<PAGE>
As filed with the Securities and Exchange Commission on August 14, 1998
Registration No. 333-
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM S-1
REGISTRATION STATEMENT
UNDER
THE SECURITIES ACT OF 1933
---------------------
COMMERCE SECURITY BANCORP, INC.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
------------------------------
<TABLE>
<S> <C> <C>
DELAWARE 6021 33-0720548
(State or other jurisdiction (Primary Standard Industrial (I.R.S. Employer
of incorporation or Classification Code Number) Identification No.)
organization)
</TABLE>
24012 CALLE DE LA PLATA
LAGUNA HILLS, CA 92653
(949) 699-4344
(Address, including zip code, and telephone number,
including area code, of Registrant's principal executive offices)
------------------------------
ROBERT P. KELLER
PRESIDENT AND CHIEF EXECUTIVE OFFICER
COMMERCE SECURITY BANCORP, INC.
24012 CALLE DE LA PLATA
LAGUNA HILLS, CA 92653
(949) 699-4344
(Name, address, including zip code, and telephone number,
including area code, of agent for service)
------------------------------
COPIES OF COMMUNICATIONS TO:
<TABLE>
<S> <C>
MICHAEL K. KREBS, ESQUIRE VINCENT J. PISANO, ESQUIRE
NUTTER MCCLENNEN & FISH, LLP SKADDEN, ARPS, SLATE, MEAGHER & FLOM LLP
ONE INTERNATIONAL PLACE 919 THIRD AVENUE
BOSTON, MA 02110 NEW YORK, NY 10022
TELEPHONE: (617) 439-2000 TELEPHONE: (212) 735-3000
FACSIMILE: (617) 973-9748 FACSIMILE: (212) 735-2000
</TABLE>
--------------------------
APPROXIMATE DATE OF COMMENCEMENT OF PROPOSED SALE TO PUBLIC:
As soon as practicable after the effective date of this Registration Statement.
If any of the securities being registered on this Form are to be offered on
a delayed or continuous basis pursuant to Rule 415 under the Securities Act,
check the following box. / /
If this Form is filed to register additional securities for an offering
pursuant to Rule 462(b) under the Securities Act, check the following box and
list the Securities Act registration statement number of the earlier effective
registration statement for the same offering. / / __________
If the Form is a post-effective amendment filed pursuant to Rule 462(c)
under the Securities Act, check the following box and list the Securities Act
registration statement number of the earlier effective registration statement
for the same offering. / / __________
If this Form is a post-effective amendment filed pursuant to Rule 462(d)
under the Securities Act, check the following box and list the Securities Act
registration statement number of the earlier effective registration statement
for the same offering. / / __________
If delivery of the prospectus is expected to be made pursuant to Rule 434,
please check the following box. / /
--------------------------
CALCULATION OF REGISTRATION FEE
<TABLE>
<CAPTION>
PROPOSED MAXIMUM
TITLE OF EACH CLASS OF SECURITIES TO BE AGGREGATE OFFERING AMOUNT OF
REGISTERED PRICE (1) REGISTRATION FEE
<S> <C> <C>
Common Stock (par value $.01 per share)........................................... $46,000,000 $13,570
</TABLE>
(1) Estimated solely for purposes of calculating the registration fee pursuant
to Rule 457(a) under the Securities Act of 1933, as amended.
------------------------------
THE REGISTRANT HEREBY AMENDS THIS REGISTRATION STATEMENT ON SUCH DATE OR
DATES AS MAY BE NECESSARY TO DELAY ITS EFFECTIVE DATE UNTIL THE REGISTRANT SHALL
FILE A FURTHER AMENDMENT WHICH SPECIFICALLY STATES THAT THIS REGISTRATION
STATEMENT SHALL THEREAFTER BECOME EFFECTIVE IN ACCORDANCE WITH SECTION 8(A) OF
THE SECURITIES ACT OF 1933 OR UNTIL THE REGISTRATION STATEMENT SHALL BECOME
EFFECTIVE ON SUCH DATE AS THE COMMISSION, ACTING PURSUANT TO SAID SECTION 8(A),
MAY DETERMINE.
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
<PAGE>
INFORMATION CONTAINED HEREIN IS SUBJECT TO COMPLETION OR AMENDMENT. A
REGISTRATION STATEMENT RELATING TO THESE SECURITIES HAS BEEN FILED WITH THE
SECURITIES AND EXCHANGE COMMISSION. THESE SECURITIES MAY NOT BE SOLD NOR MAY
OFFERS TO BUY BE ACCEPTED PRIOR TO THE TIME THE REGISTRATION STATEMENT BECOMES
EFFECTIVE. THIS PROSPECTUS SHALL NOT CONSTITUTE AN OFFER TO SELL OR THE
SOLICITATION OF AN OFFER TO BUY NOR SHALL THERE BE ANY SALE OF THESE SECURITIES
IN ANY STATE IN WHICH SUCH OFFER, SOLICITATION OR SALE WOULD BE UNLAWFUL PRIOR
TO REGISTRATION OR QUALIFICATION UNDER THE SECURITIES LAWS OF ANY SUCH STATE.
<PAGE>
PROSPECTUS
SUBJECT TO COMPLETION, DATED AUGUST 14, 1998
SHARES
COMMERCE SECURITY BANCORP, INC.
COMMON STOCK
[LOGO]
Of the shares of Common Stock, par value $.01 per share (the "Common
Stock"), offered hereby, shares are being sold by Commerce Security
Bancorp, Inc., a Delaware corporation (the "Company"), and shares are
being offered by certain shareholders of the Company (the "Selling
Shareholders"). See "Principal and Selling Shareholders."
Prior to this offering (the "Offering"), there has been no established
public trading market for the Common Stock. It is currently estimated that the
initial public offering price of the Common Stock will be between $ and
$ per share. See "Underwriting" for a discussion of the factors to be
considered in determining the initial public offering price. Application will be
made for quotation of the Common Stock on The Nasdaq Stock Market's National
Market ("Nasdaq National Market") under the symbol "ELBI."
SEE "RISK FACTORS" BEGINNING ON PAGE 8 HEREOF FOR A DISCUSSION OF CERTAIN
MATERIAL RISK FACTORS THAT SHOULD BE CONSIDERED BY PROSPECTIVE PURCHASERS OF THE
COMMON STOCK OFFERED HEREBY.
---------------------
THESE SECURITIES ARE NOT DEPOSITS OR OTHER OBLIGATIONS OF A BANK AND ARE NOT
INSURED BY THE FEDERAL DEPOSIT INSURANCE CORPORATION OR
ANY OTHER GOVERNMENTAL AGENCY.
------------------------
THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES AND
EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION NOR HAS THE
SECURITIES AND EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION
PASSED UPON THE ACCURACY OR ADEQUACY OF THIS PROSPECTUS. ANY
REPRESENTATION TO THE CONTRARY IS A CRIMINAL OFFENSE.
<TABLE>
<CAPTION>
PROCEEDS TO
PRICE TO UNDERWRITING PROCEEDS TO SELLING
PUBLIC DISCOUNT(1) COMPANY(2) SHAREHOLDERS(2)
<S> <C> <C> <C> <C>
Per Share.............................. $ $ $ $
Total (3).............................. $ $ $ $
</TABLE>
(1) The Company and the Selling Shareholders have agreed to indemnify the
Underwriters against certain liabilities including liabilities under the
Securities Act of 1933, as amended (the "Securities Act"). See
"Underwriting."
(2) Before deducting expenses payable by the Company, estimated at $ .
In accordance with the terms of pre-existing commitments, the Company will
bear all or substantially all of the Selling Shareholders' expenses in
connection with the Offering.
(3) The Company and the Selling Shareholders have granted to the Underwriters a
30-day option to purchase up to additional shares of Common Stock
solely to cover over-allotments, if any. If the Underwriters exercise this
option in full, the total Price to the Public, Underwriting Discount,
Proceeds to the Company and Proceeds to Selling Shareholders will be
$ , $ , $ and $ , respectively. See "Underwriting."
The shares of Common Stock to be distributed to the public are offered by
the several Underwriters named herein, subject to prior sale, when, as and if
received and accepted by the Underwriters, subject to approval of certain legal
matters by counsel for the Underwriters and certain other conditions. The
Underwriters reserve the right to withdraw, cancel or modify such offer and to
reject orders in whole or in part. It is expected that delivery of the
certificates representing the shares of Common Stock will be made against
payment therefor at the offices of Keefe, Bruyette & Woods, Inc., on or about
, 1998.
------------------------
KEEFE, BRUYETTE & WOODS, INC. LEHMAN BROTHERS
----------------
The date of this Prospectus is , 1998
<PAGE>
[INSERT MAP OF CALIFORNIA]
CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING INFORMATION
This Prospectus contains certain forward-looking statements regarding the
Company's future plans, operations and prospects, which involve risks and
uncertainties. Those forward-looking statements are inherently uncertain, and
actual results may differ significantly from the Company's expectations. Risk
factors that could affect current and future performance include but are not
limited to those described elsewhere in this Prospectus (see "Risk Factors"), as
well as the following factors: (i) adverse changes in asset quality and the
resulting credit risk-related losses and expenses; (ii) adverse changes in the
economy of the Southern California region, the Company's primary market, which
could further accentuate credit- related losses and expenses; (iii) adverse
changes in the local real estate market that can also negatively affect credit
risk, as most of the Company's commercial loans are made to borrowers
concentrated in Southern California and a substantial portion of those loans
have real estate as primary or secondary collateral; (iv) the consequences of
continued bank acquisitions and mergers in the Company's market resulting in
fewer but much larger and financially stronger competitors which could increase
competition for financial services to the Company's detriment; (v) fluctuations
in market rates and prices, which can negatively affect the Company's net
interest margin, asset valuations and expense expectations; and (vi) changes in
regulatory requirements of federal and state agencies applicable to bank holding
companies and banks such as the Company and its bank subsidiary.
CERTAIN PERSONS PARTICIPATING IN THE OFFERING MAY ENGAGE IN TRANSACTIONS
THAT STABILIZE, MAINTAIN OR OTHERWISE AFFECT THE PRICE OF THE COMMON STOCK
OFFERED HEREBY. SUCH TRANSACTIONS MAY INCLUDE STABILIZING THE MARKET PRICE OF
THE COMMON STOCK, THE PURCHASE OF COMMON STOCK TO COVER SYNDICATE SHORT
POSITIONS AND THE IMPOSITION OF PENALTY BIDS. FOR A DESCRIPTION OF THESE
ACTIVITIES, SEE "UNDERWRITING."
2
<PAGE>
PROSPECTUS SUMMARY
THE FOLLOWING IS A SUMMARY, WHICH NECESSARILY IS INCOMPLETE, OF CERTAIN
INFORMATION CONTAINED ELSEWHERE IN THIS PROSPECTUS. REFERENCE IS MADE TO, AND
THIS SUMMARY IS QUALIFIED IN ITS ENTIRETY BY, THE MORE DETAILED INFORMATION
CONTAINED ELSEWHERE IN THIS PROSPECTUS. EACH PROSPECTIVE PURCHASER IS URGED TO
READ THIS PROSPECTUS IN ITS ENTIRETY. UNLESS OTHERWISE INDICATED, ALL SHARE, PER
SHARE AND FINANCIAL INFORMATION IN THIS PROSPECTUS: (I) ASSUMES AN INITIAL
PUBLIC OFFERING PRICE OF $ PER SHARE, (II) GIVES EFFECT TO A 1-FOR-2
REVERSE STOCK SPLIT (THE "REVERSE STOCK SPLIT") OF SHARES OF THE COMMON STOCK
THAT WILL BE EFFECTED BY THE COMPANY PRIOR TO THE CONSUMMATION OF THE OFFERING,
AND (III) ASSUMES NO EXERCISE OF THE UNDERWRITERS' OVER-ALLOTMENT OPTION. AS
USED IN THIS PROSPECTUS, THE TERM "COMPANY" REFERS TO THE COMPANY AND ITS
SUBSIDIARY, ELDORADO BANK, ON A CONSOLIDATED BASIS UNLESS THE CONTEXT OTHERWISE
REQUIRES.
THE COMPANY
Commerce Security Bancorp, Inc. (the "Company") is a bank holding company.
Through its sole operating subsidiary, Eldorado Bank (the "Bank"), the Company
offers a broad range of commercial banking products and services to business and
retail customers from 17 full service branches located primarily in the Orange
County, San Diego County and Sacramento areas of California. The Bank also
operates eight loan production offices, four of which are located in Northern
California and four of which are located in contiguous states. In addition, the
Company augments its traditional banking products and services with specialized
products including residential mortgage loans originated for resale into the
secondary market, and equipment leases to small and medium-sized businesses.
The Bank is incorporated under the laws of the State of California and is
licensed by the California State Department of Financial Institutions ("DFI").
It also is a member of the Federal Reserve System. The Bank's deposits are
insured up to applicable limits by the FDIC.
The Company markets its products and services through three divisions:
- COMMUNITY BANKING DIVISION -- focusing primarily on small and medium-sized
businesses located in the Company's California markets. Products include
commercial, consumer and real estate loans, with a particular emphasis on
the origination and servicing of Small Business Administration ("SBA")
loans, and a broad range of deposit products and other non-deposit banking
services.
- MORTGAGE BANKING DIVISION -- originating residential mortgage loans in
California, Arizona, Nevada and Oregon through eight loan production
offices and a network of wholesale brokers for sale in the secondary
market.
- EQUIPMENT LEASING DIVISION -- generating equipment leases primarily
through wholesale sources located throughout the United States, servicing
those leases and from time to time selling blocks of leases to other
institutions.
The key elements of the Company's strategic plan have been and continue to
be the establishment and enhancement of an attractive commercial banking
franchise through the acquisition of community banks primarily, but not
exclusively, in and around its Southern California base, improving core
profitability and maintaining a strong balance sheet. Since 1995, the Company
has acquired three community banks with total assets of $779 million. See
"Business -- Prior Acquisitions."
BUILDING AND ENHANCING AN ATTRACTIVE COMMUNITY BANK FRANCHISE. The
Company is continually engaged in the identification and evaluation of
potential acquisitions of community banks in California. The Company focuses
primarily on community banks that have underperformed relative to their peer
group but have strong lending franchises, niche business lines or low cost
deposits that would complement the Company's existing operations and branch
network and also provide opportunities for cost savings through branch
overlap and back-office consolidation. In particular, the Company seeks to
acquire and develop both traditional and non-traditional community banking
businesses that
3
<PAGE>
provide opportunities for multiple relationships with small and medium-sized
business customers, which the Company considers to be businesses with annual
revenue of up to $50 million. As an integral part of this strategy, the
Company emphasizes building a solid management team through a combination of
senior officers retained from acquired banks and experienced specialists
hired to enhance the Company's competency in various areas, such as mortgage
banking and equipment leasing.
IMPROVING CORE PROFITABILITY. The Company's strategy to increase
profitability is premised primarily on (i) increasing the sources and volume
of fee income, including fees derived from originating and servicing SBA
loans, selling and servicing equipment leases, and originating and selling
residential mortgage loans, (ii) maintaining and diversifying its base of
relatively low cost funds, (iii) utilizing its asset generation capability
to increase the volume of commercial loans and leases that it retains in its
portfolio, particularly SBA loans, equipment leases and commercial loans to
its small business customers, and (iv) actively seeking to improve operating
efficiencies.
STRENGTHENING THE BALANCE SHEET. The Company seeks to maintain a strong
balance sheet by managing the risk of credit-related losses and by striving
to maintain a capital base sufficient to support its strategic plan. The
Company seeks to improve the asset quality of the banks it acquires by
implementing underwriting standards in such banks' loan and lease
origination programs that place greater emphasis on cash flow than
collateral coverage as the primary source of repayment on its loans. To
maintain a capital base sufficient to support the Company's existing
businesses and to permit it to continue to expand through acquisitions, the
Company's plan is to continue to meet the "well capitalized" regulatory
standards. At June 30, 1998, the Company was well capitalized for regulatory
purposes, with Tier 1 and Total Risk-Weighted Ratios (as defined herein) of
8.9% and 10.0% and a Tier 1 Leverage Ratio (as defined herein) of 6.6%. See
"Supervision and Regulation -- Capital Adequacy Requirements." Giving effect
to the Offering, such regulatory capital ratios would have been %, %
and %, respectively, at June 30, 1998.
Prior to September 1995, the Company's predecessor, SDN Bancorp, Inc.
("SDN"), owned a single bank with approximately $56 million in assets which was
categorized as "critically undercapitalized" by federal regulators. In September
1995, SDN was recapitalized by Dartmouth Capital Group, L.P. ("DCG"), a bank
holding company organized by Robert P. Keller, the Company's President and Chief
Executive Officer. Following that recapitalization, Mr. Keller assumed control
of SDN, installed new management and began implementing policies to improve
asset quality and operating performance. DCG is controlled by Mr. Keller and
certain of the Company's directors. See "Management" and "Principal and Selling
Shareholders." Upon the closing of the Offering, DCG will continue to be the
Company's largest shareholder owning % of the Common Stock, and DCG and its
affiliates will own, in the aggregate, % of the Common Stock. See "Risk
Factors -- Control by Directors, Executive Officers and Principal Shareholders."
Since DCG acquired control, the size and scope of the Company's business and
operations have changed substantially as a consequence of its acquisitions,
including its most recent acquisition of Eldorado Bancorp and its subsidiary
Eldorado Bank (the "Eldorado Acquisition"). Completed in June 1997, the Eldorado
Acquisition nearly doubled the Company's assets. Following the Eldorado
Acquisition, the Company consolidated into Eldorado Bank the respective
operations of its other subsidiaries (as consolidated, the "Bank"). In addition,
each of the Company's acquisitions was accounted for as a purchase, and
accordingly, the operating results of each acquired company are included in the
Company's financial statements only from the date of acquisition. As a result of
such acquisitions and the accounting treatment therefor, the Company's
historical operating results prior to June 30, 1997 are of limited relevance in
evaluating the Company's historical financial performance and predicting its
future operating results.
The Company's three acquisitions were primarily funded with cash. The
principal reason for the Offering is to create an active trading market for the
Common Stock. The Company believes that the
4
<PAGE>
existence of such a market will increase the Company's ability to complete
acquisitions on a stock-for-stock basis. Although the Company expects to
continue to consider cash acquisitions, the Company believes that the boards of
directors and shareholders of many prospective acquisition candidates prefer
stock acquisitions, because the shareholders who receive stock are allowed to
retain an equity interest in the combined company and to defer recognition of
federal income tax. There can be no assurance, however, that an active trading
market for the Common Stock will develop after the Offering or, even if such a
market does develop, that the Company will be able or determine that it is in
its best interests to acquire businesses in stock-for-stock transactions.
The Company's principal place of business is 24012 Calle de la Plata, Suite
150, Laguna Hills, CA 92653; its telephone number at that address is (949)
699-4344.
THE OFFERING
<TABLE>
<S> <C>
Common Stock Offered by the
Company....................... shares(1)
Common Stock Offered by the
Selling Shareholders.......... shares(1)
Common Stock to be Outstanding
after the Offering............ shares(2)
Use of Proceeds................. Net proceeds to the Company from the Offering are
currently estimated to be approximately $[ ] million.
The Company will (i) use $12.0 million to redeem all of
the Company's outstanding shares of Series B Preferred
Stock at a price equal to 103% of liquidation value plus
accrued dividends, (ii) use $473,000 to repay indebtedness
to DCG, and (iii) use the balance for general corporate
purposes including an investment in the Bank, which will
enable the Bank to increase its interest-earning assets.
See "Use of Proceeds," "Risk Factors -- Leveraging
Strategy" and "Certain Transactions."
Nasdaq National Market Symbol... "ELBI"
</TABLE>
- ------------------------
(1) The Company and the Selling Shareholders have granted the Underwriters a
30-day option to purchase up to an additional shares of Common Stock
solely to cover over-allotments, if any. See "Underwriting."
(2) Does not include (i) an aggregate of shares of Common Stock issuable
upon conversion of outstanding Common Stock warrants and (ii) shares
of Common Stock reserved for issuance under the Company's 1997 Stock Option
Plan, of which options to purchase approximately shares will be
outstanding at the closing of the Offering with an average exercise price of
approximately $ per share. See "Capitalization," "Management" and
"Shares Eligible for Future Sale."
5
<PAGE>
SUMMARY FINANCIAL DATA
The following summary financial data of the Company is derived from the
Selected Financial Data appearing elsewhere in this Prospectus, and should be
read in conjunction with the Financial Statements of the Company and the Notes
thereto and the information contained in "Management's Discussion and Analysis
of Financial Condition and Results of Operations." As described elsewhere in
this Prospectus, because of the three acquisitions that the Company completed
between September 1995 and June 30, 1997, the Company's historical operating
results prior to June 30, 1997 are of limited relevance in evaluating the
Company's historical financial performance and predicting the Company's future
operating results.
<TABLE>
<CAPTION>
AS OF AND FOR
THE SIX MONTHS AS OF AND FOR THE YEARS ENDED
ENDED JUNE 30, DECEMBER 31,
----------------------- ---------------------------------
<S> <C> <C> <C> <C> <C>
1998 1997 1997 1996 1995
----------- ---------- ---------- ----------- --------
<CAPTION>
(DOLLARS IN THOUSANDS, EXCEPT FOR PER SHARE DATA)
<S> <C> <C> <C> <C> <C>
SUMMARY OF CONSOLIDATED OPERATIONS
Net interest income before provision for
possible loan and lease losses........ $ 22,204 $ 12,285 $ 32,881 $ 11,708 $ 2,817
Provision for possible loan and lease
loss.................................. 1,922 715 1,495 515 295
----------- ---------- ---------- ----------- --------
Net interest income after provision for
possible loan and lease losses........ 20,282 11,570 31,386 11,193 2,522
----------- ---------- ---------- ----------- --------
Noninterest income...................... 11,361 5,989 14,904 4,899 696
Noninterest expenses
Amortization of goodwill and
intangibles......................... 1,739 705 2,514 268 --
Carrying costs and losses on OREO..... -- -- 382 288 531
Provision for recourse obligations.... -- 905 2,021 -- --
Other noninterest expense............. 22,738 14,482 34,771 14,714 3,760
----------- ---------- ---------- ----------- --------
Total noninterest expense........... 24,477 16,092 39,688 15,270 4,291
----------- ---------- ---------- ----------- --------
Income (loss) before income taxes and
extraordinary item.................... 7,166 1,467 6,602 822 (1,073)
Income tax provision (benefit).......... 3,743 912 3,612 (1,503) (443)
----------- ---------- ---------- ----------- --------
Income (loss) before extraordinary
item.................................. 3,423 555 2,990 2,325 (630)
Extraordinary item(1)................... -- -- -- -- 625
----------- ---------- ---------- ----------- --------
Net income (loss)....................... 3,423 555 2,990 2,325 (5)
Preferred dividends..................... 636 85 731 -- --
----------- ---------- ---------- ----------- --------
Net income (loss) available to common... $ 2,787 $ 470 $ 2,259 $ 2,325 $ (5)
----------- ---------- ---------- ----------- --------
----------- ---------- ---------- ----------- --------
Per share data(2):
Weighted average shares outstanding
Basic................................. 9,173,698 5,449,466 7,406,062 2,650,386 134,099
Diluted............................... 10,294,675 5,449,466 8,634,651 2,650,386 134,099
Basic:
Income (loss) before extraordinary
item.................................. $ .30 $ .09 $ .31 $ .88 $ (4.70)
Extraordinary item...................... -- -- -- -- 4.66
----------- ---------- ---------- ----------- --------
Net income (loss) per share............. $ .30 $ .09 $ .31 $ .88 $ (.04)
Net income (loss) per share,
excluding goodwill amortization(3).... $ .49 $ .22 $ .64 $ .98 $ (.04)
Diluted:
Income (loss) before extraordinary
item.................................. $ .27 $ .09 $ .26 $ .88 $ (4.70)
Extraordinary item...................... -- -- -- -- 4.66
----------- ---------- ---------- ----------- --------
Net income (loss) per share............. $ .27 $ .09 $ .26 $ .88 $ (.04)
Net income (loss) per share, excluding
goodwill amortization(3).............. $ .44 $ .22 $ .55 $ .98 $ (.04)
</TABLE>
- ------------------------
(1) Forgiveness of indebtedness net of $443,000 income tax benefit.
(2) Share and per share amounts have been retroactively restated to reflect (i)
a 1-for-2 reverse split of the Common Stock that will be effected by the
Company prior to the consummation of the Offering and (ii) changes in the
presentation of earnings per share as set forth in the notes to the
Company's consolidated financial statements.
(3) Excludes the amortization of goodwill and other intangibles. Although such
presentation is not defined by Generally Accepted Accounting Principals
("GAAP"), management believes it to be beneficial to gaining an
understanding of the Company's financial performance in comparison to its
peer group.
(FOOTNOTES CONTINUED ON NEXT PAGE)
6
<PAGE>
<TABLE>
<CAPTION>
AS OF AND FOR
THE SIX MONTHS AS OF AND FOR THE YEARS ENDED
ENDED JUNE 30, DECEMBER 31,
----------------------- ---------------------------------
<S> <C> <C> <C> <C> <C>
1998 1997 1997 1996 1995
----------- ---------- ---------- ----------- --------
<CAPTION>
(DOLLARS IN THOUSANDS, EXCEPT FOR PER SHARE DATA)
<S> <C> <C> <C> <C> <C>
CONSOLIDATED FINANCIAL POSITION
Total assets............................ $ 1,023,310 $ 909,760 $ 902,355 $ 437,060 $ 55,905
Loans and leases, net................... 688,477 495,739 605,883 320,958 38,338
Intangibles............................. 65,078 67,802 66,769 10,736 --
Deposits................................ 876,602 758,400 765,203 383,031 51,431
Long-term debt.......................... 27,657 28,194 27,657 537 537
Common shareholders' equity............. 86,035 84,560 83,077 40,772 3,541
Shareholders' equity (deficit).......... 97,694 96,219 94,736 40,772 3,541
Average assets.......................... 942,663 499,180 706,327 241,866 56,995
Average earning assets.................. 761,201 430,454 571,091 198,720 50,329
Average common equity................... 84,008 46,852 65,539 20,698 (81)
Per share data(2):
Common shares outstanding............... 9,173,698 9,173,698 9,173,698 4,848,715 447,734
Diluted common shares outstanding....... 10,294,674 9,173,698 9,652,238 4,848,715 447,734
Book value per share.................... $ 9.38 $ 9.22 $ 9.06 $ 8.41 $ 7.91
Diluted book value per share............ 8.36 9.22 8.61 8.41 7.91
Tangible book value per share........... 2.28 1.83 1.78 6.19 7.91
Diluted tangible book value per share... 2.04 1.83 1.69 6.19 7.91
SELECTED PERFORMANCE RATIOS(4)
Return on average assets................ .73% .22% .42% .96% (.01)%
Return on average assets, excluding
goodwill amortization(3).............. 1.10 0.51 0.78 1.07 (.01)
Return on average common equity......... 6.69 2.02 3.45 11.23 nm(5)
Return on average common equity,
excluding goodwill amortization(3).... 10.86 5.06 7.28 12.53 nm(5)
Net yield on interest earning assets.... 5.88 5.76 5.76 5.89 5.60
Noninterest income to average assets.... 4.75 4.96 4.66 4.84 4.94
Efficiency ratio(6)..................... 67.74 79.25 72.77 88.60 107.03
SELECTED ASSET QUALITY RATIOS(7)
Nonperforming assets to total portfolio
loans and leases and OREO............. 1.88% 3.73% 3.36% 3.83% 7.50%
Nonperforming assets to total assets.... 1.28 2.32 2.30 2.89 5.42
Allowance for loan and lease losses to
portfolio loans and leases............ 1.53 1.85 1.80 1.88 1.64
Allowance for loan and lease losses to
nonperforming loans and leases........ 60.24 74.88 52.18 57.31 39.44
Net charge-offs to average portfolio
loans and leases...................... .84 1.87 .29 .26 1.13
SELECTED CAPITAL RATIOS
Tier 1 Leverage Ratio................... 6.61% 6.66% 6.59% 6.98% 6.25%
Tier 1 Risk-Weighted Ratio.............. 8.88 9.53 8.91 9.22 8.67
Total Risk-Weighted Ratio............... 10.03 10.87 10.18 10.64 11.24
Average common equity to average
assets................................ 8.91 9.39 9.28 8.56 nm(5)
</TABLE>
- ------------------------
(4) The average ratios are annualized for the six months ended June 30, 1998 and
June 30, 1997, respectively.
(5) Return on average common equity is not meaningful as the average common
equity for 1995 was negative.
(6) As used in this Prospectus, the term efficiency ratio means the Company's
noninterest expense -- excluding amortization of goodwill and other
intangibles, losses and carrying costs of OREO and provision for recourse
obligations -- as a percentage of total revenue. The Company's definition of
its efficiency ratio may not be comparable to that used by its peer group.
(7) Selected Asset Quality Ratios and Selected Capital Ratios are end of period
ratios, except for net charge-offs to average portfolio loans and leases,
average equity to average assets and the leverage ratio. The average ratios
are based on daily averages for the indicated periods and are annualized
where appropriate. The leverage ratio is based on the average daily balances
for the three-month period ended as of the indicated date. Portfolio loans
and leases are exclusive of residential mortgage loans held for sale. For
definitions and information relating to the Company's regulatory capital
requirements, see "Supervision and Regulation."
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RISK FACTORS
POTENTIAL INVESTORS SHOULD CONSIDER CAREFULLY THE INFORMATION CONTAINED
ELSEWHERE IN THIS PROSPECTUS. CAPITALIZED TERMS USED AND NOT OTHERWISE DEFINED
IN THIS PROSPECTUS SHALL HAVE THE RESPECTIVE MEANINGS SET FORTH IN THE SUMMARY.
EFFECT OF RECENT ACQUISITIONS
Since Dartmouth Capital Group, L.P. ("DCG") acquired control of the
Company's predecessor in September 1995, the business and operations of the
Company have changed substantially. Between September 1995 and June 1997, the
Company acquired three banks with a total of approximately $779 million in
assets. Such acquisitions resulted in a fourteenfold increase in the Company's
assets between September 30, 1995 and June 30, 1997, including the Eldorado
Acquisition that by itself nearly doubled the Company's assets in June 1997.
Each of the Company's acquisitions was accounted for as a purchase, and
accordingly, the operating results of each acquired company are included in the
Company's financial statements only from the date of acquisition. As a result of
such acquisitions and the accounting treatment therefor, the Company's
historical operating results prior to June 30, 1997 are of limited relevance in
evaluating the Company's historical financial performance and predicting its
future operating results.
GEOGRAPHIC CONCENTRATION
Substantially all of the Company's business is located in California, and
the Company has a particular concentration in Southern California. As a result,
the Company's financial condition and operating results are subject to changes
in economic conditions in that region. In the early to mid-1990s, California
experienced a significant and prolonged downturn in its economy, which adversely
affected financial institutions, including the Company and its predecessors.
Although the general economy in California has recovered from that prolonged
recession, the Company's business, financial condition and operating results are
subject to changes in economic conditions in that region. There can be no
assurance that conditions will not deteriorate in the future and that such
deterioration will not have a material adverse effect on the Company's business,
financial condition or results of operations.
In 1997, California's Gross State Product ("GSP") exceeded $1.0 trillion,
with exports to foreign countries totaling $110 billion or 10.7% of the State's
GSP. California, with its greater dependence on Asian trade and investment, is
more at risk from Asia's economic problems than the rest of the United States.
Exports to Asian countries represented 47% of California's total exports,
compared to 29% for the U.S. as a whole. There can be no assurance that the
State's economy will not be adversely affected by prolonged weakness in one or
more of the Asian economies. Weaker Asian demand for products and services could
potentially result in job losses, primarily in the high-tech manufacturing,
engineering, travel and entertainment industries. The Los Angeles area is among
the particularly vulnerable regions in California with its relatively heavy
concentration of high-tech, engineering and entertainment firms. There can be no
assurance that a deterioration of economic conditions in California as a result
of Asia's economic problems will not have a material adverse effect on the
Company's business, financial condition or result of operations.
In addition, a substantial portion of the Company's assets consist of loans
secured by real estate in California. See "Business" and "Management's
Discussion and Analysis of Financial Condition and Results of Operations."
Historically, California has experienced, on occasion, significant natural
disasters, including earthquakes, brushfires and, during early 1998, flooding
attributed to the weather phenomenon known as "El Nino." Accordingly, the
availability of insurance for losses from such catastrophes is limited. The
occurrence of one or more such catastrophes could impair the value of the
collateral for the Company's real estate secured loans and have a material
adverse effect on the Company's business, financial condition and results of
operations.
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PRODUCT CONCENTRATION
The Company makes a significant percentage of its loans and derives a
significant percentage of its revenue under the loan programs of the U.S. Small
Business Administration (the "SBA"). The Company's revenue from SBA loan
programs constituted 15.9% of its total revenue for the six months ended June
30, 1998. In recent years, Congress has considered proposals to reduce
substantially the scope of various SBA programs, the level of funding for the
SBA and the attractiveness of the programs that the SBA may offer. Statutory or
regulatory changes in those loan programs that reduce the availability of such
loans, make them less attractive to borrowers, make them less profitable for SBA
lenders, or increase competition among SBA lenders could have a material adverse
effect on the Company's volume of SBA loan originations and its revenue derived
from such originating and servicing SBA loans. See "Business -- Products and
Services" and "Supervision and Regulation -- Effect of Governmental Policies and
Legislation -- Reliance on SBA Programs."
COMPETITION
There is intense competition in California and elsewhere in the United
States in attracting and retaining deposit accounts and in making loans to small
businesses and other borrowers. The Company experiences competition for deposit
accounts primarily from other commercial banks, savings institutions, credit
unions, insurance companies and money market and other mutual funds. With
respect to the origination of loans and leases, the Company's primary
competitors include other commercial banks, mortgage companies, commercial
finance companies and savings institutions. The recent entrance by out-of-state
financial institutions into the California market, both by merger and otherwise,
seeking opportunities for asset generation has also enhanced competition. Many
of the Company's competitors have greater financial strength, marketing
capability and name recognition than the Company, and operate on a statewide or
nationwide basis that may give them opportunities to realize greater
efficiencies and economies of scale than the Company. In addition, recent
developments in technology and mass marketing have permitted larger institutions
to market loans more aggressively to small business borrowers. Also, recent
federal legislation has eased membership limits on credit unions, which
previously have been permitted to serve only members that share a single, common
bond. The Company expects that such legislation will increase the ability of
credit unions to compete with community banks, such as the Bank, for both
deposits and loans. There can be no assurance that the Company will be able to
compete effectively against such competition. See "Business -- Competition."
POTENTIAL IMPACT OF CHANGES IN INTEREST RATES
The Company's profitability is significantly dependent on its net interest
income, which is the difference between its interest income on interest-earning
assets, such as loans and leases, and its interest expense on interest-bearing
liabilities, such as deposits. The Company's net interest income is subject to
changes in general market interest rates, whether as a result of changes in the
monetary policies of the Federal Reserve or otherwise. Assets and liabilities
may react differently to changes in overall market rates or conditions, and
changes in interest rates may affect the Company's net interest income
positively or negatively. Moreover, changes in the difference between short and
long-term interest rates (the "yield curve") may also affect the Company's
business positively or negatively. For example, the Company uses short-term
deposits and borrowings to fund mortgages held by the Company during the period
between the origination of such mortgages and their sale (the "mortgage
warehouse period"). Such mortgages, however, generally yield long-term rates.
Therefore, a narrowing or elimination of the spread between short-term and
long-term interest rates may adversely affect the Company's interest income
during the mortgage warehouse period.
In periods of rising interest rates (as occurred in 1994), mortgage loan
originations typically decline, depending on the performance of the overall
economy. To the extent that mortgage originations decline, the Company's
mortgage banking income may decline. In periods of declining interest rates (as
occurred
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during 1998), mortgage loan originations typically increase, particularly those
due to refinancings of existing mortgages. Also, gains or losses on sales of
mortgage loans may result from changes in interest rates from the time the
interest rate on a customer's mortgage loan application is established to the
time the Company sells the loan. In addition, interest rate changes may also
affect the ability to sell or the profitability of a sale of servicing rights to
a third party. Thus, in periods of declining interest rates, sales of servicing
rights related to higher interest rate loans may be less profitable because of
the risk of prepayment noted above than sales of servicing rights related to
lower interest rate loans.
At June 30, 1998, the Company had approximately $134.3 million of unclosed
mortgage loans with locked interest rate commitments (the "mortgage pipeline").
The Company retains some interest rate risk on originations pending their sale,
because its purchase and sale commitments are based on estimates of loan
closings (which are sensitive to interest rate changes). In addition, because
the hedge instruments may not respond to changes in interest rates to the same
degree as the mortgage pipeline being hedged, some interest rate risks remain
even in a fully hedged portfolio.
The Company is also exposed to interest rate risk as a result of mismatches
between repricing or maturity characteristics of assets and liabilities.
Although the Company has structured its assets and liabilities in an effort to
mitigate the impact of changes in interest rates on its income and portfolio
value, there can be no assurance that the Company will not experience a material
adverse effect on its net interest income or the net value of its assets in a
changing rate environment. Fluctuations in interest rates are not predictable or
controllable. See "Management's Discussion and Analysis of Financial Condition
and Results of Operations -- Quantitative and Qualitative Disclosures about
Market Risk."
DEPENDENCE ON KEY PERSONNEL
The Company's future success depends, in large part, upon the continuing
contributions of its key management personnel, two of whom have been with the
Company for less than a year. The loss of the services of one or more key
employees within a short period of time could have a material adverse effect
upon the business, financial condition and results of operations of the Company.
The Company's future success is also dependent upon its continuing ability to
attract and retain other highly qualified personnel. Competition for such
personnel among financial institutions in California is intense, and the
Company's inability to attract and retain additional key employees could have a
material adverse effect on the Company. There can be no assurance that such key
personnel will continue to be employed by the Company or that the Company will
be able to attract and retain qualified personnel in the future. See
"Management."
