded, net of taxes, as an
extraordinary item in March 1999.
NOTE 4--ACTIVITY OF BUSINESS SEGMENTS
In 1998 the Company adopted SFAS No. 131. The prior year's segment
information has been restated to present the Company's two reportable segments,
community banking and trust operations.
The accounting policies of the segments are the same as those described in
the "Summary of Significant Accounting Policies." Segment data includes
intersegment revenue, as well as charges allocating all corporate-headquarters
costs to each of its operating segments. The Company evaluates the performances
of its segments and allocates resources to them based on net interest income,
other income, net income before income taxes, total assets and deposits.
The Company is organized primarily along community banking and trust
divisions. Eleven of the divisions have been aggregated into the "community
banking" segment. Community banking provides a range of commercial banking
services to small and medium-sized businesses, real estate developers, property
managers, business executives, professional and other individuals. The trust
division has been shown as the "trust operations" segment. The Company's
business is conducted principally in the U.S.; foreign operations are not
material.
12
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
As of September 30, 1999 and 1998 and for the
Three and Nine Months Ended September 30, 1999 and 1998
The following table shows each segment's key operating results and
financial position for the nine months ended September 30, 1999 and 1998:
<TABLE>
<CAPTION>
Nine months ended 1999 Nine months ended 1998
----------------------------------- --------------------------------
Community Trust Community Trust
(Dollars in thousands) Banking Operations Banking Operations
- -------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Net interest income (1) $ 71,076 $ 259 $ 54,593 $ 720
Other income 7,416 2,227 4,631 1,979
Operating expenses, excluding merger
and other related nonrecurring
costs 40,501 2,213 33,532 1,966
Net income before income taxes (1) 27,951 273 19,355 733
Total assets 2,267,409 - 1,656,107 -
Deposits 1,974,261 58,476 1,368,567 52,417
Assets under management - 652,054 - 581,437
(1) Includes intercompany earnings allocation charge which is eliminated in consolidation
</TABLE>
A reconciliation of total segment net interest income and other income
combined, net income before income taxes, and total assets to the consolidated
numbers in each of these categories for the nine months ended September 30, 1999
and 1998 is presented below.
<TABLE>
<CAPTION>
As of and for the As of and for the
Nine Months Nine Months
Ended September Ended September
(Dollars in thousands) 30, 1999 30, 1998
- ------------------------------------------------------------------------------------------------------------------
<S> <C> <C>
Net interest income and other income
Total segment net interest income and other income $ 80,978 $ 61,923
Parent company net interest income and other income (2,733) (1,365)
-------------------- --------------------
Consolidated net interest income and other income $ 78,245 $ 60,558
==================== ====================
Net income before taxes
Total segment net income before income taxes $ 28,224 $ 20,088
Parent company net interest before income taxes (421) (6)
-------------------- ---------------------
Consolidated net income before income taxes $ 27,803 $ 20,082
==================== =====================
Total assets
Total segment assets $ 2,267,409 $ 1,656,107
Parent company assets 16,478 30,881
-------------------- ---------------------
Consolidated total assets $ 2,283,887 $ 1,686,988
==================== =====================
</TABLE>
NOTE 5--CASH DIVIDEND
The Company declared a cash dividend of $0.12 cents per share payable on
October 15, 1999 to shareholders of record as of September 30, 1999.
13
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS
OVERVIEW
Greater Bay Bancorp ("Greater Bay", on a parent-only basis, and the
"Company", on a consolidated basis) was formed as the result of the merger in
November 1996 between Cupertino National Bancorp, the former holding company for
Cupertino National Bank ("CNB"), and Mid-Peninsula Bancorp, the former holding
company for Mid-Peninsula Bank ("MPB"). In December 1997 the Company completed a
merger with Peninsula Bank of Commerce ("PBC"), whereby PBC became the third
wholly owned banking subsidiary of Greater Bay. In May 1998, the Company
completed a merger with Pacific Rim Bancorporation ("PRB"), the holding company
for Golden Gate Bank ("Golden Gate"), whereby Golden Gate became the fourth
wholly owned banking subsidiary of Greater Bay. In August 1998, the Company
completed a merger with Pacific Business Funding Corporation ("PBFC"), which now
operates as a division of CNB and conducts business under the name Pacific
Business Funding. In May 1999, the Company completed a merger with Bay Area
Bancshares ("BA Bancshares"), the holding company of Bay Area Bank ("BAB"),
whereby BAB became the fifth wholly owned banking subsidiary of Greater Bay. All
of the preceding mergers were accounted for as a pooling of interests. All of
the financial information for the Company for the periods prior to the mergers
has been restated to reflect the pooling of interests, as if they occurred at
the beginning of the earliest reporting period presented. In October 1999, the
Company completed a merger with Bay Commercial Services ("BCS"), the holding
company of Bay Bank of Commerce ("BBC"), whereby BBC became the six wholly owned
banking subsidiary of Greater Bay. The financial information presented herein
has not been restated to reflect the merger with BCS on a pooling of interests
basis. CNB, MPB, PBC, Golden Gate and BAB are referred to collectively herein as
the "Banks." The financial information includes the results of the Company's
operating divisions, Greater Bay Bank Santa Clara Valley Commercial Banking
Group, Greater Bay Corporate Finance Group, Greater Bay Bank Contra Costa
Region, Greater Bay International Banking Division, Greater Bay Trust Company,
Pacific Business Funding and Venture Banking Group.
The following discussion and analysis is intended to provide greater
details of the results of operations and financial condition of the Company. The
following discussion should be read in conjunction with the Company's
consolidated financial data included elsewhere in this document. Certain
statements under this caption constitute "forward-looking statements" within the
meaning of Section 27A of the Securities Act of 1933, as amended, and Section
21E of the Securities Exchange Act of 1934, as amended, which involve risks and
uncertainties. The Company's actual results may differ significantly from the
results discussed in such forward-looking statements. Factors that might cause
such a difference include but are not limited to economic conditions,
competition in the geographic and business areas in which the Company conducts
its operations, fluctuation in interest rates, credit quality year 2000
readiness and government regulation.
RESULTS OF OPERATIONS
The Company's operating results included merger and other related expenses
of $4.0 million ($2.5 million net of tax) and extraordinary items of $150,000
($88,000 net of tax) related to the early retirement of $3.0 million of
subordinated debt of the Company for the nine months ended September 30, 1999.
The Company's operating results included merger and other related expenses of
$2.0 million ($1.3 million net of tax) for the nine months ended September 30,
1998. The following table summarizes net income, net income per share and key
financial ratios inclusive of and exclusive of merger and other related costs
and extraordinary items for the three and nine months ended September 30, 1999:
<TABLE>
<CAPTION>
Three Months Ended September 30, 1999 Nine Months Ended September 30, 1999
------------------------------------------ --------------------------------------
Including merger Excluding merger Including merger Excluding merger
and other and other and other and other
related nonrecurring related nonrecurring related nonrecurring related nonrecurring
costs and extraordinary costs and extraordinary costs and extraordinary costs and extraordinary
(Dollars in thousands, except
per share amounts) Items Items Items Items
--------- ---------- --------- ----------
<S> <C> <C> <C> <C>
Net income $ 7,367 $ 7,367 $ 17,033 $ 19,612
Net income per share:
Basic $ 0.65 $ 0.65 $ 1.52 $ 1.75
Diluted $ 0.62 $ 0.62 $ 1.44 $ 1.66
Return on average assets 1.34% 1.34% 1.13% 1.30%
Return on average shareholder equity 24.50% 24.50% 19.65% 22.63%
</TABLE>
14
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS (CONTINUED)
The Company reported net income of $7.4 million for the third quarter of
1999, a 37.06% increase over the third quarter of 1998 net income (excluding
merger and other related nonrecurring costs and extraordinary items, net of
taxes) of $5.4 million. Basic net income per share (excluding merger and other
related nonrecurring costs and extraordinary items, net of taxes) was $0.65 for
the third quarter of 1999, as compared to $0.49 for the third quarter of 1998.
Diluted net income per share (excluding merger and other related nonrecurring
costs and extraordinary items, net of taxes) was $0.62 and $0.46 for the third
quarter of 1999 and 1998, respectively. The Company reported net income
including merger and other related nonrecurring costs and extraordinary items,
net of tax, of $5.0 million and basic and diluted net income per share of $0.46
and $0.43, respectively, for the quarter ended September 30, 1998.
The return on average assets and return on average shareholders' equity
(excluding merger and other related nonrecurring costs and extraordinary items,
net of taxes) were 1.34% and 24.50%, respectively, for the third quarter of
1999, compared with 1.30% and 21.34% for the third quarter in 1998,
respectively.
Net income totaled $19.6 million (excluding merger and other related
nonrecurring costs and extraordinary items, net of taxes) for the nine months
ended September 30, 1999, versus $14.6 million for the comparable 1998 period.
Basic net income per share (excluding merger and other related nonrecurring
costs and extraordinary items, net of taxes) was $1.75 and $1.35 for the nine
months ended September 30, 1999 and 1998, respectively. Diluted net income per
share (excluding merger and other related nonrecurring costs and extraordinary
items, net of taxes) was $1.66 and $1.26 for the nine months ended September 30,
1999 and 1998, respectively.
The return on average assets and return on average shareholders' equity
(excluding merger and other related nonrecurring costs and extraordinary items,
net of taxes) were 1.30% and 22.63%, respectively, for the nine months ended
September 30, 1999, compared with 1.34% and 20.90% for the nine months ended
1998, respectively.
The Company reported net income, including merger and other related
nonrecurring costs and extraordinary items, of $17.0 million and basic and
diluted net income per share of $1.52 and $1.44, respectively, for the nine
months ended September 30, 1999. The Company reported net income, including
merger and other related nonrecurring costs and extraordinary items, of $13.3
million and basic and diluted net income per share of $1.23 and $1.14,
respectively, for the nine months ended September 30, 1998.
The increase in first nine months of 1999 net income as compared to the
same period in 1998 was principally the result of significant growth in loans
and deposits. This growth, partially offset by a decline in interest rate
spreads, resulted in a $14.5 million increase in net interest income. Recurring
operating expenses increased by $6.6 million, excluding the contribution to the
Greater Bay Bancorp Foundation (the "Foundation") discussed below. Operating
expense increases reflect additional efforts required to service and support the
Company's growth.