Mr. Keller, the Company's President and Chief Executive Officer, is subject
to an employment agreement with a term expiring September 30, 1999, which term
automatically will extend for another year unless Mr. Keller or the Company
gives notice at least one year prior to the expiration date of the agreement. In
addition, the Company is the beneficiary of a key-man life insurance policy on
Mr. Keller with a benefit of approximately $1.3 million. Certain members of the
Company's senior management also have change in control contracts with the
Company. See "-- Employment Contracts, Change in Control Provisions and Employee
Severance Compensation," "Management" and "Executive Compensation."
RISKS RELATED TO GROWTH STRATEGY
Since September 1995, the Company has experienced rapid growth through
acquisitions, and an important element of the Company's business strategy
continues to involve active and substantial efforts to acquire or enter into
business combinations with other financial institutions that would complement
the Company's existing businesses. See "Business -- Strategic Plan." There can
be no assurance, however, that the Company will be able to identify any suitable
acquisition targets or enter into an agreement for any such acquisition.
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The Company's ability to manage future growth through acquisitions, should
it occur, will depend primarily upon its ability to monitor operations, control
costs, maintain positive customer relations, maintain regulatory compliance and
attract, assimilate and retain additional qualified personnel. See "--
Dependence on Key Personnel." Any failure to achieve those objectives in an
efficient and timely manner may cause interruptions and dislocations which may
adversely affect the Company's existing operations, as well as its ability to
retain the customers of the acquired businesses, operate any such businesses
profitably or otherwise implement its growth strategy. In addition to affecting
immediate financial performance, any such interruption or dislocation may cause
the Company's federal and state banking regulators to require the Company to
delay or forgo subsequent acquisitions until such issues have been addressed to
the satisfaction of those regulators. Moreover, a material adverse change in the
assets acquired or liabilities assumed in connection with any acquisition,
including the presence of any liabilities unknown to the Company as of the
acquisition, may have a material adverse effect on the Company. The Company's
failure to manage its acquisition strategy effectively would have a material
adverse effect on the Company's business, financial condition and results of
operations.
RISKS RELATED TO GOODWILL
As of June 30, 1998, the Company had total assets of approximately $1.0
billion, of which $65.0 million, or 6.4% of total assets and 66.6% of
shareholders' equity, was goodwill. After giving effect to the Offering and the
redemption of the Series B Preferred Stock, the Company's ratios of tangible
common equity to assets and tangible total equity to assets at June 30, 1998
were % and %, respectively, which were substantially below the average
ratios for commercial banks in the Company's peer group. See "Capitalization."
There can be no assurance that the value of such goodwill will ever be realized
by the Company. The Company is amortizing the goodwill incurred in connection
with each of its acquisitions on a straight-line basis over a 20-year period.
The Company evaluates from time to time whether events and circumstances have
occurred that indicate all or a portion of the carrying amount of goodwill may
no longer be recoverable, in which case an additional charge to earnings would
become necessary. Although, as of the date of this Prospectus, the net
unamortized balance of goodwill on the Company's balance sheet was not
considered to be impaired, there can be no assurance that it will remain so, and
any such future determination requiring the write-off of a significant portion
of unamortized goodwill could have a material adverse effect on the Company's
results of operations.
LEVERAGING STRATEGY
The Company intends to invest in the Bank substantially all of the proceeds
expected to be available following the Offering and the redemption of the Series
B Preferred Stock and may leverage such proceeds primarily through the purchase
of U.S. Government agency mortgage-backed securities and the retention of the
guaranteed portion of SBA loans, which would be funded primarily through
increases in deposits, short to intermediate-term reverse repurchase agreements
and, to a much more limited extent, advances from the Federal Home Loan Bank of
San Francisco ("FHLB"). See "Use of Proceeds." Management's leverage strategy
would be premised on the assumption that it could earn a positive spread on the
yield generated from the purchase of loans and securities over the rate paid on
the incremental borrowings. Management's leverage strategy would be consistent
with the Company's asset and liability management strategy, and in connection
therewith, the Company expects that it would remain classified as a "well
capitalized" institution for regulatory capital purposes. There can be no
assurance, however, that market rates would continue to provide the Company with
a positive spread as a result of its leverage strategy, and any such fluctuation
in rates could have a material adverse effect on the Company's net income.
PRIOR LOSSES AT SUBSIDIARY BANKS
Prior to June 30, 1997, the Company had four separate bank subsidiaries:
Commerce Security Bank ("CSB"), Eldorado Bank, Liberty National Bank ("Liberty")
and San Dieguito National Bank ("San
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Dieguito"). Within the relatively recent past, CSB, Liberty and San Dieguito
were adversely affected by a variety of factors, including high levels of
nonperforming assets, reliance on high-cost brokered deposits and excessive
overhead costs. The high levels of nonperforming assets and related overhead
costs were partly attributable to adverse economic conditions, including
declining real estate values, that California experienced during the early- to
mid-1990s. Liberty incurred net losses of $1.3 million and $1.5 million in 1994
and 1993, respectively; San Dieguito incurred net losses of $1.1 million, $1.0
million and $2.0 million in 1995, 1994 and 1993, respectively; and CSB, which
the Company acquired on September 1, 1996, incurred net losses of $431,000 and
$371,000 for the three months ended December 31, 1996 and March 31, 1997,
respectively. As a result of management's efforts, together with a favorable
economic climate in California, the Company believes that substantial progress
has been made toward improving its operating results. See "Management's
Discussion and Analysis of Financial Condition and Results of Operations." There
can be no assurance, however, that the operating problems experienced by the
Company's prior subsidiaries or other factors will not adversely affect the
Company's future financial condition or results of operations.
SUPERVISION AND REGULATION
The Company and the Bank operate in a highly regulated environment and are
subject to supervision and examination by various federal and state regulatory
agencies. The Company, as a bank holding company, is subject to regulation and
supervision primarily by the Federal Reserve. The Bank, as a
California-chartered commercial bank and a member of the Federal Reserve System,
is subject to supervision and regulation primarily by the California Department
of Financial Institutions (the "DFI") and secondarily by the Federal Reserve.
The Company and the Bank can also be affected by FDIC regulations pertaining to
insured depositary institutions. Federal and California laws and regulations
govern numerous matters including maintenance of adequate capital and financial
condition, permissible types, amounts and terms of extensions of credit and
investments, permissible non-banking activities, the level of reserves against
deposits, and restrictions on dividend payments. The federal and state
regulatory agencies possess extensive discretion and powers to prevent or remedy
unsafe or unsound practices or violations of law by banks and bank holding
companies. The Company and the Bank also undergo periodic examinations by one or
more regulatory agencies, which may subject them to changes in asset valuations,
in amounts of required loss allowances and in operating restrictions resulting
from the regulators' judgments based on information available to them at the
time of their examination. The Bank's operations are also subject to a wide
variety of state and federal consumer protection and similar statues and
regulations. Those and other restrictions limit the manner in which the Company
and the Bank may conduct business and obtain financing. The laws and regulations
to which the Company and the Bank are subject can and do change significantly
from time to time, and any such change could materially affect the Company's
business, financial condition and operating results. See "Supervision and
Regulation."
As a consequence of the poor financial performance of CSB, Liberty and San
Dieguito during the early and mid-1990s and their resulting weakened financial
condition, each bank was required to enter into a memorandum of understanding
with their respective supervising regulators. Each of those memoranda was
terminated prior to or contemporaneously with the acquisition of control of the
bank by DCG, and as of the date of this Prospectus, neither the Company nor the
Bank is subject to any memorandum of understanding or other extraordinary
supervisory agreement with any regulatory authority. The Company did make
certain commitments to the Federal Reserve in connection with the Eldorado
Acquisition, however. Among other things, those commitments provide that the
Company will not redeem, retire or repurchase any of its preferred stock, incur
any debt or pay any dividend on the Common Stock without the prior approval of
the Federal Reserve. See "Supervision and Regulation."
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NO PRESENT INTENTION TO PAY DIVIDENDS; PROHIBITION ON DIVIDENDS; PROHIBITION ON
DIVIDENDS BY THE BANK TO THE COMPANY WITHOUT PRIOR REGULATORY APPROVAL
The Company has never paid a dividend on the Common Stock and does not
anticipate paying a dividend in the foreseeable future. The Company's ability to
declare a dividend on the Common Stock will depend upon, among other things,
future earnings, its operating and financial condition, its capital requirements
and general business conditions, and receipt of regulatory approvals, if then
required. See "Price Range of Common Stock and Dividend Policy."
The Company is a legal entity separate and distinct from the Bank.
Substantially all of the Company's revenue and cash flow, including funds
available for the payments of dividends and other operating expenses, will be
paid by dividends to the Company from the Bank. Dividends payable by the Bank
are restricted under California law to (i) the lesser of the Bank's retained
earnings or the Bank's net income for the latest three fiscal years, less
dividends previously declared during that period or (ii) with the approval of
the DFI, to the greater of the retained earnings of the Bank, the net income of
the Bank for its last fiscal year or the net income of the Bank for its current
fiscal year. In connection with the Eldorado Acquisition, Eldorado Bank paid a
dividend of $14.0 million, which exceeded the Bank's net income for the latest
three fiscal years. As a result, the Bank currently may not pay a dividend
without the prior approval of the DFI. The DFI may, in its discretion, approve
the payment of a dividend as long as the amount does not exceed the greater of
the Bank's retained earnings (approximately $7.7 million as of June 30, 1998),
the net income of the Bank for its last fiscal year (approximately $5.9 million
for the year ended December 31, 1997), and the net income of the Bank for its
current fiscal year ($6.1 million for the six months ended June 30, 1998). In
addition to California law, under Federal Reserve regulations, the Bank may not
pay a dividend without prior Federal Reserve approval if (i) it would exceed the
Bank's undivided profits as reported in its most recent Report of Condition and
Income (approximately $7.7 million as of June 30, 1998) or (ii) the total of all
dividends declared in one year exceeds the total of the Bank's net income for
that year plus the retained net income for the preceding two calendar years.
Under the second of those tests, the Bank is currently prohibited from paying a
dividend without the prior approval of the Federal Reserve. There can be no
assurance that the DFI and the Federal Reserve will approve the payment of any
dividend by the Bank to the Company, regardless of the amount of the Bank's
earnings. See "Supervision and Regulation."
CERTAIN RISKS ASSOCIATED WITH SENIOR SECURITIES
In connection with the Eldorado Acquisition, CSBI Capital Trust I, a
subsidiary of the Company (the "Trust"), issued an aggregate principal amount of
$27.7 million in 11 3/4% Subordinated Capital Income Securities, Series A (the
"Capital Securities"), which represent undivided beneficial ownership interests
in the assets of the Trust. The sole asset of the Trust is $28.5 million of
11 3/4% Junior Subordinated Debentures (the "Subordinated Debentures") due June
6, 2027 issued by the Company to the Trust. In the event of a liquidation,
dissolution or winding up of the Company, the holders of the Capital Securities
are entitled to receive payment prior to the holders of the Common Stock. In
addition, although the Company has the right to defer payment of interest on the
Subordinated Debentures for a period not to exceed 20 consecutive quarterly
periods, during any such deferral period, the Company may not declare or pay a
dividend or distribution on, or redeem, purchase, acquire, or make a liquidation
payment with respect to, any of the Company's capital stock, including, without
limitation, the Common Stock.
The Capital Securities will be redeemed upon the redemption of the
Subordinated Debentures. The Subordinated Debentures are not redeemable at the
Company's election until June 2007, and the terms of such securities may make it
relatively costly for the Company to redeem them significantly before June 2017.
The Subordinated Debentures are redeemable at the option of the Company after
June 2007 at a redemption premium initially equal to 105.875% of the liquidation
amount of the securities (the principal amount plus accrued and unpaid interest)
and declining over 10 years ratably to 100% thereof. In addition, although the
Subordinated Debentures may be redeemed before or after June 2007 upon the
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occurrence of a Regulatory Capital Event (a regulatory shift affecting the
Company's ability to treat the Capital Securities as Tier 1 Capital), a Tax
Event (a regulatory shift affecting the Company's ability, among other things,
to deduct interest payable on the Subordinated Debentures) or an Investment
Company Event (a regulatory shift whereby the Trust would be required to be
treated as an investment company under the Investment Company Act), the
redemption price would be the greater of the principal amount of the
Subordinated Debentures or the present value of their principal amount plus
scheduled interest payments for their remaining life and the premium payable
pursuant to the optional redemption thereof. See "Description of Capital
Securities -- Effect of Capital Securities on Common Stock."
NO ASSURANCES AS TO ADEQUACY OF ALLOWANCE FOR LOAN AND LEASE LOSSES
The Company's allowance for loan and lease losses is maintained at a level
considered adequate by management to absorb inherent losses in its loan
portfolio. The amount of inherent loan and lease losses that could be ultimately
realized by the Company is susceptible to changes in economic, operating and
other conditions, including changes in interest rates, that are generally beyond
the Company's control. As a result, such losses could exceed current estimates.
There can be no assurance that the allowance will prove sufficient to cover
actual loan losses should such losses be realized. In addition, the Federal
Reserve and the DFI, as an integral part of their respective supervisory
functions, periodically review the Company's allowance for loan and lease
losses. Such regulatory agencies may require the Company to increase its
provision for loan and lease losses or to recognize further loan or lease
charge-offs, based upon judgments different from those of management. Any such
insufficiency could have a material adverse effect on the Company's business,
financial condition and results of operations. See "Management's Discussion and
Analysis of Financial Condition and Results of Operations."
RELIANCE ON CERTAIN FUNDING SOURCES
To fund the Company's origination of loans and leases, the Company primarily
relies on liquidity provided by deposit gathering and various lines of credit.
For the six months ended June 30, 1998, 15.0% of the Company's average deposits
consisted of deposits provided by title or escrow companies (collectively,
"Title and Escrow Deposits"). Moreover, one company controlled Title and Escrow
Deposits that represented 11.7% of the Company's total average deposits for the
six months ended June 30, 1998. Management considers such deposits to be
volatile because of the fluctuation in deposit amounts and the concentration of
control over such deposits with a limited number of customers. Such deposits
tend to increase significantly at the end of a month, when real estate closings
tend to occur, and are subject to seasonal fluctuations, tending to decrease
during those seasons when the volume of residential real estate transactions is
lower. As a consequence of that potential volatility, the Company utilizes Title
and Escrow Deposits solely to fund short-term assets, primarily consisting of
residential mortgages held for sale, which are generally sold within 30 days
after such mortgage loans are funded. See "Business." Management believes that
the Company has adequate alternative sources of liquidity, such as lines of
credit and, to a much lesser extent, FHLB borrowings, to offset fluctuations in
or the elimination of Title and Escrow Deposits. There can be no assurance,
however, that such alternative sources of liquidity will be available at a
reasonable cost if and when needed. The failure to obtain replacement funding on
reasonable terms could have a material adverse effect on the Company. See
"Management's Discussion and Analysis of Financial Condition and Results of
Operations -- For the Six Months Ended June 30, 1998 and 1997 -- Deposits" and
"-- Liquidity."
YEAR 2000 PREPAREDNESS
The Year 2000 issue is a computer programming concern that may adversely
affect the Company's information technology systems, such as its item and data
processing applications, as well as so-called embedded technology, such as
microprocessors that control some of the Company's security systems and
telecommunication equipment. As described in more detail elsewhere in this
Prospectus, the Company has
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developed a plan to identify and remedy the material Year 2000 issues that
directly affect the Company's systems and to evaluate the preparedness of the
Company's key vendors and significant customers in addressing the Year 2000
issue. Although management believes that it has taken reasonable steps to
inquire about the actions that its vendors and customers have taken to identify
and address the Year 2000 issue, there can be no assurance that the impact of
the Year 2000 problem on vendors and customers of the Company will not have a
material adverse effect on the Company, particularly if the Year 2000 issue has
a material adverse effect on local or national telecommunications systems, for
which it will be difficult for the Company to implement viable contingency
plans. Furthermore, Year 2000 problems may turn out to exist in portions of
computer programs not now suspected, and there can be no assurance that the
Company will not be adversely affected by this problem. See "Management's
Discussion and Analysis of Operations and Financial Condition -- Year 2000
Preparedness."
Furthermore, bank regulatory agencies, as part of their supervisory
function, have recently issued guidance under which they are assessing and will
assess Year 2000 readiness. The failure of a financial institution, such as the
Company, to take appropriate steps to address deficiencies in its Year 2000
project management process may result in one or more regulatory enforcement
actions which could have a material adverse effect on such institution. Such
actions may include the imposition of civil money penalties, or result in the
delay or denial of regulatory applications which would have a material adverse
effect on the Company's strategic plan to grow by acquisition. See "-- Risks
Related to Growth Strategy."
CONTROL BY DIRECTORS, EXECUTIVE OFFICERS AND PRINCIPAL SHAREHOLDERS
Upon completion of the Offering, the Company's directors, executive officers
and principal shareholders, together with their affiliates, will beneficially
own % of the shares of Common Stock then outstanding. DCG will beneficially
own % of the shares of voting Common Stock outstanding upon completion of the
Offering. In addition, directors or principal shareholders of the Company or
their affiliates who are investors in DCG will beneficially own, directly and
not through DCG, an aggregate of % of the shares of voting Common Stock
outstanding upon completion of the Offering. Consequently, the outcome of
corporate actions requiring shareholder approval, including the election of
directors and the approval of significant corporate transactions, such as a
merger or sale of all or substantially all of the Company's assets, could be
determined by such shareholders if they were to take a common position,
regardless of how other shareholders of the Company may vote. See "Management"
and "Principal and Selling Shareholders."
EMPLOYMENT CONTRACTS, CHANGE IN CONTROL PROVISIONS AND EMPLOYEE SEVERANCE
COMPENSATION
The Company has entered into employment agreements with Mr. Keller and
change in control agreements with certain executive officers of the Company and
the Bank, which agreements will provide for severance payments if their
respective employment is terminated in connection with a change in control of
the Company or the Bank. Those provisions may have the effect of increasing the
cost of acquiring the Company, thereby discouraging future attempts to take over
the Company or the Bank. In addition, Mr. Keller's agreement provides for
certain severance payments in the event of his termination for any reason other
than resignation, cause, death or permanent disability. See "Executive
Compensation."
POSSIBLE FUTURE SALES OF SHARES
Sales of substantial amounts of Common Stock in the public market after the
Offering under Rule 144 of the Securities Act of 1933, as amended (the
"Securities Act"), or otherwise, or the perception that such sales could occur,
may adversely affect prevailing market prices of the Common Stock and could
impair the future ability of the Company to raise capital through an offering of
its equity securities or to effect acquisitions using shares of Common Stock. As
of the date of this Prospectus, % of the shares of Common Stock are
"restricted securities" within the meaning of Rule 144, although substantially
all of those securities have been held for more than one year since the date
they were acquired and therefore
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may be sold in the open market in compliance with the applicable volume, notice
and other requirements of Rule 144. As of October 23, 1998, all of the shares of
Common Stock that are restricted securities under Rule 144 will have been held
for more than one year. In addition, the Company's principal shareholders and
other holders of Common Stock are entitled to cause the Company to register
their resale of Common Stock under certain circumstances. See "Shares Eligible
for Future Sale" and "Description of Capital Stock -- Registration Rights."
The Company, its directors and executive officers, and the principal
shareholders have agreed with the Representatives of the Underwriters not to
sell or otherwise dispose of any shares of Common Stock, or any securities
convertible into or exercisable or exchangeable for shares of Common Stock, for
a period of 180 days after the date of this Prospectus without the written
consent of the Representatives, except for (i) in the case of the Company, the
grant of options or restricted stock under management compensation arrangements
or the issuance of Common Stock in connection with acquisitions and (ii) in the
case of all other such restricted parties, the exercise of Common Stock warrants
and management stock options pursuant to the 1997 Stock Option Plan and shares
of Common Stock disposed of as bona fide gifts, subject, in each case, to any
remaining portion of the 180-day period applying to any shares so issued or
transferred. See "Shares Eligible for Future Sale" and "Underwriting."
LIMITED PRIOR MARKET FOR COMMON STOCK AND POSSIBLE VOLATILITY OF STOCK PRICE
Trading in the Common Stock has been extremely limited prior to the Offering
and cannot be characterized as amounting to an established public trading
market. There can be no assurance that an active public market for the Common
Stock will develop or, if such a market develops, continue after the Offering.
The initial public offering price of the Common Stock will be determined by
negotiations between the Company and the Representatives of the Underwriters and
may not be indicative of the market price for the Common Stock after the
Offering. See "Underwriting" for a description of the factors to be considered
in determining the initial public offering price. After the Offering, the market
price of the Common Stock may be subject to significant fluctuations in response
to numerous factors, including variations in the annual or quarterly financial
results of the Company or its competitors, changes by financial research
analysts in their estimates of the earnings of the Company or its competitors or
the failure of the Company or its competitors to meet such estimates, conditions
in the economy in general or the banking industry in particular, or unfavorable
publicity affecting the Company or the industry. In addition, the equity markets
have, on occasion, experienced significant price and volume fluctuations that
have affected the market prices for many companies' securities and have been
unrelated to the operating performance of those companies. Any such fluctuations
following completion of the Offering may adversely affect the prevailing market
price of the Common Stock.
The Underwriters have advised the Company that they intend to make a market
in the Common Stock as long as the volume of trading activity in the Common
Stock and certain other market making conditions justify doing so. Nonetheless,
there can be no assurance that an active public market will develop or be
sustained after the Offering or that if such a market develops, investors in the
Common Stock will be able to resell their shares at or above the initial public
offering price. Making a market involves maintaining bid and asked quotations
for the Common Stock and being available as principal to effect transactions in
reasonable quantities at those quoted prices, subject to various securities laws
and other regulatory requirements. A public trading market having the desired
characteristics of depth, liquidity and orderliness depends upon the presence in
the marketplace of willing buyers and sellers of the Common Stock at any given
time, which presence is dependent upon the individual decisions of investors
over which neither the Company nor any market maker has any control.
DILUTION
The purchasers of the shares of Common Stock offered hereby will experience
immediate and substantial dilution in the net tangible book value of their
investment in shares of Common Stock in the
16
<PAGE>
amount of $ per share ($ per share if the Underwriters'
over-allotment option is exercised in full). Additionally, as of the completion
of the Offering, there will be outstanding stock options and warrants for the
purchase of an aggregate of shares of Common Stock at a weighted average
exercise price of $ per share. Such stock options or warrants will, if
exercised, result in further dilution to the purchasers of shares in the
Offering. See "Shares Eligible for Future Sale" and "Principal and Selling
Shareholders." Moreover, in the event that the Company issues additional shares
of Common Stock in the future, including shares that may be issued in connection
with future acquisitions, then-existing shareholders of the Company may
experience further dilution in the tangible book value and/or earnings per share
of Common Stock. See "-- Risks Related to Growth Strategy."
REGULATION OF CHANGES IN CONTROL OF THE COMPANY
Individuals, alone or acting in concert with others, seeking to acquire 10%
or more of Common Stock must comply with the Change in Bank Control Act, which
requires prior notice to the Federal Reserve for any such acquisition. Entities
seeking to acquire 5% or more of Common Stock, or otherwise to control, the
Company may need to obtain the prior approval of the Federal Reserve under the
BHC Act. Accordingly, prospective investors need to be aware of and to comply
with those requirements, if applicable, in connection with any purchase of
shares of Common Stock offered hereby.
17
<PAGE>
THE COMPANY
The Company is a Delaware corporation and registered bank holding company
under the Bank Holding Company Act of 1956, as amended (the "BHC Act"). Through
its sole operating subsidiary, Eldorado Bank (the "Bank"), the Company offers
commercial banking products and services to small and medium-sized businesses
and retail customers from 17 full service branches located primarily in the
Orange County, San Diego County and Sacramento areas of California. The
Company's products include commercial, consumer and real estate loans, a broad
range of deposit products and other non-deposit banking services, as well as
small equipment leases and single-family residential mortgages. As of June 30,
1998, the Company, on a consolidated basis, had total assets of $1.0 billion,
deposits of $876.6 million and shareholders' equity of $97.7 million.
The Company's principal place of business is 24012 Calle de la Plata, Suite
150, Laguna Hills, CA 92653; its telephone number at that address is (949)
699-4344.
USE OF PROCEEDS
The net proceeds to the Company from the sale of the shares of the
Common Stock being offered hereby (after deducting the estimated underwriting
discounts and commissions and offering expenses) are estimated to be
approximately $ . The Company intends to (i) use $12.0 million to redeem
all of the Company's outstanding Series B Preferred Stock held by two of the
Company's principal shareholders at a redemption price of 103% of liquidation
value thereof plus accrued dividends, (ii) use $473,000 to repay indebtedness to
DCG, and (iii) use the balance for general corporate purposes including
investment in the Bank, which will enable the Bank to increase its
interest-earning assets. See "Risk Factors -- Leveraging Strategy" and "Certain
Transactions." The Series B Preferred Stock is redeemable, subject to the prior
approval of the Federal Reserve, at the Company's election on the terms
disclosed above. The Company expects to obtain the approval of the Federal
Reserve for such redemption prior to the completion of the Offering. The Company
will not receive any proceeds from the sale of shares of Common Stock by the
Selling Shareholders. See "Capitalization" and "Certain Transactions."
18
<PAGE>
CAPITALIZATION
Set forth below is a table showing the Company's capitalization and
regulatory capital ratios as of June 30, 1998 (i) as adjusted to give effect to
certain changes to the Common Stock that will occur upon completion of the
Offering (see footnote (1) below) and (ii) pro forma as adjusted for the
Offering to give effect to (a) the sale by the Company of shares of
Common Stock offered hereby (assuming an initial public offering price of
$ per share), less underwriting discounts and other estimated offering
expenses, and (b) the Company's redemption of all of the outstanding shares of
Series B Preferred Stock.
<TABLE>
<CAPTION>
JUNE 30, 1998
---------------------------
<S> <C> <C>
PRO FORMA
AS ADJUSTED(1) AS ADJUSTED
-------------- -----------
<CAPTION>
(DOLLARS IN THOUSANDS)
<S> <C> <C>
Subordinated Debentures(2)........................................................... $ 27,657 $ 27,657
Shareholders' equity:
Preferred Stock, Series B; 116,600 shares authorized, 116,593 shares issued and
outstanding, as adjusted, and none issued and outstanding, pro forma as
adjusted......................................................................... 11,659 --
Preferred Stock, undesignated series; 1,343,400 shares authorized, none issued and
outstanding...................................................................... -- --
Common Stock, par value $.01; 35,000,000 shares authorized, 8,962,273 shares issued
and outstanding, as adjusted, and shares issued and outstanding, pro forma
as adjusted...................................................................... 90
Non-voting Common Stock, par value $.01; 15,000,000 shares authorized, 211,425
shares issued and outstanding, as adjusted and shares issued and
outstanding, pro forma as adjusted............................................... 2
Additional paid-in capital......................................................... 83,946
Retained earnings.................................................................. 3,314
Unearned compensation.............................................................. (1,258)
Unrealized gain on securities available for sale................................... (59)
--------------
Total shareholders' equity....................................................... 97,694
--------------
Total capitalization........................................................... $ 125,351
--------------
--------------
Capital ratios:
Tier 1 Leverage Ratio.............................................................. 6.61% %
Tier 1 Risk-Weighted Ratio......................................................... 8.88
Total Risk-Weighted Ratio.......................................................... 10.03
</TABLE>
- ------------------------
(1) As reflected in the Company's consolidated financial statements, as of June
30, 1998 the common stock was divided into several classes consisting of (i)
Special Common Stock, having a liquidation preference of $9.62 per share,
(ii) voting Common Stock (designated as "Class B Common Stock"), and (iii)
non-voting Common Stock (designated as "Class C Common Stock"). The holders
of the Special Common Stock and the Company have agreed that immediately
prior to the completion of the Offering, the Special Common Stock will be
converted into Class B Common Stock and the Common Stock will then be
consolidated into two classes, consisting of the voting Common Stock offered
hereby and non-voting Common Stock. The non-voting Common Stock is held by
two of the Company's principal shareholders, which for regulatory reasons
under the BHC Act do not wish to own more than 9.9% of the voting Common
Stock. Subject to compliance with applicable BHC Act provisions, the
non-voting Common Stock may be converted into voting Common Stock at the
election of the holder. With the exception of voting rights, voting Common
Stock and non-voting Common Stock are identical in all respects. See
"Principal and Selling Shareholders" and "Certain Transactions."
(2) See "Description of Capital Securities -- Effect of Capital Securities on
Common Stock -- Accounting and Regulatory Treatment."
19
<PAGE>
PRICE RANGE OF COMMON STOCK AND DIVIDEND POLICY
Trading in the Common Stock has been extremely limited prior to the Offering
and cannot be characterized as amounting to an established public trading
market. Prior to completion of the Offering, the Common Stock was registered
with the National Association of Securities Dealers ("NASD") and was traded only
over-the-counter (NASD/CBNK), but was not listed on any exchange, and was not
quoted on the National Association of Securities Dealers' Automated Quotation
System ("Nasdaq"). The last known trade of Common Stock was for $12.00 per share
on October 23, 1997. No more recent trades in Common Stock have been reported by
securities dealers. See "Risk Factors -- Limited Prior Market for Common Stock
and Possible Volatility of Stock Price." Application will be made for quotation
of the Common Stock on the Nasdaq National Market under the symbol of "ELBI". As
of July 31, 1998, the Company had approximately 460 shareholders of record.
The Company has not declared or paid a cash dividend on the Common Stock and
does not currently plan to declare or pay a cash dividend on the Common Stock in
the foreseeable future. Dividends may be paid only out of legally available
funds as permitted by statute, subject to the discretion of the Company's Board
of Directors. See "Risk Factors -- No Present Intention to Pay Dividends;
Prohibition on Dividends; Prohibition on Dividends by the Bank to the Company
Without Prior Regulatory Approval" and "Supervision and Regulation -- Regulatory
Restrictions on Distribution to Shareholders."
The Company is a legal entity separate and distinct from the Bank.
Substantially all of the Company's revenues and cash flow, including funds
available for the payments of dividends and other operating expenses, will be
paid by dividends to the Company from the Bank. There are statutory and
regulatory limitations on the amount of dividends which may be paid to the
Company by the Bank. See "Risk Factors -- No Present Intention to Pay Dividends;
Prohibition on Dividends by the Bank to the Company Without Prior Regulatory
Approval" and "Supervision and Regulation -- Regulatory Restrictions on
Distribution to Shareholders" for a discussion of the regulatory restrictions on
the payment of dividends by the Bank to the Company.
20
<PAGE>
BUSINESS
GENERAL
Through its sole operating subsidiary, Eldorado Bank (the "Bank"), the
Company offers a broad range of commercial banking products and services to
small and medium-sized businesses and retail customers from 17 full service
branches located primarily in the Orange County, San Diego County and Sacramento
areas of California. The Bank also operates eight loan production offices, four
of which are located in Northern California and four of which are located in
contiguous states. See "-- Market." The Company's products include commercial,
consumer and real estate loans, a broad range of deposit products and other
non-deposit banking services. In addition, the Company augments its traditional
banking products and services with specialized products including Small Business
Administration ("SBA") loans, residential mortgage loans originated through
eight loan production offices and a regional network of wholesale brokers for
resale into the secondary market, and equipment leases to small and medium-sized
businesses that are originated through a national network. The Company's only
significant asset is the stock of the Bank.
The Bank is incorporated under the laws of the State of California and is
licensed by the California State Department of Financial Institutions ("DFI").
It also is a member of the Federal Reserve System. The Bank's deposits are
insured up to applicable limits by the FDIC. See "Supervision and Regulation."
STRATEGIC PLAN
The key elements of the Company's strategic plan have been and continue to
be the establishment and enhancement of an attractive commercial banking
franchise through the acquisition of community banks primarily, but not
exclusively, in and around its Southern California base, improving core
profitability and maintaining a strong balance sheet. Since 1995, the Company
has acquired three community banks with total assets of $779 million. See "--
Prior Acquisitions."
BUILDING AND ENHANCING AN ATTRACTIVE COMMUNITY BANK FRANCHISE. The
Company is continually engaged in the identification and evaluation of
potential acquisitions of community banks in California. The Company focuses
primarily on community banks that have underperformed relative to their peer
group but have strong lending franchises, niche business lines or low cost
deposits that would complement the Company's existing operations and branch
network and also provide opportunities for cost savings through branch
overlap and back-office consolidation. In particular, the Company seeks to
acquire and develop both traditional and non-traditional community banking
businesses that provide opportunities for multiple relationships with small
and medium-sized business customers. As an integral part of this strategy,
the Company emphasizes building a solid management team through a
combination of senior officers retained from acquired banks and experienced
specialists hired to enhance the Company's competency in various areas, such
as mortgage banking and equipment leasing.
IMPROVING CORE PROFITABILITY. The Company's strategy to increase
profitability is premised primarily on (i) increasing the sources and volume
of fee income, including fees derived from originating and servicing SBA
loans, selling and servicing equipment leases, and originating and selling
residential mortgage loans, (ii) maintaining and diversifying its base of
relatively low cost funds, (iii) utilizing its asset generation capability
to increase the volume of commercial loans and leases that it retains in its
portfolio, particularly SBA loans, equipment leases and commercial loans to
its small business customers, and (iv) actively seeking to improve operating
efficiencies.
STRENGTHENING THE BALANCE SHEET. The Company seeks to maintain a strong
balance sheet by managing the risk of credit-related losses and by striving
to maintain a capital base sufficient to support its strategic plan. The
Company seeks to improve the asset quality of the banks it acquires by
implementing underwriting standards in such banks' loan and lease
origination programs that place
21
<PAGE>
greater emphasis on cash flow than collateral coverage as the primary source
of repayment on its loans. See "-- Underwriting and Credit Administration,"
below. To maintain a capital base sufficient to support the Company's
existing businesses and to permit it to continue to expand through
acquisitions, the Company's plan is to continue to meet the "well
capitalized" regulatory standards. At June 30, 1998, the Company was well
capitalized for regulatory purposes, with Tier 1 and Total Risk-Weighted
Ratios (as defined herein) of 8.9% and 10.0% and a Tier 1 Leverage Ratio (as
defined herein) of 6.6%. See "Supervision and Regulation -- Capital Adequacy
Requirements." Giving effect to the Offering, such regulatory capital ratios
would have been %, % and %, respectively, at June 30, 1998.
The Company routinely reviews suitable strategic acquisition opportunities,
one or more of which, if consummated, may constitute a material acquisition for
the Company. Although discussions at various stages with respect to such
transactions are ongoing, the Company believes that, as of the date of this
Prospectus, it is not probable that the Company will enter into an agreement
with respect to any such transaction.
The Company's three acquisitions were primarily funded with cash. The
principal reason for the Offering is to create an active trading market for the
Common Stock. The Company believes that the existence of such a market will
increase the Company's ability to complete acquisitions on a stock-for-stock
basis. Although the Company expects to continue to consider cash acquisitions,
the Company believes that the boards of directors and shareholders of many
prospective acquisition candidates prefer stock acquisitions, because the
shareholders who receive stock are allowed to retain an equity interest in the
combined company and to defer recognition of federal income tax. There can be no
assurance, however, that an active trading market for the Common Stock will
develop after the Offering or, even if such a market does develop, that the
Company will be able or determine that it is in its best interests to acquire
businesses in stock-for-stock transactions.
PRIOR ACQUISITIONS
Prior to September 1995, the Company's predecessor, SDN Bancorp, Inc.
("SDN"), owned a single bank -- San Dieguito National Bank ("San Dieguito") --
with approximately $56 million in assets. San Dieguito was then categorized as
"critically undercapitalized" by federal regulators. In September 1995, SDN and
San Dieguito were recapitalized by Dartmouth Capital Group, L.P. ("DCG"), a bank
holding company organized by Mr. Keller. Following that recapitalization, Mr.
Keller assumed control of the Company, installed new management and began
implementing policies to improve asset quality and operating performance.
Since September 1995, the Company has completed three acquisitions in
California with combined assets of approximately $779 million. The following
table summarizes certain data regarding those acquisitions, including the asset
size of the acquired bank as of the end of the quarter immediately preceding the
acquisition:
<TABLE>
<CAPTION>
DATE OF PRINCIPAL COUNTY ASSETS OF
ACQUIRED BANK ACQUISITION OF ACQUIRED BANK ACQUIRED BANK
- --------------------------------------------------------- --------------------- ---------------- -----------------
<S> <C> <C> <C>
(IN MILLIONS)
Liberty National Bank.................................... March 31, 1996 Orange $ 146
Commerce Security Bank................................... September 1, 1996 Sacramento 229
Eldorado Bank............................................ June 6, 1997 Orange 404
</TABLE>
Each acquisition was accounted for using the purchase method of accounting
for business combinations, and therefore, the operating results of those banks
are reflected in the Company's financial statements only from the date of
acquisition. Consequently, the Company's historical operating results prior to
June 1997 are of limited relevance in evaluating the Company's historical
financial performance or predicting its future operating results.
22
<PAGE>
Within the relatively recent past, Commerce Security Bank ("CSB"), Liberty
National Bank ("Liberty") and San Dieguito were adversely affected by a variety
of factors, including high levels of nonperforming assets, reliance on high-cost
brokered deposits and excessive overhead costs. The high levels of nonperforming
assets and related overhead costs were partly attributable to adverse economic
conditions, including declining real estate values, that California experienced
during the early to mid-1990s. Liberty incurred net losses of $1.3 million and
$1.5 million in 1994 and 1993, respectively; San Dieguito incurred net losses of
$1.1 million, $1.0 million and $2.0 million in 1995, 1994 and 1993,
respectively; and CSB incurred net losses of $431,000 and $371,000 for the three
months ended December 31, 1996 and March 31, 1997, respectively. As a
consequence of their poor financial performance, each of Liberty, San Dieguito
and CSB was required to enter into a memorandum of understanding with its
supervising regulators. Those memoranda of understanding were subsequently
terminated contemporaneously with or, in Liberty's case, prior to Mr. Keller's
assumption of managerial control.
Following each acquisition, the Company implemented various elements of its
strategic plan described above. See "-- Strategic Plan." As a result of those
efforts, together with a favorable economic climate in California, the Company's
ratio of nonperforming assets to total assets decreased from 2.0% at December
31, 1996 (on a pro forma basis giving effect to the Eldorado Acquisition) to
1.3% at June 30, 1998, and its efficiency ratio decreased from 90.3% for the
three months ended December 31, 1996 to 68.1% for the three months ended June
30, 1998. Additionally, the Company was able to reduce its reliance on high-cost
brokered deposits by utilizing excess liquidity at Eldorado Bank to fund loans
and leases generated by its other subsidiary banks. Partly as a consequence of
that strategy, the average cost of the Company's deposit liabilities decreased
from 3.4% for the three months ended March 31, 1997 to 3.3% for the three months
ended September 30, 1997.
Effective June 30, 1997, the Company consolidated into Eldorado Bank the
respective operations of CSB, Liberty and San Dieguito (as so consolidated, the
"Bank"), although the Bank continues to operate under the name "Commerce
Security Bank" in the Sacramento area because of another bank's competing claim
to the tradename "Eldorado Bank." See "-- Market."
MARKET
The Company operates primarily in Orange County in Southern California and
the Sacramento area in Northern California. The Company's executive office is
located in Laguna Hills, a residential community in southern Orange County,
approximately 50 miles south of Los Angeles. The Company currently operates a
total of 16 full-service banking offices in Southern California, covering a
geographic market ranging from the north coastal area of San Diego County in the
south, to Long Beach in Los Angeles County in the north, and to San Bernardino
and Riverside Counties in the east. The counties of Orange, Los Angeles, San
Bernardino and Riverside are located in the Los Angeles-Riverside-Orange County
Metropolitan Statistical Area ("MSA"), which is the second most populous MSA in
the United States, with a population of 15.5 million in 1996, according to an
estimate published by the U.S. Bureau of the Census.
In Northern California, the Company operates one full-service banking
office, located in Sacramento, and four mortgage loan production offices located
in Fairfield, Sacramento, Stockton and Walnut Creek. Sacramento, the capital of
California, is located in the Sacramento MSA, which had a population of 1.5
million in 1996, according to an estimate published by the U.S. Bureau of the
Census. The Bank also operates one SBA loan production office in Orinda,
California, which is located east of San Francisco.
The Bank currently has residential mortgage loan production offices in
Bellevue, Washington; Las Vegas, Nevada; Phoenix, Arizona and Portland, Oregon
and expects to open offices in San Diego, California and Denver, Colorado during
the quarter ending September 30, 1998.
23
<PAGE>
PRODUCTS AND SERVICES
The Company markets its products and services through three divisions:
- COMMUNITY BANKING DIVISION -- focusing primarily on small and medium-sized
businesses located in the Company's California markets. Products include
commercial, consumer and real estate loans, with a particular emphasis on
the origination and servicing of SBA loans, and a broad range of deposit
products and other non-deposit banking services.
- MORTGAGE BANKING DIVISION -- originating residential mortgage loans in
California, Arizona, Nevada and Oregon through eight loan production
offices and a network of wholesale brokers for sale in the secondary
market.
- EQUIPMENT LEASING DIVISION -- generating equipment leases primarily
through wholesale sources located throughout the United States, servicing
those leases and from time to time selling blocks of leases to other
institutions.
The Company's marketing strategy is to maximize cross-selling opportunities by
emphasizing the complementary nature of its products and services, particularly
for the small to medium-sized business, which the Company defines as a business
with annual revenue up to $50 million. The Company is also seeking to exploit
synergies among its divisions by establishing lease and mortgage loan offices in
several of the locations now used exclusively as branches or loan production
offices. In addition, the Company plans to house SBA loan production officers in
several of its established mortgage origination offices. Each of the Company's
divisions is described in more detail below.
COMMUNITY BANKING DIVISION. The Community Banking Division provides a broad
range of banking products and services to small and medium-sized businesses and
retail customers, including commercial, real estate and consumer loans, checking
and savings products and non-depository services.
At June 30, 1998, approximately 80% of the Company's loans and leases held
for investment were loans to businesses. See "Management's Discussion and
Analysis of Financial Condition and Results of Operations -- For the Six Months
Ended June 30, 1998 and 1997 -- Financial Condition." For regulatory and
financial reporting purposes, the Company categorizes commercial loans that are
secured in whole or part by real estate as commercial real estate loans.
Consequently, at June 30, 1998, commercial real estate loans constituted 37.9%
of the Company's loans and leases held for investment. The Company believes such
categorization overstates the Company's emphasis on real estate lending,
because, for example, all SBA loans are secured by real estate and thus
categorized as commercial real estate loans. The following table sets forth the
distribution as of June 30, 1998 of the Company's SBA loans, other commercial
real
24
<PAGE>
estate loans and commercial loans not secured by real estate based upon the
Standard Industry Classification or SIC codes provided by the Company's
borrowers:
<TABLE>
<CAPTION>
JUNE 30, 1998
-----------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
COMMERCIAL REAL ESTATE
-------------------------------------------
<CAPTION>
NON-SBA SBA COMMERCIAL TOTAL
--------------------- -------------------- --------------------- ---------------------
AMOUNT PERCENT AMOUNT PERCENT AMOUNT PERCENT AMOUNT PERCENT
---------- --------- --------- --------- ---------- --------- ---------- ---------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Finance, insurance and
real estate........... $ 48,794 39.0% $ 3,684 3.8% $ 14,420 13.9% $ 66,898 20.6%
Services................ 37,656 30.1 33,782 35.1 38,833 37.4 110,271 33.9
Wholesale and retail
trade................. 15,889 12.7 25,740 26.7 17,508 16.8 59,137 18.2
Manufacturing........... 10,950 8.8 20,120 20.9 19,149 18.4 50,219 15.4
Mining and
construction.......... 6,771 5.4 6,551 6.8 5,594 5.4 18,916 5.8
Other................... 5,054 4.0 6,460 6.7 8,396 8.1 19,910 6.1
---------- --------- --------- --------- ---------- --------- ---------- ---------
$ 125,114 100.0% $ 96,337 100.0% $ 103,900 100.0% $ 325,351 100.0%
---------- --------- --------- --------- ---------- --------- ---------- ---------
---------- --------- --------- --------- ---------- --------- ---------- ---------
</TABLE>
The origination and servicing of SBA loans are important elements of the
Community Banking Division's business. For the six months ended June 30, 1998,
the Company originated $23.4 million of SBA loans. Revenue attributable to the
Company's SBA lending activities was $7.6 million for the six months ended June
30, 1998, constituting 15.9% of its total revenue for that period.
The Company originates two types of loans under SBA programs. The majority
of SBA loans that the Company originates are guaranteed by the United States
Government to the extent of 75% to 90% of the principal and interest due on such
loans ("SBA 7(a)" loans). The other type consists of loans in which the Company
takes a first trust deed (a senior security position which is generally sold by
the Company) and another unrelated entity assumes a second trust deed (a
subordinated security position) that is guaranteed by the SBA (the "SBA 504"
loans). Generally, the Company sells the government guaranteed portion of the
SBA 7(a) loans to participants in the secondary market and retains servicing
responsibilities and the unguaranteed portion of the loans. The government
guaranteed portion of the SBA 7(a) loans are sold at a premium, a portion of
which is immediately recognized as income. The balance of the premium,
representing estimated servicing fees is treated as a yield adjustment on the
portion of the SBA 7(a) loan retained by the Company, and is capitalized and
recognized as income over the estimated life of the loan. The Company had a
total of $96.3 million of SBA loans in its portfolio at June 30, 1998, comprised
of $74.7 million of the unguaranteed portions of the SBA 7(a) loans being
serviced by the Company and $21.6 million of SBA 504 loans. The total SBA 7(a)
loan portfolio serviced by the Company at June 30, 1998 was $267.5 million, all
of which had been originated by the Company.
Both Eldorado and Liberty had substantial experience originating SBA loans
prior to the Company's acquisition of those banks. Since 1994, the Bank has
qualified as a "Preferred Lender" under the SBA's programs, allowing it to
originate SBA loans based on its own underwriting decisions and without prior
approval of the SBA. The Company believes that its status as a Preferred Lender
gives it a competitive advantage relative to other non-Preferred SBA originators
by allowing the Company to process such loans on an expedited basis. For the six
months ended March 31, 1998, the Company originated $6.6 million, or
approximately half of its SBA loans, within the SBA district consisting of the
counties of Orange, Riverside and San Bernardino. For that period, the Company
produced the 9th greatest dollar volume of SBA loans in that district by all SBA
lenders and the 6th largest dollar volume of SBA loans produced in that district
by SBA originating banks. By comparison, the leading nonbank and bank SBA
lenders headquartered in that district originated $23.3 million and $16.3
million of SBA loans, respectively, which the Company believes reflects the
fragmented and highly competitive market for SBA loans in Southern California.
The
25
<PAGE>
Company believes that all of the leading SBA originators in the Company's
principal market are Preferred Lenders.
Historically, the Company has made SBA loans primarily to businesses located
in California through origination from its Southern California branches as well
as from the Company's SBA loan production office located in Orinda, California.
Subject to receipt of SBA approval, which the Company expects will be received,
the Company intends to expand its SBA market area during the next 12 months by
hiring SBA loan originators based in or near Phoenix, Arizona; Portland, Oregon;
and Bellevue, Washington. The Company intends to place those originators in the
Company's existing loan production facilities for the Mortgage Banking Division
located in those areas.
With respects to deposit products and related services, the Company believes
the Community Banking Division has a competitive advantage as a result of
certain deposit accounting services that were developed at CSB specifically for
title and escrow companies. As a result of those services, which include
specialized sub-accounting, reconciliation and reporting features, a significant
percentage of the Company's deposit liabilities are obtained from title and
escrow companies (collectively, "Title and Escrow Deposits"). For the six months
ended June 30, 1998, Title and Escrow Deposits averaged $117.1 million,
representing 15.0% of the Company's total average deposits for that period.
Actual balances of Title and Escrow Deposits tend to vary widely during a month,
with the highest balances usually occurring at the end of the month when
residential real estate closings are generally scheduled to occur. Title and
Escrow Deposits are also subject to seasonal fluctuations, tending to decrease
during those seasons when the volume of residential real estate transactions is
lower. Title and Escrow Deposits at June 30, 1998 totaled $164.1 million,
constituting 18.7% of the Company's total deposits at that date. One company
controlled Title and Escrow Deposits that represented 11.7% of the Company's
total average deposits for the six months ended June 30, 1998 and 14.5% of the
Company's total deposits at June 30, 1998.
The Company considers Title and Escrow Deposits to be volatile because of
the fluctuation in deposit amounts and the concentration of control over those
deposits with a limited number of customers. The Company believes, however, that
its relationships with its principal Title and Escrow Deposit customers and its
specialized deposit services partially mitigate the risk that such customers may
terminate or significantly reduce their deposits with the Company. See "Risk
Factors -- Reliance on Certain Funding Sources." As a consequence of that
potential volatility, the Company utilizes Title and Escrow Deposits solely to
fund short-term assets, primarily consisting of residential mortgages held for
sale, which are generally sold within 30 days after such mortgage loans are
funded. See "-- Products and Services -- Mortgage Banking Division." If a
substantial portion of the Title and Escrow Deposits were withdrawn suddenly,
the Company believes that it has sufficient alternative sources of liquidity to
fund its mortgage pipeline during a transition period. See "Management's
Discussion and Analysis of Financial Condition and Results of Operations --
Liquidity."
The Company's expertise in servicing Title and Escrow Deposits has also
enabled it to attract deposits from homeowners' associations, property managers
and similar customers. The services provided to those customers include (i)
lockbox deposit arrangements, (ii) sub-account reconciliation and reporting,
(iii) electronic payment and remittance processing through the Automated
Clearing House or ACH Network, and (iv) electronic balance reporting. Those
specialized payment handling systems also complement the Company's other
traditional cash management products.
Historically, the relationships with Title and Escrow Deposit customers, as
well as the relationships with other deposit customers utilizing the Company's
sub-accounting systems, have been managed by the Company's Sacramento branch.
The Company is actively seeking, however, to cross-sell those services to
customers of its Southern California branches.
MORTGAGE BANKING DIVISION. The Company entered the mortgage banking
business upon the acquisition of CSB in September 1996. CSB had been engaged in
the mortgage business since 1988. The Company originates and sells first and
second lien mortgage loans secured by single family residences. As a matter of
26
<PAGE>
normal practice, the Company sells to the secondary market all of the loans that
it originates. The Mortgage Banking Division's operating results can be and have
been affected materially by changes in interest rates, new home construction and
existing home sales. See "Risk Factors -- Potential Impact of Changes in
Interest Rates."
The Company originates loans through two primary sources: (i) the wholesale
market, which represents loans generated through a network of mortgage brokers
approved by the Company, and (ii) the retail market, which represents loans
generated by eight loan production offices staffed with commission-based loan
officers who solicit loans directly from real estate brokers, home builders and
on personal referral. All loans originated from those two sources are
underwritten and closed by the Company. For the six months ended June 30, 1998,
approximately 88% of the Company's residential mortgage loans were originated on
a wholesale basis, and during that period, the top ten brokers generated 38.4%
of such loans.
The Company originates primarily fixed-rate mortgage loan products under a
variety of programs including (i) conventional fixed-rate mortgage loans under
programs offered by the Federal Home Loan Mortgage Corporation ("Freddie Mac")
or the Federal National Mortgage Association ("Fannie Mae"), (ii) so-called
"nonconforming" mortgage loans that do not meet Freddie Mac or Fannie Mae
criteria, including "jumbo loans" that exceed the maximum principal amount under
those programs, which the Company underwrites to satisfy the individual
guidelines of the private investors to which those loans are sold in the
ordinary course, and (iii) mortgage loans insured by the Federal Housing
Administration ("FHA loans") and mortgage loans guaranteed by the Veterans
Administration ("VA loans"). FHA loans and VA loans are underwritten to enable
them to be pooled as loans offered by the Government National Mortgage
Association ("Ginnie Mae loans").
The following table sets forth the volume of mortgages funded by the Company
during the last five consecutive fiscal quarters ended June 30, 1998.
<TABLE>
<CAPTION>
FOR THE THREE MONTHS ENDED
---------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
JUNE 30, MARCH 31, DECEMBER 31, SEPTEMBER 30, JUNE 30,
1998 1998 1997 1997 1997
---------- ---------- ------------ ------------- ----------
<CAPTION>
(IN THOUSANDS)
<S> <C> <C> <C> <C> <C>
Purchase financing:
Conforming................................... $ 46,677 $ 34,753 $ 29,460 $ 41,393 $ 35,806
Jumbo........................................ 51,518 32,413 27,621 28,416 23,231
FHA.......................................... 93,402 61,992 69,379 84,614 69,528
VA........................................... 30,635 18,525 21,135 29,097 18,072
---------- ---------- ------------ ------------- ----------
Total...................................... 222,232 147,683 147,595 183,520 146,637
Refinancing:
Conforming................................... 100,742 120,269 39,450 33,710 17,534
Jumbo........................................ 87,543 73,593 46,765 38,511 28,924
FHA.......................................... 22,366 28,575 11,823 8,206 5,068
VA........................................... 16,565 26,182 15,549 7,929 2,030
---------- ---------- ------------ ------------- ----------
Total...................................... 227,216 248,619 113,587 88,356 53,556
---------- ---------- ------------ ------------- ----------
Total originations....................... $ 449,448 $ 396,302 $ 261,182 $ 271,876 $ 200,193
---------- ---------- ------------ ------------- ----------
---------- ---------- ------------ ------------- ----------
</TABLE>
The Company has historically sold conforming Freddie Mac and Fannie Mae
loans under private sale agreements to conduits such as Countrywide Home Loans.
FHA and VA mortgage loans that the Company originates either are sold
individually to private conduits or are bundled and sold as Ginnie Mae pools to
private investors. In addition, since July 1998, the Company has had approval to
sell Ginnie Mae-eligible loans directly to Freddie Mac and Fannie Mae, which the
Company expects will enable it to increase the profitability of its mortgage
banking operations.
27
<PAGE>
The Company also sells the right to service such mortgage loans, which
includes the collection and remittance of principal and interest payments. Such
servicing rights either are sold to the purchaser of the loan or, in the case of
Ginnie Mae loans, are aggregated and sold in bulk at least quarterly, which the
Company believes increases the value of those servicing rights. The purchasers
of mortgage loans or servicing rights do not have recourse against the Company
for the payment defaults of the borrowers, except for (i) customary recourse if
the borrower fails to make the first payment due under the loan and (ii)
recourse obligations that were incurred in connection with CSB's bulk sales of
servicing for VA loans that was effected prior to the Company's acquisition of
CSB. Such recourse exposure for VA loans will expire in November 1998. See
"Management's Discussion and Analysis of Financial Condition and Results of
Operations."
The Company relies on various short-term funding services -- including Title
and Escrow Deposits and lines of credit with various financial institutions --
to provide liquidity to its Mortgage Banking Division between the time when the
Division originates a mortgage loan and that loan is sold in the secondary
market. See "-- Products and Services -- Community Banking Division" and "Risk
Factors -- Reliance on Certain Funding Sources."
"Forward commitments" and "put options" on mortgage-backed securities are
used to reduce interest rate risk (i.e., hedging) on a portion of loans held for
sale and on certain loans anticipated to fund. Forward commitments to sell and
put options on mortgage-backed securities that hedge anticipated loan funding
are off-balance sheet items and not reflected in the Company's Consolidated
Statement of Financial Condition. The aggregate outstanding "forward
commitments" and "put options" were $68.5 million and $55.0 million at June 30,
1998, respectively. See "Risk Factors -- Potential Impact of Changes in Interest
Rates."
Although the Mortgage Banking Division historically provided a substantial
amount of CSB's earnings, the Division generated losses during each month of
1996 and during nine out of 12 months of 1997. Since the Company acquired CSB in
September 1996, the Company has undertaken a variety of measures to improve the
Division's operating results, including the renegotiation of the terms under
which the Company sells loans to the secondary market, the packaging of Ginnie
Mae pools, the elimination of certain recourse liability in connection with the
sale of VA loan servicing rights, and the achievement of various operational
efficiencies. In addition, the Company has made several managerial changes at
the Mortgage Banking Division, the most significant of which was the February
1998 hiring of William D. Rast to serve as its Executive Vice President and head
of the Division. Mr. Rast has approximately 21 years of experience in mortgage
banking, including four years as President and Chief Operating Officer of
Hamilton Financial Services Corp., a financial services company that focused
primarily on mortgage lending, and 10 years with First California Mortgage,
where his last position was Senior Vice President responsible for retail and
wholesale production. See "Management." Since joining the Company, Mr. Rast and
his management team have overseen the implementation of several initiatives
designed to improve the Mortgage Banking Division's operations. Among other
things, the Company has (i) enhanced the Mortgage Banking Division's network of
brokers by adding additional brokers with whom Mr. Rast previously had developed
relationships and terminating those brokers who were not reliable sources of
originations, and (ii) reduced the period between the Company's funding of a
mortgage loan and the sale of that loan into the secondary market.
The Company believes that those initiatives have substantially improved the
Mortgage Banking Division's performance. For the six months ended June 30, 1998,
the Mortgage Banking Division originated $845.7 million of mortgage loans as
compared to $356.1 million for the comparable period of 1997. The Division's
pre-tax profitability -- measured by the Company as revenue less direct expenses
and the cost of funds provided by the Community Banking Division and other
sources -- also increased by $5.8 million to $3.7 million for the six months
ended June 30, 1998 from a loss of $2.1 million for the comparable period of
1997.
28
<PAGE>
During the next 12 months, the Mortgage Banking Division intends to continue
to increase its origination volume by, among other things, (i) further refining
its network of wholesale brokers, (ii) more actively cross-selling its products
to the Company's retail customers, and (iii) extending its range of products to
include loans to relatively high quality subprime borrowers (which loans are
sometimes referred to as "B" grade credits). The Company expects that the
Mortgage Banking Division's cross-selling efforts will focus primarily on
developing relationships with internal and external referral sources in the
Company's Southern California market. Among other things, the Mortgage Banking
Division intends to place mortgage loan officers in the Company's branches
located in Carlsbad (San Diego County), Huntington Beach (Orange County) and San
Bernardino (San Bernardino County).
EQUIPMENT LEASING DIVISION. The Company entered the leasing business upon
the acquisition of CSB in September 1996. CSB had been engaged in leasing since
1990, focusing primarily on acquiring leases of equipment to small businesses
with an average lease size of less than $50,000. Currently, the production of
new leases is derived primarily from the wholesale sector through a network of
brokers located throughout the United States, although a majority of the
Division's leases are made to borrowers located in the mid-western and western
states. The Company makes no consumer leases and leases automobiles and other
vehicles only to businesses. The Company seeks to limit the residual risk with
respect to the collateral it leases by purchasing leases that permit the lessee
to acquire the equipment for a nominal purchase price at the end of the lease
term or by stipulating that the originating broker will retain the residual
risk. The Bank's largest concentration of leases to a single borrower (and
related interests) at June 30, 1998 amounted to $386,000. Historically, the
Company has generally retained for investment the majority of leases that it
purchases, although in 1997, the Company sold $24.8 million of leases to other
banks while retaining the right to service those leases.
At June 30, 1998, the Company held $58.3 million of leases for investment.
The following table sets forth the collateral concentrations of the Company's
leases at August 7, 1998 (as data for June 30, 1998 is not readily available).
<TABLE>
<CAPTION>
AUGUST 7, 1998
---------------
<S> <C>
Electronic data processing..................................................... 28.4%
Transportation................................................................. 12.4
Machine tools.................................................................. 9.4
Agriculture.................................................................... 7.2
Materials handling............................................................. 6.6
Garment cleaning............................................................... 5.9
Printing....................................................................... 4.9
Manufacturing.................................................................. 4.7
Other(1)....................................................................... 20.5
-----
Total.................................................................... 100.0%
-----
-----
</TABLE>
- ------------------------
(1) No category of collateral concentration included in Other is in excess
of 3.4%.
Following the 1997 departure of the former CSB employee who was then
responsible for the Equipment Leasing Division, the Company made a strategic
decision to increase the resources devoted to the Division. The Bank hired
Lawrence A. Johnes in August 1997 to serve as its Executive Vice President
responsible for the Equipment Leasing Division. Mr. Johnes has approximately 25
years of experience in equipment leasing, including most recently as the Senior
Vice President in charge of Sales and Marketing for Mitsui Vendor Leasing, which
provided manufacturer and distributor lease financing. Since joining the
Company, Mr. Johnes has overseen the implementation of several initiatives
designed to improve the Equipment Leasing Division's operations. Among other
things, Mr. Johnes has centralized the underwriting decisions for leases,
thereby eliminating the salesperson's involvement in the underwriting decision.
29
<PAGE>
Mr. Johnes has also increased the aggregate volume and average size of the
Company's leases and diversified the type and location of the underlying lease
collateral, partly as a result of hiring full-time sales representatives located
in Boston, Massachusetts; Dallas, Texas and Laguna Hills, California.
The Company believes that those initiatives have substantially improved the
Equipment Leasing Division's performance. For the six months ended June 30,
1998, the Company originated $26.5 million of leases with an average lease size
of $35,200, as compared to $16.8 million of leases with an average lease size of
$22,800 for the comparable period of 1997. The Division's pre-tax profitability
- -- measured by the Company as revenue (excluding gain on sale of leases) less
direct expenses and the cost of funds provided by the Community Banking Division
and other sources -- also increased by $380,000 to $408,000 for the six months
ended June 30, 1998 from $28,000 for the comparable period of 1997.
During the next 12 months, the Equipment Leasing Division intends to
continue to increase its origination volume by focusing on improving the overall
quality of the Company's network of wholesale brokers and by expanding the
number of full-time representatives. In particular, the Company intends to hire
by early 1999 a full-time representative to be based in Atlanta, Georgia. To
avoid an excess concentration of leases as a percentage of interest-earning
assets, the Company intends to sell all or substantially all of the incremental
lease volume to nonbank financial institutions while retaining the right to
service those leases.
UNDERWRITING AND CREDIT ADMINISTRATION
UNDERWRITING. Although the Bank accepts applications for various types of
commercial and consumer loans at all of its branches, all loans are subject to
centralized underwriting and processing, with the exception of commercial loans
less than $50,000 and residential mortgage loans which may also be approved at
one of two loan production offices in Northern California.
The Company generally does not make individual loans larger than $8.0
million, although the applicable legal lending limit is substantially higher
(for secured loans, 25% of the Bank's equity plus its allowance for loan and
lease losses, or $21.2 million at June 30, 1998). Senior loan officers at the
Community Banking Division may approve loans up to $250,000 for non-SBA loans
and up to $1.0 million for SBA loans, and the Bank's senior credit officer has
the authority to approve loans up to $1.0 million. Loans in excess of $1.0
million but less than $2.0 million must be approved by the Bank's senior credit
officer and the Bank's President, and loans in excess of $2.0 million but less
than $4.0 million must also be approved by an Officer Loan Committee, of which
the senior credit officer and the Bank's President are members. Loans in excess
of $4.0 million but less than $8.0 million must also be approved by the Loan
Committee of the Bank's Board of Directors, and loans in excess of $8.0 million
must also be approved by the Board of Directors of the Bank. As of June 30,
1998, 20 borrowers had total obligations (including loans to related interests)
to the Bank in excess of $2.0 million, representing $53.3 million or 10.2% of
the Bank's total loans and leases at that date. At June 30, 1998, the Company's
largest concentration of loans to a single borrower (and related interests)
totaled $4.3 million. As of the date of this Prospectus, all outstanding loans
in excess of $2.0 million are performing and are secured primarily by real
estate located in Southern California.
The Company's commercial loans are generally underwritten in the Company's
primary market area on the basis of the borrower's ability to service such debt
from income. As a general practice, the Company takes as collateral a lien on
any available real estate, equipment or other assets and obtains a personal
guaranty. Working capital loans are primarily collateralized by short-term
assets and term loans are primarily collateralized by long-term assets.
In addition to commercial loans secured by real estate, the Company makes
commercial mortgage loans to finance the purchase of owner-occupied real
property, which generally consists of real estate on which structures have
already been completed. The Company's commercial mortgage loans are secured by
first liens on real estate, typically have variable interest rates and amortize
over a 20-year period with
30
<PAGE>
balloon payments due at the end of ten years. In underwriting commercial
mortgage loans, consideration is given to the property's operating history,
future operating projections, current and projected occupancy, location and
physical condition. The underwriting analysis also includes credit checks,
appraisals and a review of the financial condition of the borrower.
The Company makes loans to finance the construction of residential
properties, the majority of which are owner-occupied and, to a limited extent,
owner-occupied nonresidential properties. Construction loans generally are
secured by first liens on real estate. The Company conducts periodic
inspections, either directly or through an agent, prior to approval of periodic
draws on these loans. Underwriting guidelines similar to those described above
are also used in the Company's construction lending activities.
Consumer loans made by the Company include home improvement loans,
automobile loans, recreational vehicle loans, boat loans, personal loans
(collateralized and uncollateralized) and deposit account collateralized loans.
The terms of these loans typically range from 12 to 84 months and vary based
upon the nature of collateral and size of loan.
Two of the Company's equipment lease underwriters have individual authority
to approve leases up to $75,000 and authority to approve jointly leases up to
$150,000. Leases in excess of $150,000 must also be approved by the Company's
senior credit officer. The Company generally does not make leases in excess of
$150,000. Since the Company's acquisition of CSB, the Company has not made a
lease in excess of $500,000.
The head of the Mortgage Banking Division has authority to approve
residential loans of up to $1.0 million. Residential loans in excess of $1.0
million are subject to the same approval criteria required with respect to
commercial loans.
CREDIT ADMINISTRATION AND NONPERFORMING ASSETS. The Company has several
procedures in place to assist it in maintaining the overall quality of its loan
and lease portfolio, as described below. There can be no assurance, however,
that the Company's loan and lease portfolio will not become subject to
increasing pressures from deteriorating borrower credit due to general economic
conditions.
With the exception of the Equipment Leasing Division, which administers and
collects the leases that it services, the Company has a centralized Credit
Administration Department. The Department is responsible for supervising the
Company's loan review function and its Special Asset Group, which focuses
exclusively on the collection or other resolution of nonaccrual loans and OREO.
The Company's loan review function evaluates additional loans which are
potential problem loans as to risk exposure in determining the adequacy of the
allowance for loan losses. The Company obtains updated appraisals from time to
time on loans secured by real estate, particularly those categorized as
nonperforming loans and potential problem loans. In instances where updated
appraisals reflect reduced collateral values, an evaluation of the borrower's
overall financial condition is made to determine the need, if any, for possible
writedowns or appropriate additions to the allowance for loan losses.
The Company generally places a loan on nonaccrual status and ceases accruing
interest when loan payment performance is deemed unsatisfactory. All loans past
due 90 days, however, are placed on nonaccrual status, unless the loan is both
well-secured and in the process of collection or renewal. Cash payments received
while a loan is classified as nonaccrual are recorded as a reduction of
principal as long as doubt exists as to collection.
The Company is sometimes required to revise a loan's interest rate or
repayment terms in a troubled debt restructuring. A loan is considered a
restructured loan if, as a result of the borrower's financial condition, the
Company has elected to modify it by accepting below market terms either by
granting an interest rate concession or deferring principal or interest payments
or both. In order for a restructured loan to be eligible to be reclassified as a
fully performing loan, the following must be satisfied: (i) the borrower must
generally have been current in meeting the restructured terms for at least six
consecutive months, and (ii) the restructured loan must have an interest rate
and other features that are at least
31
<PAGE>
equivalent to market terms. Inevitably, not all restructured loans will be
viable as restructured, and it may be necessary for the Company to make further
concessions or to transfer the loan to nonaccrual status or OREO. See
"Management's Discussion and Analysis of Financial Condition and Results of
Operations." The Company records OREO at fair value at the time of acquisition,
less estimated costs of sale.
COMPETITION
There is intense competition in California and elsewhere in the United
States in attracting and retaining deposit accounts, and in making loans to
small businesses and other borrowers. The primary factors in the competition for
deposits are interest rates, personalized services, the quality and range of
financial services, convenience of office locations and office hours. The
Company competes for deposits primarily with other commercial banks, savings
institutions, credit unions, money market funds and other investment
alternatives. The primary factors in the competition for loans are interest
rates, loan origination fees, the quality and range of lending services and
personalized services. The Company competes for loans, primarily with other
commercial banks, savings institutions, mortgage banking firms, credit unions
and other financial intermediaries. The Company faces competition for deposits
and loans throughout its market areas not only from local institutions but also
from out-of-state financial intermediaries that have opened loan production
offices or that solicit deposits in its market areas. Many of the financial
intermediaries operating in the Company's market areas offer certain services,
such as trust and investment services, which the Company does not offer
directly. Additionally, as a consequence of recent bank acquisitions and mergers
in the Company's market -- including the pending acquisitions of BankAmerica
Corporation and Wells Fargo & Company by NationsBank Corporation and Norwest
Corporation, respectively -- many of the Company's competitors have greater
financial and marketing resources and name recognition than the Company, and
operate on a statewide or nationwide basis that may give them opportunities to
realize greater efficiencies and economies of scale than the Company. Moreover,
recent developments in technology and mass marketing have permitted larger
institutions to market loans more aggressively to small business borrowers.
Recent federal legislation has eased membership limits on credit unions,
which previously have been permitted to serve only members that share a single,
common bond. Specifically, the legislation provides that occupation-based credit
unions may serve unrelated companies as long as such companies have fewer than
3,000 employees. The Company expects that such legislation will increase the
ability of credit unions to compete with community banks, such as the Bank, for
both deposits and loans.
The Company competes principally on the basis of personalized attention and
special services that it provides its customers, principally individuals and
small to medium-sized businesses. Its marketing activity focuses primarily on
promotional activities by and referrals from the Bank's officers, directors and
employees. Most of the Bank's offices offer extended weekday banking hours and
some branches offer Saturday banking hours. The Bank also operates drive-up
banking facilities at seven of its branches and provides a variety of
personalized services. In addition, the Bank operates 24-hour automatic teller
machines ("ATM") at 16 of its locations, and is a member of Instant Teller
network and Plus System network, which link bank ATMs nationwide.
EMPLOYEES
The Company had approximately 430 full-time equivalent employees as of June
30, 1998, of whom, 60 were officers, who held titles of Vice President or above.
The Company believes that its employee relations are satisfactory. See, however,
"Risk Factors -- Dependence on Key Personnel." None of the Company's employees
is represented by a union or covered under a collective bargaining agreement.
32
<PAGE>
PROPERTIES
The Company's executive office is located in Laguna Hills, California, where
it is physically contiguous to one of the Bank's branches. The Bank is
headquartered on a site owned by it in Tustin, California.
In addition to the Bank's headquarters and the Laguna Hills location, the
Company owns six of its branch offices, one of which is subject to a ground
lease, and leases the remaining 10 offices. The Company also leases several
locations for various administrative offices associated with the Mortgage
Banking Division and the Equipment Leasing Division. The Company's aggregate
rental expense under such leases was $1.1 million for the six months ended June
30, 1998. For additional information regarding the Company's lease obligations,
see note 16 to the Company's consolidated financial statements. At June 30,
1998, the net book value of the property and leasehold improvements of the
offices of the Company amounted to $6.3 million. The Company's properties that
are not leased are owned free and clear of any mortgages. The Company believes
that all of its properties are appropriately maintained and are suitable for
their respective present needs and operations.
LEGAL PROCEEDINGS
As of the date of this Prospectus, no litigation is pending against the
Company itself. The Bank is the defendant in an action filed in 1994 by a former
officer of CSB's Stockton, California loan production office, alleging wrongful
termination, breach of contract, defamation and various other causes of action.
A central element of the employee's claim is that CSB terminated him in
retaliation for the employee's reporting of alleged violations of consumer
lending laws committed by another employee of CSB's Stockton office. The
Company's position is that the former officer's claims are without merit and
that CSB terminated him because it reasonably believed he had sexually harassed
a subordinate. In October 1997, a jury awarded the former officer $3.8 million
of damages, including $2.0 million of punitive damages. The trial court
subsequently reduced the award to $2.0 million, including $1.0 million punitive
damages, and the Bank recorded a purchase accounting adjustment for the CSB
acquisition in an amount equal to the reduced judgment. The case is now on
appeal. In addition, in July 1998, the same former officer filed another action
against the Bank seeking damages for various claims, including malicious
prosecution and defamation, arising out of a lawsuit that CSB brought against
the employee at the time it terminated his employment. The Company believes that
the Bank has meritorious defenses and intends to vigorously contest such claims.
There can be no assurance, however, that the Company will not incur additional
expense in connection with such matters or that an adverse outcome in the appeal
or the July 1998 claim will not have a material adverse effect on the Company's
results of operations.
In addition, the Bank is a defendant in a proceeding related to the
proceedings on appeal described in the preceding paragraph. The action was
initiated in 1994 by several employees who allege, among other things, that CSB
wrongfully terminated their employment in connection with CSB's 1994 closure of
the its Stockton office. Similar to the matter described in the preceding
paragraph, their complaint alleges, among other things, that plaintiffs were
terminated as a result of their having reported alleged violations of consumer
lending laws committed by another employee of the Stockton office and seeks
compensatory and punitive damages. Although the Company believes the Bank has
meritorious defenses and intends to vigorously contest such claims, there can be
no assurance that an adverse outcome in that case will not have a material
adverse effect on the Company.
The Company is from time to time subject to various legal actions (in
addition to those described above) that are considered to be part of its normal
course of business. Management, after consultation with legal counsel, does not
believe that the ultimate liability, if any, arising from those other actions
will have a materially adverse effect on the financial position or results of
operations of the Company.
33
<PAGE>
SELECTED FINANCIAL DATA
The following selected financial data should be read in conjunction with the
Financial Statements of the Company and the Notes thereto, appearing elsewhere
in this Prospectus, and the information contained in "Management's Discussion
and Analysis of Financial Condition and Results of Operations." As described
elsewhere in this Prospectus, because of the three acquisitions that the Company
completed between September 1995 and June 30, 1997, the Company's historical
operating results prior to June 30, 1997 are of limited relevance in evaluating
the Company's historical financial performance and predicting the Company's
future operating results. The selected historical financial data as of and for
the five years ended December 31, 1997 are derived from the Company's Financial
Statements which have been audited by independent public accountants. The
selected historical financial data as of and for the six months ended June 30,
1998 and June 30, 1997 have not been audited but, in the opinion of management,
contain all adjustments (consisting of normal recurring adjustments) necessary
to present fairly the financial position and results of operations of the
Company as of such dates and for such periods. The results of operations for the
six months ended June 30, 1998 are not necessarily indicative of the results of
operations that may be expected for the year ended December 31, 1998, or for any
future period.