Net income for the nine months ended September 30, 1999 and 1998 included
$230,000 and $497,000, respectively, in warrant income resulting from the
warrants received from clients of the Banks. During 1999 and 1998, the Company
donated appreciated warrants to the Foundation. The contribution of the warrants
triggered recognition of warrant income of $230,000, net of related employee
incentives, and a donation expense of $323,000 in 1999 and recognition of
warrant income of $497,000, net of related employee incentives, and a donation
expense of $701,000 in 1998. The Company recognized a tax benefit of $133,000
and $288,000 from these transactions in 1999 and 1998, respectively.
15
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS (CONTINUED)
The 1999 increase in other income principally relates to a $1.0 million
increase in loan and international banking fees, a $900,000 recovery on equity
securities, in accordance with APB 18 and a $407,000 increase in trust fees.
Net Interest Income -- Quarterly
Net interest income for the third quarter of 1999 was $25.1 million, a $2.2
million increase over the second quarter of 1999 and a $6.0 million increase
over the third quarter of 1998. The increase from the third quarter of 1998 to
the third quarter of 1999 was primarily due to the $492.2 million, or 31.9%
increase in average interest-earning assets. The increase from the second
quarter of 1999 to the third quarter of 1999 was primarily due to the $124.1
million, or 25.7% (annualized) increase in average interest-earning assets,
which was further increased by a 10 basis points increase in the Company's net
yield on interest-earning assets from 4.80% in the second quarter of 1999 to
4.90% in the third quarter of 1999.
The interest rate spread for the quarters ended September 30, 1999, June
30,1999 and September 30, 1998, were reduced by the low spread earned on PBC's
Special Deposits (discussed in Note 7 to the supplemental consolidated financial
statements, and notes thereto included in the current Report on Form 8-K dated
July 1, 1999, as amended by Form 8-K/A dated July 16, 1999). As of September
30, 1999, PBC held $122.9 million in two demand deposits accounts (the "Special
Deposits"). The Special Deposits represent the proposed settlement of class
action lawsuits not involving the Company. Due to the uncertainty of the time
the Special Deposits will remain with PBC, management has invested a significant
portion of the funds from this deposit in agency securities with maturities of
less than 90 days. The average deposit balances related to the Special Deposits
were $122.9 million, $126.0 million and $89.1 million for the quarters ended
September 30, 1999, June 30, 1999 and September 30, 1998, respectively, on which
the Company earned a spread of approximately 3.67%, 2.96% and 2.20%,
respectively. Excluding PBC's Special Deposits, the net yield on interest
earning assets would have been 5.01%, 5.02% and 4.27% for the quarters ended
September 30, 1999, June 30, 1999 and September 30, 1998, respectively.
Excluding the Special Deposits, the approximate interest rate spread would have
been 4.04%, 4.22% and 4.31% for the quarters ended September 30, 1999, June 30,
1999 and September 30, 1998, respectively. The purchase of bank-owned life
insurance ("BOLI") also reduced the Company's net interest spread since the
earnings of BOLI are included in other income while the cost of funding BOLI is
included in interest expense.
16
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS (CONTINUED)
The following table presents, for the quarters indicated, condensed average
balance sheet information for the Company, together with interest income and
yields earned on average interest-earning assets and interest expense and rates
paid on average interest-bearing liabilities. Average balances are average daily
balances.
<TABLE>
<CAPTION>
Three Months Ended Three Months Ended
September 30, 1999 June 30, 1999
------------------ ------------------
Average Average
Average Yield/ Average Yield/
(Dollars in thousands) Balance Interest Rate Balance Interest Rate
- -----------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
INTEREST-EARNING ASSETS:
Federal funds sold $ 153,459 $ 2,025 5.24% $ 164,431 $ 2,027 4.94%
Other short term investments 60,383 796 5.23% 60,530 870 5.77%
Investment securities:
Taxable 329,429 5,756 6.93% 311,004 5,143 6.63%
Tax-exempt (1) 71,300 897 4.99% 63,018 765 4.87%
Loans (2), (3) 1,419,303 33,234 9.29% 1,310,819 30,238 9.25%
------------ -------- ----------- --------
Total interest-earning assets 2,033,874 42,708 8.33% 1,909,802 39,043 8.20%
Noninterest-earning assets 150,128 142,509
------------ -------- ----------- --------
Total assets $ 2,184,002 42,708 $ 2,052,312 39,043
============ -------- =========== --------
INTEREST-BEARING LIABILITIES:
Deposits:
MMDA, NOW and savings $ 1,207,222 $ 11,085 3.64% $ 1,084,448 $ 9,323 3.45%
Time deposits, over $100,000 335,304 3,957 4.68% 315,736 3,708 4.71%
Other time deposits 61,482 707 4.56% 63,067 740 4.71%
------------ -------- ----------- --------
Total interest-bearing deposits 1,604,008 15,749 3.90% 1,463,251 13,771 3.77%
Other borrowings 48,269 824 6.77% 88,752 1,472 6.65%
Subordinated debt - - 18 - 0.00%
Trust Preferred Securities 50,000 1,039 8.24% 50,000 938 7.52%
------------ -------- ----------- --------
Total interest-bearing liabilities 1,702,277 17,612 4.10% 1,602,021 16,181 4.05%
Noninterest bearing deposits 334,469 308,174
Other noninterest-bearing liabilities 27,954 24,404
Shareholders' equity 119,302 117,713
------------ -------- ----------- --------
Total shareholders' equity and
liabilities $ 2,184,002 17,612 $ 2,052,312 16,181
============ -------- =========== --------
Net interest income $ 25,096 $ 22,862
======== ========
Interest rate spread 4.23% 4.15%
Contribution of interest free funds 0.67% 0.65%
Net yield on interest-earning assets (4) 4.90% 4.80%
<CAPTION>
Three Months Ended
September 30, 1998
------------------
Average
Average Yield/
(Dollars in thousands) Balance Interest Rate
- -----------------------------------------------------------------------------------
<S> <C> <C> <C>
INTEREST-EARNING ASSETS:
Federal funds sold $ 112,325 $ 1,562 5.52%
Other short term investments 90,974 1,260 5.49%
Investment securities:
Taxable 360,343 5,418 5.97%
Tax-exempt (1) 51,637 626 4.81%
Loans (2), (3) 926,399 24,132 10.33%
----------- --------
Total interest-earning assets 1,541,678 32,998 8.49%
Noninterest-earning assets 92,800
----------- --------
Total assets $ 1,634,478 32,998
=========== --------
INTEREST-BEARING LIABILITIES:
Deposits:
MMDA, NOW and savings $ 838,412 $ 8,119 3.84%
Time deposits, over $100,000 229,260 3,023 5.23%
Other time deposits 60,611 791 5.18%
----------- --------
Total interest-bearing deposits 1,128,283 11,933 4.20%
Other borrowings 74,741 1,247 6.62%
Subordinated debt 3,000 86 11.37%
Trust Preferred Securities 37,428 681 7.22%
----------- --------
Total interest-bearing liabilities 1,243,452 13,947 4.45%
Noninterest bearing deposits 266,695
Other noninterest-bearing liabilities 25,569
Shareholders' equity 98,762
----------- --------
Total shareholders' equity and
liabilities $ 1,634,478 13,947
=========== --------
Net interest income $ 19,051
========
Interest rate spread 4.04%
Contribution of interest free funds 0.86%
Net yield on interest-earning assets (4) 4.90%
</TABLE>
(1) The tax equivalent yields earned on the tax exempt securities are 7.21%
7.05% and 6.92% for the quarters ended September 30, 1999, June 30, 1999
and September 30, 1998, respectively, using the federal statuary rate of
34%.
(2) Nonaccrual loans are excluded in the average balance.
(3) Interest income includes loan fees of $1,068,000, $1,204,000 and $901,000
for the quarters ended September 30, 1999, June 30, 1999, and September 30,
1998, respectively.
(4) Net yield on interest-earning assets during the period equals (a) the
difference between interest income on interest-earning assets and the
interest expense on interest-bearing liabilities, divided by (b) average
interest-earning assets for the period.
17
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS (CONTINUED)
The most significant impact on the Company's net interest income between
periods is derived from the interaction of changes in the volume of and rate
earned or paid on interest-earning assets and interest-bearing liabilities. The
volume of interest-earning asset dollars in loans and investments, compared to
the volume of interest-bearing liabilities represented by deposits and
borrowings, combined with the spread, produces the changes in the net interest
income between periods. The table below sets forth, for the quarters indicated,
a summary of the changes in average asset and liability balances (volume) and
changes in average interest rates (rate).
<TABLE>
<CAPTION>
Three Months Ended September 30, 1999 Three Months Ended September 30, 1999
Compared with June 30, 1999 Compared with September 30, 1998
favorable / (unfavorable) favorable / (unfavorable)
(Dollars in thousands)(1) Volume Rate Net Volume Rate Net
- ------------------------------------------------------------------------------------- --------------------------------
<S> <C> <C> <C> <C> <C> <C>
INTEREST EARNED ON INTEREST-EARNING ASSETS
Federal funds sold $ (129) $ 127 $ (2) $ 546 $ (83) $ 463
Other short term investments (2) (72) (74) (406) (58) (464)
Investment securities:
Taxable 348 266 616 (491) 832 341
Tax-exempt 111 20 131 246 24 270
Loans 2,857 137 2,994 11,749 (2,649) 9,100
-------------------------- --------------------------------
Total interest income 3,184 481 3,665 11,644 (1,934) 9,710
-------------------------- --------------------------------
INTEREST EXPENSE ON INTEREST-BEARING LIABILITIES
Deposits:
MMDA, NOW and savings (1,176) (582) (1,768) (3,405) 442 (2,963)
Time deposits over $100,000 (268) 19 (249) (1,279) 345 (934)
Other time deposits 15 18 33 (11) 95 84
-------------------------- --------------------------------
Total interest-bearing deposits (1,430) (545) (1,974) (4,695) 882 (3,813)
Other borrowings 675 (27) 648 451 (28) 423
Subordinated debt - - - 43 43 86
Trust preferred securities - (105) (105) (252) (109) (361)
-------------------------- --------------------------------
Total interest expense (755) (677) (1,431) (4,453) 788 (3,665)
-------------------------- --------------------------------
Net increase (decrease) in net interest
income $ 2,429 $ (196) $ 2,234 $ 7,192 $ (1,147) $ 6,045
========================== ================================
</TABLE>
(1) Changes in interest income and expense which are not attributable
specifically to either volume or rate, are allocated proportionately between
both variances. Nonaccrual loans are excluded in average loans.