<TABLE>
<CAPTION>
AS OF AND FOR
SIX MONTHS ENDED
ENDED JUNE 30, AS OF AND FOR THE YEARS ENDED DECEMBER 31,
--------------------- -----------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C>
1998 1997 1997 1996 1995 1994 1993
---------- --------- --------- --------- ------- ------- -------
<CAPTION>
(DOLLARS IN THOUSANDS, EXCEPT FOR PER SHARE DATA AND RATIOS)
<S> <C> <C> <C> <C> <C> <C> <C>
SUMMARY OF CONSOLIDATED OPERATIONS
Net interest income before
provision for possible loan and
lease loss....................... $ 22,204 $ 12,285 $ 32,881 $ 11,708 $ 2,817 $ 2,861 $ 2,994
Provision for possible loan and
lease loss....................... 1,922 715 1,495 515 295 583 1,085
---------- --------- --------- --------- ------- ------- -------
Net interest income after provision
for possible loan and lease
loss............................. 20,282 11,570 31,386 11,193 2,522 2,278 1,909
---------- --------- --------- --------- ------- ------- -------
Noninterest income................. 11,361 5,989 14,904 4,899 696 666 655
Noninterest expenses
Amortization of goodwill and
intangibles.................... 1,739 705 2,514 268 --
Carrying costs and losses on
OREO........................... -- -- 382 288 531 222 182
Provision for recourse
obligations.................... -- 905 2,021 -- --
Other noninterest expense........ 22,738 14,482 34,771 14,714 3,760 3,711 4,358
---------- --------- --------- --------- ------- ------- -------
Total noninterest expense...... 24,477 16,092 39,688 15,270 4,291 3,933 4,540
---------- --------- --------- --------- ------- ------- -------
Income (loss) before income taxes
and extraordinary item........... 7,166 1,467 6,602 822 (1,073) (989) (1,976)
Income tax provision (benefit)..... 3,743 912 3,612 (1,503) (443) -- --
---------- --------- --------- --------- ------- ------- -------
Income (loss) before extraordinary
item............................. 3,423 555 2,990 2,325 (630) (989) (1,976)
Extraordinary item(1).............. -- -- -- -- 625 -- --
---------- --------- --------- --------- ------- ------- -------
Net income (loss).................. 3,423 555 2,990 2,325 (5) (989) (1,976)
Preferred dividends................ 636 85 731 -- -- -- --
---------- --------- --------- --------- ------- ------- -------
Net income (loss) available to
common........................... $ 2,787 $ 470 $ 2,259 $ 2,325 $ (5) $ (989) $(1,976)
---------- --------- --------- --------- ------- ------- -------
---------- --------- --------- --------- ------- ------- -------
Per share data(2):
Weighted average shares outstanding
Basic............................ 9,173,698 5,449,466 7,406,062 2,650,386 134,099 26,864 26,864
Diluted.......................... 10,294,675 5,449,466 8,634,651 2,650,386 134,099 26,864 26,864
Basic:
Income (loss) before extraordinary
item............................. $ .30 $ .09 $ .31 $ .88 $ (4.70) $(36.82) $(73.56)
Extraordinary item................. -- -- -- -- 4.66 -- --
---------- --------- --------- --------- ------- ------- -------
Net income (loss) per share........ $ .30 $ .09 $ .31 $ .88 $ (.04) $(36.82) $(73.56)
Net income (loss) per
share,excluding goodwill
amortization(3).................. $ .49 $ .22 $ .64 $ .98 $ (.04) $(36.82) $(73.56)
Diluted:
Income (loss) before extraordinary
item............................. $ .27 $ .09 $ .26 $ .88 $ (4.70) $(36.82) $(73.56)
Extraordinary item................. -- -- -- -- 4.66 -- --
---------- --------- --------- --------- ------- ------- -------
Net income (loss) per share........ $ .27 $ .09 $ .26 $ .88 $ (.04) $(36.82) $(73.56)
Net income (loss) per share,
excluding goodwill
amortization(3).................. $ .44 $ .22 $ .55 $ .98 $ (.04) $(36.82) $(73.56)
</TABLE>
- ------------------------
(1) Forgiveness of indebtedness net of $443,000 income tax benefit.
(2) Share and per share amounts have been retroactively restated to reflect (i)
a 1-for-2 reverse split of the Common Stock that will be effected by the
Company prior to the consummation of the Offering and (ii) changes in the
presentation of earnings per share as set forth in the notes to the
Company's consolidated financial statements.
(3) Excludes the amortization of goodwill and other intangibles. Although such
presentation is not defined by Generally Accepted Accounting Principals
("GAAP"), management believes it to be beneficial to gaining an
understanding of the Company's financial performance in comparison to its
peer group.
34
<PAGE>
<TABLE>
<CAPTION>
AS OF AND FOR
SIX MONTHS ENDED
ENDED JUNE 30, AS OF AND FOR THE YEARS ENDED DECEMBER 31,
--------------------- -----------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C>
1998 1997 1997 1996 1995 1994 1993
---------- --------- --------- --------- ------- ------- -------
<CAPTION>
(DOLLARS IN THOUSANDS, EXCEPT FOR PER SHARE DATA AND RATIOS)
<S> <C> <C> <C> <C> <C> <C> <C>
CONSOLIDATED FINANCIAL POSITION
Total assets....................... $1,023,310 $ 909,760 $ 902,355 $ 437,060 $55,905 $57,686 $61,916
Loans and leases, net.............. 688,477 495,739 605,883 320,958 38,338 45,492 48,179
Intangibles........................ 65,078 67,802 66,769 10,736 -- -- --
Deposits........................... 876,602 758,400 765,203 383,031 51,431 55,876 59,651
Long-term debt..................... 27,657 28,194 27,657 537 537 1,894 1,894
Common shareholders' equity........ 86,035 84,560 83,077 40,772 3,541 (948) 41
Shareholders' equity (deficit)..... 97,694 96,219 94,736 40,772 3,541 (948) 41
Average assets..................... 942,663 499,180 706,327 241,866 56,995 61,312 66,515
Average earning assets............. 761,201 430,454 571,091 198,720 50,329 53,873 58,632
Average common equity.............. 84,008 46,852 65,539 20,698 (81) (572) 981
Per share data(2):
Common shares outstanding.......... 9,173,698 9,173,698 9,173,698 4,848,715 447,734 26,864 26,864
Diluted common shares
outstanding...................... 10,294,674 9,173,698 9,652,238 4,848,715 447,734 26,864 26,864
Book value per share............... $ 9.38 $ 9.22 $ 9.06 $ 8.41 $ 7.91 $(35.39) $ 1.53
Diluted book value per share....... 8.36 9.22 8.61 8.41 7.91 (35.39) 1.53
Tangible book value per share...... 2.28 1.83 1.78 6.19 7.91 (35.39) 1.53
Diluted tangible book value per
share............................ 2.04 1.83 1.69 6.19 7.91 (35.39) 1.53
SELECTED PERFORMANCE RATIOS(4)
Return on average assets........... .73% .22% .42% .96% (.01)% (1.61)% (2.97)%
Return on average assets, excluding
goodwill amortization(3)......... 1.10 .51 .78 1.07 (.01) (1.61) (2.97)
Return on average common equity.... 6.69 2.02 3.45 11.23 nm(5) nm(6) (201.43)
Return on average common equity,
excluding goodwill
amortization(3).................. 10.86 5.06 7.28 12.53 nm(5) nm(6) (201.43)
Net yield on interest earning
assets........................... 5.88 5.76 5.76 5.89 5.60 5.31 5.10
Noninterest income to average
assets........................... 4.75 4.96 4.66 4.84 4.94 4.67 4.50
Efficiency ratio(6)................ 67.74 79.25 72.77 88.60 107.03 105.22 119.43
SELECTED ASSET QUALITY RATIOS(7)
Nonperforming assets to total
portfolio loans and leases and
OREO............................. 1.88% 3.73% 3.36% 3.83% 7.50% 7.94% 7.61%
Nonperforming assets to total
assets........................... 1.28 2.32 2.30 2.89 5.42 6.55 6.20
Allowance for loan and lease losses
to portfolio loans and leases.... 1.53 1.85 1.80 1.88 1.64 1.77 1.68
Allowance for loan and lease losses
to nonperforming loans and
leases........................... 60.24 74.88 52.18 57.31 39.44 32.95 34.41
Net charge-offs to average
portfolio loans and leases....... .84 1.87 .29 .26 1.13 1.25 1.27
SELECTED CAPITAL RATIOS
Tier 1 Leverage Ratio.............. 6.61% 6.66% 6.59% 6.98% 6.25% nm%(5) 0.07%
Tier 1 Risk-Weighted Ratio......... 8.88 9.53 8.91 9.22 8.67 nm(5) 0.08
Total Risk-Weighted Ratio.......... 10.03 10.87 10.18 10.64 11.24 nm(5) 0.20
Average common equity to average
assets........................... 8.91 9.39 9.28 8.56 nm(5) nm(5) 1.47
</TABLE>
- ------------------------
(4) The average ratios are annualized for the six months ended June 30, 1998 and
June 30, 1997, respectively.
(5) Not meaningful as the average common equity for 1995 and 1994 and
shareholders' equity for 1994 were negative.
(6) As used in this Prospectus, the term efficiency ratio means the Company's
noninterest expense -- excluding goodwill amortization of goodwill and other
intangibles, losses and carrying costs of OREO and provision for recourse
obligations -- as a percentage of total revenue. The Company's definition of
its efficiency ratio may not be comparable to that used by its peer group.
(7) Selected Asset Quality Ratios and Selected Capital Ratios are end of period
ratios, except for net charge-offs to average portfolio loans and leases,
average equity to average assets and the leverage ratio. The average ratios
are based on daily averages for the indicated periods and are annualized
where appropriate. The leverage ratio is based on the average daily balances
for the three-month period ended as of the indicated date. Portfolio loans
and leases are exclusive of residential mortgage loans held for sale. For
definitions and information relating to the Company's regulatory capital
requirements, see "Supervision and Regulation."
35
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
INTRODUCTION
This information should be read in conjunction with the audited consolidated
financial statements and the notes thereto of the Company included in this
Prospectus. Except for the historical information contained herein, the
following discussion contains forward-looking statements that involve risks and
uncertainties. The Company's actual results could differ materially from those
discussed here. Factors that could cause or contribute to such differences
include, but are not specifically limited to, changes in regulatory climate,
shifts in the interest rate environment, changes in economic conditions of
various markets the Company serves, as well as the other risks detailed in this
section and in "Risk Factors" above.
Prior to September 1995, the predecessor to the Company, SDN Bancorp, Inc.,
owned a single bank, San Dieguito National Bank ("San Dieguito"), with
approximately $56 million in assets that was categorized as "critically
undercapitalized" by federal regulators. In September 1995, the Company was
recapitalized by DCG, a limited partnership controlled by Mr. Keller and a
majority of the other directors of the Company. Between September 1995 and June
30, 1998, the Company acquired three banks -- Liberty National Bank ("Liberty"),
Commerce Security Bank ("CSB") and Eldorado Bank -- increasing the Company's
tangible assets by $779 million. The Company completed its most recent
acquisition -- Eldorado Bancorp and its subsidiary bank Eldorado Bank (the
"Eldorado Acquisition") -- in June 1997, which increased the Company's assets by
approximately $404 million. The Liberty acquisition was completed as of March
31, 1996, and the CSB acquisition was completed as of September 1, 1996. See
"Business -- Prior Acquisitions." Each of those acquisitions was accounted for
using the purchase method of accounting for business combinations, and therefore
the operating results of those banks are reflected in the Company's financial
statements only from the date of acquisition. Consequently, the period-to-period
comparisons in this section are significantly affected by the timing of those
acquisitions.
Within the recent past, CSB, Eldorado Bank, Liberty and San Dieguito were
adversely affected by a variety of factors, including high levels of
nonperforming assets, reliance on high-cost brokered deposits and excessive
overhead costs. The high levels of nonperforming assets and related overhead
costs were partly attributable to adverse economic conditions, including
declining real estate values, that California experienced during the early to
mid-1990s. See "Business -- Prior Acquisitions."
Effective June 30, 1997, the Company merged San Dieguito, Liberty, CSB and
Eldorado Bank into a single bank (the "Bank"), which is known as Eldorado Bank.
The Company owns 100% of the Bank, which now is the Company's only banking
subsidiary and its principal asset.
Contained within this document are various measures of financial performance
that have been calculated excluding the amortization of intangibles. These
measures are identified as "excluding goodwill amortization" and have been
provided to assist the reader in evaluating the core performance of the Company.
This presentation is not defined by Generally Accepted Accounting Principles
("GAAP"), but management believes it to be beneficial to gaining an
understanding of the Company's financial performance in comparison to its peer
group.
FOR THE SIX MONTHS ENDED JUNE 30, 1998 AND 1997
OVERVIEW
To the extent that the following discussion relates to the operating results
of the Company during the six months ended June 30, 1997, it includes the
results of only one month of operations of Eldorado Bank. In most of the
Company's income and expense categories and with respect to the Company's net
income, the increases in the amounts reported for six months ended June 30, 1998
compared to the same period of 1997 resulted from the Eldorado Acquisition.
Other significant factors affecting the Company's results of operations and
financial condition are described in the applicable sections below.
36
<PAGE>
The Company had net income of $3.4 million for the six months ended June 30,
1998 compared to net income of $555,000 for six months ended June 30, 1997.
Basic net income per share for the six months ended June 30, 1998 was $.30
compared to $.08 for the six months ended June 30, 1997, while diluted net
income per share for the six months ended June 30, 1998 was $.27 compared to
$.08 for the six months ended June 30, 1997. Excluding the amortization of
goodwill and other intangibles, basic and diluted earnings per share for the six
months ended June 30, 1998 were $.49 and $.44, respectively, as compared to $.22
and $.22 for the same period of 1997. The Company's return on average assets was
.73% and its return on average common equity was 6.69% for the six months ended
June 30, 1998, as compared to .22% and 2.02%, respectively, for the six months
ended June 30, 1997. Excluding the amortization of goodwill and other
intangibles, return on average assets was 1.10% and return on average common
equity was 10.86% for the six months ended June 30, 1998, as compared to .51%
and 5.06%, respectively, for the six months ended June 30, 1997.
RESULTS OF OPERATIONS
The Company's results of operations depend primarily on the Bank's net
interest income, which is the difference between interest and dividend income on
interest-earning assets and interest expense on interest-bearing liabilities.
The Bank's interest-earning assets consist primarily of loans, mortgage-backed
securities and investment securities, while its interest-bearing liabilities are
deposits and borrowings. The Company's results of operations are also affected
by the Bank's provisions for loan and lease losses, resulting from management's
assessment of the adequacy of the Bank's allowance for loan and lease losses,
the level of its other income, including fee income from the origination of
mortgage loans, the level of its other expenses, such as compensation and
employee benefits, occupancy costs, expenses associated with the administration
of problem assets, and income taxes.
Compared to the prior year results, the improvement in the Company's net
income for the six months ended June 30, 1998 stems primarily from a combination
of increased net interest income of approximately $9.9 million and noninterest
income of approximately $5.4 million, partially offset by an increased loan and
lease loss provision of $1.2 million, noninterest expense of approximately $8.4
million and provision for taxes of $2.8 million. The improvement in 1998
earnings is primarily attributable to the earnings of Eldorado Bank in 1998 that
were not included in earnings for 1997 and partly attributable to an improvement
in earnings related to the Bank's mortgage banking operations. See "Business --
Products and Services -- Mortgage Banking Division."
NET INTEREST INCOME AND NET INTEREST MARGIN
Net interest income was approximately $22.2 million for the six months ended
June 30, 1998, an increase of $9.9 million over the $12.3 million for the same
period in 1997. An increase in interest income to $36.1 million for the six
months ended June 30, 1998 from $20.0 million for the same period in 1997,
partially offset by increased interest expense of $13.9 million for the six
months ended June 30, 1998 from $7.7 million for the same period in 1997
contributed to this earnings improvement. The increase in net interest income in
1998 is primarily attributable to the Eldorado Acquisition.
Loans and leases, the largest component of earning assets, increased to an
average balance of $688.9 million for the six months ended June 30, 1998 from
$349.9 million for the six months ended June 30, 1997, with an average yield of
9.9% and 10.2%, respectively. The increase in the volume of loans and leases was
primarily attributable to the Eldorado Acquisition. Investments in securities
and Federal funds sold declined to an average of $72.2 million for the six
months ended June 30, 1998 from an average of $80.5 million for the six months
ended June 30, 1997, with an average yield of 6.3% and 5.9%, respectively. The
yield on earning assets was 9.6% for the six months ended June 30, 1998 compared
to 9.4% for the same period in 1997, primarily as a result of the increase in
loans and leases as a proportion of total interest-earning assets to 90.5% for
the six months ended June 30, 1998 as compared to 81.3% for the same period in
1997, which more than offset the decline in the average yield on loans and
leases.
37
<PAGE>
Average interest-bearing liabilities increased 83.7% to $594.5 million for
the six months ended June 30, 1998 from $323.7 million for the same period in
1997 primarily as a result of the Eldorado Acquisition. The cost of these funds
decreased to 4.7% for the six months ended June 30, 1998 compared to 4.8% for
the same period in 1997. Average interest-bearing deposits increased to $544.0
million for the six months ended June 30, 1998 from $315.8 million for the same
period in 1997. The average rate paid on these deposits decreased to 4.3% during
the six months ended June 30, 1998 compared to 4.7% during the same period in
1997. The decrease in the cost of deposits is attributable to a decrease in
rates paid on certificates of deposit that decreased to 5.1% for the six months
ended June 30, 1998 compared to 5.7% for the same period in 1997, and a decrease
in rates paid on interest bearing transaction accounts and savings accounts that
in the aggregate was 3.8% for the six months ended June 30, 1998 compared to
3.9% for the same period in 1997. The decrease in the cost of deposits also
reflects a change in the mix of deposit liabilities as a result of the Eldorado
Acquisition, with increases in average interest bearing demand deposits and
money market deposits of 156.1% and 147.3%, respectively, compared to the same
period of 1997.
The average balance for all borrowings increased to $50.4 million for the
six months ended June 30, 1998 from $7.9 million for the same period in 1997.
The average cost of these borrowings was 9.3% for the six months ended June 30,
1998 compared to 8.7% for the same period in 1997. The increase in the average
balance and cost of borrowings is attributable to Federal funds purchased and
the subordinated debentures issued to fund a portion of the Eldorado
Acquisition. Federal funds purchased averaged $22.2 million with an average rate
of 5.9% for the six months ended June 30, 1998 compared to $3.7 million with an
average rate of 5.9% for the same period in 1997. Other debt, including the
subordinated debentures, averaged $28.2 million at an average rate of 12.0% for
six months ended June 30, 1998 compared to $4.2 million at 11.2% for the same
period in 1997.
As a result of the foregoing factors, the average net yield on earning
assets increased to 5.9% for the six months ended June 30, 1998 compared to 5.8%
for the same period in 1997.
The following table presents, for the periods indicated, the distribution of
average assets, liabilities and shareholders' equity, as well as the total
dollar amounts of interest income from average interest-bearing assets and the
resultant yields, and the dollar amounts of interest expense and resultant cost
expressed in both dollars and rates. Nonaccrual loans are included in the
calculation of the average loans while nonaccrued interest thereon is excluded
from the computation of rates earned.
38
<PAGE>
<TABLE>
<CAPTION>
SIX MONTHS ENDED JUNE 30,
--------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
1998 1997
------------------------------------ ------------------------------------
<CAPTION>
INTEREST AVERAGE INTEREST AVERAGE
AVERAGE INCOME OR YIELD OR AVERAGE INCOME OR YIELD OR
BALANCE EXPENSE COST BALANCE EXPENSE COST
---------- ----------- ----------- ---------- ----------- -----------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C>
ASSETS
Interest-earning assets:
Loans and leases (1).............................. $ 688,998 $ 33,835 9.90% $ 349,927 $ 17,631 10.16%
Investment Securities (2)......................... 60,065 1,919 6.44 55,592 1,693 6.14
Federal funds sold................................ 12,138 320 5.32 24,935 673 5.44
Other earning assets.............................. -- -- -- -- -- --
---------- ----------- ---------- -----------
Total interest-earning assets:................ 761,201 36,074 9.56% 430,454 19,352 9.37%
Non-earning assets:
Cash and demand deposits with banks............. 80,063 40,357
Other assets.................................... 101,399 28,369
---------- ----------
Total assets.................................. 942,663 499,180
---------- ----------
---------- ----------
LIABILITIES AND SHAREHOLDERS' EQUITY
Interest-bearing liabilities:
Deposits
Interest-bearing demand......................... $ 98,871 833 1.70% $ 39,973 539 2.72%
Money market.................................... 94,132 1,740 3.73 36,755 507 2.78
Savings......................................... 142,251 3,732 5.29 90,132 2,138 4.78
Time............................................ 208,782 5,245 5.07 148,930 4,188 5.67
---------- ----------- ---------- -----------
Total interest-bearing deposits............... 544,036 11,550 4.28 315,790 7,372 4.71
Short-term borrowing.............................. 22,233 647 5.87 3,658 107 5.90
Long-term debt.................................... 28,196 1,673 11.97 4,204 233 11.18
---------- ----------- ---------- -----------
Total interest-bearing liabilities............ 594,465 13,870 4.71% 323,652 7,712 4.81%
Noninterest-bearing liabilities:
Demand deposits................................... 238,086 117,835
Other liabilities................................. 14,445 9,295
---------- ----------
Total liabilities............................. 846,996 450,782
Shareholders' equity................................ 95,667 48,398
---------- ----------
Total liabilities and shareholders' equity.......... $ 942,663 $ 499,180
---------- ----------- ---------- -----------
---------- ----------
Net interest income................................. $ 22,204 $ 12,285
----------- -----------
----------- -----------
Net yield on interest-earning assets................ 5.88% 5.76%
</TABLE>
- ------------------------
(1) Includes the deduction of the average balance in the allowance for loan and
lease losses of $8.5 million and $5.8 million in 1998 and 1997,
respectively. Loan fees of $2.3 million and $1.4 million are included in the
computations for 1998 and 1997, respectively.
(2) Yields are calculated on historical cost and exclude the impact of the
unrealized gain (loss) on available for sale securities.
39
<PAGE>
The following table sets forth changes in interest income and interest
expense attributable to changes in rates and changes in volume of the various
components. Changes due to a combination of rate and volume are presented under
the column titled "Mix." Nonaccrual loans are included in total loans
outstanding while nonaccrued interest thereon is excluded from the computation
of rates earned.
<TABLE>
<CAPTION>
SIX MONTHS ENDED JUNE 30,
1998 COMPARED TO 1997
------------------------------------------
<S> <C> <C> <C> <C>
NET
CHANGE RATE VOLUME MIX
--------- --------- --------- ---------
<CAPTION>
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C>
Interest income:
Loans and leases...................................................... $ 16,204 $(447) $ 17,083 $ (432)
Investment securities................................................. 226 83 136 7
Federal funds sold.................................................... (353) (16) (345) 8
Other earning assets.................................................. -- -- -- --
--------- --------- --------- ---------
Total interest income............................................. 16,077 (380) 16,874 (417)
Interest expense:
Interest-bearing demand............................................... 294 (202) 794 (298)
Money market.......................................................... 1,233 172 791 270
Savings............................................................... 1,594 227 1,236 131
Time.................................................................. 1,057 (447) 1,683 (179)
Short-term borrowing.................................................. 569 (1) 543 27
Long-term debt........................................................ 1,411 17 1,300 94
--------- --------- --------- ---------
Total interest expense............................................ 6,158 (234) 6,347 45
--------- --------- --------- ---------
Net interest income..................................................... $ 9,919 $ (146) $ 10,527 $ (462)
--------- --------- --------- ---------
--------- --------- --------- ---------
</TABLE>
PROVISION FOR LOAN AND LEASE LOSSES
During the six months ended June 30, 1998, a total of $1.9 million was
charged against operations and added to the allowance for loan and lease losses,
as compared to $715,000 for the same period in 1997. The increased provision is
primarily attributable to the increase in the loan portfolio due to the Eldorado
Acquisition and to partially offset the loans charged off against the allowance
discussed below. See "-- Financial Condition."
NONINTEREST INCOME
Noninterest income for the six months ended June 30, 1998 was $11.4 million
compared to $6.0 million for the same period in 1997. Noninterest income related
to operations acquired in the Eldorado Acquisition that was not included in
income for the same period in 1997 and increased earnings from the Bank's
mortgage operations are primarily responsible for this improvement in
noninterest income. Income from service charges on deposit accounts increased to
$1.8 million for the six months ended June 30, 1998 compared to $652,000 for the
same period in 1997 and other noninterest income increased to $2.9 million for
the six months ended June 30, 1998 compared to $1.9 million for the same period
in 1997, both of which changes are primarily attributable to the Eldorado
Acquisition. Gains on sales of mortgage loans increased to $6.7 million for the
six months ended June 30, 1998, as compared to $3.5 million for the same period
in 1997. Income from the servicing of SBA loans increased to $1.3 million for
the six months ended June 30, 1998 as compared to $959,000 for the same period
in 1997. Such increase is primarily attributable to an increase in the SBA
servicing portfolio due to the Eldorado Acquisition.
40
<PAGE>
The following table presents for the periods indicated the major categories
of noninterest income:
<TABLE>
<CAPTION>
SIX MONTHS ENDED
JUNE 30,
--------------------
<S> <C> <C>
1998 1997
--------- ---------
<CAPTION>
(IN THOUSANDS)
<S> <C> <C>
Service charges on deposit accounts...................................... $ 1,780 $ 652
Gains on sale of mortgage loans.......................................... 6,710 3,452
SBA loan servicing....................................................... 1,265 959
Other income............................................................. 1,606 926
--------- ---------
Total noninterest income............................................... $ 11,361 $ 5,989
--------- ---------
--------- ---------
</TABLE>
NONINTEREST EXPENSES
Noninterest expenses are the costs, other than interest expense, associated
with providing banking and financial services to customers and conducting the
affairs of the Bank. Also included are the costs of carrying and administering
the OREO portfolio (as defined below) as well as the costs associated with
problem assets, which include nonperforming and restructured loans. "OREO," or
"other real estate owned," consists of real estate acquired through foreclosure
or by acceptance of a deed in lieu of foreclosure.
Noninterest expense for the six months ended June 30, 1998 was $24.5
million, an increase of $8.4 million for the same period in 1997. Salaries and
employee benefits increased to $10.5 million for the six months ended June 30,
1998 from $6.7 million for the same period in 1997, which increase is
attributable to the added personnel from the Eldorado Acquisition and an
increase in mortgage-related commissions as a result of an increase in the
volume of mortgage loan originations. See "Business -- Products and Services --
Mortgage Banking Division." Occupancy and equipment expense increased to $3.5
million for the six months ended June 30, 1998 from $2.5 million for the six
months ended June 30, 1997 and represents the additional cost for facilities,
equipment for branches and related operational expenses attributable to the
Eldorado Acquisition. Other noninterest expenses increased to $8.8 million for
the six months ended June 30, 1998 from $6.2 million for six months ended June
30, 1997, primarily attributable to the Eldorado Acquisition. The increase in
other noninterest expense was partially offset by a decrease in the provision
for mortgage recourse obligations for which none was made during the six months
ended June 30, 1998 compared to $905,000 for the six months ended June 30, 1997.
See "Business -- Products and Services -- Mortgage Banking Division." Also
included in noninterest expense for the six months ended June 30, 1998 is
amortization of goodwill and other intangibles of $1.7 million compared to
$705,000 for the same period last year. The increase is primarily attributable
to the Eldorado Acquisition. The Company's efficiency ratio was 66.53% for the
six months ended June 30, 1998 as compared to 81.87% for the same period of
1997. For purposes of this Prospectus, the efficiency ratio is defined as
noninterest expense -- excluding amortization of goodwill and other intangibles,
losses and carrying costs of OREO and nonrecurring provisions for recourse
obligations -- as a percentage of total revenue.
41
<PAGE>
The following table presents for the periods indicated the major categories
of noninterest expense:
<TABLE>
<CAPTION>
SIX MONTHS ENDED
JUNE 30,
--------------------
<S> <C> <C>
1998 1997
--------- ---------
<CAPTION>
(IN THOUSANDS)
<S> <C> <C>
Salaries and employee benefits.......................................... $ 10,457 $ 6,650
Non-staff expenses
Occupancy and equipment............................................... 3,504 2,491
Professional, regulatory and other services........................... 749 335
Legal................................................................. 603 527
Insurance............................................................. 266 287
Losses and carrying costs of OREO..................................... 408 249
Provision for recourse obligation..................................... -- 905
Amortization of goodwill and other intangibles........................ 1,739 705
Data and item processing costs........................................ 1,805 688
Customer service expenses............................................. 1,011 488
Other................................................................. 3,935 2,767
Total non-staff expense............................................. 14,020 9,442
--------- ---------
Total noninterest expense......................................... $ 24,477 $ 16,092
--------- ---------
--------- ---------
</TABLE>
PROVISION FOR INCOME TAXES
As a result of increased earnings for the six months ended June 30, 1998, a
provision for income taxes of $3.7 million was made compared to a $912,000
provision made for the same period in 1997. The Company's effective tax rate
(52.2%) is higher than the applicable statutory rate (42.0%), primarily because
the goodwill amortization is a charge to earnings for financial statement
purposes and is not deductible for federal income tax purposes.
FINANCIAL CONDITION
Total assets of the Company at June 30, 1998 were $1.0 billion compared to
total assets of $902.4 million at December 31, 1997. The increase in total
assets since December 31, 1997 is primarily attributable to the increase in
mortgage loans held for sale that increased $91.4 million, or 95.0%, to $187.6
million at June 30, 1998 from $96.2 million at December 31, 1997. Total
interest-earning assets of the Company at June 30, 1998 were $761.0 million
compared to total earning assets of $725.6 million at December 31, 1997. Earning
assets increased primarily due to the increase in mortgage loans held for sale,
partially offset by a decrease in portfolio loans and investments.
LOANS AND LEASES
Total gross loans and leases at June 30, 1998 were $700.0 million, including
$187.6 million of mortgage loans held for sale, compared to $618.3 million and
$96.2 million, respectively, at December 31, 1997. Excluding those loans held
for sale, at June 30, 1998, the four largest lending categories were: (i)
commercial real estate loans, (ii) commercial loans, (iii) loans to individuals
and (iv) residential mortgage loans, including land and construction loans.
Those categories accounted for $221.5 million, $103.9 million, $65.5 million and
$63.2 million, or approximately 43.2%, 20.3%, 12.8% and 12.3%, respectively, of
total gross loans and leases at June 30, 1998. Leases made to finance equipment
for small and medium-sized businesses accounted for $58.3 million, or
approximately 11.4% of total gross loans and leases held for investment, at June
30, 1998.
42
<PAGE>
The following table sets forth the amount of loans and leases outstanding
for the Company as of the dates indicated, according to type of loan, inclusive
of mortgage loans held for sale. The Company has no foreign loans or
energy-related loans.
<TABLE>
<CAPTION>
DECEMBER 31,
JUNE 30, ---------------------------------
1998 1997 1996 1995
---------- ---------- ---------- ---------
<S> <C> <C> <C> <C>
(DOLLARS IN THOUSANDS)
Commercial........................................................ $ 103,900 $ 115,919 $ 47,772 $ 16,188
Real estate-commercial............................................ 221,451 235,244 86,397 --
Real estate-construction.......................................... 27,154 35,617 18,812 599
Real estate-mortgage.............................................. 36,077 32,132 41,650 15,710
Installment loans to individuals.................................. 65,456 62,323 22,512 6,525
Lease financing................................................... 58,312 40,819 46,498 --
---------- ---------- ---------- ---------
Subtotal (portfolio loans)...................................... 512,350 522,054 263,641 39,022
---------- ---------- ---------- ---------
Loans and leases held for sale.................................... 187,603 96,230 64,917 --
---------- ---------- ---------- ---------
Total......................................................... 699,953 618,284 328,558 39,022
Less: allowance for loan and lease losses......................... (7,820) (9,395) (5,156) (639)
Deferred loan and lease fees...................................... (3,656) (3,006) (2,444) (45)
---------- ---------- ---------- ---------
Net loans and leases.............................................. $ 688,477 $ 605,883 $ 320,958 $ 38,338
---------- ---------- ---------- ---------
---------- ---------- ---------- ---------
</TABLE>
For regulatory and financial reporting purposes, the Company categorizes
commercial loans that are secured in whole or part by real estate as commercial
real estate loans. The Company believes such categorization overstates the
Company's emphasis on real estate lending, because, for example, all SBA loans
are secured by real estate and thus categorized as commercial real estate loans.
See "Business" for a table setting forth the distribution of the Company's
commercial loans according to the borrowers' industry classifications.
The following table shows the amounts of certain categories of loans
outstanding as of June 30, 1998, which, based on remaining scheduled repayments
of principal, were due in one year or less, more than one year through five
years, and more than five years. Demand or other loans having no stated maturity
and no stated schedule of repayments are reported as due in one year or less.
Residential mortgage loans held for sale are reported as due after five years.
<TABLE>
<CAPTION>
JUNE 30, 1998
------------------------
<S> <C> <C>
COMMERCIAL REAL ESTATE
----------- -----------
<CAPTION>
(DOLLARS IN THOUSANDS)
<S> <C> <C>
Aggregate maturities of loans and leases which are due:
Within one year................................................... $ 41,654 $ 49,587
After one year but within five years:
Interest rates are floating or adjustable......................... 37,851 55,781
Interest rates are fixed or predetermined......................... 5,989 28,222
After 5 years:
Interest rates are floating or adjustable......................... 12,953 298,126
Interest rates are fixed or predetermined......................... 5,453 40,569
----------- -----------
Total........................................................... $ 103,900 $ 472,285
----------- -----------
----------- -----------
</TABLE>
43
<PAGE>
NONPERFORMING ASSETS
The following table summarizes nonperforming assets as of the end of the
five most recent fiscal quarters ended June 30, 1998.
<TABLE>
<CAPTION>
JUNE 30, MARCH 31, DECEMBER 31, SEPTEMBER 30, JUNE 30,
1998 1998 1997 1997 1997
------------- ------------- ------------- ------------- -------------
<S> <C> <C> <C> <C> <C>
(DOLLARS IN THOUSANDS)
Nonaccrual loans and leases, not
restructured....................... $ 7,712 $ 5,774 $ 10,589 $ 9,126 $ 11,600
Accruing loans and leases past due 90
days or more....................... 1,136 884 4,638 2,318 262
Restructured loans and leases........ 4,133 3,881 2,779 5,652 6,079
------------- ------------- ------------- ------------- -------------
Total nonperforming loans and
leases ("NPLs")................ 12,981 10,539 18,006 17,096 17,941
Other real estate owned ("OREO")..... 1,530 1,569 2,740 3,522 3,195
------------- ------------- ------------- ------------- -------------
Total nonperforming assets
("NPAs")....................... $ 13,123 $ 12,108 $ 20,746 $ 20,618 $ 21,136
------------- ------------- ------------- ------------- -------------
------------- ------------- ------------- ------------- -------------
Selected ratios:
NPLs to total portfolio loans and
leases(1)........................ 2.5% 2.0% 3.5% 3.4% 3.6%
NPAs to total portfolio loans and
leases and OREO(1)............... 2.6 2.3 4.0 4.0 4.2
NPAs to total assets............... 1.3 1.2 2.3 2.2 2.3
</TABLE>
- ------------------------
(1) Excludes residential mortgages held for sale.
The Company's current policy is to stop accruing interest on loans which are
past due as to principal or interest 90 days or more, except in circumstances
where the loan is well-secured and in the process of collection. When a loan is
placed on nonaccrual, previously accrued and unpaid interest is generally
reversed out of income.
The Company would have recorded additional interest income of approximately
$402,000 for the six months ended June 30, 1998 on nonperforming loans if such
loans had been current in accordance with their original terms. Interest income
recorded on nonperforming loans for the six months ended June 30, 1998 was
approximately $120,000.
Loans aggregating $11.8 million at June 30, 1998 have been designated as
impaired in accordance with SFAS 114 as amended by SFAS 118. The Company's
impaired loans are all collateral dependent, and as such the method used to
measure the amount of impairment on these loans is to compare the loan amount to
the fair value of collateral. In calculating the allowance for loan and lease
losses that was required under the Company's internal guidelines, management
determined that a minimum of $2.1 million should be included in the allowance at
June 30, 1998 because of the risk to the loan and lease portfolio represented by
such impaired loans.
Management is not aware of any loan that had not been placed on nonaccrual
status as of June 30, 1998 as to which there was serious doubt as to the ability
of the borrower to comply with present loan repayment terms.
At June 30, 1998, the Company had OREO properties with an aggregate carrying
value of $1.5 million. During the six months ended June 30, 1998, properties
with a total carrying value of $634,000 were added to OREO, and properties with
a total carrying value of $1.9 million were sold and properties were
44
<PAGE>
written down by approximately $284,000. Management believes that all of the
Company's OREO properties are recorded at amounts that are equal to or less than
the market value based on current independent appraisals reduced by estimated
selling costs.
ALLOWANCE FOR LOAN AND LEASE LOSSES
The allowance for loan and lease losses represents the amounts which have
been set aside for the specific purpose of absorbing losses which may occur in
the Bank's loan and lease portfolio. The provision for loan and lease losses is
an expense charged against operating income and added to the allowance for loan
and lease losses.
In determining the adequacy of the allowance for loan and lease losses,
management considers such factors as historical loan loss experience, known
problem loans, evaluations made by regulatory agencies and the Company's outside
loan reviewer, growth and composition of the loan portfolio, the estimated value
of collateral, assessment of economic conditions and other appropriate data to
identify the risks in the portfolio. In determining the amount of the allowance,
a specific allowance amount is assigned to those loans with identified special
risks, and the remaining loan portfolio is reviewed by category and assigned an
allowance percentage for inherent losses. The allocation process does not
necessarily measure anticipated future credit losses; rather, it reflects
management's assessment at a certain date of perceived credit risk exposure and
the impact of current and anticipated economic conditions, which may or may not
result in future credit losses. While management believes the allowance to be
adequate, it should be noted that it is based on estimates, and ultimate losses
may vary from such estimates if future conditions differ materially from the
assumptions used in making the evaluation.
The Federal Reserve and the DFI, as an integral part of their respective
supervisory functions, periodically review the Company's allowance for loan and
lease losses. Such regulatory agencies may require the Company to increase its
provision for loan and lease losses or to recognize further loan charge-offs,
based upon judgments different from those of management.
In December 1993, the federal banking agencies issued an inter-agency policy
statement on the allowance for loan and lease losses which, among other things,
establishes certain benchmark ratios of loan loss reserves to classified assets.
The benchmark set forth by such policy statement is the sum of (i) assets
classified loss; (ii) 50% of assets classified doubtful; (iii) 15% of assets
classified substandard; and (iv) estimated credit losses on other assets over
the upcoming 12 months. At June 30, 1998, the Company's allowance constituted
over 218% of the benchmark amount suggested by the federal banking agencies'
policy statement as compared with 250% at December 31, 1997.
The Company's lending is concentrated in Southern California, which has in
the recent past experienced adverse economic conditions, including declining
real estate values. Those factors have adversely affected borrowers' ability to
repay loans. Although management believes the level of the allowance as of June
30, 1998 is adequate to absorb losses inherent in the loan portfolio, a decline
in the local economy may result in increased losses that cannot reasonably be
predicted at this date. The possibility of increased costs of collection,
nonaccrual of interest on those which are or may be placed on nonaccrual, and
further charge-offs could also have an adverse impact on the Company's financial
condition in the future. See "Risk Factors -- Geographic Concentration."
The Company's allowance for loan and lease losses was $7.8 million, or 1.5%
of net portfolio loans (i.e., excluding residential mortgages held for sale) at
June 30, 1998 compared to $9.4 million, or 1.8% of net portfolio loans at
December 31, 1997. During the six months ended June 30, 1998, the provision for
loan and lease losses was $1.9 million, or .75% (annualized) of average
portfolio loans for the six months ended June 30, 1998, as compared to $715,000,
or .48% (annualized) of average portfolio loans for the comparable period in
1997. Loan and lease charge-offs were $4.2 million and recoveries were $708,000
for the six months ended June 30, 1998 as compared to loan and lease charge-offs
of $816,000 and recoveries of $111,000 for the comparable period in 1997.
Annualized net charge-offs as a percentage of average
45
<PAGE>
portfolio loans were 1.36% for the six months ended June 30, 1998 as compared to
.48% for the comparable period in 1997. The increase in annualized net
charge-offs is primarily attributable to the charge-off during the three months
ended March 31, 1998 of two loans with an aggregate principal balance of $2.1
million. The Company acquired those loans in the CSB acquisition, and although
the loans were performing in accordance with their terms as of June 30, 1998,
the Company became aware in early 1998 of a deterioration in the borrowers'
financial condition. Consistent with regulatory guidelines, the Company's
internal credit administration standards dictated that the loans should be
charged off as a result of the decline in the borrowers' creditworthiness.
The table below summarizes average portfolio loans and leases outstanding,
gross portfolio loans and leases, nonperforming loans and leases and changes in
the allowance for possible loan and lease losses arising from loan and lease
losses and additions to the allowance from provisions charged to operating
expense as of and for the five most recent fiscal quarters ended June 30, 1998:
<TABLE>
<CAPTION>
AS OF AND FOR THE FISCAL QUARTER ENDED,
---------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
JUNE 30, MARCH 31, DECEMBER 31, SEPTEMBER 30, JUNE 30,
1998 1998 1997 1997 1997
---------- ---------- ------------ ------------- ----------
<CAPTION>
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C> <C>
Average portfolio loans and leases(1).......... $ 510,650 $ 518,670 $ 512,969 $ 505,602 $ 327,266
Gross portfolio loans and leases(1)............ 512,350 520,884 522,054 506,625 500,670
Nonperforming loans and leases................. 12,981 10,539 18,006 17,096 17,941
Allowance for loan and lease losses:
Balance at beginning of period............... 7,892 9,395 9,249 9,242 5,249
Balance acquired during the period........... -- -- -- -- 4,076
Loans charged off during period
Commercial................................. 520 2,296 142 11 185
Leases..................................... 166 167 646 140 192
Real estate................................ 710 64 258 188 83
Installment................................ 184 98 132 156 44
---------- ---------- ------------ ------------- ----------
Total.................................... 1,580 2,625 1,178 495 504
Recoveries during period
Commercial................................. 461 20 223 100 85
Leases..................................... 22 16 4 27 --
Real estate................................ 11 143 514 1 --
Installment................................ 14 21 175 16 28
---------- ---------- ------------ ------------- ----------
Total.................................... 508 200 916 144 113
Net loans and leases charged off during
period..................................... 1,072 2,425 262 351 391
Provisions for loan and lease losses......... 1,000 922 408 358 308
---------- ---------- ------------ ------------- ----------
Balance at end of period................... $ 7,820 $ 7,892 $ 9,395 $ 9,249 $ 9,242
---------- ---------- ------------ ------------- ----------
---------- ---------- ------------ ------------- ----------
Selected ratios:
Net charge-offs to average portfolio loans
and leases (annualized).................... .84% 1.87% .20% .28% .48%
Provision for loan and lease losses to
average portfolio loans and leases
(annualized)............................... .78 .71 .32 .28 .38
Allowance at end of period to gross portfolio
loans and leases........................... 1.53 1.52 1.80 1.83 1.85
Allowance as a percentage of nonperforming
loans and leases........................... 60.24 74.88 52.18 54.10 51.51
</TABLE>
- ------------------------
(1) Excludes residential mortgages held for sale.
46
<PAGE>
The following table indicates management's allocation of the allowance as of
the dates indicated:
<TABLE>
<CAPTION>
JUNE 30,
----------------------------------------------
<S> <C> <C> <C> <C>
1998 1997
---------------------- ----------------------
<CAPTION>
AMOUNT PERCENT AMOUNT PERCENT
--------- ----------- --------- -----------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C>
Allocated amount:
Commercial, financial and agricultural.............................. $ 827 10.6% $ 709 7.7%
Real estate and construction........................................ 1,329 17.0 1,482 16.0
Consumer............................................................ 633 8.1 421 4.6
Unallocated......................................................... 5,030 64.3 6,630 71.7
--------- ----- --------- -----
Total........................................................... $ 7,820 100.0% $ 9,242 100.0%
--------- ----- --------- -----
--------- ----- --------- -----
</TABLE>
In allocating the Company's allowance for possible loan and leases losses,
management has considered the credit risk in the various loan categories in its
portfolio. As such, the allocation of the allowance for possible loan and lease
losses is based primarily upon the average aggregate historical net loan losses
experienced in each of the acquired subsidiary banks. While the Company has made
a reasonable effort to allocate the allowance to specific categories of loans,
management believes that any allocation of the allowance for possible loan and
lease losses into loan categories lends an appearance of exactness which does
not exist, in that the allowance for possible loan and lease losses is utilized
as a single unallocated allowance available for losses on all types of loans and
leases, and actual losses in loan categories may vary from the amounts allocated
to such categories.
INVESTMENT SECURITIES
The Bank maintains a portion of its assets in investment securities to
balance risk and to ensure liquidity. See "-- Liquidity."
Total investments at June 30, 1998 were $61.1 million compared to $107.3
million at December 31, 1997. Investments decreased primarily to provide
liquidity to fund increased mortgage origination activity. At June 30, 1998, the
investment portfolio primarily consisted of U.S. treasury and agency securities
and mortgage-backed securities. Both of those categories of investment
securities are classified as available-for-sale and totaled $21.1 million and
$40.0 million, respectively, or 32.7% and 67.3% of total investments,
respectively.
The following table presents the amortized cost of securities and their
approximate fair values at June 30, 1998:
<TABLE>
<CAPTION>
JUNE 30, 1998
----------------------------------------------------
<S> <C> <C> <C> <C>
GROSS GROSS ESTIMATED
AMORTIZED UNREALIZED UNREALIZED MARKET
COST GAIN LOSS VALUE
----------- ------------- ----------- -----------
<CAPTION>
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C>
Available-for-sale:
U.S. Treasury................................................... $ 15,998 $ 7 $ -- $ 16,005
U.S. Government Agencies........................................ 5,000 -- (3) 4,997
Mortgage-backed securities...................................... 40,115 33 (134) 40,014
Corporate bonds and equities.................................... 38 -- -- 38
----------- --- ----- -----------
Total....................................................... $ 61,151 $ 40 $ (137) $ 61,054
----------- --- ----- -----------
----------- --- ----- -----------
</TABLE>
47
<PAGE>
The following table show the maturities of investment securities at June 30,
1998 and the weighted average yields of such securities:
<TABLE>
<CAPTION>
AFTER ONE YEAR BUT AFTER FIVE YEAR BUT
WITHIN ONE YEAR WITHIN FIVE YEARS WITHIN TEN YEARS
------------------------ ------------------------ ------------------------
<S> <C> <C> <C> <C> <C> <C>
AMOUNT YIELD AMOUNT YIELD AMOUNT YIELD
----------- ----- ----------- ----- ----------- -----
<CAPTION>
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C>
Securities available-for-sale:
U.S. Treasuries............................ $ 6,005 5.86% $ 10,000 5.50% -- --%
U.S. Government agencies................... -- -- 4,997 6.31 -- --
Mortgage backed securities................. -- -- 3,948 6.88 10,580 6.71
Equity securities.......................... 38 -- -- -- -- --
----------- ----------- -----------
Total investment portfolio............... $ 6,043 5.86% $ 18,945 6.00% $ 10,580 6.71%
----------- ----------- -----------
----------- ----------- -----------
<CAPTION>
AFTER TEN YEARS
------------------------
<S> <C> <C>
AMOUNT YIELD
----------- -----
<S> <C> <C>
Securities available-for-sale:
U.S. Treasuries............................ -- --%
U.S. Government agencies................... -- --
Mortgage backed securities................. 25,486 6.92
Equity securities.......................... -- --
-----------
Total investment portfolio............... $ 25,486 6.92%
-----------
-----------
</TABLE>
There are certain inherent risks associated with mortgage-backed securities
("MBS") including volatility, credit risk, interest rate risk and average life
extension risk. The Company's MBS portfolio has limited credit risk as the MBS
portfolio contains only U.S. Government agency obligations that carry the
highest ratings by nationally recognized statistical rating organizations. MBS
price volatility is similar to U.S. Government or corporate bond obligations, in
that as interest rates increase the value of the MBS decreases and, conversely,
as interest rates decrease the value of the MBS increases. In addition, the
interest rate risk associated with MBS can be exacerbated by extension or
prepayment risk, particularly with respect to fixed-rate instruments. With
fixed-rate MBS, as interest rates move upward, the probability of the average
life extending increases as a result of prepayments generally slowing on the
underlying collateral of the MBS. With the extension of average life in a rising
rate environment, the Bank would own a security that has a below market yield
for a longer period of time than was previously anticipated which also affects
the market price negatively. If interest rates were to decline, the weighted
average life of the fixed-rate MBS portfolio would shorten, prepayments would
rise and the market value would increase. At June 30, 1998, the weighted average
life of the Bank's fixed-rate MBS portfolio was 3.3 years.
Additional information concerning investment securities is provided in the
notes to the accompanying consolidated financial statements.
DEPOSITS
Total deposits were $876.6 million at June 30, 1998 compared to $765.2
million at December 31, 1997. An increase in regular savings deposits,
certificates of deposits and interest bearing transaction accounts, partially
offset by decreases in noninterest bearing demand deposits and money market
accounts, contributed to the increase in total deposits. The increase in
deposits reflects the Company's attempt to increase funding sources required to
fund the increase in mortgage lending activity. In April 1998, the Company
placed $18.3 million of wholesale certificates of deposits through financial
intermediaries. Total noninterest bearing demand deposits were $256.2 million,
or approximately 29.2% of total deposits, at June 30, 1998 compared to $289.3
million, or approximately 37.8% of total deposits, at December 31, 1997.
Interest-bearing deposits were $620.4 million, or approximately 70.8% of total
deposits, at June 30, 1998 compared to $475.9 million, or approximately 62.2% of
total deposits, at December 31, 1997.
A significant amount of the Company's interest-bearing deposits are
generated from title and escrow companies ("Title and Escrow Deposits"). For the
six months ended June 30, 1998, Title and Escrow Deposits averaged $116.9
million, representing 15.0% of the Company's average total deposits for that
period. For the six months ended June 30, 1998, average Title and Escrow
Deposits were 19.9% of average noninterest demand deposits and 48.9% of average
savings deposits. Actual balances of Title and Escrow Deposits tend to vary
widely during a month, with the highest balances usually occurring at the end of
the month when residential real estate closings are generally scheduled to
occur. One company controlled
48
<PAGE>
11.7% of the Company's average Title and Escrow Deposits for the six months
ended June 30, 1998 and 14.5% of the Company's total deposits at June 30, 1998.
See "Risk Factors -- Reliance on Certain Funding Sources" and "Business --
Products and Services -- Community Banking Division."
The Company considers Title and Escrow Deposits to be volatile because of
the fluctuation in deposit amounts and the concentration of control over those
deposits with a limited number of customers, even though the Company believes
that its relationships with its principal Title and Escrow Deposit customers and
its specialized deposit services partially mitigate the risk that such customers
may terminate or significantly reduce their deposits with the Company. See "Risk
Factors -- Reliance on Certain Funding Sources." As a consequence of that
potential volatility, the Company utilizes Title and Escrow Deposits solely to
fund short-term assets, primarily consisting of residential mortgages held for
sale, which are generally sold within 30 days after such mortgage loans are
funded. See "Business -- Products and Services -- Mortgage Banking Division." If
a substantial portion of the Title and Escrow Deposit were withdrawn suddenly,
the Company believes that it has sufficient alternative sources of liquidity to
fund its mortgage pipeline during a transition period. See "-- Liquidity."
The following table presents the daily average balances and weighted average
rates paid on interest-bearing deposits for the six months ended June 30, 1998
and 1997, respectively below.
<TABLE>
<CAPTION>
SIX MONTHS ENDED JUNE 30,
------------------------------------------------
<S> <C> <C> <C> <C>
1998 1997
----------------------- -----------------------
<CAPTION>
AVERAGE AVERAGE AVERAGE AVERAGE
BALANCE RATE BALANCE RATE
---------- ----------- ---------- -----------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C>
Noninterest-bearing demand............................................ $ 238,086 0.00% $ 117,835 0.00%
Interest-bearing demand............................................... 98,871 1.70 39,973 2.72
Money market.......................................................... 94,132 3.73 36,755 2.78
Savings............................................................... 142,251 5.29 90,132 4.78
Time.................................................................. 208,782 5.07 148,930 5.67
---------- ----------
Total............................................................. $ 782,122 2.98% $ 433,625 3.43%
---------- ----------
---------- ----------
</TABLE>
The following table shows the maturities of time certificates of deposits of
$100,000 or more at June 30, 1998:
<TABLE>
<CAPTION>
JUNE 30, 1998
---------------
<S> <C>
(IN THOUSANDS)
Due in three months or less...................................................................... $ 39,968
Due in over three months through six months...................................................... 21,712
Due in over six months through twelve months..................................................... 35,151
Due in over twelve months........................................................................ 4,440
---------------
Total........................................................................................ $ 101,271
---------------
---------------
</TABLE>
BORROWINGS
Borrowings of the Company increased to $31.5 million at June 30, 1998 from
$30.2 million at December 31, 1997. This increase in borrowings was primarily
due to an increase in Federal funds purchased, which increased to $3.4 million
at June 30, 1998 from $2.1 million at December 31, 1997. Those additional
borrowings were undertaken primarily to fund increased mortgage origination
volume.
49
<PAGE>
FOR THE YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995
OVERVIEW
The Liberty, CSB and Eldorado acquisitions were accounted for using the
purchase method of accounting for business combinations. Accordingly, the
following discussion relates to the operating results of San Dieguito, Liberty
and CSB for the year ended December 31, 1997 and the operating results of
Eldorado Bank for the seven months ended December 31, 1997. By comparison, the
Company's operating results for the year ended December 31, 1996 reflect the
operating results of San Dieguito for the year ended December 31, 1996, the
operating results of Liberty for the nine months ended December 31, 1996 and the
operating results of CSB for the four months ended December 31, 1996. The
Company's operating results for the year ended December 31, 1995 reflect only
the operating results of San Dieguito and were affected by a recapitalization
(the "SDN Recapitalization") in connection with DCG's acquisition of control of
SDN.
The Company had net income of $3.0 million for the year ended December 31,
1997 compared to net income of $2.3 million for the year ended December 31,
1996. The increase in net income is due to an increase in net interest income
and noninterest income of $21.2 million and $10.0 million, respectively,
partially offset by increased provision for loan and lease losses, noninterest
expense and income taxes of $980,000, $24.4 million and $5.1 million,
respectively. Basic net income per share in 1997 was $.31 compared to $.88 in
1996, while diluted net income per share in 1997 was $.26 per share compared to
$.88 in 1996. Excluding the amortization of goodwill and other intangibles,
basic and diluted earnings per share for the year ended December 31, 1997 were
$.64 and $.55, respectively, as compared to $.98 and $.98 for the year ended
December 31, 1996. The Company's return on average assets was .42% and its
return on average common equity was 3.45% for the year ended December 31, 1997,
as compared to .96% and 11.23%, respectively, for the year ended December 31,
1996. Excluding the amortization of goodwill and other intangibles, return on
average assets was .78% and return on average common equity was 7.28% for the
year ended December 31, 1997, as compared to 1.07% and 12.53%, respectively, for
the year ended December 31, 1996.
The Company had net income of $2.3 million for the year ended December 31,
1996 compared to a net loss of $5,000 for the year ended December 31, 1995.
Included in the 1995 net loss is a $625,000 extraordinary gain from
extinguishment of debt, net of tax benefit of $443,000, in connection with the
SDN Recapitalization. The Company's loss before extraordinary item for the year
ended December 31, 1995 was $630,000. The increase in net income before
extraordinary items is due to an increase in net interest income, noninterest
income and tax benefit of $8.9 million, $4.2 million and $1.5 million,
respectively, partially offset by increased provision for loan and lease losses
and noninterest expense of $227,000 and $11.0 million, respectively. Basic net
income per share in 1996 was $.88 per share compared to a net loss per share of
$.04 (after adjustment for extraordinary item) in 1995, while diluted net income
per share in 1996 was $.88 compared to net loss per share of $.04 (after
adjustment for extraordinary item) in 1995. Excluding the amortization of
goodwill and other intangibles, basic and diluted earnings per share for the
year ended December 31, 1996 were $.98 and $.98, respectively. There was no
goodwill amortization for the year ended December 31, 1995. The Company's return
on average assets was .96% and its return on average common equity was 11.23%
for the year ended December 31, 1996. For the year ended December 31, 1995, the
Company's return on average assets was (.01)% and its return on average common
equity was not meaningful, since average common equity was negative for the year
ended December 31, 1995. Excluding the amortization of goodwill and other
intangibles, return on average assets was 1.07% and return on average common
equity was 12.53% for the year ended December 31, 1996.
RESULTS OF OPERATIONS
NET INTEREST INCOME AND NET INTEREST MARGIN
The Company's net interest income increased $21.2 million in 1997 due to an
increase of $34.1 million in interest income partially offset by increased
interest expense of $13.0 million. Interest income and interest expense
increased primarily due to an increase in interest earning assets and
liabilities acquired in
50
<PAGE>
the Eldorado Acquisition. Decreased yields on earning assets partially offset
interest income due to the higher volume of earning assets while the cost of
interest-bearing liabilities remained constant. The yield on interest-earning
assets declined to 9.4% in 1997 from 9.7% in 1996 and the cost of average
interest-bearing liabilities remained stable at 4.6% in 1997 and 1996. As a
result of those factors, the net yield on earning assets declined to 5.8% in
1997 from 5.9% in 1996.
The Company's net interest income increased $8.9 million in 1996 due to an
increase of $14.8 million in interest income partially offset by increased
interest expense of $5.9 million. Interest income and interest expense increased
primarily due to an increase in interest-earning assets and liabilities acquired
in the Liberty and CSB acquisitions. Increased yields on interest-earning assets
and increased cost of interest-bearing liabilities also contributed to the
increases in interest income and interest expense. The yield on interest-earning
assets rose to 9.7% from 9.1% in 1995 and the cost of interest-bearing
liabilities rose to 4.6% from 3.9% in 1995. As a result of those factors, the
net yield on earning assets rose to 5.9% in 1996 from 5.6% in 1995.
Loan fee income increased $1.7 million to $2.9 million in 1997 from $1.2
million in 1996. This increase is primarily attributable to the fees earned on
the sale of SBA loans into the secondary market. See "Business -- Products and
Services -- Community Banking Division." Loan fee income increased $1.1 to $1.2
million in 1996 from $104,000 in 1995.
The following table presents, for the periods indicated, the distribution of
average assets, liabilities and shareholders' equity, as well as the total
dollar amounts of interest income from average interest-bearing assets and the
resultant yields, and the dollar amounts of interest expense and resultant cost
expressed in both dollars and rates. Nonaccrual loans are included in the
calculation of the average loans while nonaccrued interest thereon is excluded
from the computation of rates earned.
51
<PAGE>
<TABLE>
<CAPTION>
YEAR ENDED,
---------------------------------------------------------------
DECEMBER 31, 1997 DECEMBER 31, 1996
------------------------------ ------------------------------
<S> <C> <C> <C> <C> <C> <C>
INTEREST AVERAGE INTEREST AVERAGE
AVERAGE INCOME OR YIELD OR AVERAGE INCOME OR YIELD OR
BALANCE EXPENSE COST BALANCE EXPENSE COST
-------- --------- -------- -------- --------- --------
<CAPTION>
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C>
ASSETS
Interest-earning assets:
Loans and leases (1)...................................... $464,788 $47,230 10.16% $146,743 $16,383 11.16%
Investment Securities (2)................................. 82,450 4,979 6.04 32,886 1,968 5.98
Federal funds sold........................................ 23,853 1,286 5.39 17,837 934 5.24
Other earning assets...................................... -- -- -- 1,254 67 5.34
-------- --------- -------- ---------
Total interest-earning assets:.......................... 571,091 53,495 9.37% 198,720 19,352 9.74%
Non-earning assets:
Cash and demand deposits with banks....................... 64,934 14,611
Other assets.............................................. 70,302 28,535
-------- --------
Total assets............................................ 706,327 241,866
-------- --------
-------- --------
LIABILITIES AND SHAREHOLDERS' EQUITY
Interest-bearing liabilities:
Deposits
Interest-bearing demand................................. $ 68,824 1,325 1.93% $ 24,464 686 2.80%
Money market............................................ 68,943 2,336 3.39 18,135 493 2.72
Savings................................................. 106,956 5,117 4.78 28,917 1,150 3.98
Time.................................................... 170,809 9,365 5.48 91,987 5,241 5.70
-------- --------- -------- ---------
Total interest-bearing deposits....................... 415,532 18,143 4.37 163,503 7,570 4.63
Short-term borrowing...................................... 12,478 563 4.51 418 13 3.11
Long-term debt............................................ 15,982 1,908 11.94 537 61 11.36
-------- --------- -------- ---------
Total interest-bearing liabilities.................... 443,992 20,614 4.64% 164,458 7,644 4.65%
Noninterest-bearing liabilities:
Demand deposits........................................... 181,481 52,273
Other liabilities......................................... 8,735 4,437
-------- --------
Total liabilities..................................... 634,208 221,168
Shareholders' equity........................................ 72,119 20,698
-------- --------
Total liabilities and shareholders' equity.................. $706,327 $241,866
-------- --------- -------- ---------
-------- --------
Net interest income......................................... $32,881 $11,708
--------- ---------
--------- ---------
Net yield on interest-earning assets........................ 5.76% 5.89%
<CAPTION>
DECEMBER 31, 1995
-----------------------------
<S> <C> <C> <C>
INTEREST AVERAGE
AVERAGE INCOME OR YIELD OR
BALANCE EXPENSE COST
------- --------- --------
<S> <C> <C> <C>
ASSETS
Interest-earning assets:
Loans and leases (1)...................................... $42,272 $4,086 9.67%
Investment Securities (2)................................. 5,061 311 6.15
Federal funds sold........................................ 2,128 117 5.50
Other earning assets...................................... 868 54 6.22
------- ---------
Total interest-earning assets:.......................... 50,329 4,568 9.08%
Non-earning assets:
Cash and demand deposits with banks....................... 3,757
Other assets.............................................. 2,909
-------
Total assets............................................ 56,995
-------
-------
LIABILITIES AND SHAREHOLDERS' EQUITY
Interest-bearing liabilities:
Deposits
Interest-bearing demand................................. $10,492 149 1.42%
Money market............................................ 9,176 231 2.52
Savings................................................. 5,235 115 2.20
Time.................................................... 18,394 1,075 5.84
------- ---------
Total interest-bearing deposits....................... 43,297 1,570 3.63
Short-term borrowing...................................... -- -- --
Long-term debt............................................ 1,776 181 10.19
------- ---------
Total interest-bearing liabilities.................... 45,073 1,751 3.88%
Noninterest-bearing liabilities:
Demand deposits........................................... 11,197
Other liabilities......................................... 806
-------
Total liabilities..................................... 57,076
Shareholders' equity........................................ (81 )
-------
Total liabilities and shareholders' equity.................. $56,995
------- ---------
-------
Net interest income......................................... $2,817
---------
---------
Net yield on interest-earning assets........................ 5.60%
</TABLE>
- ------------------------
(1) Includes the deduction of the average balance in the allowance for loan and
lease losses of $7.6 million, $5.1 million and $639,000 in 1997, 1996 and
1995, respectively. Loan fees of $2.9 million, $1.2 million and $104,000 are
included in the computations for 1997, 1996 and 1995, respectively.
(2) Yields are calculated on historical cost and exclude the impact of the
unrealized gain (loss) on available for sale securities.
52
<PAGE>
The following table sets forth changes in interest income and interest
expense on the basis of allocation to changes in rates and changes in volume of
the various components. Changes due to a combination of rate and volume are
presented under the column titled "Mix." Nonaccrual loans are included in total
loans outstanding while nonaccrued interest thereon is excluded from the
computation of rates earned.
<TABLE>
<CAPTION>
FOR THE YEAR ENDED DECEMBER 31,
------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
1997 COMPARED TO 1996 1996 COMPARED TO 1995
---------------------------------- ------------------------------
<CAPTION>
NET NET
CHANGE RATE VOLUME MIX CHANGE RATE VOLUME MIX
------- ------- ------- ------- ------- ---- ------- ------
(IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Interest Income:
Loans and leases................................ $30,847 $(1,472) $35,507 $(3,188) $12,297 $633 $10,099 $1,565
Investment securities........................... 3,011 18 2,966 27 1,657 (8) 1,710 (45)
Federal funds sold.............................. 352 28 315 9 817 (6) 864 (41)
Other earning assets............................ (67 ) -- (67) -- 13 (8) 24 (3)
------- ------- ------- ------- ------- ---- ------- ------
Total interest income......................... 34,143 (1,426) 38,721 (3,152) 14,784 611 12,697 1,476
Interest Expense:
Interest-bearing demand......................... 639 (215) 1,244 (390) 537 145 199 193
Money market.................................... 1,843 121 1,381 341 262 18 226 18
Savings......................................... 3,967 233 3,104 630 1,035 93 520 422
Time............................................ 4,124 (198) 4,491 (169) 4,166 (27) 4,301 (108)
Short-term borrowing............................ 550 (12) 703 (141) 13 -- -- 13
Long-term debt.................................. 1,847 3 1,754 90 (120 ) 21 (127) (14)
------- ------- ------- ------- ------- ---- ------- ------
Total interest expense........................ 12,970 (68) 12,677 361 5,893 250 5,119 524
------- ------- ------- ------- ------- ---- ------- ------
Net interest income............................... $21,173 $(1,358) $26,044 $(3,513) $8,891 $361 $ 7,578 $ 952
------- ------- ------- ------- ------- ---- ------- ------
------- ------- ------- ------- ------- ---- ------- ------
</TABLE>
NONINTEREST INCOME
Noninterest income increased by $10.0 million to $14.9 million in 1997 from
$4.9 million in 1996. The increase was primarily due to income derived from the
Mortgage Banking Division for twelve months in 1997 compared to only four months
in 1996. In addition, the increase was in part the result of (i) the Eldorado
Acquisition, completed in June 1997, and (ii) the inclusion of a full year of
operations for Liberty and CSB in 1997 as compared to the inclusion of only
partial year in 1996. See "Business."
Noninterest income increased by $4.2 million to $4.9 million in 1996 from
$696,000 in 1995. The increase was primarily due to the high level of
noninterest income earned at Liberty and CSB. The sources of this fee income is
primarily derived from the servicing and sale of SBA loans, the origination and
sale residential mortgages and the sale of small equipment leases.
The following table presents for the periods indicated the major categories
of noninterest income:
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
-------------------------------
<S> <C> <C> <C>
1997 1996 1995
--------- --------- ---------
<CAPTION>
(IN THOUSANDS)
<S> <C> <C> <C>
Service charges on deposit accounts.............................. $ 2,675 $ 760 $ 464
Gains on sale of mortgage loans.................................. 6,887 1,727 --
SBA loan servicing............................................... 2,353 1,519 --
Other income..................................................... 2,989 893 232
--------- --------- ---------
Total noninterest income..................................... $ 14,904 $ 4,899 $ 696
--------- --------- ---------
--------- --------- ---------
</TABLE>
NONINTEREST EXPENSES
Noninterest expense increased by $24.4 million to $39.7 million in 1997 from
$15.3 million in 1996. The increase in expense is largely attributable to the
expenses associated with the acquired operations in
53
<PAGE>
the Liberty and CSB acquisitions for the full year in 1997 compared to only the
partial year in 1996 and from the Eldorado Acquisition in June 1997. Also
included in this increase is the amortization of goodwill, which for 1997 was
$2.2 million compared to $268,000 in 1996. The Company's efficiency ratio was
72.77% for the year ended December 31, 1997, a decrease of 15.83%, from 88.60%
for 1996. For purposes of this Prospectus, the efficiency ratio is defined as
noninterest expense -- excluding the amortization of goodwill and other
intangibles, losses and carrying costs of OREO and nonrecurring provisions for
recourse obligations -- as a percentage of total revenue.
Noninterest expense increased by $11.0 million to $15.3 million in 1996 from
$4.3 million in 1995. The increase in expense is largely attributable to the
expenses of Liberty and CSB. Expenses increased in the categories of salaries
and employee benefits by $5.0 million, occupancy and equipment by $1.9 million
and $4.1 million in other noninterest expenses. Included in this increase is the
amortization of goodwill, which for 1996 was $268,000 and none in 1995. The
Company's efficiency ratio was 88.60% for the year ended December 31, 1996, as
compared to 107.03% for 1995.
The following table presents for the periods indicated the major categories
of noninterest expense:
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
-------------------------------
<S> <C> <C> <C>
1997 1996 1995
--------- --------- ---------
<CAPTION>
(IN THOUSANDS)
<S> <C> <C> <C>
Salaries and employee benefits................................ $ 16,172 $ 6,816 $ 1,811
Non-staff expenses
Occupancy and equipment..................................... 5,959 2,726 861
Professional, regulatory and other services................. 1,230 733 346
Legal....................................................... 1,437 453 113
Insurance................................................... 637 262 114
Losses and carrying costs of OREO........................... 382 288 531
Provision for recourse obligation........................... 2,021 -- --
Amortization of goodwill and other intangibles.............. 2,514 268 --
Other....................................................... 9,336 3,724 515
--------- --------- ---------
Total non-staff expense................................... 23,516 8,454 2,480
--------- --------- ---------
Total noninterest expense............................... $ 39,688 $ 15,270 $ 4,291
--------- --------- ---------
--------- --------- ---------
</TABLE>
PROVISION FOR INCOME TAXES
The Company recorded a tax provision of $3.6 million in 1997 compared to a
net benefit of $1.5 million in 1996. This increase in taxes resulted from higher
pre-tax earnings in 1997 of $6.6 million compared to $822,000 in 1996 combined
with the tax benefit derived in 1996 as described below. The Company's effective
tax rate for 1997 (54.7%) is higher than the applicable statutory rate (42.0%)
because the goodwill amortization is a charge to earnings for financial
statement purposes and is not deductible for federal income tax purposes.
The Company recorded a net benefit for taxes on continuing operations
totaling $1.5 million in 1996 compared to a net benefit of $443,000 in 1995. The
increased benefit in 1996 resulted from the release of the valuation allowance
which had previously been provided against the Company's federal and state
deferred tax assets. That valuation allowance had been provided against the
Company's net operating loss carry forwards and other tax attributes. However,
the Company's operating results adequately supported the realizability of the
deferred tax assets at December 31, 1997 and 1996 and therefore the valuation
allowance was no longer required. Of the $2.0 million total allowance which was
released in 1996, approximately $413,000 was utilized to offset tax expense
related to 1996 operating income, with the additional $1.5 million representing
the aforementioned net benefit. The benefit in 1995 was recognized as an offset
to the tax expense, of $443,000 relating to the extraordinary gain from the
extinguishment of debt in 1995. On a net basis, the Company recorded no tax
expense or benefit in 1995.
54
<PAGE>
FINANCIAL CONDITION
Total assets of the Company at December 31, 1997 were $902.4 million
compared to total assets of $437.1 million at December 31, 1996. The increase in
total assets since December 31, 1996 is primarily due to the Eldorado
Acquisition. Total earning assets of the Company at December 31, 1997 were
$725.6 million compared to total earning assets of $377.8 million at December
31, 1996. Earning assets increased primarily due to the Eldorado Acquisition and
growth in residential mortgage loan originations.
LOANS AND LEASES
Total loans and leases of the Company at December 31, 1997 were $618.3
million, including $96.2 million of mortgage loans held for sale, compared to
$328.6 and $64.9 million, respectively, at December 31, 1996. The increase in
mortgage loans held for sale and the acquisition of loans in the Eldorado
Acquisition account for the increase in total loans and leases.
The following table sets forth the amount of loans and leases outstanding
for the Company at the end of each of the years indicated, according to type of
loan, inclusive of mortgage loans held for sale. The Company has no foreign
loans or energy-related loans as of the dates indicated.
<TABLE>
<CAPTION>
DECEMBER 31,
-------------------------------------------------------
<S> <C> <C> <C> <C> <C>
1997 1996 1995 1994 1993
---------- ---------- --------- --------- ---------
<CAPTION>
(IN THOUSANDS)
<S> <C> <C> <C> <C> <C>
Commercial.............................................. $ 115,919 $ 47,772 $ 16,188 $ 18,936 $ 19,883
Real estate-commercial.................................. 235,244 86,397 -- -- --
Real estate-construction................................ 35,617 18,812 599 1,170 2,137
Real estate-mortgage.................................... 32,132 41,650 15,710 18,060 18,034
Installment loans to individuals........................ 62,323 22,512 6,525 8,201 9,030
Lease financing......................................... 40,819 46,498 -- -- --
---------- ---------- --------- --------- ---------
Subtotal (portfolio loans and leases)................... 522,054 263,641 39,022 46,367 49,084
---------- ---------- --------- --------- ---------
Loans and leases held for sale.......................... 96,230 64,917 -- -- --
---------- ---------- --------- --------- ---------
Total................................................... 618,284 328,558 39,022 46,367 49,084
Less: allowance for loan and lease losses............... (9,395) (5,156) (639) (821) (823)
Deferred loan fees...................................... (3,006) (2,444) (45) (54) (82)
---------- ---------- --------- --------- ---------
Net loans and leases.................................... $ 605,883 $ 320,958 $ 38,338 $ 45,492 $ 48,179
---------- ---------- --------- --------- ---------
---------- ---------- --------- --------- ---------
</TABLE>
55
<PAGE>
The following table shows the amounts of certain categories of loans
outstanding as of December 31, 1997, which, based on remaining scheduled
repayments of principal, were due in one year or less, more than one year
through five years, and more than five years. Demand or other loans having no
stated maturity and no stated schedule of repayments are reported as due in one
year or less. Residential mortgage loans held for sale are recorded as due after
five years.
<TABLE>
<CAPTION>
DECEMBER 31, 1997
------------------------
<S> <C> <C>
COMMERCIAL REAL ESTATE
----------- -----------
<CAPTION>
(IN THOUSANDS)
<S> <C> <C>
Aggregate maturities of loans and leases which are due:
Within one year................................................... $ 72,154 $ 64,608
After one year but within five years:
Interest rates are floating or adjustable......................... 23,764 54,406
Interest rates are fixed or predetermined......................... 6,192 28,376
After 5 years:
Interest rates are floating or adjustable......................... 7,969 111,350
Interest rates are fixed or predetermined......................... 5,840 140,483
----------- -----------
Total........................................................... $ 115,919 $ 399,223
----------- -----------
----------- -----------
</TABLE>
NONPERFORMING ASSETS
The following table shows the total aggregate principal amount of nonaccrual
and other nonperforming loans (accruing loans on which interest or principal is
past due 90 days or more) as of the end of each of the past two years. The
Company's impaired loans pursuant to SFAS 118 are loans that are nonaccrual and
those that have been restructured. For the twelve months ended December 31,
1997, additional gross interest income of $980,000 would have been recorded on
impaired loans, and for calendar year 1996 additional gross interest income of
$474,000 would have been recorded on impaired loans, in each case had the loans
been current. No accrued but unpaid interest income on such loans was in fact
included in the Company's net income as of December 31, 1997 and 1996.
The following table summarizes the loans and leases for which the accrual of
interest has been discontinued and loans and leases more than 90 days past due
and still accruing interest, including those loans and leases that have been
restructured:
<TABLE>
<CAPTION>
DECEMBER 31,
-----------------------------------------------------
<S> <C> <C> <C> <C> <C>
1997 1996 1995 1994 1993
--------- --------- --------- --------- ---------
<CAPTION>
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C> <C>
Nonaccrual loans and leases, not restructured.................. $ 10,589 $ 5,483 $ 1,492 $ 616 $ 637
Accruing loans and leases past due 90 days or more............. 4,638 1,314 46 826 150
Restructured loans and leases.................................. 2,779 2,200 82 1,050 1,605
--------- --------- --------- --------- ---------
Total nonperforming loans and leases ("NPLs").............. 18,006 8,997 1,620 2,492 2,392
--------- --------- --------- --------- ---------
Other real estate owned ("OREO")............................... 2,740 3,635 1,411 1,288 1,446
--------- --------- --------- --------- ---------
Total nonperforming assets ("NPAs")........................ $ 20,746 $ 12,632 $ 3,031 $ 3,780 $ 3,838
--------- --------- --------- --------- ---------
--------- --------- --------- --------- ---------
Selected ratios:
NPLs to total portfolio loans and leases(1).................. 3.5% 3.4% 4.2% 5.4% 4.9%
NPAs to total portfolio loans and leases and OREO(1)......... 4.0 4.7 7.5 7.9 7.6
NPAs to total assets......................................... 2.3 2.9 5.4 6.6 6.2
</TABLE>
- ------------------------
(1) Excludes residential mortgages held for sale.