The Quarter Ended September 30, 1999 compared to September 30, 1998
-------------------------------------------------------------------
Interest income in the third quarter ended September 30, 1999 increased
29.4% to $42.7 million from $33.0 million in the same period in 1998. This was
primarily due to the $11.6 million favorable volume variance which resulted from
a $492.2 million, or 31.9%, increase in average interest-earning assets over the
comparable prior year. Average loans increased $492.9 million, or 53.2%, to 1.4
billion for the third quarter of 1999 as compared to $926.3 million for the
third quarter of 1998.
The average yield on interest-earning assets decreased 16 basis points to
8.33% in the third quarter of 1999 from 8.49% in the same period of 1998
primarily due to the decrease on the yields on loans. Average yields on loans
decreased 104 basis points to 9.29% in the three months ended September 30, 1999
from 10.33% for the same period in 1998.
Interest expense in the third quarter of 1999 increased 26.3% to $17.6
million from $13.9 million for the same period in 1998. This increase was due to
an increase in average interest-bearing liabilities offset by lower interest
rates paid on interest-bearing liabilities. Average interest-bearing liabilities
increased 36.9% to $1.7 billion in the third quarter of 1999 from $1.2 billion
in the same period for 1998 due to the efforts of the Company's relationship
managers in generating core deposits from their client relationships, deposits
derived from the activities of the Greater Bay Trust Company and the Venture
Banking Group, both divisions of CNB, and increases in other borrowings.
18
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS (CONTINUED)
During the third quarter of 1999, average noninterest-bearing deposits
increased to $334.5 million from $266.7 million in the same period in 1998.
Average noninterest-bearing deposits comprised 17.3% of total deposits for the
third quarter in 1999, compared to 19.1% for the same period in 1998.
The Quarter Ended September 30, 1999, compared to June 30, 1999
---------------------------------------------------------------
Interest income increased 9.4% to $42.7 million for the third quarter of
1999, as compared to $39.0 million for the previous quarter. Average interest-
earning assets increased 25.8% (annualized) in the third quarter of 1999 from
$1.9 billion for the previous quarter. The increase in interest income for the
third quarter of 1999, as compared to the prior quarter, was primarily the
result of an increase in the average balances of loans which increased $108.5
million and investment securities which grew $26.7 million from the prior
quarter. The impact of increases in average balances on loans was enhanced by an
increase in the yield earned on those assets. The yield on the average interest-
earning assets increased 13 basis points to 8.33% in the third quarter of 1999
from 8.20% in the second quarter of 1999, primarily as a result of increases in
market rates of interest.
Interest expense in the third quarter of 1999 increased 8.8% to $17.6
million from $16.2 million in the prior quarter. The increase is the result of
increased interest-bearing liabilities, which rose to $1.7 billion for the third
quarter of 1999, as compared to $1.6 billion for the prior quarter, and a 5
basis point increase in the cost of funds which increased to 4.10% in the third
quarter of 1999.
As a result of the foregoing, the Company's interest rate spread increased
to 4.23% in the third quarter of 1999 compared to 4.15% in the prior quarter and
the net yield on interest-earning assets increased to 4.90% from 4.80%.
Net Interest Income - Year to date
Net interest income for the nine months ended September 30, 1999 was $68.5
million, an $14.6 million increase over the nine months ended September 30,
1998. The increase was due to the $488.7 million, or 35.3%, increase in average
interest-earning assets. This was offset by a 32 basis points decrease in the
Company's net yield on interest-earning assets from 5.20% for the nine months
ended September 30, 1998 to 4.88% for the comparable period in 1999. The
Company's interest rate spread was positively impacted by a higher percentage of
interest-earning assets in loans during the nine months and September 30, 1999
compared to the same period in 1998.
The interest rate spread for the nine months ended September 30, 1999 and
1998 was further reduced by the spread earned on PBC's Special Deposits
(discussed in Note 7 to the supplemental consolidated financial statements and
notes thereto included in the current Report on Form 8-K dated July 1, 1999, as
amended by Form 8-K/A dated July 16, 1999). The average deposit balances related
to the Special Deposits were $117.8 million, and $88.4 million for the nine
months ended September 30, 1999 and 1998, respectively, on which the Company
earned a spread of approximately 3.17% and 2.18%, respectively. Excluding PBC's
Special Deposits, the net yield on interest earning assets would have been 5.00%
and 5.41% for the nine months ended September 30, 1999 and 1998, respectively.
Excluding the Special Deposits, the interest rate spread would have been 4.28%
and 4.62% for the nine months ended September 30, 1999 and 1998, respectively.
19
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS (CONTINUED)
The following tables present the Company's average balance sheet, net
interest income and interest income and interest rate for the nine months
presented, as well as the analysis of variances due to rate and volume:
<TABLE>
<CAPTION>
Nine Months Ended Nine Months Ended
September 30, 1999 September 30, 1998
---------------------- ---------------------------
Average Average
Average Yield/ Average Yield/
(Dollars in thousands) Balance Interest Rate Balance Interest Rate
- ------------------------------------------------------------------------------------------ -----------------------------------
<S> <C> <C> <C> <C> <C> <C>
INTEREST-EARNING ASSETS:
Federal funds sold $ 128,591 $ 4,836 5.03% $ 104,399 $ 4,232 5.42%
Other short term investments 63,188 2,525 5.34% 97,133 4,155 5.72%
Investment securities:
Taxable 310,707 15,499 6.67% 271,234 12,840 6.33%
Tax-exempt (1) 65,711 2,406 4.90% 37,915 1,446 5.10%
Loans (2), (3) 1,306,626 90,946 9.31% 875,418 68,973 10.53%
----------- -------- ---------- ---------
Total interest-earning assets 1,874,823 116,212 8.29% 1,386,099 91,646 8.84%
Noninterest-earning assets 144,914 125,497
----------- -------- ---------- ---------
Total assets $ 2,019,737 116,212 $1,511,596 91,646
=========== -------- ========== =========
INTEREST-BEARING LIABILITIES:
Deposits:
MMDA, NOW and savings $ 1,075,295 $ 28,188 3.50% $ 791,813 $ 21,705 3.66%
Time deposits, over $100,000 309,523 10,894 4.71% 199,583 7,902 5.29%
Other time deposits 62,753 2,233 4.76% 58,929 2,276 5.16%
----------- -------- ---------- ---------
Total interest-bearing deposits 1,447,571 41,315 3.82% 1,050,325 31,883 4.06%
Other borrowings 70,079 3,354 6.40% 76,148 3,802 6.68%
Subordinated debt 812 66 10.87% 3,817 259 9.07%
Trust Preferred Securities 50,000 2,979 7.97% 25,745 1,761 9.15%
----------- -------- ---------- ---------
Total interest-bearing liabilities 1,568,462 47,714 4.07% 1,156,035 37,705 4.36%
Noninterest bearing deposits 309,648 240,777
Other noninterest-bearing liabilities 25,753 21,221
Shareholders' equity 115,874 93,562
----------- -------- ---------- ---------
Total shareholders' equity and liabilities $ 2,019,737 47,714 $1,511,595 37,705
=========== -------- ========== ---------
Net interest income $ 68,498 $ 53,941
======== =========
Interest rate spread 4.22% 4.48%
Contribution of interest free funds 0.66% 0.72%
Net yield on interest-earning assets (4) 4.88% 5.20%
</TABLE>
(1) The tax equivalent yields earned on the tax exempt securities are 7.07% and
7.35% for the nine months ended September 30, 1999 and September 30, 1998
respectively, using the federal statuary rate of 34%.
(2) Nonaccrual loans are excluded in the average balance.
(3) Interest income includes loan fees of $3,378,000 and $3,048,000 for the nine
months ended September 30, 1999 and September 30, 1998, respectively.
(4) Net yield on interest-earning assets during the period equals (a) the
difference between interest income on interest-earning assets and the interest
expense on interest-bearing liabilities, divided by (b) average interest-earning
assets for the period.
20
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS (CONTINUED)
<TABLE>
<CAPTION>
Nine Months Ended September 30, 1999
Compared with September 30, 1998
favorable / (unfavorable)
(Dollars in thousands)(1) Volume Rate Net
- ------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
INTEREST EARNED ON INTEREST-EARNING ASSETS
Federal funds sold $ 927 $ (323) $ 604
Other short term investments (1,372) (258) (1,630)
Investment securities:
Taxable 1,942 717 2,659
Tax-exempt 1,020 (60) 960
Loans 30,772 (8,799) 21,973
-----------------------------------------
Total interest income 33,289 (8,723) 24,566
-----------------------------------------
INTEREST EXPENSE ON INTEREST-BEARING LIABILITIES
Deposits:
MMDA, NOW and savings (7,468) 985 (6,483)
Time deposits over $100,000 (3,951) 959 (2,992)
Other time deposits (142) 185 43
-----------------------------------------
Total interest-bearing deposits (11,562) 2,130 (9,432)
Other borrowings 295 153 448
Subordinated debt 236 (43) 193
Trust Preferred Securities (1,471) 253 (1,218)
-----------------------------------------
Total interest expense (12,502) 2,493 (10,009)
-----------------------------------------
Net increase (decrease) in net interest income $ 20,786 $ (6,229) $ 14,557
=========================================
</TABLE>
(1) Changes in interest income and expense which are not attributable
specifically to either volume or rate, are allocated proportionately between
both variances. Nonaccrual loans are excluded in average loans.
The Nine Months Ended September 30, 1999 compared to Nine Months Ended
----------------------------------------------------------------------
September 30, 1998
- ------------------
Interest income increased $24.6 million to $116.2 million for the nine
months ended September 30, 1999, as compared to $91.6 million for the nine
months ended September 30, 1998. Average interest-earning assets increased 35.3%
in the nine months ended September 30, 1999 from $1.4 billion for the nine
months ended September 30, 1998. The increase in interest income for the nine
months ended September 30, 1999 as compared to the nine months ended September
30, 1998 was primarily the result of an increase in the average balance of loans
which increased $431.2 million. The impact of the increase in the average
balance of loans was offset by a decrease in the yield earned on those assets.
The yields on the higher volume of average interest-earning assets declined 55
basis points to 8.29% in the nine months ended September 30, 1999 from 8.84% in
the nine months ended September 30, 1998, primarily as a result of decreases in
market rates of interest and the purchase of investments with shorter
maturities.