56
<PAGE>
Loans aggregating $13.4 million at December 31, 1997 were designated as
impaired in accordance with SFAS 114 as amended by SFAS 118. The Company's
impaired loans are all collateral dependent, and as such the method used to
measure the amount of impairment on these loans is to compare the loan amount to
the fair value of collateral. In calculating the allowance for loan and lease
losses that was required under the Company's internal guidelines, management
determined that a minimun of $1.6 million should be included in the allowance at
December 31, 1997 because of the risk to the loan and lease portfolio
represented by impaired loans. At December 31, 1996, loans aggregating $7.7
million were designated as impaired and management determined that a minimum of
$695,000 should be included in the allowance because of the risk to the loan and
lease portfolio represented by such impaired loans.
At December 31, 1997, the Company had OREO properties with an aggregate
carrying value of $2.7 million. During 1997, properties with a total carrying
value of $4.1 million were added to OREO, of which $481,000 was acquired in the
Eldorado Acquisition and $3.6 million was acquired as a result of foreclosures.
During 1997, OREO properties with a total carrying value of $3.9 million were
sold and OREO properties were written down by approximately $1.1 million. At
December 31, 1996, the Company had OREO properties with an aggregate carrying
value of $3.6 million. During 1996, properties with a total carrying value of
$5.5 million were added to OREO, of which $3.2 million was acquired in total in
the Liberty and CSB acquisitions and $2.3 million was acquired as a result of
foreclosures. OREO properties with a total carrying value of $4.1 million were
sold and properties were written down by approximately $72,000 during 1996.
ALLOWANCE FOR LOAN AND LEASE LOSSES
The allowance for loan and lease losses was $9.4 million, or 1.8% of gross
portfolio loans and leases at December 31, 1997, compared to $5.2 million or
1.9% of gross portfolio loans and leases, at December 31, 1996, and $639,000, or
1.6%, of gross portfolio loans and leases at December 31, 1995. The provision
for loan and leases losses for the year ended December 31, 1997 was $1.5 million
compared to $515,000, for the same period in 1996, and $295,000 for the same
period in 1995.
57
<PAGE>
The table below summarizes average loans outstanding, gross portfolio loans,
nonperforming loans and changes in the allowance for possible loan and lease
losses arising from loan and lease losses and additions to the allowance from
provisions charged to operating expense:
<TABLE>
<CAPTION>
DECEMBER 31,
-------------------------------------------------------
<S> <C> <C> <C> <C> <C>
1997 1996 1995 1994 1993
---------- ---------- --------- --------- ---------
<CAPTION>
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C> <C>
Average loans and leases outstanding (1)................ $ 464,788 $ 146,743 $ 42,272 $ 46,979 $ 49,243
Gross portfolio loans and leases (1).................... 522,054 263,641 39,022 46,367 49,084
Nonperforming loans and leases.......................... 18,006 8,997 1,620 2,492 2,392
Allowance for loan and lease losses:
Balance at beginning of period........................ $ 5,156 $ 639 $ 821 $ 823 $ 771
Balance acquired during period........................ 4,076 4,382 -- -- --
Loans charged off during period
Commercial.......................................... 467 430 258 532 687
Leases.............................................. 1,092 -- -- -- --
Real estate......................................... 610 144 115 25 37
Installment......................................... 334 76 329 114 371
---------- ---------- --------- --------- ---------
Total............................................. 2,503 650 702 671 1,095
Recoveries during period
Commercial.......................................... 397 103 121 33 30
Leases.............................................. 33 -- -- -- --
Real estate......................................... 517 61 2 -- 25
Installment......................................... 224 106 102 53 7
---------- ---------- --------- --------- ---------
Total............................................. 1,171 270 225 86 62
---------- ---------- --------- --------- ---------
Net loans charged off during period................. 1,332 380 477 585 1,033
Provision for loan and lease losses................. 1,495 515 295 583 1,085
---------- ---------- --------- --------- ---------
Balance at end of period.......................... $ 9,395 $ 5,156 $ 639 $ 821 $ 823
---------- ---------- --------- --------- ---------
---------- ---------- --------- --------- ---------
Selected ratios:
Net charge-offs to average loans and leases
(annualized)........................................ .29% .26% 1.13% 1.25% 2.10%
Provision for loan and lease losses to average
loans............................................... .32 .35 .70 1.24 2.22
Allowance at end of period to gross portfolio loans
and leases outstanding at end of period............. 1.80 1.96 1.64 1.77 1.68
Allowance as percentage of nonperforming loans and
leases.............................................. 52.18 57.31 39.44 32.95 34.41
</TABLE>
- ------------------------
(1) Excludes residential mortgages held for sale.
58
<PAGE>
The following table indicates management's allocation of the allowance for
each of the following years:
<TABLE>
<CAPTION>
DECEMBER 31,
----------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
1997 1996 1995
---------------------- ---------------------- ----------------------
<CAPTION>
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C>
Allocated amount:
Commercial, financial and agricultural............ $ 799 8.5% $ 980 19.0% $ 32 5.0%
Real estate and construction...................... 1,864 19.8 1,680 32.6 242 37.9
Consumer.......................................... 602 6.4 461 8.9 51 8.0
Unallocated....................................... 6,130 65.3 2,035 39.5 314 49.1
--------- ----- --------- ----- --------- -----
Total........................................... $ 9,395 100.0% $ 5,156 100.0% $ 639 100.0%
--------- ----- --------- ----- --------- -----
--------- ----- --------- ----- --------- -----
</TABLE>
In allocating the Company's allowance for possible loan and lease losses,
management has considered the credit risk in the various loan categories in its
portfolio. As such, the allocations of the allowance for possible loan and lease
losses are based upon the average aggregate historical net loan losses
experienced in each of the acquired subsidiary banks. While the Company has made
a reasonable effort to allocate the allowance to specific categories of loans,
management believes that any allocation of the allowance for possible loan and
lease losses into loan categories lends an appearance of exactness which does
not exist, in that the allowance for possible loan and lease losses is utilized
as a single unallocated allowance available for losses on all types of loans and
leases, and actual losses in loan categories may vary from the amounts allocated
to such categories.
INVESTMENT SECURITIES
Total investments of the Company at December 31, 1997 were $107.3 million
compared to $49.2 million at December 31, 1996. Investment securities increased
largely due to the Eldorado Acquisition. The investment portfolio primarily
consists of U.S. Treasury and U.S. government agencies, state and municipal
securities and mortgage-backed securities that are categorized as
available-for-sale and totaled $67.3 million, or 62.7% of the total portfolio,
at December 31, 1997. The investments of the Company also include Federal funds
sold that were $40.0 million, or 37.3% of the total portfolio at December 31,
1997.
At December 31, 1997, all of the Company's investment securities were
classified as available-for-sale. The amortized cost and estimated market value
of the Company's investments at December 31, 1997 were as follows:
<TABLE>
<CAPTION>
DECEMBER 31, 1997
----------------------------------------------------
<S> <C> <C> <C> <C>
GROSS GROSS ESTIMATED
AMORTIZED UNREALIZED UNREALIZED MARKET
COST GAIN LOSS VALUE
----------- ------------- ----------- -----------
<CAPTION>
(IN THOUSANDS)
<S> <C> <C> <C> <C>
Available-for-sale:
U.S. Treasury................................................... $ 21,415 $ 51 $ -- $ 21,466
U.S. Government Agencies........................................ 13,460 -- -- 13,460
State and municipal securities.................................. 615 -- -- 615
Mortgage-backed securities...................................... 30,725 -- (9) 30,716
Corporate bonds and equities.................................... 1,038 -- -- 1,038
----------- --- ----------- -----------
Total......................................................... $ 67,253 $ 51 $ (9) $ 67,295
----------- --- ----------- -----------
----------- --- ----------- -----------
</TABLE>
59
<PAGE>
The following tables show the maturities of investment securities at
December 31, 1997, and the weighted average yields of such securities:
<TABLE>
<CAPTION>
AFTER ONE YEAR BUT AFTER FIVE YEARS BUT
WITHIN ONE YEAR WITHIN FIVE YEARS WITHIN TEN YEARS AFTER TEN
YEARS
---------------------- ---------------------- ---------------------- ---------
<S> <C> <C> <C> <C> <C> <C> <C>
AMOUNT YIELD AMOUNT YIELD AMOUNT YIELD AMOUNT
--------- ----- --------- ----- --------- ----- ---------
<CAPTION>
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C> <C>
Securities available-for-sale:
U.S. Treasuries.......................... $ 21,466 6.03% $ -- --% $ -- --% $ --
U.S. Government agencies................. 1,500 5.52 8,458 6.13 3,503 7.30 --
State and municipal bonds................ -- -- -- -- 615 7.80 --
Mortgage-backed securities............... 371 7.33 24 8.74 21,743 6.81 8,577
Corporate debt and other................. 538 9.88 500 8.14 -- -- --
--------- --------- --------- ---------
Total investment portfolio............. $ 23,875 6.10% $ 8,982 6.25% $ 25,861 6.90% $ 8,577
--------- --------- --------- ---------
--------- --------- --------- ---------
<CAPTION>
<S> <C>
YIELD
-----
<S> <C>
Securities available-for-sale:
U.S. Treasuries.......................... --%
U.S. Government agencies................. --
State and municipal bonds................ --
Mortgage-backed securities............... 7.44
Corporate debt and other................. --
Total investment portfolio............. 7.44%
</TABLE>
Additional information concerning investment securities is provided in the
notes to the accompanying financial statements.
DEPOSITS
Total deposits were $765.2 million at December 31, 1997 compared to $383.0
million at December 31, 1996. The increase in total deposits since December 31,
1996 is attributed to the deposits acquired in the Eldorado Acquisition.
Noninterest-bearing demand accounts were $289.3 million, or 37.8% of total
deposits, at December 31, 1997. Interest-bearing deposits are comprised of
interest-bearing demand accounts, regular savings accounts, money market
accounts, time deposits of under $100,000 and time deposits of $100,000 or more
which were $97.4 million, $98.5 million, $98.2 million, $99.7 million and $82.1
million, respectively, or 12.7%, 12.9%, 12.8%, 13.1% and 10.7% of total
deposits, respectively, at December 31, 1997. See "Business -- Products and
Services."
The following table shows the average balance and average rate paid on the
categories of deposits for each of years indicated:
<TABLE>
<CAPTION>
1997 1996 1995
----------------------- ----------------------- ----------------------
<S> <C> <C> <C> <C> <C> <C>
AVERAGE AVERAGE AVERAGE AVERAGE AVERAGE AVERAGE
BALANCE RATE BALANCE RATE BALANCE RATE
---------- ----------- ---------- ----------- --------- -----------
<CAPTION>
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C>
Noninterest-bearing demand............... $ 181,481 0.00% $ 52,273 0.00% $ 11,197 0.00%
Interest-bearing demand.................. 68,824 1.93 24,464 2.80 10,492 1.42
Money market............................. 68,943 3.39 18,135 2.72 9,176 2.52
Savings.................................. 106,956 4.78 28,917 3.98 5,235 2.20
Time..................................... 170,809 5.48 91,987 5.70 18,394 5.84
---------- ---------- ---------
Total................................ $ 597,013 3.04% $ 215,776 3.51% $ 54,494 2.88%
---------- ---------- ---------
---------- ---------- ---------
</TABLE>
A significant amount of the Company's interest-bearing deposits are
generated from title and escrow companies that customarily do not deposit funds
with the Bank until mortgage funding occurs, which is typically a month-end
event. See "Risk Factors -- Reliance on Certain Funding Sources" and "Business
- -- Products and Services -- Community Banking Division."
60
<PAGE>
The following table shows the maturities of time certificates of deposits of
$100,000, or more at December 31, 1997:
<TABLE>
<CAPTION>
DECEMBER 31, 1997
-----------------
<S> <C>
(IN THOUSANDS)
Due in three months or less................................................ $ 42,195
Due in over three months through six months................................ 28,512
Due in over six months through twelve months............................... 8,033
Due in over twelve months.................................................. 3,336
-------
Total.................................................................. $ 82,076
-------
-------
</TABLE>
BORROWINGS
Borrowings of the Company increased to $30.2 million at December 31, 1997
from $5.0 million at December 31, 1996. The increase in borrowings was primarily
due to the issuance of subordinated debentures to fund a portion of the Eldorado
Acquisition.
CAPITAL RESOURCES
Current risk-based regulatory capital standards generally require banks and
holding companies to maintain a ratio of "core" or "Tier 1" capital (consisting
principally of common equity) to adjusted total assets ("Tier 1 Leverage Ratio")
of at least 3%, a ratio of Tier 1 Capital to risk-weighted assets of at least 4%
("Tier 1 Risk-Weighted Ratio"), and a ratio of total capital (which includes
Tier 1 capital plus certain forms of subordinated debt, a portion of the
allowance for loan and lease losses and preferred stock) to risk-weighted assets
("Total Risk-Weighted Ratio") of at least 8%. Risk-weighted assets are
calculated by multiplying the balance in each category of assets according to a
risk factor which ranges from zero for cash assets and certain government
obligations to 100% for some types of loans and adding the products together.
See "Supervision and Regulation -- Capital Adequacy Requirements."
The Company and the Bank were well capitalized June 30, 1998 for federal
regulatory purposes. As of June 30, 1998, both the Company and the Bank had Tier
1 Leverage Ratios of 6.6%, Tier 1 Risk-Weighted Ratios of 8.9% and Total
Risk-Weighted Ratios of 10.0%.
LIQUIDITY
The Company relies on deposits as its principal source of funds and,
therefore, must be in a position to service depositors' needs as they arise.
Management attempts to maintain a loan-to-deposit ratio of not greater than 80%
and a liquidity ratio (liquid assets, including cash and due from banks, Federal
funds sold and investment securities, to deposits) of approximately 20%. The
average loan-to-deposit ratio was 88% for the six months ended June 30, 1998,
78% in 1997, 68% in 1996 and 78% in 1995. The average liquidity ratio was 19%
for the six months ended June 30, 1998, 29% in 1997, 30% in 1996 and 22% in
1995. At June 30, 1998, the Company's loan-to-deposit ratio was 69% and the
liquidity ratio was 20.8%. While fluctuations in the balances of a few large
depositors cause temporary increases and decreases in liquidity from time to
time, the Company has not experienced difficulty in dealing with such
fluctuations from existing liquidity sources. See "Risk Factors -- Reliance on
Certain Funding Sources."
Should the level of liquid assets (primary liquidity) not meet the liquidity
needs of the Company, other available sources of liquid assets (secondary
liquidity), including the purchase of Federal funds, sale of securities under
agreements to repurchase, sale of loans, window borrowing from the Federal
Reserve Bank and, to a lesser extent, borrowings from the FHLB, could be
employed. The Company has relied primarily upon the purchase of Federal funds
and the sale of securities under agreements to repurchase for secondary sources
of liquidity. At June 30, 1998, the Company had $17.0 million of unused
borrowing capacity under FHLB advances. In order to borrow from the Federal
Reserve, the Company would be required to physically deliver to the Federal
Reserve collateral consisting of marketable Government securities. At June 30,
1998, the Company has no such collateral at the Federal Reserve. The Company
believes that it could deliver to the Federal Reserve collateral sufficient to
support up to $19.0 million of window borrowings.
61
<PAGE>
YEAR 2000 PREPAREDNESS
The Year 2000 issue is a computer programming concern that may affect many
electronic processing systems. Until relatively recently, in order to minimize
the length of data fields, most computer programs eliminated the first two
digits of the year. This problem could affect computers leaving them unable to
distinguish dates in the twentieth and twenty-first centuries. For example,
date-sensitive calculations that treat "00" as the year 1900, rather than 2000.
Secondly, years that end in "00" are not leap years, except for an anomaly in
the year 2000. This anomaly could result in miscalculations when processing
critical date-sensitive information relating to periods after December 31, 1999.
The Year 2000 issue may adversely affect the Company's information
technology systems, such as its item and data processing applications. The Year
2000 issue also may affect so-called embedded technology, such as
microprocessors that control some of the Company's security systems and
telecommunication equipment.
The Company has determined that a few of its computer software applications
will need to be modified or replaced in order to maintain their functionality as
the year 2000 approaches. In response, a plan has been developed that provides
for the assessment of its material internal systems, programs and data
processing applications as well as those provided to the Bank by third-party
vendors. The Company expects that system conversions and testing will be
substantially completed by December 31, 1998. Based upon the Company's
evaluation of its Year 2000 preparedness, management does not expect that the
Year 2000 issue as it relates to information systems and embedded technology
that are within the Company's direct control will have a material adverse effect
on the Company's business, financial condition or results of operations.
However, Year 2000 problems may turn out to exist in portions of computer
programs not now suspected, and there can be no assurance that the Company will
not be adversely affected by this problem. See "Risk Factors -- Year 2000
Preparedness."
Ultimately, the potential impact of the Year 2000 issue will depend not only
on the corrective measures the Company undertakes, but also on the way in which
the Year 2000 issue is addressed by governmental agencies, businesses and other
entities who provide data to, or receive data from the Bank or whose financial
condition or operational capability is important to the Company such as
significant suppliers or customers. Communications with significant customers
and vendors have been initiated to determine the extent of risk created by those
third parties' failure to remediate their own Year 2000 issues; however, it is
not possible, at present, to determine the financial effect if a significant
customer's and/or vendor's remediation efforts are not completed in a timely
manner. See "Risk Factors -- Year 2000 Preparedness." The vendor to which the
Community Banking Division has outsourced its data and item processing received
a "satisfactory" rating in 1998 from the Federal Financial Institutions
Examination Council ("FFIEC") (the umbrella organization of federal bank
regulators) with respect to the status of that vendor's preparedness for the
Year 2000 issue.
In addition, because the Company's day-to-day operations are heavily
dependent on its ability to communicate information throughout its network of
branches and loan production offices, the Company would be particularly
susceptible to any possible effects that the Year 2000 issue has on local and
national communications systems, including without limitation, telephone and
data lines, because of the difficultly in implementing viable contingency plans.
Any interruption or malfunction of such systems could have a material adverse
effect on the Company.
Furthermore, bank regulatory agencies, as part of their supervisory
function, have recently issued guidance under which they are assessing and will
assess Year 2000 readiness. The failure of a financial institution, such as the
Company, to take appropriate steps to address deficiencies in its Year 2000
project management process may result in one or more regulatory enforcement
actions which could have a material adverse effect on such institution. Such
actions may include the imposition of civil money penalties, or result in the
delay or denial of regulatory applications. In the latest joint examination of
the
62
<PAGE>
Bank by the Federal Reserve and the DFI, the Bank received a "satisfactory"
rating with respect to its Year 2000 plan and level of preparedness.
The Company's noninterest expense for 1997 did not include any costs
associated with the Year 2000 issue, and the Company estimates its total costs
during the period from January 1, 1998 through December 31, 1999 will be less
than $500,000, and none of those costs are expected to materially affect the
Company's results of operations in any one reporting period. In light of the
complexity of the Year 2000 problem and its potential effect on both the Company
and third parties that interact with the Company, however, there can be no
assurance that the Company's costs associated with the Year 2000 issue will be
as estimated. The Company does not intend to obtain insurance against any Year
2000 risks.
QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Market risk is the risk of loss in a financial instrument arising from
adverse changes in market prices and rates, foreign currency exchange rates,
commodity prices and equity prices. The Company's market risk arises primarily
from interest rate risk inherent in its lending and deposit taking activities.
To that end, management actively monitors and manages its interest rate risk
exposure. The Company does not have any market risk sensitive instruments
acquired for trading purposes. The Company manages its interest rate sensitivity
by matching the repricing opportunities on its earning assets to those on its
funding liabilities. Management uses various asset/liability strategies to
manage the repricing characteristics of its assets and liabilities to ensure
that exposure to interest rate fluctuations is limited within Company guidelines
of acceptable levels of risk-taking. Hedging strategies, including the terms and
pricing of loans and deposits, and managing the deployment of its securities are
used to reduce mismatches in interest rate repricing opportunities of portfolio
assets and their funding sources.
When appropriate, management may utilize off balance sheet instruments such
as interest rate floors, caps and swaps to hedge its interest rate position. A
Board of Directors approved hedging policy statement governs use of these
instruments. As of June 30, 1998, the Company had not utilized any interest rate
swap or other such financial derivative to alter its interest rate risk profile.
One way to measure the impact that future changes in interest rates will
have on net interest income is through a cumulative gap measure. The gap
represents the net position of assets and liabilities subject to repricing in
specified time periods. Generally, a liability sensitive gap position indicates
that there would be a net positive impact on the net interest margin of the
Company for the period measured in a declining interest rate environment since
the Company's liabilities would reprice to lower market rates before its assets
would. A net negative impact would result from an increasing interest rate
environment. Conversely, an asset sensitive gap indicates that there would be a
net positive impact on the net interest margin in a rising interest rate
environment since the Company's assets would reprice to higher market interest
rates before its liabilities would, while a net negative impact would result
from a declining rate environment.
The following table sets forth the distribution of repricing opportunities
of the Company's interest-earning assets and interest-bearing liabilities, the
interest rate sensitivity gap (i.e., interest rate sensitive assets less
interest rate sensitive liabilities), cumulative interest-earning assets and
interest-bearing liabilities, the cumulative interest rate sensitivity gap, the
ratio of cumulative interest-earning assets to cumulative interest-bearing
liabilities and the cumulative gap as a percentage of total assets and total
interest-earning assets as of June 30, 1998. The table also sets forth the time
periods during which interest-earning assets and interest-bearing liabilities
will mature or may reprice in accordance with their contractual terms. The
interest rate relationships between the repriceable assets and repriceable
liabilities are not necessarily constant and may be affected by many factors,
including the behavior of customers in response to changes in interest rates.
This table should, therefore, be used only as a guide as to the possible effect
changes in interest rates might have on the net margins of the Company.
63
<PAGE>
<TABLE>
<CAPTION>
JUNE 30, 1998
--------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
AMOUNTS MATURING OR REPRICING IN
--------------------------------------------------------------------
<CAPTION>
OVER 3
MONTHS OVER 1
3 MONTHS TO 12 YEAR TO OVER NON-
OR LESS MONTHS 5 YEARS 5 YEARS SENSITIVE(1) TOTAL
----------- --------- --------- --------- ----------- ---------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C>
ASSETS
Cash and due from banks............................ $ -- $ -- $ -- $ -- $ 160,245 $ 160,245
Federal funds sold................................. -- -- -- -- -- --
Investment securities.............................. 6,005 -- 18,945 36,066 38 61,054
Loans and leases................................... 319,130 43,356 90,113 59,751 -- 512,350
Loans held for sale................................ 187,603 -- -- -- -- --
Other assets(2).................................... -- -- -- -- 102,058 102,058
----------- --------- --------- --------- ----------- ---------
Total assets................................. $ 512,738 $ 43,356 $ 109,058 $ 95,817 $ 262,341 $1,023,310
----------- --------- --------- --------- ----------- ---------
----------- --------- --------- --------- ----------- ---------
LIABILITIES AND SHAREHOLDERS' EQUITY
Noninterest-bearing demand deposits................ $ -- $ -- $ -- $ -- $ 256,166 $ 256,166
Interest-bearing demand, money market and
savings.......................................... 377,414 -- -- -- -- 377,414
Time certificates of deposit....................... 89,955 136,844 16,136 87 -- 243,022
Short-term debt.................................... 3,374 -- -- -- -- 3,374
Long-term debt..................................... -- -- 473 27,657 -- 28,130
Other liabilities.................................. -- -- -- -- 17,510 17,510
Shareholders' equity............................... -- -- -- -- 97,694 97,694
----------- --------- --------- --------- ----------- ---------
Total liabilities and shareholders' equity... $ 470,743 $ 136,844 $ 16,609 $ 27,744 $ 371,370 $1,023,310
----------- --------- --------- --------- ----------- ---------
----------- --------- --------- --------- ----------- ---------
Period Gap......................................... $ 41,228 $ (93,488) $ 92,449 $ 68,073 $(109,029)
Cumulative interest-earning assets................. 512,738 556,094 665,152 760,969
Cumulative interest-bearing liabilities............ 470,743 607,587 624,196 651,940
Cumulative Gap..................................... 41,995 (51,493) 40,956 109,029
Cumulative interest-earning assets to cumulative
interest-bearing liabilities..................... 1.09 0.92 1.07 1.17
Cumulative Gap as a percent of:
Total assets................................. 4.10% (5.03)% 4.00% 10.65%
Interest-earning assets...................... 5.52 (6.77) 5.38 14.33
</TABLE>
- ------------------------
(1) Assets or liabilities which are not interest rate sensitive.
(2) Allowance for possible loan losses of $7.8 million as of June 30, 1998 is
included in other assets.
At June 30, 1998, the Company had $556.1 million in assets and $607.6
million in liabilities repricing within one year. Therefore, $51.5 million more
in interest rate sensitive liabilities than interest rate sensitive assets will
change to the then current rate (changes occur due to the instruments being at a
variable rate or because the maturity of the instrument requires its replacement
at the then current rate). The ratio of interest earning assets to interest
bearing liabilities maturing or repricing within one year at June 30, 1998 was
.92, and management tries to maintain this ratio as close to 1.0 as possible
while remaining in a range between .80 and 1.20. Interest expense is likely to
be affected to a greater extent than interest income for any change in interest
rates within one year from June 30, 1998. If rates were to fall during this
period, interest expense would decline by a greater amount than interest income
and net income would increase. Conversely, if rates were to rise, the reverse
would apply, and the Company's net income would decrease.
Since interest rate changes do not affect all categories of assets and
liabilities equally or simultaneously, a cumulative gap analysis alone cannot be
used to evaluate the Company's interest rate sensitivity position. To supplement
traditional gap analysis, the Company performs simulation modeling to estimate
the potential effects of changing interest rates. The process allows the Company
to explore the complex relationships within the gap over time and various
interest rate environments. Based upon the Company's interest rate shock
simulations, net interest income is expected to decrease approximately 1.5% with
a 200 basis point instantaneous increase to interest rates and increase
approximately 1.5% with a 200 basis point
64
<PAGE>
instantaneous decrease in rates. Management has a target of minimizing the
decline in net interest income to no more than 4.0% given a 200 basis point
instantaneous decrease in rates.
The preceding sensitivity analysis does not represent a forecast and should
not be relied upon as being indicative of expected operating results. These
hypothetical estimates are based upon numerous assumptions, including the nature
and timing of interest rate levels including the shape of the yield curve
prepayments on loans and securities, changes in deposit levels, pricing
decisions on loans and deposits, reinvestment and replacement of asset and
liability cashflows and others. While assumptions are developed based upon
current economic and local market conditions, the Company cannot make any
assurances as to the predictive nature of these assumptions including how
customer preferences or competitor influences might change.
Also, as market conditions vary from those assumed in the sensitivity
analysis, actual results will also differ because of prepayment and refinancing
levels likely deviating from those assumed, the varying impact of interest rate
change caps or floors on adjustable rate loans, depositor withdrawals and
product preference changes, and other internal and external variables.
Furthermore, the sensitivity analysis does not reflect actions that management
might take in responding to or anticipating changes in interest rates.
Management has taken several steps to reduce the positive gap of the Company
by lengthening the maturities in its investment portfolio and originating more
fixed-rate assets that mature or reprice in balance with its interest bearing
liabilities. Management will continue to maintain a balance between its interest
earning assets and interest bearing liabilities in order to minimize the impact
on net interest income due to changes in market rates.
65
<PAGE>
The following table sets forth the distribution of the expected maturities
of the Company's interest-earning assets and interest-bearing liabilities, as
well as the fair value of these instruments. Expected maturities are based on
contractual payments without effect being given for the estimated effect of
prepayments. Savings accounts and interest-bearing transaction accounts, which
have no stated maturity, are included in the one year or less maturity category.
<TABLE>
<CAPTION>
DECEMBER 31, 1997
-----------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C>
EXPECTED MATURITY
-----------------------------------------------------------------------------
<CAPTION>
1998 1999 2000 2001 2002 THEREAFTER TOTAL
--------- --------- --------- --------- --------- ----------- ---------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C> <C>
Federal funds sold........................... $ 40,000 $ -- $ -- $ -- $ -- $ -- $ 40,000
Weighted average rate...................... 5.50 -- -- -- -- -- 5.50
Investment securities........................ 23,837 1,985 3,980 2,517 500 34,438 67,257
Weighted average rate...................... 6.10 5.72 6.12 6.50 8.14 7.03 6.60
Fixed rate loans and leases.................. 55,698 19,193 22,331 20,760 23,986 65,459 207,427
Weighted average rate...................... 10.02 10.96 10.06 10.20 9.56 10.28 10.16
Variable rate loans.......................... 109,036 14,958 19,085 22,198 26,832 122,518 314,627
Weighted average rate...................... 9.50 10.10 10.04 9.91 9.39 10.08 9.81
Loans held for sale.......................... 96,230 -- -- -- -- -- 96,230
Weighted average rate...................... 7.25 -- -- -- -- -- 7.25
--------- --------- --------- --------- --------- ----------- ---------
Total interest earning assets................ $ 324,801 $ 36,136 $ 45,396 $ 45,475 $ 51,318 $ 222,415 $ 725,541
--------- --------- --------- --------- --------- ----------- ---------
--------- --------- --------- --------- --------- ----------- ---------
Interest bearing demand, money market and
savings.................................... $ 294,070 $ -- $ -- $ -- $ -- $ -- $ 294,070
Weighted average rate...................... 3.59 -- -- -- -- -- 3.59
Time deposits................................ 174,211 7,578 -- -- -- -- 181,789
Weighted average rate...................... 5.67 5.59 -- -- -- -- 5.66
Subordinated debentures...................... -- -- -- -- -- 27,657 27,657
Weighted average rate...................... -- -- -- -- -- 11.75 11.75
Other borrowings............................. 2,587 -- -- -- -- -- 2,587
Weighted average rate...................... 6.49 -- -- -- -- -- 6.49
--------- --------- --------- --------- --------- ----------- ---------
Total interest-bearing liabilities........... $ 470,868 $ 7,578 $ -- $ -- $ -- $ 27,657 $ 506,103
--------- --------- --------- --------- --------- ----------- ---------
--------- --------- --------- --------- --------- ----------- ---------
<CAPTION>
<S> <C>
FAIR
VALUE
---------
<S> <C>
Federal funds sold........................... $ 40,000
Weighted average rate......................
Investment securities........................ 67,257
Weighted average rate......................
Fixed rate loans and leases.................. 210,294
Weighted average rate......................
Variable rate loans.......................... 317,442
Weighted average rate......................
Loans held for sale.......................... 97,192
Weighted average rate......................
---------
Total interest earning assets................ $ 732,185
---------
---------
Interest bearing demand, money market and
savings.................................... $ 291,129
Weighted average rate......................
Time deposits................................ 181,946
Weighted average rate......................
Subordinated debentures...................... 27,657
Weighted average rate......................
Other borrowings............................. 2,587
Weighted average rate......................
---------
Total interest-bearing liabilities........... $ 503,319
---------
---------
</TABLE>
In management's opinion, there has not been a material change in the
Company's market risk profile during the six months ended June 30, 1998.
ECONOMIC CONSIDERATIONS
CALIFORNIA ECONOMY
The financial condition of the Company has been, and is expected to continue
to be, affected primarily by overall general economic conditions and the real
estate market in California. The commercial banking activity of the Company
concentrates on serving the needs of small and medium-size businesses,
professionals and individuals located primarily in the counties of Orange,
Sacramento and San Diego. The residential mortgage origination activity is
centered in the five western states of the United States, and originations of
small equipment leases are done throughout the country with a concentration in
Northern California.
Although the general economy in Southern California has recovered
substantially from the prolonged recession that had adversely affected the
ability of certain borrowers to satisfy their obligations to the Company, the
Company's financial condition and operating results are subject to changes in
economic conditions in that region. Moreover, there can be no assurance that
conditions will not deteriorate in the future and that such deterioration will
not have a material adverse effect on the Company's financial condition or
results of operations.
66
<PAGE>
In 1997, California's Gross State Product ("GSP") exceeded $1.0 trillion,
with exports to foreign countries totaling $110 billion or 10.7% of the State's
GSP. California, with its greater dependence on Asian trade and investment, is
more at risk from Asia's economic problems than the rest of the United States.
Exports to Asian countries represented 47% of California's total exports,
compared to 29% for the U.S. as a whole. Despite a moderate (1.8%) drop in
export to Asian countries, California's total exports increased by 6% in 1997
primarily as a result of an increase in growing exports to Mexico, Canada,
Australia and Western Europe. There can be no assurance that the State's economy
will not be adversely affected by prolonged weakness in one or more of the Asian
economies. Weaker Asian demand for products and services could potentially
result in job losses, primarily in the high-tech manufacturing, engineering,
travel and entertainment industries. The Los Angeles area is among the most
vulnerable regions in California with its relatively heavy concentration of
high-tech, engineering and entertainment firms. There can be no assurance that a
deterioration of economic conditions in California as a result of Asia's
economic problems will not have a material adverse effect on the Company's
business, financial condition or result of operations.
In addition, a substantial portion of the Company's assets consist of loans
secured by real estate in Southern California with a lesser concentration in
Northern California. Historically, these areas have experienced on occasion
significant natural disasters, including earthquakes, brush fires and, recently,
flooding attributed to the weather phenomenon known as "El Nino." Accordingly,
the availability of insurance for losses from such catastrophes is limited. The
occurrence of one or more such catastrophes could impair the value of the
collateral for the Company's real estate secured loans and have a material
adverse effect on the Company's financial condition and results of operations.
INFLATION
The majority of the Company's assets and liabilities are monetary items held
by the Company, the dollar value of which is not affected by inflation. Only a
small portion of total assets is in premises and equipment. The lower inflation
rate of recent years did not have the positive impact on the Company that was
felt in many other industries. The small fixed asset investment of the Company
minimizes any material misstatement of asset values and depreciation expenses
which may result from fluctuating market values due to inflation. A higher
inflation rate, however, may increase operating expenses or have other adverse
effects on borrowers of the Company, making collection more difficult for the
Company. Rates of interest paid or charged generally rise if the marketplace
believes inflation rates will increase. See "Risk Factors -- Potential Impact of
Changes in Interest Rates."
ACCOUNTING CHANGES
In June 1996 the Financial Accounting Standards Board (FASB) issued
Statement of Financial Accounting Standards 125, "Accounting for Transfers and
Servicing of Financial Assets and Extinguishments of Liabilities" (SFAS 125).
This Statement provides consistent accounting and reporting standards for the
transfers and servicing of financial assets and the extinguishment of
liabilities. The Company adopted SFAS 125 effective January 1, 1997 and it did
not have a material impact on the Company's financial statements.
In February 1997 the FASB issued SFAS 128, "Earnings per Share." This
Statement established new standards for computing and presenting earnings per
share and requires all prior period earnings per share data be restated to
conform with the provisions of the statement. Basic earnings per share is
computed by dividing net income available to common shareholders by the weighted
average number of shares outstanding during the period, as restated for shares
issued in business combinations accounted for as poolings-of-interests and stock
dividends. Diluted earnings per share is computed using the weighted average
number of shares determined for the basic computation plus the number of shares
of common stock that would be issued assuming all contingently issuable shares
having a dilutive effect on earnings per share were outstanding for the period.
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In June 1997 the FASB issued SFAS 130, "Reporting Comprehensive Income."
This Statement requires all enterprises to report comprehensive income as a
measure of overall performance. Comprehensive income is the change to equity
(net assets) of a business during a period. The Statement includes the
guidelines for the calculations and required presentations. For the Company,
this new standard is effective for 1998 and is not expected to have a material
impact on the Company's financial statements.
In June 1997 the FASB issued SFAS 131, "Disclosures About Segments of an
Enterprise and Related Information." This statement will change the way public
companies report information about segments of their business in their annual
financial statements and require them to report selected segment information in
their quarterly reports issued to shareholders. Companies will be required to
disclose segment data based upon how management makes decisions about allocating
resources to segments and measuring performance. For the Company, this new
standard is effective for 1998 and the impact, if any, is yet to be determined.
In February 1998 the FASB issued SFAS 132, "Employer's Disclosures about
Pensions and other Post-Retirement Benefits." This Statement standardizes the
disclosure requirements for pensions and other post-retirement benefits to the
extent practicable. For the Company, this new standard is effective for 1998.
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SUPERVISION AND REGULATION
OVERVIEW
The Company is a registered bank holding company under the BHC Act, and it
is subject to regulation, supervision and periodic examination by the Federal
Reserve.
As a California state-licensed bank, the Bank is subject to regulation,
supervision and periodic examination by the DFI, and as a member of the Federal
Reserve System, the Bank is subject to regulation, supervision and periodic
examination by the Federal Reserve. The Bank's deposits are insured by the FDIC
to the maximum amount permitted by law, which is currently $100,000 per
depositor in most cases. The regulations of those state and federal bank
regulatory agencies govern most aspects of the Bank's business and operations,
including but not limited to, the scope of its business, its investments, its
reserves against deposits, the nature and amount of any collateral for loans,
the timing of availability of deposited funds, the issuance of securities, the
payment of dividends, bank expansion and bank activities, including real estate
development and insurance activities.
The federal and state banking agencies have broad enforcement powers over
the Company and the Bank, including the power to impose substantial fines and
other civil and criminal penalties, to terminate deposit insurance and to
appoint a conservator or receiver for the Bank under a variety of circumstances.
LIMITATIONS ON BANK HOLDING COMPANY ACTIVITIES
With certain limited exceptions, the BHC Act requires every bank holding
company to obtain the prior approval of the Federal Reserve before undertaking
any of the following activities: (i) acquiring direct or indirect ownership or
control of any voting shares of another bank or bank holding company if, after
such acquisition, it would own or control more than 5% of any class of voting
shares (unless it already owns or controls the majority of such shares); (ii)
acquiring all or substantially all of the assets of another bank or bank holding
company; or (iii) merging or consolidating with another bank holding company.
The Federal Reserve will not approve any acquisition, merger or consolidation
that would have a substantially anti-competitive result, unless the
anti-competitive effects of the proposed transaction are clearly outweighed in
the public interest by the probable effect of the transaction in meeting the
convenience and needs of the community to be served. The Federal Reserve also
considers capital adequacy and other financial and managerial factors, as well
as compliance with the Community Reinvestment Act of 1977 (the "CRA"), in
reviewing proposed acquisitions or mergers.
With certain exceptions, the BHC Act also prohibits a bank holding company
from acquiring or retaining direct or indirect ownership or control of more than
5% of the voting shares of any company which is not a bank or bank holding
company, or from engaging directly or indirectly in activities other than those
of banking, managing or controlling banks, or providing services for its
subsidiaries. The principal exceptions to those prohibitions involve certain
non-bank activities which, by statute or by Federal Reserve regulation or order,
have been identified as activities closely related to the business of banking or
of managing or controlling banks. In making that determination, the Federal
Reserve considers whether the performance of such activities by a bank holding
company can be expected to produce benefits to the public such as greater
convenience, increased competition or gains in efficiency, which can be expected
to outweigh the risks of possible adverse effects such as undue concentration of
resources, decreased or unfair competition, conflicts of interest or unsound
banking practices.
Furthermore, under the BHC Act, a bank subsidiary of a bank holding company
is prohibited from engaging in certain tie-in arrangements in connection with
any extension of credit, lease or sale of property, or furnishing of services.
For example, in general, the Bank may not condition the extension of credit to a
customer upon the customer obtaining other services from the Company or any of
its other subsidiaries, or upon the customer promising not to obtain services
from a competitor.
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CAPITAL ADEQUACY REQUIREMENTS
The Company and the Bank are subject to regulations of the Federal Reserve
governing capital adequacy, which incorporate both risk-based and leverage
capital requirements. Those risk-based and leverage capital guidelines set total
capital requirements and define capital in terms of "core capital elements," or
Tier 1 capital, and "supplementary capital elements," or Tier 2 capital. The
maximum amount of supplementary capital which qualifies as Tier 2 capital is
limited to 100% of Tier 1 capital, net of goodwill and certain other
intangibles.
Banks and bank holding companies are required to maintain a minimum ratio of
qualifying total capital to risk-weighted assets of 8%, at least one-half of
which must be in the form of Tier 1 capital. Risk-based capital ratios are
calculated with reference to risk-weighted assets, including both on and
off-balance sheet exposures, which are multiplied by certain risk weights
assigned by the Federal Reserve to those assets.
The Federal Reserve has established a minimum leverage ratio of Tier 1
capital to quarterly average assets (the "Tier 1 Leverage Ratio") of 3% for bank
holding companies and member banks that have received the highest composite
regulatory rating and for bank holding companies and member banks that have
implemented the Federal Reserve's risk-based capital measure for market risk.
All other banking holding companies and member banks are required to maintain a
Tier 1 Leverage Ratio of at least 4%. Banking organizations with supervisory,
financial, operational, and managerial weaknesses, as well as organizations
experiencing significant growth, are expected to maintain capital ratios above
the minimum levels. If the Company or the Bank fails to maintain the required
capital levels, the Federal Reserve may issue a capital directive to require an
increase in capital levels.
The Federal Reserve's risk-based capital standards also require the Company
and the Bank to take adequate account of concentrations of credit and the risks
of non-traditional activities. Concentrations of credit refers to situations
where a lender has a relatively large proportion of loans involving one
borrower, industry, location, collateral or loan type. Non-traditional
activities are considered those that have not customarily been part of the
banking business but that start to be conducted as a result of developments in,
for example, technology or financial markets. The regulations require
institutions with high or inordinate levels of risk to operate with higher
minimum capital standards. The Federal Reserve is also authorized to review an
institution's management of concentrations of credit risk for adequacy and
consistency with safety and soundness standards regarding internal controls,
credit underwriting or other operational and managerial areas.
The Federal Reserve's risk-based capital regulations also include standards
for interest rate risk exposures. Interest rate risk is the exposure of a bank's
current and future earnings and equity capital arising from adverse movements in
interest rates. While interest rate risk is inherent in the Bank's role as
financial intermediary, it introduces volatility to the Bank's earnings and to
the economic value of the Bank. The capital standards provide that Bank's
exposure to declines in the economic value of its capital, due to changes in
interest rates, is a factor that the Federal Reserve will consider in evaluating
an institution's capital adequacy. Bank examiners will consider the Bank's
historical financial performance and its earnings exposure to interest rate
movements, as well as qualitative factors such as the adequacy of the Bank's
internal interest rate risk management. The Federal Reserve and the other
banking agencies have elected not to pursue a standardized measure and explicit
capital charge for interest rate risk.
In certain circumstances, the Federal Reserve may determine that the capital
ratios for a state member bank must be maintained at levels which are higher
than the minimum levels required by the guidelines or the regulations. In
particular, bank holding companies contemplating significant expansion proposals
are expected to maintain capital levels significantly above the minimum levels
required by the guidelines. Neither the Company nor the Bank has been advised by
any bank regulatory agency that it must maintain a specific Tier 1 Leverage
Ratio in excess of the minimum levels specified in the capital guidelines,
although in connection with the application to the Federal Reserve for approval
to complete
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the Eldorado Acquisition, the Company was required to have a pro forma Tier 1
Leverage Ratio of 6.0%, a Total Risk-Weighted Ratio of 10.0% and a Tier 1
Risk-Weighted Ratio of 6.0%. In addition, in connection with the Eldorado
Acquisition, the Company agreed that it will not incur any debt without the
prior approval of the Federal Reserve.
REGULATORY RESTRICTIONS ON DISTRIBUTIONS TO SHAREHOLDERS
STOCK REDEMPTIONS. Bank holding companies, such as the Company, are
required to give the Federal Reserve notice of any purchase or redemption of
their outstanding equity securities if the gross consideration for the purchase
or redemption, when combined with the net consideration paid for all such
purchases or redemptions during the preceding 12 months, is equal to 10% or more
of the bank holding company's consolidated net worth. The Federal Reserve may
disapprove such a purchase or redemption if it determines that the proposal
would constitute an unsafe or unsound practice or would violate any law,
regulation, Federal Reserve order, directive, or any condition imposed by, or
written agreement with, the Federal Reserve. A bank holding company whose
capital ratios exceeds the thresholds for "well capitalized" banks on a
consolidated basis is exempt from the foregoing requirement if it (i) will
remain well-capitalized following the purchase or redemption, (ii) is
well-managed and (iii) is not the subject of any unresolved supervisory issues.
In connection with the Eldorado Acquisition, the Company agreed that it will not
redeem, retire or repurchase any of its preferred stock without the prior
approval of the Federal Reserve.
DIVIDENDS. Federal Reserve policies declare that a bank holding company
should not pay cash dividends on its common stock unless its net income is
sufficient to fund fully each dividend, and its prospective rate of earnings
retention after the payment of such dividend appears consistent with its capital
needs, asset quality and overall financial condition. In connection with the
Eldorado Acquisition, the Company agreed that it will not pay dividends on
Common Stock without the prior approval of the Federal Reserve.
The Company is a legal entity separate and distinct from the Bank.
Substantially all of the Company's revenues and cash flow, including funds
available for the payments of dividends and other operating expenses, consists
of dividends paid to the Company by the Bank. There are statutory and regulatory
limitations on the amount of dividends which may be paid to the Company by the
Bank. Dividends payable by the Bank are restricted under California law to the
lesser of the Bank's retained earnings, or the Bank's net income for the latest
three fiscal years, less dividends previously declared during that period, or,
with the approval of the DFI, to the greater of the retained earnings of the
Bank, the net income of the Bank for its last fiscal year or the net income of
the Bank for its current fiscal year. In connection with the Eldorado
Acquisition, Eldorado Bank paid a dividend of $14 million, which exceeded the
Bank's net income for the latest three fiscal years. As a result, the Bank will
require the approval of the DFI with respect to the payment of any dividend up
to the greater of the Bank's retained earnings, the net income of the Bank for
its last fiscal year and the net income of the Bank for its current fiscal year.
In no event could the Bank issue a dividend in excess of such amounts.
Federal Reserve regulations also limit the payment of dividends by the Bank
as a state member bank. Under Federal Reserve regulations, dividends may not be
paid unless both undivided profits and earnings limitations have been met.
First, no dividend may be paid if it would result in a withdrawal of capital or
exceed the bank's undivided profits as reported in its most recent Report of
Condition and Income, without the prior approval of the Federal Reserve and
two-thirds of the shareholders of each class of stock outstanding. Second, a
state member bank may not pay a dividend without the prior written approval of
the Federal Reserve if the total of all dividends declared in one year exceeds
the total of net income for that year, plus its retained net income for the
preceding two calendar years.
The payment of dividends on capital stock by the Company and the Bank may
also be limited by other factors, including applicable regulatory capital
requirements and broad enforcement powers of the federal
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regulatory agencies. Both the Federal Reserve and the DFI have broad authority
to prohibit the Company and the Bank from engaging in practices which the
banking agency considers to be unsafe or unsound. It is possible, depending upon
the financial condition of the Bank or the Company and other factors, the
applicable regulator may assert that the payment of dividends or other payments
by the Bank or the Company is an unsafe or unsound practice and, therefore,
implement corrective action to address such a practice. Among other things,
Federal Reserve policies forbid the payment by bank subsidiaries to their parent
companies of management fees which are unreasonable in amount or exceed the fair
market value of the services rendered and tax sharing payments which do not
reflect the taxes actually due and payable.
The Federal Deposit Insurance Corporation Improvement Act of 1991 ("FDICIA")
generally prohibits a depository institution from making any capital
distribution (including payment of a dividend), or paying any management fee to
its holding company if the depository institution would thereafter be
"undercapitalized" for regulatory purposes. Those regulations and restrictions
may limit the Company's ability to obtain funds from the Bank for its cash
needs, including funds for payment of interest and operating expenses and
dividends.
TRANSACTIONS WITH AFFILIATES
The Bank is subject to restrictions under federal law which limit certain
transactions with the Company and its banking and non-banking affiliates,
including extensions of credit, investments or asset purchases. Extensions of
credit and certain other "covered" transactions by any member bank with any one
affiliate are limited in amount to 10% of such member bank's capital stock and
surplus and with its affiliates, in the aggregate, are limited in amount to 20%
of capital stock and surplus and loans and other extensions of credit must be
fully secured in accordance with applicable regulations. Federal law also
provides that covered transactions with affiliates must be made on substantially
the same terms and under substantially the same circumstances as, and, in the
case of credit transactions, following credit underwriting procedures that are
no less stringent than, those prevailing at the time for comparable transactions
involving other non-affiliated companies, or, in the absence of comparable
transactions, on terms and under circumstances, including credit standards, that
in good faith would be offered to, or would apply to, non-affiliates. The
purchase of low quality assets from affiliates is generally prohibited.
CROSS-GUARANTEE AND HOLDING COMPANY LIABILITY
Any FDIC-insured depository institution may be liable for any loss incurred
by the FDIC, or any loss which the FDIC reasonably anticipates incurring, in
connection with (i) the default of any commonly controlled FDIC-insured
depository institution or (ii) any assistance provided by the FDIC to a commonly
controlled FDIC-insured depository institution in danger of default. Any
obligation or liability owed by a subsidiary depository institution to its
parent company is subordinate to the subsidiary institution's cross-guarantee
liability to the FDIC. As of the date of this Prospectus, the Bank was the
Company's only insured depository institution subsidiary.
Federal Reserve policy requires bank holding companies to serve as a source
of financial strength to their subsidiary banks by standing ready to use
available resources to provide adequate capital funds to subsidiary banks during
periods of financial stress or adversity.
In the event of a bank holding company's bankruptcy under Chapter 11 of the
U.S. Bankruptcy Code, the trustee will be deemed to have assumed, and is
required to cure immediately, any deficit under any commitment by the debtor to
any of the federal banking agencies to maintain the capital of an insured
depository institution, and any claim for a subsequent breach of such obligation
will generally have priority over most other unsecured claims.
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PROMPT CORRECTIVE ACTION PROVISIONS
FDICIA amended the Federal Deposit Insurance Act ("FDIA") to establish a
format for closer monitoring of insured depository institutions and to enable
prompt corrective action by regulators when an institution begins to experience
financial difficulty. The general thrust of those provisions is to impose
greater scrutiny and more restrictions on institutions as they have decreasing
levels of capitalization. FDICIA establishes five capital categories: "well
capitalized," "adequately capitalized," "undercapitalized," "significantly
undercapitalized," and "critically undercapitalized." Under the regulations, a
"well capitalized" institution has a ratio of total capital to total
risk-weighted assets ("Total Risk-Weighted Ratio") of at least 10.0%, a ratio of
Tier 1 capital to total risk-weighted assets ("Tier 1 Risk-Weighted Ratio") of
at least 6.0%, a Tier 1 Leverage Ratio of at least 5.0% and is not subject to
any written order, agreement, or directive; an "adequately capitalized"
institution has a Total Risk-Weighted Ratio of at least 8.0%, a Tier 1
Risk-Weighted Ratio of at least 4.0% and a Tier 1 Leverage Ratio of at least
4.0% (3.0% or more if given the highest regulatory rating and not experiencing
significant growth), but does not otherwise qualify as "well capitalized." An
"undercapitalized" institution fails to meet one of the three minimum capital
requirements for "adequately capitalized" banks. A "significantly
undercapitalized" institution has a Total Risk-Weighted Ratio of less than 6.0%,
a Tier 1 Risk-Weighted Ratio of less than 3.0% and/or a Tier 1 Leverage Ratio of
less than 3.0%. A "critically undercapitalized" institution has a ratio of
tangible equity to assets of 2.0% or less. Under certain circumstances, a "well
capitalized," "adequately capitalized" or "undercapitalized" institution may be
required to comply with supervisory actions as if the institution was in the
next lowest capital category.
Undercapitalized depository institutions are subject to restrictions on
borrowing from the Federal Reserve. In addition, undercapitalized depository
institutions are subject to growth and activity limitations and are required to
submit "acceptable" capital restoration plans. Such a plan will not be accepted
unless, among other things, the depository institution's holding company, if
any, guarantees the capital plan, up to an amount equal to the lesser of 5.0% of
the depository institution's assets at the time it becomes undercapitalized, or
the amount of the capital deficiency when the institution fails to comply with
the plan. The federal banking agencies may not accept a capital plan without
determining, among other things, that the plan is based on realistic assumptions
and is likely to succeed in restoring the depository institution's capital. If a
depository institution fails to submit an acceptable plan, it is treated as if
it is significantly undercapitalized and ultimately may be placed into
conservatorship or receivership.
Significantly undercapitalized depository institutions may be subject to a
number of additional requirements and restrictions, including orders to sell
sufficient voting stock to become adequately capitalized, more stringent
requirements to reduce total assets, cessation of receipt of deposits from
correspondent banks, prohibitions on dividends to the holding company, and
requirements that the holding company divest its bank subsidiary, in certain
instances. Subject to certain exceptions, critically undercapitalized depository
institutions must have a conservator or receiver appointed for them within a
certain period after becoming critically undercapitalized.
SAFETY AND SOUNDNESS STANDARDS
The Federal Reserve has issued "safety and soundness" standards for state
member banks. The standards, which were issued in the form of guidelines rather
than regulations, relate to internal controls, information systems, internal
audit systems, loan underwriting and documentation, compensation, interest rate
exposure, asset quality and earnings. The asset quality and earnings standards
are qualitative rather than quantitative and require monitoring, reporting and
preventative or corrective action appropriate to the size of the institution and
the nature and scope of its activities. Federal Reserve examiners assign a
formal supervisory rating to the adequacy of an institution's risk management
processes, including its internal controls. In general, the standards are
designed to assist the federal banking agencies in identifying and addressing
problems at insured depository institutions before capital becomes impaired. If
an institution fails to meet these standards, the appropriate federal banking
agency may require the
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institution to submit a compliance plan. Failure to submit an acceptable
compliance plan may result in enforcement proceedings.
LIMITATIONS ON DEPOSIT TAKING
FDICIA provides that a bank may not accept, renew or roll over brokered
deposits unless (i) it is "well capitalized," or (ii) it is adequately
capitalized and receives a waiver from the FDIC permitting it to accept brokered
deposits. FDIC regulations define brokered deposits to include any deposit
obtained, directly or indirectly, from any person engaged in the business of
placing deposits with, or selling interests in deposits of, an insured
depository institution, as well as any deposit obtained by a depository
institution that is not "well capitalized" for regulatory purposes by offering
rates significantly higher (generally more than 75 basis points) than the
prevailing interest rates offered by depository institutions in such
institution's normal market area. In addition, FDICIA provides that institutions
which are ineligible to accept brokered deposits are ineligible for pass-through
deposit insurance for employee benefit plan deposits. Certificates of deposit
that the Bank issues through the wholesale deposit program that it established
in 1998 constitute brokered deposits. See "Management's Discussion and Analysis
of Financial Condition and Results of Operations."
PREMIUMS FOR DEPOSIT INSURANCE
As previously stated, the Bank's deposits are insured by the FDIC to the
maximum amount permitted by law, which is currently $100,000 per depositor in
most cases. FDIC insurance premiums are assessed on a risk-based system, meaning
that the amount of a depositary institution's premium depends on its risk
classification. To arrive at a depository institution's risk-based assessment,
the FDIC places it in one of nine risk categories using a two-step process based
first on capital ratios and then on relevant supervisory information. Each
institution is assigned to one of three capital categories: "well capitalized,"
"adequately capitalized," or "undercapitalized." A well capitalized institution
is one that has a Total Risk-Weighted Ratio of at least 10.0%, a Tier 1
Risk-Weighted Ratio of at least 6.0% and a Tier 1 Leverage Ratio of at least
5.0%. An adequately capitalized institution has at least an Total Risk-Weighted
Ratio of at least 8.0%, a Tier 1 Risk-Weighted Ratio of at least 4.0% and a Tier
1 Leverage Ratio of at least 4.0%. An undercapitalized institution is one that
does not meet either of the above definitions. The FDIC also assigns each
institution to one of three supervisory subgroups based on an evaluation of the
risk posed by the institution (group "A" institutions being perceived to present
the least risk and group "C" institutions being perceived to present the
greatest risk). The FDIC makes this evaluation based on examinations by the
institution's primary federal or state regulator, statistical analyses of
financial statements, and other information relevant to gauging the risk posed
by the institution. Those supervisory evaluations modify premium rates within
each of the three capital groups, resulting in a matrix of nine separate
assessment categories.
In September 1996, legislation (the "SAIF legislation") was enacted to
recapitalize the FDIC's Savings Association Insurance Fund ("SAIF") to provide
for the payment of certain future obligations of SAIF and, ultimately, to merge
SAIF and its counterpart, the Bank Insurance Fund ("BIF"), into a single
insurance fund to be called the Deposit Insurance Fund. The deposits of
Eldorado, Liberty and San Dieguito were insured by BIF; the deposits of CSB were
insured by SAIF. Since June 30, 1997, the deposits of the Bank have been insured
by SAIF and BIF generally in proportion to the pre-combination allocation of
deposits among the Company's subsidiary banks.
Under the SAIF legislation, each depository institution whose deposits are
insured by SAIF (with limited exceptions) was required to pay a one-time
"special assessment" into SAIF in the amount of approximately $.66 for each $100
of deposits that the institution had as of a given measurement date. For CSB,
this special assessment totaled $550,000 on an after-tax basis, which was
reserved by CSB prior to the closing of the CSB acquisition in September 1996
and taken as a charge to CSB's earnings for the third quarter of 1996. The
special assessment was intended to cause, and has caused, SAIF's assets to reach
the
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targeted "reserve ratio" of 1.25% of insured deposits. As a consequence, the
FDIC has been able to reduce the normal, periodic deposit insurance premiums
charged to SAIF-insured institutions to levels consistent with those charged to
BIF-insured institutions. For well capitalized and well managed institutions,
those rates can be as low as a statutory minimum of $2,000 per year.
Under the SAIF legislation, however, the FDIC is obligated to levy ongoing
special assessments on both SAIF-insured institutions and BIF-insured
institutions in order to pay debt service on certain bonds issued in connection
with the resolution of financially troubled savings associations prior to 1989.
Through 1999, SAIF institutions will pay those special assessments at an annual
rate five times that paid by BIF institutions. While the precise rate will vary
from period to period, initially the rate for SAIF institutions will be $.064
per $100 of deposits and the rate for BIF institutions will be $.0128 per $100
of deposits. Beginning in January 2000, the rates paid by institutions insured
by each fund will be equalized. Unlike the one-time special assessment discussed
above, it is expected that those ongoing special assessments will be recorded as
expenses during the period for which they are assessed.
As a result of the passage of the SAIF legislation, effective January 1,
1997, the deposit assessment matrices for BIF-assessable and SAIF-assessable
depository institutions, are as follows (in cents per $100 of deposits):
<TABLE>
<CAPTION>
BIF ASSESSMENT SCHEDULE
-----------------------
<S> <C> <C>
SUPERVISORY SUBGROUP
-----------------------
<CAPTION>
A B C
-- -- --
<S> <C> <C>
MEETS NUMERICAL STANDARDS FOR:
Well capitalized........................ 0(a) 3 10
Adequately capitalized.................. 3 10 24
Undercapitalized........................ 10 24 27
</TABLE>
<TABLE>
<CAPTION>
SAIF ASSESSMENT SCHEDULE
------------------------
<S> <C> <C> <C>
SUPERVISORY SUBGROUP
------------------------
<CAPTION>
A B C
-- -- --
<S> <C> <C> <C>
MEETS NUMERICAL STANDARDS FOR:
Well capitalized........................ 0(a) 3 17
Adequately capitalized.................. 3 10 24
Undercapitalized........................ 10 24 27
</TABLE>
For purposes of the assessments of FDIC insurance premiums that were paid
during the first half of 1998, which were based on the Bank's capital level as
of March 31, 1997, the Bank was "well capitalized." FDIC regulations prohibit
disclosure of the "supervisory subgroup" to which an insured institution is
assigned. The Bank's insurance assessment paid during the six months ended June
30, 1998 (which were based on capital levels as of March 31, 1997) was $133,200.
RESTRICTIONS ON CHANGES OF CONTROL
Subject to certain limited exceptions, no company (as defined in the BHC
Act) or individual can acquire control of a bank holding company, such as the
Company, without the prior approval or non-disapproval, as the case may be, of
the FRB. Prior approval of the FRB would be required for an acquisition of
control of the Company by a "company" as defined in the BHC Act. In general, FRB
regulations provide that "control" means the power to vote 25% or more of any
class of voting stock, the power to control in any manner the election of a
majority of the board of directors, or the power to
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exercise, directly or indirectly, a controlling influence over management or
policies as determined by the FRB. As part of such acquisition, the company
would be required to register as a bank holding company (if not already so
registered) and have its business activities limited to those activities which
the FRB determines to be so closely related to banking as to be a proper
incident thereof. See "-- Limitations on Bank Holding Company Activities." FRB
regulations also provide that there is a presumption that any company which owns
less than 5% of any class of voting securities of a bank holding company does
not have control over that company.
Any individual (or group of individuals acting in concert) who intends to
acquire control of a bank holding company, such as the Company, generally must
give 60 days prior notice to the FRB under regulations promulgated pursuant to
the Change in Bank Control Act of 1978. Control for the purpose of those
regulations is presumed to exist if, among other things, an individual owns,
controls or has the power to vote 25% or more of a class of voting stock of the
bank or bank holding company, or an individual owns, controls or has the power
to vote 10% or more of a class of voting stock of the bank or bank company and
(i) the company's shares are registered pursuant to Section 12 of the Securities
Exchange Act of 1934, as amended (the "Exchange Act"), or (ii) such person would
be the largest shareholder of the institution. The statute and underlying
regulations authorize the FRB to disapprove the proposed transaction based on
the evaluation of certain specified factors, including, without limitation,
competition, management and financial condition. Upon the completion of the
Offering, the Common Stock will be registered under Section 12 of the Exchange
Act.
CONSUMER PROTECTION LAWS AND REGULATIONS
OVERVIEW. In recent years, the bank regulatory agencies have been focusing
greater attention on compliance with consumer protection laws and their
implementing regulations. Examination and enforcement have become more intense
in nature, and insured institutions have been advised to monitor carefully
compliance with various consumer protection laws and their implementing
regulations. The Bank is subject to many federal consumer protection statutes
and regulations including, but not limited to, the Community Reinvestment Act
(the "CRA"), the Truth in Lending Act (the "TILA"), the Fair Housing Act (the
"FH Act"), the Equal Credit Opportunity Act (the "ECOA"), the Real Estate
Settlement Procedures Act ("RESPA"), and the Home Mortgage Disclosure Act (the
"HMDA"). Due to heightened regulatory concern related to compliance with the
CRA, TILA, FH Act, ECOA and HMDA generally, the Bank may incur additional
compliance costs or be required to expend additional funds for investments in
its local community. In addition, the Federal Reserve will take into account the
compliance record of the Bank in evaluating the adequacy of Management in
connection with applications for mergers and acquisitions. An adverse compliance
rating can result in a material delay to or a denial of such an application. The
Bank's next compliance examination is scheduled and commences in September 1998.
As a result of the relatively high volume of residential mortgage loans and
applications processed by the Bank's Mortgage Division, the Bank may have
greater exposure to consumer protection compliance issues than many of its peer
group banks. As part of its ongoing compliance program, the Bank has outsourced
its internal audit of the Mortgage Division to a consulting firm.
THE COMMUNITY REINVESTMENT ACT. The CRA is intended to encourage insured
depository institutions, while operating safely and soundly, to help meet the
credit needs of their communities. The CRA specifically directs the federal
regulatory agencies, in examining insured depository institutions, to assess
their record of helping to meet the credit needs of their entire community,
including low- and moderate-income neighborhoods, consistent with safe and sound
banking practices. The CRA further requires the agencies to take a financial
institution's record of meeting its community credit needs into account when
evaluating applications for, among other things, domestic branches, consummating
mergers or acquisitions, or holding company formations.
Pursuant to regulations adopted in 1995, the bank regulatory agencies use
the CRA assessment factors in order to provide a rating to the financial
institution. The ratings range from a high of "outstanding" to a
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low of "substantial noncompliance". The Bank has not received a CRA rating since
its consolidation with the Company's other banks on June 30, 1997. Each of the
banks that now comprise the Bank were last examined for CRA compliance by their
respective primary regulators within the past 24 months and each has received a
"satisfactory" CRA Assessment Rating with the exception of San Dieguito which
received an "outstanding" CRA Assessment Rating. As a customary part of the
compliance examination of the Bank that is scheduled to begin in September 1998,
the Federal Reserve will reassess the Bank's CRA Assessment Rating.
THE EQUAL CREDIT OPPORTUNITY ACT. The ECOA prohibits discrimination against
an applicant in any credit transaction, whether for consumer or business
purposes, on the basis of race, color, religion, national origin, sex, marital
status, age (except in limited circumstances), receipt of income from public
assistance programs, or good faith exercise of any rights under the Consumer
Credit Protection Act. In addition to prohibiting outright discrimination on any
of the impermissible bases listed above, an effects test has been applied to
determine whether a violation of the ECOA has occurred. This means that if a
creditor's actions have had the effect of discriminating, the creditor may be
held liable--even when there is no intent to discriminate. In addition to actual
damages, the ECOA permits regulatory agencies to take enforcement actions and
provides for punitive damages of up to $10,000 in individual lawsuits and up to
the lesser of $500,000 or 1.0% of the creditor's net worth in class action
suits. Successful complainants may also be entitled to an award of court costs
and attorneys' fees.
THE FAIR HOUSING ACT. The FH Act regulates many of the Bank's lending
practices, including making it unlawful for any lender to discriminate in its
housing-related lending activities against any person because of race, color,
religion, national origin, sex, handicap, or familial status. The FH Act is
broadly written and has been broadly interpreted by the courts. A number of
lending practices have been found to be, or may be considered, illegal under the
FH Act, including some that are not specifically mentioned in the FH Act itself.
Among those practices that have been found to be, or may be considered, illegal
under the FH Act are the following: declining a loan for the purposes of racial
discrimination; making excessively low appraisals of property based on racial
considerations; pressuring, discouraging, or denying applications for credit on
a prohibited basis; using excessively burdensome qualification standards for the
purpose or with the effect of denying housing to minority applicants; imposing
on minority loan applicants more onerous interest rates or other terms,
conditions, or requirements; and racial steering, or deliberately guiding
potential purchasers to or away from certain areas because of race.
The FH Act allows a person who believes that he or she has been
discriminated against to file a complaint with the Department of Housing and
Urban Development ("HUD"). Aggrieved persons also may initiate a civil action.
In addition, the FH Act permits the Attorney General of the United States to
commence a civil action if the Attorney General of the United States has
reasonable cause to believe that a person has been discriminated against in
violation of the FH Act. Penalties for violation of the FH Act include actual
damages suffered by the aggrieved person and injunctive or other equitable
relief. The courts also may assess civil penalties.
THE TRUTH IN LENDING ACT. The TILA is designed to ensure that credit terms
are disclosed in a meaningful way so that consumers may compare credit terms
more readily and knowledgeably. As a result of the TILA, all creditors must use
the same credit terminology and expressions of rates, the annual percentage
rate, the finance charge, the amount financed, the total of payments and the
payment schedule.
Violations of the TILA may result in regulatory sanctions and in the
imposition of both civil and, in the case of willful violations, criminal
penalties. Further, under certain circumstances, the TILA and FRB Regulation Z
provide a consumer with a right of rescission, which relieves the consumer of
the obligation to pay amounts to the creditor or to a third party in connection
with the offending transaction, including finance charges, application fee,
commitment fees, title search fees and appraisal fees.
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The TILA requirements are complex and even inadvertent noncompliance could
result in civil liability or other penalties. In recent years, a significant
number of individual claims and purported consumer class action claims have been
commenced against a number of financial institutions, their subsidiaries, and
other mortgage lending companies, seeking civil statutory and actual damages and
rescission under the TILA, as well as remedies for alleged violations of various
state unfair trade practices acts and restitution for unjust enrichment with
respect to mortgage loan transactions.
THE HOME MORTGAGE DISCLOSURE ACT. The HMDA grew out of public concern over
credit shortages in certain urban neighborhoods. One purpose of the HMDA is to
provide public information that will help show whether financial institutions
are serving the housing credit needs of the neighborhoods and communities in
which they are located. The HMDA also includes a "fair lending" aspect that
requires the collection and disclosure of data about applicant and borrower
characteristics as a way of identifying possible discriminatory lending patterns
and enforcing anti-discrimination statutes. The HMDA requires institutions to
report data regarding applications for loans for the purchase or improvement of
one-to-four family and multifamily dwellings, as well as information concerning
originations and purchases of such loans. Federal bank regulators rely, in part,
upon data provided under the HMDA to determine whether depository institutions
engage in discriminatory lending practices.
Compliance with the HMDA and implementing regulations is enforced by the
appropriate federal banking agency, or in some cases, by HUD. Administrative
sanctions, including civil money penalties, may be imposed by supervisory
agencies for violations. The HMDA requires depository institutions to compile
and disclose certain information with respect to mortgage loans, including the
census tract, income level, racial characteristics and gender of the borrower or
potential borrower. In addition, the HMDA data may have a material effect on the
regulators' assessment of an institution, particularly in connection with an
institution's application to enter into a merger or to acquire one or more
branches.
THE REAL ESTATE SETTLEMENT PROCEDURES ACT. RESPA requires lenders to
provide borrowers with disclosures regarding the nature and cost of real estate
settlements. Also, RESPA prohibits certain abusive practices, such as kickbacks,
and places limitations on the amount of escrow accounts. Violations of RESPA may
result in imposition of penalties, including (1) civil liability equal to three
times the amount of any charge paid for the settlement services or civil
liability of up to $1,000 per claimant, depending on the violation; (2) awards
of court costs and attorneys' fees; and (3) fines of not more than $10,000 or
imprisonment for not more than one year, or both. Recently, a significant number
of individual claims and purported consumer class action claims have been
commenced against a number of financial institutions, their subsidiaries, and
other mortgage lending companies alleging violations of RESPA's escrow account
rules and seeking civil damages, court costs, and attorneys' fees.
CERTAIN OTHER ASPECTS OF FEDERAL AND STATE LAW
The Bank is also subject to federal and state statutory and regulatory
provisions covering, among other things, security procedures, currency and
foreign transactions reporting, insider transactions, management interlocks,
loan interest rate limitations, electronic funds transfers, funds availability,
and truth-in-savings disclosures.
FEDERAL SECURITIES LAWS
Prior to completion of the Offering, the Company has been obligated to file
periodic reports with the Securities and Exchange Commission pursuant to Section
15(d) of the Exchange Act. Upon completion of the Offering, the Common Stock
will be registered under Section 12(g) of the Exchange Act, and the Company and
its affiliates will then be subject to the other informational requirements of
the Exchange Act, including the obligation to file proxy statements and other
information with the Commission. See "Available Information."
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INTERSTATE BANKING AND BRANCHING
The Riegle-Neal Interstate Banking and Branching Efficiency Act of 1994 (the
"Interstate Banking Act") regulates at the federal level the interstate
activities of banks and bank holding companies and establishes a framework for
nationwide interstate banking and branching. In order to implement certain
provisions of the Interstate Banking Act, California enacted the Caldera,
Weggeland, and Killea California Interstate Banking and Branching Act of 1995
(the "Caldera Weggeland Act").
The Interstate Banking Act permits a bank, which is located in one state and
which does not already have a branch office in a second state, to establish a
branch office in the second state by (i) acquisition of, or merger with, a bank
located in the second state, (ii) acquisition of a branch office of a bank in
the second state or (iii) establishment of a DE NOVO branch office in the second
state. By means of the Caldera Weggeland Act, the State of California permits
out of state banks to establish California branch offices only by acquisition
of, or merger with, a California bank. The Caldera Weggeland Act expressly
prohibits an out-of-state bank which does not already have a California branch
office from purchasing a branch office of a California bank or (ii) establishing
a California branch office on a DE NOVO basis.
The Interstate Banking Act also permits an adequately capitalized and
adequately managed bank holding company to acquire banks located in any state,
provided that following the acquisition, the acquiror will not control more than
10.0% of deposits held by insured depository institutions nationwide or 30.0% of
deposits held by insured depository institutions in any one state, provided that
if the state bank supervisor of the state in which the acquiror will hold in
excess of 30.0% of deposits approves the acquisition, the acquisition will not
be prohibited. The Caldera Weggeland Act authorizes the California Commissioner
of Banks (the "Commissioner") to approve an interstate acquisition in which the
acquiror would control more than 30.0% of deposits held by insured financial
institutions in California if the Commissioner finds that the transaction is
consistent with public convenience and advantage in California.
The Interstate Banking Act authorizes banks to establish agency
relationships between subsidiaries of a bank holding company. The Caldera
Weggeland Act is more expansive in that it permits California banks, with the
approval of the Commissioner, to establish agency relationships with both
affiliated and unaffiliated FDIC-insured banks and savings association.
As a result of the Interstate Banking Act and the Caldera Weggeland Act, the
Company and the Bank face competition from out-of-state financial institutions
in addition to competition from in-state institutions. It is not possible to
evaluate, however, what specific impact, if any, the Interstate Banking Act and
the Caldera Weggeland Act have had or will have on the Company the competitive
environment in which it operates, or the effect on it of any regulations to be
proposed under the Interstate Banking Act and Caldera Weggeland Act.
EFFECT OF GOVERNMENTAL POLICIES AND LEGISLATION
GENERAL. Banking is a business which depends on rate differentials. In
general, the difference between the interest rate paid by the Banks on their
deposits and their other borrowings and the interest rate received by the Banks
on loans extended to their customers and securities held in their respective
portfolios comprise the major portion of the Company's earnings. These rates are
highly sensitive to many factors that are beyond the control of the Company.
Accordingly, the earnings and growth of the Company is subject to the influence
of domestic and foreign economic conditions, including inflation, recession and
unemployment.
The commercial banking business is not only affected by general economic
conditions but is also influenced by the monetary and fiscal policies of the
federal government and the policies of regulatory agencies, particularly the
Board of Governors of the Federal Reserve System (the "FRB"). The FRB can and
does implement national monetary policies (with objectives such as curbing
inflation and combating recession) by its open-market operations in United
States Government securities, by its control of the
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discount rates applicable to borrowings by depository institutions, and by
adjusting the required level of reserves for financial institutions subject to
its reserve requirements. The actions of the FRB in these areas influence the
growth of bank loans, investments and deposits and also affect interest rates
charged on loans and paid on deposits. As demonstrated in the past, the FRB's
policies regarding interest rates have a significant effect on the operating
results of commercial banks, and are expected to continue to do so in the
future. The nature and impact of any future changes in monetary policies is not
predictable.
From time to time, legislation is enacted which has the effect of increasing
the cost of doing business, limiting or expanding permissible activities or
affecting the competitive balance between banks and other financial
institutions. Proposals to change the laws and regulations governing the
operations and taxation of banks, bank holding companies and other financial
institutions frequently are made in Congress, in the California legislature and
before various bank regulatory and other professional agencies. For example,
legislation was introduced in Congress which would repeal the current statutory
restrictions on affiliations between commercial banks and securities firms.