Interest expenses in the nine months ended September 30, 1999 increased
26.55% to $47.7 million from $37.7 million in the nine months ended September
30, 1998. The increase was primarily the result of increased interest-bearing
liabilities which rose to $1.6 billion for the nine months ended September 30,
1999, as compared to $1.2 billion for the comparable prior year period. As a
result of the changes in the market rates of interest, the average rate paid on
average interest-bearing liabilities decreased 29 basis points to 4.07% in the
nine months ended September 30, 1999 from 4.32% in the nine months ended
September 30, 1998.
As a result of the foregoing, the Company's interest rate spread decreased
to 4.22% in the nine months ended September 30, 1999 compared to 4.48% in the
nine months ended September 30, 1998 and the net yield on interest-earning
assets declined to 4.88% from 5.20%.
21
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS (CONTINUED)
Certain client service expenses were incurred by the Company with respect
to its noninterest-bearing liabilities. These expenses include messenger
services, check supplies and other related items and are included in operating
expenses. Had they been included in interest expense, the impact of these
expenses on the Company's net yield on interest-earning assets would have been
as follows for each of the quarters presented.
<TABLE>
<CAPTION>
Three Months Ended September 30, Nine Months Ended September 30,
-------------------------------- --------------------------------
(Dollars in thousands) 1999 1998 1999 1998
- --------------------------------------------------------------------------------------- --------------------------------
<S> <C> <C> <C> <C>
Average noninterest bearing demand deposits $334,469 $266,695 $309,648 $240,777
Client service expenses 280 128 785 421
Client service expenses, annualized 0.33 % 0.19 % 0.34 % 0.23 %
IMPACT ON NET YIELD ON INTEREST-EARNING ASSETS:
Net yield on interest-earning assets 4.90 % 4.90 % 4.88 % 5.20 %
Impact of client service expense (0.04)% (0.03)% (0.06)% (0.04)%
-------------------------------- --------------------------------
Adjusted net yield on interest-earning assets (1) 4.86 % 4.87% 4.83 % 5.16 %
================================ ================================
</TABLE>
(1) Noninterest-bearing liabilities are included in cost of funds calculations
to determine adjusted net yield of spread.
The impact on the net yield on interest-earning assets is determined by
offsetting net interest income by the cost of client service expense, which
reduces the yield on interest-earning assets. The cost for client service
expense reflects the Company's efforts to control its interest expense.
Provision for Loan Losses
The provision for loan losses creates an allowance for loan losses.
The loan loss provision for each period is dependent on many factors, including
loan growth, net charge-offs, changes in the composition of the loan portfolio,
delinquencies, management's assessment of the quality of the loan portfolio, the
value of the underlying collateral on problem loans and the general economic
conditions in the Company's market area. The Company performs a periodic
assessment of the risk inherent in its loan portfolio, as well as a detailed
review of certain individual assets determined to have identified weaknesses.
Based on this analysis, which includes reviewing historical loss trends,
current economic conditions, industry concentrations and specific reviews of
assets classified with identified weaknesses, the Company makes determination
of an appropriate level of allowance for loan losses. Specific allocations are
made for loans where the probability of a loss can be defined and reasonably
determined. The balance of the provision for loan losses is based on historical
loss experience, delinquency trends and economic conditions in the Company's
market area. The Company is currently evaluating the impact of several factors
effecting other lenders its market area, including increasing delinquencies,
increases in losses in the technology sector and the impact of the Taiwanese
earthquake on Silicon Valley businesses. The Company is also evaluating the
impact of additional internal factors including the rapid growth of the Company
and the increasing complexity of its loan portfolio. Periodic fluctuations in
the provision for loan losses result from management's assessment of the
adequacy of the allowance for loan losses. Ultimate loan losses may vary from
current estimates.
The provision for loan losses for the third quarter of 1999 was $3.5
million, compared to $1.9 million for the third quarter of 1998. Nonperforming
loans, comprised of nonaccrual loans, restructured loans, and accruing loans
past due 90 days or more, increased from $3.4 million, or 0.36% of loans
outstanding, at September 30, 1998, to $6.9 million or 0.47% of loans
outstanding at September 30, 1999.
22
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS (CONTINUED)
For further information on nonperforming and classified loans and the
allowance for loan losses, see "Nonperforming and Classified Assets" herein.
Other Income
Total other income increased to $4.1 million for the third quarter of 1999
compared to $2.3 million for the third quarter of 1998. The following table sets
forth information by category of other income for the quarters indicated.
<TABLE>
<CAPTION>
At and for the three month periods ended
September 30, June 30, March 31, December 31, September 30,
------------------------------------------------------------------------------------------
(Dollars in thousands) 1999 1999 1999 1998 1998
- ----------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Trust fees $ 768 $ 727 $ 721 $ 664 $ 642
Loan and international banking fees 747 458 309 176 165
ATM network revenue 615 501 527 498 518
Service charges and other fees 520 393 419 426 431
Gain on sale of SBA loans 253 298 284 282 290
Gain on sale of investments, net - - - 320 4
Other 1,170 410 293 421 129
------------------------------------------------------------------------------------------
Total, recurring 4,073 2,787 2,553 2,787 2,179
Warrant income - 226 4 314 134
------------------------------------------------------------------------------------------
Total $4,073 $3,013 $2,557 $3,101 $2,313
==========================================================================================
</TABLE>
23
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS (CONTINUED)
The increase in other income for the third quarter of 1999 as compared to
the same period in 1998 was primarily the result of a $1.0 million increase in
other income, a $582,000 increase in loan and international banking fees, a
$126,000 increase in trust fees and a $97,000 increase in ATM network revenue.
The increase in other income is a result of a $900,000 recovery of an equity
security in accordance with APB 18. The increase in trust fees was due to
significant growth in assets under management by Greater Bay Trust Company.
Trust assets increased to $652.1 million at September 30, 1999, compared to
$581.4 million at September 30, 1998.
In November 1999, the voters of San Francisco adopted an ordinance which
prohibits financial institutions in San Francisco from imposing surcharges of
any kind to noncustomers who access automated teller machines to conduct
electronic transactions, including cash withdrawals and fund transfers. Other
cities in California have either adopted or are considering similar proposals.
The Company estimates that approximately $176,000 of ATM network revenue during
the first nine months of 1999 was derived from such type of surcharges in the
City and County of San Francisco. While this amount is not material, the
adoption of similar laws in other areas where the Company operates ATMs could
cause a more substantial reduction in ATM network revenue in the future.
Other income for the third quarter of 1999 and the third quarter of 1998
included warrant income of $0 and $134,000, respectively, net of related
employee incentives. Warrant income for the nine months ended September 30,
1999 and September 30, 1998 was $230,000 and $497,000, respectively, net of
related employee incentives. The Company occasionally receives warrants to
acquire common stock from companies that are in the start-up or development
phase. The timing and amount of income derived from the exercise and sale of
client warrants typically depend upon factors beyond the control of the Company,
and cannot be predicted with any degree of accuracy and are likely to vary
materially from period to period.
Operating Expenses
The following table sets forth the major components of operating expenses
for the quarters indicated.
<TABLE>
<CAPTION>
At and for the three month periods ended
September 30, June 30, March 31, December 31, September 30,
-----------------------------------------------------------------------
(Dollars in thousands) 1999 1999 1999 1998 1998
- ----------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Compensation and benefits $ 7,960 $ 7,726 $ 7,169 $ 6,537 $ 6,587
Occupancy and equipment 2,685 2,436 2,355 1,908 1,852
Telephone, postage and supplies 586 580 593 578 474
Professional services and legal costs 551 496 575 689 537
Marketing and promotion 398 410 407 876 409
Client services 280 244 261 142 128
Directors' fees 138 178 165 192 175
FDIC insurance and regulatory assessments 138 103 100 92 93
Expenses on other real estate owned 30 15 21 (6) 43
Other 1,223 1,211 1,045 1,307 1,032
-----------------------------------------------------------------------
Total operating expenses, excluding nonrecurring costs 13,989 13,399 12,691 12,315 11,330
Merger costs - 3,965 - - 537
Contribution to GBB Foundation - 323 - 448 192
-----------------------------------------------------------------------
Total operating expenses $13,989 $17,687 $12,691 $12,763 $12,059
=======================================================================
Efficiency ratio, excluding trust 46.89% 67.52% 53.65% 55.38% 55.64%
Efficiency ratio, excluding trust and nonrecurring costs 46.89% 50.41% 53.65% 53.35% 52.07%
Total operating expenses to average assets* 2.54% 3.46% 2.83% 2.92% 2.88%
Total operating expenses to average assets, before
nonrecurring costs* 2.54% 2.62% 2.83% 2.82% 2.70%
</TABLE>
*Annualized
Operating expenses totaled $14.0 million for the third quarter of 1999,
compared to $12.1 million for the third quarter of 1998. The ratio of operating
expenses to average assets was 2.54% for the third quarter of 1999 and 2.88% for
the third quarter of 1998.
24
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS (CONTINUED)
The efficiency ratio is computed by dividing total operating expenses by
net interest income and other income. An increase in the efficiency ratio
indicates that more resources are being utilized to generate the same (or
greater) volume of income while a decrease would indicate a more efficient
allocation of resources. The Company's efficiency ratio, excluding trust and
nonrecurring costs, for the third quarter of 1999 was 50.28%, compared to 52.07%
for the third quarter of 1998.
As indicated by the improvements in the efficiency ratio and ratio of total
operating expenses to average assets, the Company has been able to achieve
increasing economies of scale. For the third quarter of 1999, average assets
increased 33.6% from the third quarter of 1998, while operating expenses,
excluding nonrecurring cost, increased only 23.5%.
Compensation and benefits expenses increased for the third quarter of 1999
to $8.0 million, compared to $6.6 million for the third quarter of 1998. The
increase in compensation and benefits is due primarily to the addition of
personnel to accommodate the growth of the Company.
The increase in occupancy and equipment; telephone, postage, and
supplies; marketing and promotion; and client service expense was related to
the Company's growth.
Income Taxes
The Company's effective income tax rate for the third quarter of 1999 was
36.8%, compared to 32.5% in the third quarter of 1998. The effective rates were
lower than the statutory rate of 41.2% due to tax-exempt income on municipal
securities, state enterprise zone credits and the preferential tax treatment of
the donation of appreciated warrants to the Foundation. These were partially
offset by the impact of merger and other related nonrecurring costs.
FINANCIAL CONDITION
Total assets increased 42.0% on an annualized basis to $2.3 billion at
September 30, 1999, compared to $1.7 billion at December 31, 1998. The increase
in the third quarter of 1999 was primarily due to increases in the Company's
loan portfolio funded by growth in deposits.
Loans
Total gross loans increased 44.0%, on an annualized basis, to $1.5 billion
at September 30, 1999, compared to $1.1 billion at December 31, 1998. The
increase in the loan volume during the first nine months of 1999 was primarily
due to an improving economy in the Company's market areas coupled with the
business development efforts of the Company's relationship managers.
The Company's loan portfolio is concentrated in commercial (primarily
manufacturing, service and technology) and real estate lending, with the balance
in consumer loans. While no specific industry concentration is considered
significant, the Company's lending operations are located in a market area that
is dependent on the technology and real estate industries and supporting service
companies. Thus, the Company's borrowers could be adversely impacted by a
downturn in these sectors of the economy. This could, in turn, reduce the
demand for loans and adversely impact the borrowers' abilities to repay their
loans, while also decreasing the Company's net interest margin.
25
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS (CONTINUED)
The following table presents the composition of the Company's loan
portfolio at the dates indicated.
<TABLE>
<CAPTION>
September 30, December 31,
1999 1998
---------------------------------------------------------------
(Dollars in thousands) Amount % Amount %
- ----------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Commercial $ 687,402 47.3% $ 483,668 44.3%
Real estate construction and land 287,761 19.8 215,274 19.7
Real estate term 413,536 28.4 332,478 30.4
Consumer and other 100,851 6.9 88,458 8.1
---------------------------------------------------------------
Total loans, gross 1,489,550 102.4 1,119,878 102.5
Deferred fees and discounts, net (5,531) -0.4 (3,896) -0.4
---------------------------------------------------------------
Total loans, net of deferred fees 1,484,019 102.0 1,115,982 102.1
Allowance for loan losses (29,680) -2.0 (23,379) -2.1
---------------------------------------------------------------
Total loans, net $1,454,339 100.0% $1,092,603 100.0%
===============================================================
</TABLE>
Nonperforming and Classified Assets
Management generally places loans on nonaccrual status when they become 90
days past due, unless they are well secured and in the process of collection.
When a loan is placed on nonaccrual status, any interest previously accrued but
not collected is generally reversed from income. Loans are charged off when
management determines that collection has become unlikely. Restructured loans
are those where the Banks have granted a concession on the interest paid or
original repayment terms due to financial difficulties of the borrower. Other
real estate owned ("OREO") consists of real property acquired through
foreclosure on the related collateral underlying defaulted loans.
26
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS (CONTINUED)
The following table sets forth information regarding nonperforming assets
at the dates indicated.
<TABLE>
<CAPTION>
September 30, June 30, March 31, December 31, September 30,
----------------------------------------------------------------------------------
(Dollars in thousands) 1999 1999 1999 1998 1998
- -----------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Nonperforming loans
Nonaccrual loans $ 5,884 $ 3,375 $ 2,992 $ 2,003 $ 3,061
Accruing loans past due 90 days or more - - - - -
Restructured loans 1,023 565 482 327 377
----------------------------------------------------------------------------------
Total nonperforming loans 6,907 3,940 3,474 2,330 3,438
Other real estate owned 515 595 620 966 905
----------------------------------------------------------------------------------
Total nonperforming assets $ 7,422 $ 4,535 $ 4,094 $ 3,296 $ 4,343
==================================================================================
Nonperforming assets to total loans
and other real estate owned 0.50% 0.31% 0.33% 0.30% 0.45%
</TABLE>
At September 30, 1999, the Company had $5.9 million in nonaccrual loans.
Interest income foregone on nonaccrual loans outstanding totaled $131,000 and
$86,000 for the three months ended September 30, 1999 and 1998, respectively.
The Company records OREO at the lower of carrying value or fair value less
estimated costs to sell. Estimated losses that result from the ongoing periodic
valuation of these properties are charged to earnings through a provision for
losses on foreclosed property in the period in which they are identified. At
September 30, 1999, OREO acquired through foreclosure had a carrying value of
$515,000, compared to $966,000 at December 31, 1998.
The Company had $1.0 million and $327,000 of restructured loans as of
September 30, 1999 and December 31, 1998, respectively. There were no principal
reduction concessions allowed on restructured loans during the third quarter of
1999 or 1998. Interest income from restructured loans totaled $26,000 and
$7,000 for the three months ended September 30, 1999 and 1998, respectively.
Foregone interest income, which totaled $0 and $0 for the three months ended
September 30, 1999 and 1998, respectively, would have been recorded as interest
income if the loans had accrued interest in accordance with their original terms
prior to the restructurings.
The Company has three classifications for problem loans: "substandard,"
"doubtful" and "loss." Substandard loans have one or more defined weaknesses and
are characterized by the distinct possibility that the Banks will sustain some
loss if the deficiencies are not corrected. Doubtful loans have the weaknesses
of substandard loans with the additional characteristic that the weaknesses make
collection or liquidation in full on the basis of currently existing facts,
conditions and values questionable; and there is a high possibility of loss of
some portion of the principal balance. A loan classified as "loss" is considered
uncollectible and its continuance as an asset is not warranted.
27
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS (CONTINUED)
The following table sets forth the classified assets at the dates
indicated.
<TABLE>
<CAPTION>
September 30, June 30, March 31, December 31, September 30,
----------------------------------------------------------------------------
(Dollars in thousands) 1999 1999 1999 1998 1998
- ----------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Substandard $24,422 $22,207 $15,284 $12,515 $12,949
Doubtful 2,126 1,132 1,019 1,188 1,266
Loss - - - - -
Other real estate owned 515 595 620 966 905
----------------------------------------------------------------------------
Classified assets $27,063 $23,934 $16,923 $14,669 $15,120
----------------------------------------------------------------------------
Classified assets to total loans and other real 1.82% 1.77% 1.34% 1.31% 1.57%
estate owned
Allowance for loan losses to total classified assets 109.67% 108.99% 142.09% 159.38% 144.59%
</TABLE>
With the exception of these classified assets, management was not aware of
any loans outstanding as of September 30, 1999 where the known credit problems
of the borrower would cause management to have serious doubts as to the ability
of such borrowers to comply with their present loan repayment terms and which
would result in such loans being included in nonperforming or classified asset
tables at some future date. Management cannot, however, predict the extent to
which economic conditions in the Company's market areas may worsen or the full
impact that such an environment may have on the Company's loan portfolio.
Accordingly, there can be no assurance that other loans will not become 90 days
or more past due, be placed on nonaccrual, become restructured loans, or other
real estate owned in the future.
In the second quarter of 1999, the Company classified four additional loans
as substandard even though they were performing. It is the Company's policy to
be proactive in its loan grading system. These loans are considered to be well
collateralized and we anticipate that they will continue to remain performing.
Allowance For Loan Losses
The allowance for loan losses is established through a provision for loan
losses based on management's evaluation of the Company's loan portfolio. See
"Provision for Loan Losses" herein. The allowance is increased by provisions
charged against earnings and reduced by net loan charge-offs. Loans are charged-
off when they are deemed to be uncollectible; recoveries are generally recorded
only when cash payments are received.
28
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS (CONTINUED)
The following table sets forth information concerning the Company's
allowance for loan losses at the dates and for the quarters indicated.
<TABLE>
<CAPTION>
At and for the three month periods ended
September 30, June 30, March 31, December 31, September 30,
--------------------------------------------------------------------
(Dollars in thousands) 1999 1999 1999 1998 1998
- -----------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Period end loans outstanding $1,484,019 $1,351,462 $1,258,925 $1,115,982 $962,203
Average loans outstanding $1,418,395 $1,318,899 $1,184,161 $1,012,950 $929,687
Allowance for loan losses:
Balance at beginning of period $ 26,086 $ 24,046 $ 23,379 $ 21,862 $ 19,758
Charge-offs:
Commercial (592) (200) (224) (53) (52)
Real estate construction and land - - - - -
Real estate term - - - - -
Consumer and other (75) (42) (64) (455) (27)
--------------------------------------------------------------------
Total charge-offs (667) (242) (288) (508) (79)
--------------------------------------------------------------------
Recoveries:
Commercial 700 195 21 38 156
Real estate construction and land - - - - -
Real estate term - - - - -
Consumer and other 43 4 13 46 33
--------------------------------------------------------------------
Total recoveries 743 199 34 84 189
--------------------------------------------------------------------
Net (charge-offs)/recoveries 76 (43) (254) (424) 110
Provision charged to income (1) 3,518 2,083 921 1,941 1,994
--------------------------------------------------------------------
Balance at end of period $ 29,680 $ 26,086 $ 24,046 $ 23,379 $ 21,862
====================================================================
Quarterly net (charge-offs)/recoveries to average
loans outstanding during the period, annualized -0.02% 0.01% 0.09% 0.17% -0.05%
Year to date net (charge-offs)/recoveries to
average loans outstanding during the period, annualized 0.02% 0.05% 0.09% 0.04% -0.02%
Allowance as a percentage of average loans outstanding 2.09% 1.98% 2.03% 2.31% 2.35%
Allowance as a percentage of period end loans outstanding 2.00% 1.93% 1.91% 2.09% 2.27%
Allowance as a percentage of non-performing loans 429.71% 662.08% 692.17% 1,003.39% 635.89%
</TABLE>
_______________________
(1) Includes $447,000 in second quarter of 1999 and $113,000 in the third
quarter of 1998 to conform practices to the Company's reserve methodologies,
which is included in mergers and related nonrecurring costs.
As discussed in "Provision for Loan Losses", management considers various
factors in establishing an appropriate allowance for loan losses. Although
management believes that the allowance for loan losses is adequate to provide
for both potential losses and estimated inherent losses in the portfolio, future
provisions will be subject to continuing evaluations of the inherent risk in the
portfolio and if the economy declines or asset quality deteriorates, additional
provisions could be required.
At September 30, 1999, the allowance for loan losses was $29.7 million,
consisting of a $21.4 million allocated allowance and a $8.3 million unallocated
allowance. The unallocated allowance recognizes the model and estimation risk
associated with the allocated allowances, and management's evaluation of various
conditions, the effects of which are not directly measured in determining the
allocated allowance. The evaluation of the inherent loss regarding these
conditions involves a higher degree of uncertainty because they are not
identified with specific problem credits or portfolio segments. The conditions
evaluated in connection with the unallocated allowance include the following
conditions that existed at September 30, 1999:
29
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS (CONTINUED)
. Specific industry conditions within portfolio segments, particularly
involving the high technology sector and the impact of foreign economic
forces upon that sector;
. Seasoning of the loan portfolio and growth in loan volumes;
. The strength and duration of the current business cycle and existing
general economic and business conditions affecting our key lending
areas;
. Credit quality trends, including trends in nonperforming loans expected
to result from changes in existing conditions; and
. The results of bank regulatory examinations and the findings of our
internal credit examiners.
The Officers' Loan Committee reviews these conditions quarterly in
discussion with our senior relationship managers. If any of these conditions is
evidenced by a specifically identifiable problem credit or portfolio segment as
of the evaluation date, management's estimate of the effect of this condition
may be reflected as an allocated allowance applicable to this credit or
portfolio segment. Where any of these conditions is not evidenced by a
specifically identifiable problem credit or portfolio segment as of the
evaluation date, management's evaluation of the probable loss concerning this
condition is reflected in the unallocated allowance.
The allowance for credit losses is based upon estimates of probable losses
inherent in the loan portfolio. The amount actually observed for these losses
can vary significantly from the estimated amounts. Our methodology includes
several features that are intended to reduce the differences between estimated
and actual losses. The historical loss analysis, which reviews the losses over
1, 3 and 5 year periods, and evaluations of the current business cycle and
economic conditions are used to establish the loan loss factors for problem
graded loans which are designed to be self-correcting by taking into account our
recent loss experience. Similarly, by basing the pass graded loan loss factors
on historical loss experience, the methodology is designed to take our recent
loss experience into account. Loan loss factors are adjusted quarterly based
upon the level of net charge-offs expected by management in the next twelve
months. Furthermore, our methodology permits adjustments to any loss factor
used in the computation of the formula allowance in the event that, in
management's judgement, significant factors that affect the collectibility of
the portfolio as the evaluation date are not reflected in the loss factors. By
assessing the probable estimated losses inherent in the loan portfolio on a
quarterly basis, we are able to adjust specific and inherent loss estimates
based upon any more recent information that has become available.
The Company recorded provisions in 1999 to bring the allowance for credit
losses to a level deemed appropriate by management based upon management's
application of the loan loss allowance methodology discussed above. In
particular, in the assessment as of September 30, 1999, management focused on
factors affecting elements of the high technology sector and the impact of
foreign economic forces upon that sector, including seasoning of the loan
portfolio coupled with growth in loan volumes and the strength and duration of
the current business cycle coupled with existing general economic and business
conditions affecting our key lending areas.
30
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS (CONTINUED)
Liquidity and Cash Flow
The objective of liquidity management is to maintain each Bank's ability to
meet the day-to-day cash flow requirements of its clients who either wish to
withdraw funds or require funds to meet their credit needs. The Company must
manage its liquidity position to allow the Banks to meet the needs of their
clients while maintaining an appropriate balance between assets and liabilities
to meet the return on investment expectations of its shareholders. The Company
monitors the sources and uses of funds on a daily basis to maintain an
acceptable liquidity position. In addition to liquidity from core deposits and
repayments and maturities of loans and investments, the Banks utilize brokered
deposit lines, sell securities under agreements to repurchase and borrow
overnight federal funds. In 1997, the Company issued $20.0 million in Trust
Preferred Securities ("TPS") to enhance its regulatory capital base, while also
providing added liquidity. In 1998, the Company completed a second offering of
TPS in an aggregate amount of $30.0 million. Under applicable regulatory
guidelines, $41.4 million of the TPS qualifies as Tier I capital, and the
remaining portion qualifies as Tier 2 capital. As the Company's shareholders'
equity increases, the amount of the additional TPS that will count as Tier I
capital will increase.
Greater Bay is a company separate and apart from the Banks. It must provide
for its own liquidity. Substantially all of Greater Bay's revenues are obtained
from management fees, interest received on its investments and dividends
declared and paid by the Banks. There are statutory and regulatory provisions
that could limit the ability of the Banks to pay dividends to Greater Bay. At
September 30, 1999, the Banks had approximately $45.3 million in the aggregate
available to be paid as dividends to Greater Bay. Management of Greater Bay
believes that such restrictions will not have an impact on the ability of
Greater Bay to meet its ongoing cash obligations. As of September 30, 1999,
Greater Bay did not have any material commitments for capital expenditures.
Net cash provided by operating activities, consisting primarily of net
income and increases in interest payable and other liabilities, totaled $23.9
million and $17.1 million for the nine months ended September 30, 1999 and 1998,
respectively. Cash used for investing activities totaled $439.8 million and
$336.4 million for the nine months ended September 30, 1999 and 1998,
respectivley. The funds used for investing activities primarily represent
increases in loans and investment securities for each year reported.
For the nine months ended September 30, 1999 net cash provided by financing
activities was $527.6 million, compared to $330.7 million for the nine months
ended September 30, 1999. Historically, the primary financing activity of the
Company has been through deposits. For the nine months ended September 30, 1999
and 1998, deposit gathering activities generated cash of $553.8 million and
$242.4 million, respectively. This represents a total of 105% and 73.3% of the
financing cash flows for the nine months ended September 30, 1999 and 1998,
respectively.
Capital Resources
Shareholders' equity at September 30, 1999 increased to $120.0 million from
$107.0 million at December 31, 1998. Greater Bay paid dividends of $0.36 and
$0.39 per share during the nine months ended September 30, 1999 and the twelve
months ended December 31, 1998, respectively.
31
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS (CONTINUED)
The Company has provided a substantial portion of its capital requirements
through the retention of earnings. The Company supplemented its capital base by
issuing $30.0 million of TPS in 1998 and $20.0 million of TPS in 1997, which,
subject to certain limitations, qualify as Tier 1 capital.
A banking organization's total qualifying capital includes two components,
core capital (Tier 1 capital) and supplementary capital (Tier 2 capital). Core
capital, which must comprise at least half of total capital, includes common
shareholders' equity, qualifying perpetual preferred stock, trust preferred
securities and minority interests, less goodwill. Supplementary capital includes
the allowance for loan losses (subject to certain limitations), other perpetual
preferred stock, trust preferred securities, certain other capital instruments
and term subordinated debt. The Company's major capital components are
shareholders' equity and TPS in core capital, and the allowance for loan losses
and subordinated debt in supplementary capital.
At September 30, 1999, the minimum risk-based capital requirements to be
considered adequately capitalized were 4.0% for core capital and 8.0% for total
capital. Federal banking regulators have also adopted leverage capital
guidelines to supplement risk-based measures. The leverage ratio is determined
by dividing Tier 1 capital as defined under the risk-based guidelines by average
total assets (not risk-adjusted) for the preceding quarter.
Pursuant to the Federal Deposit Insurance Corporation Improvement Act of
1991, the Federal Reserve, the OCC and the FDIC have adopted regulations setting
forth a five-tier system for measuring the capital adequacy of the financial
institutions they supervise. The capital levels of the Company at September 30,
1999 and the two highest levels recognized under these regulations are as
follows. These ratios all exceeded the well-capitalized guidelines shown below.
<TABLE>
<CAPTION>
Tier 1 Total
Leverage Risk-Based Risk-Based
Ratio Capital Ratio Capital Ratio
----- ------------- -------------
<S> <C> <C> <C>
Company 7.56% 8.80% 10.52%
Well-capitalized 5.00% 6.00% 10.00%
Adequately capitalized 4.00% 4.00% 8.00%
</TABLE>
In addition, at September 30, 1999, each of the Banks had levels of capital
that exceeded the well-capitalized guidelines.
The Company anticipates that the economic and business conditions in its
market areas will remain strong resulting in continued growth in earnings and
deposits. To support this continuing growth or future acquisition opportunities,
the Company may raise additional capital through the sale of either debt or
equity securities in order for the Company and each of the Banks to remain well-
capitalized under applicable regulations.
32
<PAGE>
QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Company's financial performance is impacted by, among other factors,
interest rate risk and credit risk. The Company utilizes no derivatives to
mitigate its credit risk, relying instead on loan review and an adequate loan
loss reserve (see "--Allowance for Loan Losses" herein).
Interest rate risk is the risk of loss in value due to changes in interest
rates. This risk is addressed by the Company's Asset Liability Management
Committee ("ALCO"), which includes senior management representatives. The ALCO
monitors and considers methods of managing interest rate risk by monitoring
changes in net portfolio values ("NPV") and net interest income under various
interest rate scenarios. The ALCO attempts to manage the various components of
the Company's balance sheet to minimize the impact of sudden and sustained
changes in interest rates on NPV and net interest income.
The Company's exposure to interest rate risk is reviewed on at least a
quarterly basis by the Board of Directors and the ALCO. Interest rate risk
exposure is measured using interest rate sensitivity analysis to determine the
Company's change in NPV in the event of hypothetical changes in interest rates
and interest liabilities. If potential changes to NPV and net interest income
resulting from hypothetical interest rate swings are not within the limits
established by the Board, the Board may direct management to adjust its asset
and liability mix to bring interest rate risk within Board-approved limits.
In order to reduce the exposure to interest rate fluctuations, the Company
has developed strategies to manage its liquidity, lengthen the effective
maturities of certain interest-earning assets, and shorten the effective
maturities of certain interest-bearing liabilities. The Company has focused its
investment activities on securities with generally medium-term (7 years to 10
years) maturities or average lives. The Company has utilized short-term
borrowings and deposit marketing programs to adjust the term to repricing of its
liabilities.
Interest rate sensitivity analysis is used to measure the Company's
interest rate risk by computing estimated changes in NPV of its cash flows from
assets, liabilities and off-balance sheet items in the event of a range of
assumed changes in market interest rates. NPV represents the market value of
portfolio equity and is equal to the market value of assets minus the market
value of liabilities, with adjustments made for off-balance sheet items. This
analysis assesses the risk of loss in market rate sensitive instruments in the
event of sudden and sustained increases and decreases in market interest rates
of 100 basis points. The following table presents the Company's projected change
in NPV for these rate shock levels as of September 30, 1999. All market rate
sensitive instruments presented in this table are classified as either held to
maturity or available for sale. The Company has no trading securities.
<TABLE>
<CAPTION>
(Dollars in thousands)
Projected Change
Change in ------------------------------
Interest Rates NPV Dollars Percentage
- --------------------------------------------------------------------------------
<S> <C> <C> <C>
100 basis point rise $369,050 $ 8,377 2.27%
Base scenario 360,871 - -
100 basis point decline 347,458 $(12,925) (3.72)%
</TABLE>
The preceding table indicates that at September 30, 1999, in the event of a
sudden and sustained decrease in prevailing market interest rates, the Company's
NPV would be expected to increase.
NPV is calculated based on the net present value of estimated cash flows
utilizing market prepayment assumptions and market rates of interest provided by
independent broker quotations and other public sources.
33
<PAGE>
QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK (CONTINUED)
Computation of forecasted effects of hypothetical interest rate changes is
based on numerous assumptions, including relative levels of market interest
rates, loan prepayments and deposit decay, and should not be relied upon as
indicative of actual future results. Further, the computations do not
contemplate any actions the ALCO could undertake in response to changes in
interest rates.
Certain shortcomings are inherent in the method of analysis presented in
the computation of NPV. Actual values may differ from those projections
presented should market conditions vary from assumptions used in the calculation
of the NPV. Certain assets, such as adjustable-rate loans, which represent one
of the Company's loan products, have features which restrict changes in interest
rate on a short-term basis and over the life of the assets. In addition, the
proportion of adjustable-rate loans in the Company's portfolio could decrease in
future periods if market interest rates remain at or decrease below current
levels due to refinancing activity. Further, in the event of a change in
interest rates, prepayment and early withdrawal levels would likely deviate
significantly from those assumed in the NPV. Finally, the ability of many
borrowers to repay their adjustable-rate mortgage loans may decrease in the
event of significant interest rate increases.
Interest Rate Risk Management
Interest rate risk management is a function of the repricing
characteristics of the Company's portfolio of assets and liabilities. Interest
rate risk management focuses on the maturity structure of assets and liabilities
and their repricing characteristics during periods of changes in market interest
rates. Effective interest rate risk management seeks to ensure that both assets
and liabilities respond to changes in interest rates within an acceptable time
frame, thereby minimizing the effect of interest rate movements on net interest
income. Interest rate sensitivity is measured as the difference between the
volumes of assets and liabilities in the Company's current portfolio that are
subject to repricing at various time horizons: one day or immediate, two days to
six months, seven to twelve months, one to three years, four to five years, over
five years and on a cumulative basis. The differences are known as interest
sensitivity gaps.
The following table shows interest sensitivity gaps for different intervals
as of September 30, 1999.
<TABLE>
<CAPTION>
Immediate or 2 Days to 7 Months to 1 Year to 4 Years to More than
One Day 6 Months 12 Months 3 Years 5 Years 5 Years
---------------------------------------------------------------------------------------------
Assets (Dollars in thousands)
<S> <C> <C> <C> <C> <C> <C>
Cash and Due $ 823 $ - $ - $ - $ - $ -
Federal Funds Sold 183,800 - - - - -
Investment Securities - 65,834 20,085 87,397 49,748 228,841
Loans 774,228 416,339 33,469 91,055 63,993 110,466
Allowance for Loan - - - - - -
Losses/Unearned Fees
Other Assets - - - - - -
---------------------------------------------------------------------------------------------
Total Assets $ 958,851 $ 482,173 $ 53,554 $178,452 $113,741 $339,307
=============================================================================================
Liabilities and Equity
Deposits $1,242,115 $ 363,300 $ 43,950 $ 7,383 $ 660 $ 27
Other Borrowings - 15,751 32,702 - 2,000 1,547
Trust Preferred - - - - - 50,000
Securities
Other Liabilities - - - - - -
Shareholders Equity - - - - - -
---------------------------------------------------------------------------------------------
Total $1,242,115 $ 379,051 $ 76,652 $ 7,383 $ 2,660 $ 51,574
Liab/Equity
=============================================================================================
Gap $ (283,264) $ 103,122 $ (23,098) $171,069 $111,081 $287,733
Cumulative Gap $ (283,264) $(180,142) $ (203,240) $(32,171) $ 78,910 $366,643
Cumulative Gap/Total -12.4% -7.9% -8.9% -1.4% 3.5% 16.1%
Assets
<CAPTION>
Total Rate Non-Rate
Sensitive Sensitive Total
---------------------------------------------------------------------
Assets (Dollars in thousands)
<S> <C> <C> <C>
Cash and Due $ 823 $ 98,040 $ 98,863
Federal Funds Sold 183,300 - 183,300
Investment Securities 451,905 (8,322) 443,583
Loans 1,489,550 - 1,489,550
Allowance for Loan - (35,211) (35,211)
Losses/Unearned Fees
Other Assets - 103,302 103,302
---------------------------------------------------------------------
Total Assets $2,126,078 $ 157,809 $2,283,887
=====================================================================
Liabilities and Equity
Deposits $1,657,435 $ 375,302 $2,032,737
Other Borrowings 52,000 - 52,000
Trust Preferred 50,000 - 50,000
Securities
Other Liabilities - 29,112 29,112
Shareholders Equity - 120,038 120,038
---------------------------------------------------------------------
Total $1,759,435 $ 524,452 $2,283,887
Liab/Equity
=====================================================================
Gap $ 366,643 $(366,643) $ -
Cumulative Gap $ 733,286 $ - $ -
Cumulative Gap/Total 32.1% - -
Assets
</TABLE>
34
<PAGE>
QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK (CONTINUED)
The foregoing table indicates that the Company had a one year gap of
$(203.2) million, or -8.9% of total assets, at September 30, 1999. In theory,
this would indicate that at September 30, 1999, $203.2 million more in
liabilities than assets would reprice if there was a change in interest rates
over the next 365 days. Thus, if interest rates were to increase, the gap
would tend to result in a higher net interest margin. Conversely, if interest
rates decreased, the gap may result in decreases net interest margin. However,
changes in the mix of earning assets or supporting liabilities can either
increase or decrease the net interest margin without affecting interest rate
sensitivity. In addition, the interest rate spread between an asset and its
supporting liability can vary significantly while the timing of repricing of
both the asset and its supporting liability can remain the same, thus
impacting net interest income. This characteristic is referred to as basis
risk and, generally, relates to the repricing characteristics of short-term
funding sources such as certificates of deposit.
The impact of fluctuations in interest rates on the Company's projected
next twelve month net interest income and net income has been evaluated through
an interest rate shock simulation modeling analysis that includes various
assumptions regarding the repricing relationship of assets and liabilities, as
well as the anticipated changes in loan and deposit volumes over differing rate
environments. As of September 30, 1999, the analysis indicates that the
Company's net interest income would increase a maximum of 14.37% if rates rose
200 basis points immediately and would decrease a maximum of 14.08% if rates
declined 200 basis points immediately. In addition, the results indicate that
notwithstanding the Company's gap position, which would indicate that the net
interest margin increases when rates rise, the Company's net interest margin
increases during rising rate periods due to the basis risk imbedded in the
Company's interest- bearing liabilities. The Company has revised the assumptions
used in performing this analysis following a detailed review of its ALCO pricing
history. As a result, the anticipated impact of interest rate changes on the
Company's net interest income has increased since December 31, 1998.
While the overall analysis indicates the probable impact of interest rate
movements on the Company's net interest income, it does not take into
consideration other factors that would impact this analysis. These factors would
include management's and ALCO's actions to mitigate the impact to the Company
and the impact of the Company's credit risk profile during periods of
significant interest rate movements.
Varying interest rate environments can create unexpected changes in
prepayment levels of assets and liabilities which are not reflected in the
interest sensitivity analysis table. These prepayments may have significant
effects on the Company's net interest margin. Because of these factors and
others, an interest sensitivity gap report may not provide a complete assessment
of the Company's exposure to changes in interest rates.
Year 2000 Compliance
State of Readiness
The Company has undertaken a major project to ensure that its internal
operating systems will be fully capable of processing year 2000 transactions.
This project is overseen by the Greater Bay Year 2000 Project Team (the "Year
2000 Project Team"), which reports monthly progress to the Company's Board of
Directors.
The Company is determining the potential impact of the year 2000 on the
ability of the Company's computerized information systems to accurately process
information that may be date-sensitive. Any of the Company's programs that
recognize a date using "00" as the year 1900 rather than the year 2000 could
result in errors or system failures. The Company utilizes a number of computer
programs across its entire operation.
35
<PAGE>
QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK (CONTINUED)
The initial phase of the project was to assess and identify all internal
business processes requiring modification and to develop comprehensive
renovation plans as needed. This phase was completed in mid-1998. The second
phase was to execute those renovation plans and begin testing systems by
simulating year 2000 data conditions. This phase was completed in 1998. Testing
and implementation was completed during the first half of 1999. This testing
indicating that the Company's core banking systems are ready for the year 2000
date change.
The Company relies upon third-party software vendors and service providers
for substantially all of its electronic data processing and does not operate any
proprietary programs which are critical to the Company's operations. Thus, the
focus of the Company is to monitor the progress of its primary software
providers towards compliance with year 2000 issues and to test actual data of
the Company in simulated processing of future sensitive dates.
As well as evaluating its own internal operating systems, the Company has
also initiated discussions with its major customers and suppliers as to their
ability to meet year 2000 requirements. The Year 2000 Project Team previously
has identified and sought information from significant third party suppliers
regarding their year 2000 compliance. Suppliers providing system
interdependencies also have been identified, and testing with such suppliers has
occurred during this phase of the project. The Year 2000 Project Team continues
to work with all targeted suppliers to determine their year 2000 status. As of
this time, the Year 2000 Project Team has not identified any significant issues
with the identified suppliers.
The Company also has identified customers who have a material relationship
with the Company and requested such customers to complete a year 2000 survey,
which is used by the Company to assess the overall risk to the Company resulting
from such customers' year 2000 compliance.
Costs to Address the Year 2000 Issue
The Company has budgeted an anticipated total expenditure of $300,000 in
1999 to ensure that its systems are ready for processing information in the year
2000. The Company estimates that it has incurred out-of-pocket expenses of
approximately $206,000 and $146,000 in the nine months ended September 30, 1999
and the year ended December 31, 1998 in connection with year 2000 issues. In
addition, the Company has incurred certain costs relating to reallocation of
internal resources to address year 2000 issues. The Company expects that the
cost of remedial action for its noncompliant year 2000 systems will not be
material.
Greater Bay completed the Awareness and Assessment Phases, as defined by
the FFIEC, for its computer systems and bank facilities in 1998 and continues to
update its assessment as needed. The Company has identified its mission-critical
systems, assessed the state of Year 2000 compliance of those systems and
implemented a plan to repair or replace non-compliant systems. The Company
currently believes that costs of addressing Year 2000 issues will not have a
material adverse impact on the Company's financial position. However, if the
Company and third parties upon which it relies are unable to address this issue
in a timely manner, it could result in a material financial risk to the Company.
In order to assure that this does not occur, the Company plans to devote all
resources required to resolve any significant year 2000 issues in a timely
manner.
36
<PAGE>
QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK (CONTINUED)
Risks Presented by the Year 2000 Issue
As the Company continues to assess the year 2000 issue, it may identify
systems that present a year 2000 risk. In addition, if any third-party software
vendors and service providers upon whom the Company relies fail to appropriately
address their year 2000 issues, such failure could have a material adverse
effect on the Company's business, financial condition and operating results.
Should the Company and/or its significant suppliers fail to timely
identify, address and correct material year 2000 issues, such failure could have
a material adverse impact on the Company's ability to operate. The range of
adverse impacts may include the requirement to pay significant overtime to
manually process certain transactions and added costs to process certain banking
activity through a centralized administrative function. In addition, if
corrections made by such suppliers to address year 2000 issues are incompatible
with the Company's systems, the year 2000 issue could have a material adverse
impact on the Company's operations.
Despite the Company's activities in regards to the year 2000 issue, there
can be no assurance that partial or total systems interruptions or the costs
necessary to update hardware and software would not have a material adverse
effect upon the Company's business, financial condition, results of operations
and business prospects.
Contingency Plans
The Year 2000 Project Team completed the development of contingency plans
for year 2000 readiness. The Company engaged a third party consultant, which
specializes in developing contingency plans for financial institutions for year
2000, to assist the Company in analyzing the impact of year 2000 on its
business. This business impact analysis was completed in 1998 and the Company's
contingency plans for year 2000 readiness are complete. There can be no
assurance, however, that such contingency plans will be successful.
Recent Events
Mt. Diablo Bancshares Merger
On September 15, 1999 the Company and Mt. Diablo Bancshares, the parent of
Mt. Diablo National Bank, signed a definitive agreement for a merger between the
two companies. The agreement provides for Mt. Diablo Bancshares' shareholders to
receive approximately 1,500,000 shares of Greater Bay stock, subject certain
adjustments based on changes in the Company's stock price, in a tax-free
exchange to be accounted for as a pooling-of-interests. Following the
transaction, the shareholders of Mt. Diablo Bancshares will own approximately
9.5% of the combined company. The transaction is expected to be completed in the
first quarter of 2000, subject to Mt. Diablo Bancshares' shareholders and
regulatory approvals. As of September 30, 1999, Mt. Diablo Bancshares had $205.6
million in assets, $190.2 million in deposits, and $11.8 million in
shareholders' equity. Mt. Diablo National Bank has banking offices in Danville,
Pleasanton and Lafayette, California. The combined Company, on a pro-forma basis
after giving effect to the merger of Mt. Diablo Bancshares and Bay Commercial
Services, would have had total assets of approximately $2.6 billion and equity
of over $145.3 million at September 30, 1999.
Management believes that significant opportunities exist to enhance the
spectrum of financial services offered to both existing and future clients of
Mt. Diablo Bancshares while also increasing market penetration in the East Bay
market areas.
Venture Banking Group Warrant Position
The Venture Banking Group has a net warrant position of 142,000 shares of
Cerent Corporation, which Cisco Systems Inc. recently agreed to acquire for
100,000,000 Cisco shares. Greater Bay Bancorp estimates that its ownership
position in Cerent will equate to an ownership interest of approximately 200,000
shares of Cisco stock when the merger is consummated.
The Company cannot give any assurance that the transaction will be
consummated or what value will ultimately be realized from this investment. In
view of these uncertainties, as well as the uncertainty concerning whether the
Company will contribute all or a portion of the warrant appreciation to the
Greater Bay Bancorp Foundation as it has done in the past, the Company
cannot predict the impact the consummation of this acquisition will ultimately
have on the Company's net income or equity base in future periods.
37
<PAGE>
QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK (CONTINUED)
Recent Accounting Developments
In April 1999, the Financial Accounting Standards Board ("FASB") reached
tentative conclusions on the future of the pooling-of-interests method of
accounting for business combinations. These tentative decisions include the
decision that the pooling-of-interests method of accounting will no longer be an
acceptable method to account for business combinations between independent
parties and that there should be a single method of accounting for all business
combinations, and that method is the purchase method.
The FASB agreed that the purchase method should be applied prospectively to
business combination transactions that are initiated after the final standard is
issued. The FASB has indicated that it expects an exposure draft to be issued
during the third quarter of 1999 and expects a final standard will be issued and
become effective in the fourth quarter of 2000.
A portion of the Company's business strategy is to pursue acquisition
opportunities so as to expand its market presence and maintain growth levels. A
change in the accounting for business combinations could have a negative impact
on the Company's ability to realize those business strategies.
38
<PAGE>
PART II. OTHER INFORMATION
ITEM 1. Legal Proceedings -- Not applicable
ITEM 2. Changes in Securities and Use of Proceeds - Not applicable
ITEM 3. Defaults Upon Senior Securities -- Not applicable
ITEM 4. Submission of Matters to a Vote of Security Holders - Not applicable
ITEM 5. Other Information -- Not applicable
ITEM 6. Exhibits and Reports on Form 8-K
The Exhibits listed below are filed or incorporated by reference as part of this
Report.
(a) Exhibits
EXHIBIT
NO. EXHIBITS
- ------- --------
2 Agreement and Plan of Reorganization, dated September 15, 1999, between
Greater Bay Bancorp and Mt. Diablo Bancshares (incorporated by reference
to Exhibit 2 from Registrant's Current Report on Form 8-K dated September
21, 1999).
11 Statement re Computation of Earnings Per Share.
27 Financial Data Schedule.
- --------
(b) Reports on Form 8-K
During the quarter ended September 30, 1999, the Registrant filed the
following Current Reports on Form 8-K: (1) Form 8-K dated July 1, 1999
reporting under Items 5 and 7 (containing supplemental consolidated
financial statements reflecting the merger with Bay Area Bancshares); (2)
Form 8-K/A dated July 16, 1999 reporting under Items 5 and 7 (refiling a
corrected auditors' consent relating to the previous 8-K); (3) Form 8-K
dated August 4, 1999 reporting under Items 5 and 7 (second quarter
earnings, year 2000 readiness and grant of delegated authority by U.S.
Export Import Bank); and (4) Form 8-K dated September 21, 1999 reporting
under Items 5 and 7 (reporting signing of merger agreement with Mt. Diablo
Bancshares).
39
<PAGE>
SIGNITURES
IN ACCORDANCE WITH THE REQUIREMENTS OF THE SECURITIES EXCHANGE ACT OF 1934, AS
AMENDED, THE REGISTRANT HAS CAUSED THIS REPORT TO BE SIGNED ON ITS BEHALF BY THE
UNDERSIGNED THEREUNTO DULY AUTHORIZED.
GREATER BAY BANCORP
(Registrant)
By:
/s/ Steven C. Smith
- -------------------
Steven C. Smith
Executive Vice President, Chief Administrative Officer and
Chief Financial Officer
Date: November 15, 1999
40
<PAGE>
<TABLE>
<CAPTION>
Greater Bay Bancorp Form 10-Q
Exhibit 11 -- Statements Re Computation of Earnings Per Share
Three Months Ended September 30, Nine Months Ended September 30,
(Dollars and shares in thousands, except per share 1999 1998 1999 1998
amounts)
- --------------------------------------------------------------------------- -------------------
Basic Earnings Per Share:
<S> <C> <C> <C> <C>
Income available to common shareholders $ 7,367 $ 5,015 $ 17,033 $ 13,315
Weighted average common shares outstanding 11,285,000 10,924,000 11,189,000 10,848,000
---------------------------------------------- ------------
Basic earnings per share $ 0.65 $ 0.46 $ 1.52 $ 1.23
============================================== =============
Diluted Earnings Per Share:
Income available to common shareholders $ 7,367 $ 5,015 $ 17,033 $ 13,315
Weighted average common shares outstanding 11,285,000 10,924,000 11,189,000 10,848,000
Effect of dilutive securities 626,000 698,000 621,000 801,000
---------------------------------------------- -----------
Weighted average common and common
equivalent shares outstanding 11,911,000 11,622,000 11,810,000 11,649,000
---------------------------------------------- -----------
Diluted earnings per share $ 0.62 $ 0.43 $ 1.44 $ 1.14
============================================== ============
</TABLE>
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 9
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> DEC-31-1999
<PERIOD-START> JUL-01-1999
<PERIOD-END> SEP-30-1999
<CASH> 98,863
<INT-BEARING-DEPOSITS> 0
<FED-FUNDS-SOLD> 183,800
<TRADING-ASSETS> 0
<INVESTMENTS-HELD-FOR-SALE> 277,187
<INVESTMENTS-CARRYING> 120,377
<INVESTMENTS-MARKET> 118,367
<LOANS> 1,454,339
<ALLOWANCE> (29,680)
<TOTAL-ASSETS> 2,283,887
<DEPOSITS> 2,032,737
<SHORT-TERM> 0
<LIABILITIES-OTHER> 81,112
<LONG-TERM> 50,000
0
0
<COMMON> 67,085
<OTHER-SE> 52,953
<TOTAL-LIABILITIES-AND-EQUITY> 2,283,887
<INTEREST-LOAN> 33,234
<INTEREST-INVEST> 6,653
<INTEREST-OTHER> 2,821
<INTEREST-TOTAL> 42,708
<INTEREST-DEPOSIT> 15,749
<INTEREST-EXPENSE> 17,612
<INTEREST-INCOME-NET> 25,096
<LOAN-LOSSES> 3,518
<SECURITIES-GAINS> 0
<EXPENSE-OTHER> 13,989
<INCOME-PRETAX> 11,662
<INCOME-PRE-EXTRAORDINARY> 11,662
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 7,367
<EPS-BASIC> 0.65
<EPS-DILUTED> 0.62
<YIELD-ACTUAL> 4.90
<LOANS-NON> 5,884
<LOANS-PAST> 0
<LOANS-TROUBLED> 0
<LOANS-PROBLEM> 0
<ALLOWANCE-OPEN> 26,086
<CHARGE-OFFS> (667)
<RECOVERIES> 743
<ALLOWANCE-CLOSE> 29,680
<ALLOWANCE-DOMESTIC> 29,680
<ALLOWANCE-FOREIGN> 0
<ALLOWANCE-UNALLOCATED> 0
</TABLE>