Under the proposed legislation, bank holding companies would be allowed to
control both a commercial bank and a securities affiliate, which could engage in
the full range of investment banking activities, including corporate
underwriting. The likelihood of any major legislative changes and the impact
such changes might have on the Company are impossible to predict.
RELIANCE ON SBA PROGRAMS. A significant portion of the Company's business
consists of originating and servicing loans under the programs of the U.S. Small
Business Administration. See "Business -- Products and Services -- Community
Banking Division." Significant cuts in or other adverse changes to SBA programs
would likely have a material adverse impact on the Company. See "Risk Factors --
Product Concentration."
In 1995, Congress passed the Small Business Lending Enhancement Act of 1995
(the "Act"). The Act reduced the amount of the subsidy to borrowers inherent in
the SBA's guaranty of loans under its various programs, thus causing the SBA to
increase the fees it charges for its guarantee. (The actual payments by the SBA
on its guaranties plus the cost of program administration have historically
exceeded the aggregate guarantee fees collected by the SBA.) At the same time,
however, by reducing the per-loan subsidy by an amount greater than the
reduction in the SBA's budget, the Act sought to increase the total number and
dollar amount of loans that the SBA would guarantee. While management has not
discerned a material decrease in the number or quality of borrowers seeking SBA
loans as a result of the increase in the guarantee fees charged to borrowers, it
is possible that such a decrease will occur over the long term. In addition,
there can be no assurance that the SBA will not be discontinued in its entirety
in the foreseeable future.
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MANAGEMENT
The following table sets forth the directors of the Company and the
executive officers of the Company and the Bank.
<TABLE>
<CAPTION>
NAME AGE POSITION
- ------------------------------------ --------- ------------------------------------------------------------------
<S> <C> <C>
Robert P. Keller.................... 60 President, Chief Executive Officer and Director
John L. Gordon...................... 48 Executive Vice President, Treasurer and Chief Financial Officer
Catherine C. Clampitt............... 37 Executive Vice President--SBA Lending
Gary A. Green....................... 40 Executive Vice President--Commercial Lending
Lawrence A. Johnes.................. 54 Executive Vice President--Equipment Leasing Division
Richard Korsgaard................... 57 Executive Vice President--Construction Loan Division and CRA
Officer
William D. Rast..................... 51 Executive Vice President--Mortgage Banking Division
Paul F. Rodeno...................... 43 Executive Vice President--Operations
Curt A. Christianssen............... 38 Senior Vice President
Ernest J. Boch...................... 71 Director
James A. Conroy..................... 38 Director
Edward A. Fox....................... 62 Director
Charles E. Hugel.................... 70 Director
Mitchell A. Johnson................. 56 Director
K. Thomas Kemp...................... 57 Director
Jefferson W. Kirby.................. 36 Director
John B. Pettway..................... 35 Director
Henry T. Wilson..................... 38 Director
Paul R. Wood........................ 44 Director
</TABLE>
ROBERT P. KELLER has served as President and Chief Executive Officer of the
Company and its predecessor since September 1995. Mr. Keller also has served as
Chairman, President and Chief Executive Officer of the Bank since June 1997,
when Commerce Security Bank, Liberty National Bank, San Dieguito National Bank
and Eldorado Bank were consolidated via mergers into the Bank, and Mr. Keller
served in those same capacities at each of those institutions during the period
between their acquisition by the Company and their consolidation into the Bank.
From 1994 to 1995, Mr. Keller was President and Chief Executive Officer of
Independent Bancorp of Arizona, Inc., a Nasdaq-listed bank holding company with
assets of $1.8 billion, which was acquired by Norwest Corporation in February
1995. From October 1991 to June 1994, Mr. Keller served as President and Chief
Executive Officer of New Dartmouth Bank, a privately-owned financial institution
with assets of $1.7 billion, located in Manchester, New Hampshire, which was
acquired by Shawmut National Corporation in 1994. From 1989 to 1991, he served
as Chief Operating Officer of Dartmouth Bancorp, Inc., also located in
Manchester, New Hampshire. During 1988 and 1989, Mr. Keller served as Executive
Vice President and Chief Operating Officer of American Federal Bank in Dallas,
Texas, which was created through the merger of 12 independent thrifts under the
Southwest Plan. Prior to 1988, he served for 13 years as an officer of Indian
Head Banks Inc. of New Hampshire (acquired by the Fleet/Norstar Group Inc. in
1988), most recently as Executive Vice President and Chief
Financial/Administrative Officer. Mr. Keller also serves on the boards of
directors of Haverford Industries, LLC, Pennichuck Corporation and White
Mountains Holdings, Inc. Mr. Keller also serves as the President, Chief
Executive Officer and a director of Dartmouth Capital Group, Inc. ("DCG General
Partner"), the sole general partner of DCG.
JOHN L. GORDON has served as the Chief Financial Officer and Treasurer of
the Company and the Bank since August 1, 1998. From 1993 to 1998, Mr. Gordon
served as Senior Vice President and Director of Finance and Accounting for
Citizens Business Bank, a $1.4 billion financial institution, and its holding
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company CVB Financial Corporation of Ontario, California. From 1985 to 1993, he
served as Senior Vice President and Chief Financial Officer of Mid City Bank,
N.A. Mr. Gordon has also served as the Treasurer of DCG General Partner since
August 1998.
CATHERINE C. CLAMPITT is the Executive Vice President of the Bank
responsible for its SBA lending programs. Ms. Clampitt has been responsible for
the Company's SBA lending since March 1997, when the Company's predecessor
acquired Liberty National Bank ("Liberty"). For four years prior to that
acquisition, Ms. Clampitt had been responsible for Liberty's SBA lending
programs. Ms. Clampitt is a member of Board of Directors of the National
Association of Government Guaranteed Lenders, Inc., an SBA lending trade
association.
GARY A. GREEN is the Bank's Executive Vice President responsible for the
Bank's non-SBA commercial lending. Mr. Green joined Eldorado Bank in 1989 as a
commercial loan officer. From 1994 to 1997, Mr. Green served as a Regional Vice
President, and in 1998, was named head of the Bank's Commercial Lending.
LAWRENCE A. JOHNES is the Executive Vice President of the Bank in charge of
the Leasing Division. Mr. Johnes was hired by the Bank in August 1997. From 1995
to August 1997, Mr. Johnes was Senior Vice President in charge of Sales and
Marketing for Mitsui Vendor Leasing which provided manufacturer and distributor
lease financing. From 1993 to 1995, Mr. Johnes was Senior Vice President and
National Sales Manager for Loan Guarantee Investment Corporation, which provided
credit enhanced programs for community banks. From 1990 to 1993, Mr. Johnes was
a partner in Far West Acquisitions representing buyers and sellers of service
and manufacturing companies. Previously, Mr. Johnes was Executive Vice President
and Chief Financial Officer, then President and Chief Operating Officer of ELLCO
Leasing Corporation, a $1.5 billion company providing direct and vendor lease
financing.
RICHARD KORSGAARD is the Bank's Executive Vice President responsible for its
Construction Loan Division. Mr. Korsgaard also serves as the Bank's CRA Officer.
Mr. Korsgaard served as Executive Vice President/Construction Lending Division
and Director of Eldorado Bank and a director of Eldorado Bancorp from October
1995 until June 1997 when Eldorado was acquired by the Company. From June 1982
to October 1995, Mr. Korsgaard served as President, Chief Executive Officer and
Director of Mariners Bank, a $75 million community bank headquartered in San
Clemente, California. Mariners Bank was acquired by Eldorado Bancorp in October
1995.
WILLIAM D. RAST is the Bank's Executive Vice President responsible for its
Mortgage Division. Mr. Rast was hired by the Bank in February 1998. From
February 1996 to February 1998, Mr. Rast served as the Chief Executive Officer
of Case Compactors, a small waste management company and was also the Managing
Director of Hamilton Pacific, a firm that specializes in relocating businesses
to China. From May 1992 to May 1996, Mr. Rast served as President and Chief
Operating Officer of Hamilton Financial Services Corp., a financial services
company primarily focused in mortgage banking. Prior to 1992, Mr. Rast was
employed for 10 years by First California Mortgage, a 33 office mortgage company
closing $2.5 billion in loans annually, with his last position being Senior Vice
President responsible for retail and wholesale production.
PAUL F. RODENO is the Bank's Executive Vice President in charge of its
retail branch system, retail product departments and the bank's marketing
programs. From October 1995 to June 1997, when San Dieguito National Bank was
merged into Eldorado Bank, Mr. Rodeno served as its Executive Vice President and
Chief Operating Officer. Mr. Rodeno served as Executive Vice President/Loan
Administration of San Dieguito National Bank from July 1986 until September
1995, when San Dieguito was acquired by the Company's predecessor. Prior to
joining San Dieguito, Mr. Rodeno had years of experience as a commercial loan
officer for First Interstate Bank.
CURT A. CHRISTIANSSEN has served as an executive officer of the Company
since March 1996. Mr. Christianssen is currently responsible for the Company's
Corporate Development function, which
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includes evaluating and helping to plan acquisitions and other strategic
transactions. From March 1996 to July 1998, Mr. Christiansen served as Treasurer
and Chief Financial Officer of the Company and the Bank. He served as Chief
Financial Officer of Liberty from October 1993 until its acquisition in March
1996 by the Company's predecessor. From October 1991 to April 1993, Mr.
Christianssen served as an Executive Vice President and Chief
Financial/Administrative Officer of Olympic National Bank. Previously, Mr.
Christianssen was with the Resolution Trust Company as a Vice President
responsible for general accounting and data processing for Gibraltar Savings and
Loan Association, a $15 billion institution, and as the Chief Financial Officer
for the receiver for Unity Savings and Loan Association.
ERNEST J. BOCH has been Chairman and Chief Executive Officer of Subaru of
New England, Inc. since 1970. He is also the majority owner of Boch Oldsmobile,
Toyota and Mitsubishi of Norwood as well as founder of Boch Broadcasting
Corporation.
JAMES A. CONROY has been associated since 1990 with Olympus Partners, a
private equity firm, and since December 1993, Mr. Conroy has been a general
partner of Olympus Growth Fund II, L.P., which is a principal shareholder of the
Company, Olympus Executive Fund, L.P. and other funds affiliated with Olympus
Partners. Prior to 1990, Mr. Conroy was a management consultant with Bain &
Company. Mr. Conroy serves on the board of directors of Frontier Vision
Partners, L.P.
EDWARD A. FOX is the Chairman of SLM Holding Corp. in Reston, Virginia, the
parent of Sallie Mae. From 1990 to his retirement in 1994, Mr. Fox served as
Dean of the Amos Tuck School of Business at Dartmouth College in Hanover, New
Hampshire. Prior to 1990, Mr. Fox was founding President and Chief Executive
Officer of Sallie Mae. Mr. Fox currently serves as a director of Delphi
Financial Corp., Greenwich Capital Management Corp. and New England Life
Insurance Company.
CHARLES E. HUGEL served as Chairman and Chief Executive Officer of
Combustion Engineering, Inc. in Stamford, Connecticut from 1982 to 1990. Prior
to joining Combustion Engineering, Inc., he spent 30 years with AT&T, most
recently as an Executive Vice President. Mr. Hugel also served as a director of
Nabisco, Inc. and its corporate successor, RJR/Nabisco, Inc., from 1978 to 1986.
Mr. Hugel presently serves on the board of directors of Pitney-Bowes, Inc.
MITCHELL A. JOHNSON is the President of MAJ Capital Management, Inc., which
he organized in August 1994 after retiring from the Student Loan Marketing
Association (Sallie Mae) in June 1994. Mr. Johnson joined Sallie Mae in 1973 and
served as its Senior Vice President, Corporate Finance from 1987 until his
retirement. Mr. Johnson was the first President and a founding member of the
Washington Association of Money Managers. In addition, Mr. Johnson was a trustee
of the District of Columbia Retirement Board. Currently, Mr. Johnson serves as
trustee of the Citizen Investment Trust, a mutual fund company, and as a
director of the Federal Agricultural Mortgage Corporation (Farmer Mac) and
Whitestone Capital Group, Inc.
K. THOMAS KEMP has served as President and Chief Executive Officer of Fund
American Enterprises Holdings, Inc. (formerly Fireman's Fund Corporation) since
October 1997. From January 1991 to October 1997, Mr. Kemp served as Executive
Vice President of Fund American. Mr. Kemp also has served as Chairman and Chief
Executive Officer of White Mountains Holdings, Inc. since March 1997. From
October 1994 to March 1997, Mr. Kemp served as President and Chief Executive
Officer of White Mountains. Mr. Kemp serves on the boards of directors of Fund
American, White Mountains, Financial Security Assurance, Ltd., Main Street
America Holdings Inc., Murray Lawrence (Bermuda), Ltd. and Haverford Industries,
LLC.
JEFFERSON W. KIRBY has been with Alleghany Corporation since 1992 and was
appointed Vice President in 1994. From 1987 to 1990, he was with Bankers Trust
Company, and from 1990 to 1992, he was with BT Securities Corp., each an
affiliate of Bankers Trust New York Corporation. Mr. Kirby also is a director of
Alleghany Asset Management, Inc., Connecticut Surety Corporation, The Covenant
Group, Inc. and The
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F.M. Kirby Foundation, Inc., a charitable organization, and a trustee of
Lafayette College and the Peck School.
JOHN PETTWAY is the Manager of The Haverford Group, LLC, an investment
company located in Park City, Utah, and is also the Chief Financial Officer for
both Haverford Industries, LLC and Byrne & sons, l.p., in which capacities he
has served since July 1995. From June 1993 to June 1995, Mr. Pettway served as
the Chief Financial Officer of Cirque Properties, LC. Prior to June 1993, Mr.
Pettway was a practicing attorney at the firm of Adams & Associates in
Alexandria, Virginia. Mr. Pettway serves as director of Haverford Industries,
LLC and American Direct Business Insurance Agency, Inc.
HENRY T. WILSON is the Managing Director of Northwood Ventures LLC and
Northwood Capital Partners LLC, private equity investment firms based in
Syosset, New York, with whom he has been associated since 1991. From 1989 to
1991, Mr. Wilson was a Vice President in the investment banking division of
Merrill Lynch & Co. He serves on the boards of directors of Alliance National,
Inc. and the Lion Brewery, Inc.
PAUL R. WOOD has served since January 1993 as Vice President of Madison
Dearborn Partners, Inc., a venture capital firm which is the general partner of
Madison Dearborn Capital Partners II, L.P., a principal shareholder of the
Company. Prior to January 1993, Mr. Wood was with First Chicago Venture Capital
from August 1993 to January 1993, and the venture capital unit of Continental
Illinois Bank from November 1978 to August 1993. Mr. Wood serves on the boards
of directors of Hines Horticulture, Inc., Intercontinental Art, Inc. and Woods
Equipment Company.
Each of the members of the Board of Directors is generally elected at the
Company's Annual Meeting of Shareholders to serve until the next Annual Meeting
or until his successor is duly qualified and elected.
COMMITTEES OF THE BOARD OF DIRECTORS
AUDIT COMMITTEE. The members of the Company's Audit Committee are Jefferson
W. Kirby (Chairman), Edward A. Fox and K. Thomas Kemp. The Audit Committee
functions include reviewing the financial statements of the Company and its
subsidiaries and the scope of the annual audit by the Company's independent
certified public accountants, and appointing the independent certified public
accountant on an annual basis. The Committee also monitors the Company's
internal financial and accounting controls.
COMPENSATION COMMITTEE. The members of the Company's Compensation Committee
are K. Thomas Kemp (Chairman), Edward A. Fox and Charles E. Hugel. The
Compensation Committee reviews and makes recommendations to the Board of
Directors on matters concerning the salaries and other employee benefits for the
Company's officers. Mr. Kemp is the Chairman and Chief Executive Officer of
White Mountain Holdings, Inc., of which Mr. Keller is a member of the Board of
Directors.
DIRECTOR COMPENSATION
The directors of the Company have not received any compensation for serving
on the Board of Directors or any committee or attending meetings thereof. The
Board of Directors may choose to institute director compensation in the future.
All directors receive reimbursement of reasonable expenses incurred in attending
Board and committee meetings and otherwise carrying out their duties.
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<PAGE>
EXECUTIVE COMPENSATION
The following table sets forth information regarding the compensation
received for the three fiscal years ended December 31, 1997 by the Chief
Executive Officer and the two other most highly compensated executive officers
of the Company (the "named executive officers"). All cash compensation was paid
to the named executive officers by the Company.
<TABLE>
<CAPTION>
LONG TERM COMPENSATION
ANNUAL
COMPENSATION AWARDS
--------------------- -----------------------
<S> <C> <C> <C> <C> <C>
RESTRICTED SECURITIES
NAME AND BASE STOCK UNDERLYING ALL OTHER
PRINCIPAL POSITION YEAR SALARY AWARDS($) OPTIONS COMPENSATION
- ---------------------------------------------------- --------- ---------- ---------- ----------- -------------
Robert P. Keller.................................... 1997 $ 275,000 1,654,241 728,600 $ 4,750
President and Chief 1996 $ 185,240 203,788 -- $ 1,316
Executive Officer 1995 $ 37,500(3) -- -- $ 3,918(4)
Richard Korsgaard................................... 1997(5) $ 176,500 -- -- $ 4,000
Executive Vice President 1996 $ -- -- -- $ --
Construction Lending 1995 $ -- -- -- $ --
Curt A. Christianssen............................... 1997 $ 114,167 -- 50,000 $ 4,750
Senior Vice President 1996(6) $ 76,875 -- -- $ 2,316
1995 $ -- -- -- $ --
</TABLE>
- ------------------------
(1) Based upon 187,982 shares issued at an estimated market value of $8.80 per
share. See "Price Range of Common Stock and Dividend Policy." If dividends
are paid on the Common Stock, Mr. Keller's will receive dividends on his
restricted stock. See "-- Keller Employment Agreement -- Restricted Stock
Awards" for a discussion of both vesting and transferability restrictions.
(2) Based upon 25,796 shares issued at an estimated market value of $7.90 per
share. See "Price Range of Common Stock and Dividend Policy." If dividends
are paid on the Common Stock, Mr. Keller's will receive dividends on his
restricted stock. See "-- Keller Employment Agreement -- Restricted Stock
Awards" for a discussion of both vesting and transferability restrictions.
(3) Period from October 1, 1995 to December 31, 1995.
(4) Includes reimbursement for moving expenses.
(5) Includes base pay of $52,083, commission of $51,500 and $3,270 in other
compensation paid prior to or related to services provided to the Bank prior
to the acquisition of Eldorado by the Company and excludes bonuses and
deferred compensation of $77,542 paid by Eldorado prior to the acquisition.
(6) Period from April 1, 1996 to December 31, 1996. Includes base pay of $51,667
and $2,125 in other compensation paid prior to the acquisition of Eldorado
by the Company and excludes bonuses and deferred compensation of $102,398
paid by Eldorado prior to the acquisition.
KELLER EMPLOYMENT AGREEMENT
CAPACITY AND TERM. In July 1996, the Company entered into an employment
agreement with Mr. Keller that was effective retroactive as of October 1, 1995.
The Company has agreed to employ Mr. Keller as the Company's senior most
executive officer, to nominate Mr. Keller to serve as a director of the Company,
and to cause Mr. Keller to be elected as a director of each of the Company's
subsidiaries that is a depository institution or otherwise a "significant
subsidiary," as defined under SEC regulations. Mr. Keller's employment agreement
has a three-year term, ending on September 30, 1999, and will be renewed
automatically for successive one-year periods unless either the Company or Mr.
Keller gives the other notice at least one year prior to the end of the term or
any extension thereof.
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<PAGE>
BASE SALARY. Mr. Keller's base salary under the employment agreement will
depend upon the Company's consolidated assets. Mr. Keller's base salary
currently is $300,000. If the Company's consolidated assets exceed $1.2 billion,
Mr. Keller's base salary will become $350,000. For purposes of Mr. Keller's
employment agreement, the Company's consolidated assets are calculated as of the
end of each of the Company's fiscal quarters and are equal to the Company's
average consolidated assets for the 6-month period then ended calculated on a
daily basis in accordance with generally accepted accounting principles
("Average Consolidated Assets"), except that if the Company's consolidated
assets as of the end of a fiscal quarter vary by more than 20 percent from the
Average Consolidated Assets for the two consecutive quarters ended as of that
date, the Company's consolidated assets as of that date are used for purposes of
determining any adjustment to Mr. Keller's salary. If, subsequent to an increase
in Mr. Keller's base salary, the amount of Average Consolidated Assets as of the
end of any fiscal quarter is less than the most recently applied asset threshold
for determining Mr. Keller's salary, Mr. Keller's base salary will be decreased,
effective as of the beginning of the quarter next following the measurement
date, in accordance with the salary schedule described above. If the Company's
Average Consolidated Assets exceed $1.8 billion, Mr. Keller may request that the
Compensation Committee of the Company's Board of Directors (the "Committee")
consider and make a recommendation to the Company's Board of Directors whether
it is appropriate to increase his annual salary. Mr. Keller's base salary, as so
determined, is hereinafter referred to as his "Base Salary."
RESTRICTED STOCK AWARDS. Mr. Keller's employment agreement generally
obligates the Company to issue shares of restricted Common Stock (the
"Restricted Stock") to Mr. Keller whenever, during the term of the agreement,
the Company issues Common Stock or a Common Stock Equivalent (as defined in the
employment agreement), including shares of Common Stock issued in the CSB and
Eldorado acquisitions. Pursuant to his employment agreement, Mr. Keller will no
longer be eligible to receive additional shares of Restricted Stock at such time
as the Company has Tier 1 capital in excess of $125.0 million. See "Supervision
and Regulation" for a definition of of Tier 1 capital. In addition, Mr. Keller
will not be entitled to receive any Restricted Stock as a consequence of the
sale of Common Stock or a Common Stock Equivalent to DCG or director qualifying
shares to any director of a subsidiary of the Company or the award of employee
stock options or the issuance of Common Stock upon the exercise thereof.
For so long as he is eligible, the number of shares of Restricted Stock that
will be issued to Mr. Keller will be equal to 3.0 percent of the sum of (x) the
number of shares of Common Stock then to be issued by the Company or, in the
case of the issuance of a Common Stock Equivalent, the number of shares of
Common Stock which such Common Stock Equivalent may be converted into or
exchanged for, and (y) the number of shares of Restricted Stock to be issued to
Mr. Keller at that time. Upon completion of the Offering, Mr. Keller will
receive additional shares of Restricted Stock.
Subject only to restrictions on transferability and forfeiture conditions
described below, Mr. Keller will have all the rights of a shareholder with
respect to the Restricted Stock, including, without limitation, the right to
vote the Restricted Stock and to receive any dividend or other distribution with
respect thereto. Prior to the end of Restricted Period (described below), Mr.
Keller may not sell, assign, transfer, pledge, hypothecate or otherwise encumber
or transfer the Restricted Stock, except as permitted by the Committee. If Mr.
Keller's employment under the employment agreement is terminated for cause (as
defined in the employment agreement) prior to the end of the Restricted Period,
or if Mr. Keller resigns from the Company during the Restricted Period without
the consent of the Board of Directors of the Company, any Restricted Stock then
outstanding will be forfeited to the Company without any payment to Mr. Keller.
In general, the "Restricted Period" will expire upon the earliest to occur
of the following events: (a) a Change in Control (as defined in Mr. Keller's
employment agreement) of the Company; (b) Mr. Keller's retirement from the
Company after attaining age 62; (c) the effective date of Mr. Keller's
resignation from the Company with the consent of the Board of Directors; (d) the
effective date of the expiration of Mr. Keller's employment agreement pursuant
to notice of non-renewal given by the Company; (e) the effective date of Mr.
Keller's termination of his employment agreement for cause (as defined in the
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<PAGE>
agreement); (f) the effective date of the termination of Mr. Keller's employment
by the Company due to a "disability" (as defined in the employment agreement);
or (g) Mr. Keller's death. In the case of Restricted Stock that is issued to Mr.
Keller as a consequence of the Company's issuance of a Common Stock Equivalent,
the Restricted Period will terminate on the later of (x) the date on which such
Common Stock Equivalent first becomes convertible into or exchangeable for
shares of Common Stock and (y) the earliest to occur of the events specified in
the immediately preceding sentence. If any Common Stock Equivalent is redeemed
in whole or in part by the Company prior to the date such Common Stock
Equivalent is convertible into or exchangeable for shares of Common Stock, upon
such redemption there shall be forfeited to the Company, without any payment to
Mr. Keller, a PRO RATA portion of the shares of Restricted Stock issued as a
consequence of the Company's sale of such Common Stock Equivalent.
STOCK OPTION AWARDS. As provided in Mr. Keller's employment agreement, the
Company's Board of Directors has adopted a stock option plan (the "Option Plan")
pursuant to which the Board of Directors or the Committee has granted stock
options to Mr. Keller and other officers of the Company and the Bank.
Mr. Keller's employment agreement provides that promptly following the
adoption of the Option Plan, the Company will grant to Mr. Keller an option
exercisable for a number of shares of Common Stock equal to 50.0% of the shares
in the Option Pool, and that if the Company thereafter increases the number of
shares in the Option Pool (as defined herein), the Company will promptly grant
to Mr. Keller an option exercisable for a number of shares of Common Stock equal
to 50.0% of the amount by which the Company increases the Option Pool. Upon the
completion of the Offering, the Option Pool will increase by shares of
Common Stock and Mr. Keller will receive an additional option to purchase an
aggregate of shares of Common Stock.
Mr. Keller's employment agreement also specifies that the exercise price,
vesting schedule and other terms of any stock option granted to him under the
Option Plan will be substantially similar to the terms of any other
contemporaneously granted stock option under the Option Plan, except that any
stock option granted to Mr. Keller will (a) not have an exercise price less than
the fair market value of the Common Stock at the time of grant; (b) to the
extent the stock option has an escalating exercise price or a fixed exercise
price with a premium over the then fair market value of the Common Stock,
reflect an annual percentage increase of not greater than the then current yield
to maturity of the most recently auctioned 5-year U.S. Treasury Notes; (c) vest
over a period of not more than four years from the date of grant; (d) provide
that if Mr. Keller's employment is terminated by the Company other than for
cause (as defined Mr. Keller's employment agreement), the stock option will
continue to be exercisable until such date as it would have expired if Mr.
Keller had continued to be employed by the Company; and (e) provide that upon a
Change in Control of the Company (as defined in Mr. Keller's employment
agreement), any stock option then outstanding will become fully exercisable. See
"-- Stock Option Plan" for a discussion of the exercise price and vesting
schedule structure of Mr. Keller's options.
SUPPLEMENTAL RETIREMENT PROGRAM. Mr. Keller's employment agreement
obligates the Company to provide supplemental retirement benefits through a
nonqualified, unfunded arrangement equal up to 35% of Mr. Keller's Average Base
Salary after seven years of service. The supplemental retirement benefit accrues
and vests annually at the rate of 5% per year. The supplemental retirement
benefit will be paid monthly for ten years commencing upon (a) the later of Mr.
Keller's retirement date or age 65 or (b) Mr. Keller's death. Any retirement
benefits remaining unpaid at Mr. Keller's death will be paid to his designated
beneficiary.
BENEFITS UPON TERMINATION. Mr. Keller's employment agreement provides that
if his employment is terminated by the Company without cause or by him due to a
material change in the nature or scope of his responsibilities or duties, or a
material breach by the Company of the employment agreement, the Company
generally will be obligated to pay Mr. Keller his Base Salary for the remainder
of the term of his employment agreement or 18 months, whichever is greater.
During such period, the Company also would
87
<PAGE>
be obligated to continue certain employee benefits, such as life, health,
accident and disability insurance coverage, which Mr. Keller was receiving
immediately preceding his termination. In addition, upon the events described
above, Mr. Keller's supplemental retirement benefits would become fully vested,
and upon his attainment of age 65, the Company would be obligated to pay him an
amount sufficient to assure that he receives the amount to which he would have
been entitled under the Supplemental Retirement Program had he been employed by
the Company for three years, and all options granted to Mr. Keller to purchase
Common Stock will become fully vested and exercisable.
If Mr. Keller's employment is terminated by the Company because Mr. Keller
becomes disabled (as defined in the employment agreement), Mr. Keller will be
entitled to receive not less than 50.0% of his then Base Salary until age 65. In
addition, all of his options to purchase the Company Common Stock will
immediately become fully vested and exercisable.
If Mr. Keller's employment agreement expires following a notice of
non-renewal given by the Company, Mr. Keller would be entitled to the
continuance for a period of six months of his Base Salary and the employee
benefits which Mr. Keller was receiving immediately prior to such termination.
Payments to which Mr. Keller would be entitled upon termination will be
reduced by amounts earned by Mr. Keller for services provided to another party
after such termination. Mr. Keller would have no duty, however, to mitigate such
payments by seeking to provide services to another party. Mr. Keller's
employment agreement also provides that under certain circumstances involving a
change in control, the amount of benefits provided under his employment
agreement would be reduced if, after applying the excise tax provisions to the
payments under the Internal Revenue Code of 1986, as amended, the net economic
benefit to Mr. Keller would be increased by effecting such a reduction.
Mr. Keller's employment agreement provides that a "change in control" will
include the authorization of certain business combinations by the Company's
Board of Directors. In general, a business combination involving the Company
will not be deemed to be a change in control if the Company's shareholders own
at least one-third of the resulting entity and at least half of the directors of
the resulting entity are persons who were directors of the Company at the time
the parties entered into the definitive agreement.
OTHER EXECUTIVE EMPLOYMENT AGREEMENTS
The Company also has entered into employment agreements with Catherine C.
Clampitt, Executive Vice President, Larry Johnes, Executive Vice President,
Richard Korsgaard, Executive Vice President and William D. Rast, Executive Vice
President.
Ms. Clampitt is employed by the Bank as Executive Vice President pursuant to
a one year employment agreement, renewable annually (the "Clampitt Agreement"),
that the Company entered into in July 1997. The Clampitt Agreement establishes a
monthly base salary of approximately $5,000 per month, plus commissions based
upon SBA 7(a) loan origination and fees generated by the sale of portions of SBA
504 loans. See "Business -- Products and Services." In the event Ms. Clampitt
either is terminated by the Bank without cause or terminates the Clampitt
Agreement for good reason (as defined in the Clampitt Agreement) following a
change in control of the Company or the Bank, she will be entitled to receive a
termination payment in an amount equal to twelve months pay, inclusive of
commissions, for the prior twelve months of her employment. The Clampitt
Agreement may not be terminated by an acquisition or dissolution of the Bank or
the Company except in the event that proceedings for the liquidation of the
Company or the Bank are commenced by regulatory authorities, in which case the
Clampitt Agreement, and all rights and benefits thereunder, would be terminated.
Mr. Johnes is employed by the Bank as Executive Vice President pursuant to a
two year employment agreement (the "Johnes Agreement") that the Company entered
into in August 1997. The Johnes Agreement establishes a minimum base salary of
$130,000. Under the Johnes Agreement, Mr. Johnes is also entitled to variable
compensation calculated and paid quarterly based upon the profitability of the
88
<PAGE>
Leasing Division. In the event Mr. Johnes is terminated by the Bank or any
successor to the Bank without cause, he is entitled to receive a termination
payment in an amount equal to twelve months pay. The Johnes Agreement may not be
terminated by an acquisition or dissolution of the Bank or the Company except in
the event that proceedings for the liquidation of the Company or the Bank are
commenced by regulatory authorities, in which case the Johnes Agreement, and all
rights and benefits thereunder, would be terminated.
Mr. Korsgaard is employed by the Bank as Executive Vice President pursuant
to a three-year employment agreement that expires October 20, 1998 (the
"Korsgaard Agreement") that the Company assumed upon the consummation of the
Eldorado Acquisition. The Korsgaard Agreement establishes a minimum base salary
of $125,000. In the event Mr. Korsgaard is terminated by the Bank or any
successor to the Bank without cause, he is entitled to receive a termination
payment in an amount equal to the greater of the balance payable under the
Korsgaard Agreement or twelve months of his then current base salary. The
Korsgaard Agreement may not be terminated by an acquisition or dissolution of
the Bank or the Company except in the event that proceedings for the liquidation
of the Company or the Bank are commenced by regulatory authorities, in which
case the Korsgaard Agreement, and all rights and benefits thereunder, would be
terminated. A salary continuation program has been established for Mr.
Korsgaard, under which Mr. Korsgaard (or, in the event of his death, his heirs)
will receive $65,000 per year from the Bank for 15 years commencing upon his
reaching age 65 or his death or disability, whichever first occurs.
Mr. Rast's employment agreement with the Bank provides for an annual salary
of $175,000 and bonus payments if the Mortgage Banking Division income is
greater than $2.0 million. The bonus payment will be $50,000 if the Division's
net income is greater than $2.0 million but not greater than $3.0 million, and
the bonus will increase by $50,000 for each $1 million by which the Division
exceeds $2.0 million up to a maximum bonus of $250,000.
The Company or the Bank has entered into Severance Agreements (each a
"Severance Agreement") with Messrs. Gordon, Green, Rast and Rodeno concerning
the ramifications of a change in control of the Company on the continued
employment of each such officer. As used in the Severance Agreement, the term
"change in control" has the same definition as in the Option Plan. Pursuant to
and as detailed further in each Severance Agreement, if the terms of an
officer's employment are significantly altered to the detriment of such officer
within two years following a change in control, and the officer provides the
requisite notice to the Bank, or alternatively, if the Bank terminates the
officer without cause within two years following a change in control, then the
officer is entitled to a lump sum payment equal to one year's salary, less
applicable taxes and withholdings. A precondition to such payment is the
execution by the officer of a general release and confidentiality agreement.
STOCK OPTION PLAN
GENERAL. The Company has adopted the Option Plan pursuant to which the
Company's Board of Directors or the Compensation Committee (the "Committee") may
grant stock options to Mr. Keller and other officers of the Company or any of
its subsidiaries. As of the completion of the Offering, there will be [ ]
shares of Common Stock subject to the Option Plan. The Option Plan provides only
for the issuance of so-called "nonqualified" stock options (as compared to
incentive stock options). As of July 31, 1998, options to purchase 479,300
shares of Common Stock were outstanding with an average exercise price of $8.42
per share.
OPTION POOL. The maximum number of shares as to which options may be
granted is referred to as the "Option Pool." As of July 31, 1998, the Option
Pool consisted of 1,457,200 shares of Common Stock. Until such time as the
Company has Tier 1 Capital of $125.0 million or more, if the Company issues any
additional Common Stock or common stock equivalents, the number of shares in the
Option Pool automatically increases such that the number of shares in the Option
Pool will be equal to six percent of
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<PAGE>
the sum of (i) the shares of Common Stock (and common stock equivalents) issued
and outstanding immediately following such issuance and (ii) the number of
shares in the Option Pool.
EXERCISE PRICE STRUCTURE. The Option Plan authorizes the Committee to set
the exercise price for each option grant. In the case of option grants to Mr.
Keller, each portion of his award will have a separate, fixed exercise price as
such portion vests over time. The exercise price for each separate tranche will
increase progressively based upon a semi-annual compounding of a "base rate"
using the 5-year U. S. Treasury rate in effect at the date of grant. See, for
example, "-- Option Grants in Last Fiscal Year."
VESTING SCHEDULE AND DURATION. The options granted to Messrs. Keller and
Christianssen, and any future grants, unless the Committee otherwise decides,
will vest over four years, in half-year increments, with the first portion
vesting on the 18-month anniversary of the date of grant. The Option Plan
provides that unless the Committee otherwise determines, the options will have a
six-year term, expiring on the sixth anniversary of the date of grant.
ACCELERATION EVENT--EFFECT ON VESTING.
MR. KELLER. Mr. Keller's options will become fully vested in connection
with a change in control, which is defined in the Option Plan consistent with
the definition of a change in control contained in Mr. Keller's employment
agreement. In addition, Mr. Keller's options would become fully-vested if the
Company were to terminate his employment agreement without cause or if he were
to terminate the agreement for cause. Mr. Keller's options also would become
fully-vested if he dies or becomes permanently disabled.
OTHER OPTION HOLDERS. For all other option holders, the Option Plan
provides for a "double trigger," unless the Committee otherwise specifies at the
time it awards the option. Under the double trigger approach, the option would
become fully vested if the option holder is actually or constructively
terminated without cause during a two-year period following a change in control.
AGGREGATED FISCAL YEAR-END OPTION VALUES
The following table shows certain information concerning the aggregate
number of unexercised options to purchase Common Stock held by the named
executive officers as of December 31, 1997. No options were exercised by the
named executive officers during 1997.
<TABLE>
<CAPTION>
NUMBER OF VALUE OF
SECURITIES UNEXERCISED
UNDERLYING IN-THE-MONEY
UNEXERCISED OPTIONS AT
OPTIONS AT DECEMBER 31, 1997
DECEMBER 31, 1997 -----------------
----------------- EXERCISABLE/
EXERCISABLE/ UNEXERCISABLE
UNEXERCISABLE
<S> <C> <C>
Robert P. Keller........................................................... 0/364,300 (1) 0/$390,276 (2)
President and Chief
Executive Officer
Curt A. Christianssen...................................................... 0/25,000 (1 ) 0/$17,083 (2 )
Senior Vice President
</TABLE>
- ------------------------
(1) For information on the vesting schedule and exercise price per share see
"Option Grants in Last Fiscal Year"
(2) Because of the lack of an active trading market in the Common Stock, such
calculation assumes a Common Stock value of $ per share, the
initial public offering price of the Common Stock offered hereby. See "Price
Range of Common Stock and Dividend Policy."
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<PAGE>
OPTION GRANTS IN LAST FISCAL YEAR
The following table contains a summary of the grants of stock options made
during the fiscal year ended December 31, 1997.
<TABLE>
<CAPTION>
POTENTIAL REALIZABLE
VALUE AT ASSUMED
RATE OF
STOCK PRICE
APPRECIATION FOR
INDIVIDUAL GRANTS OPTION TERM (1)
------------------------------------------------------- --------------------
<S> <C> <C> <C> <C> <C> <C>
% OF TOTAL
NUMBER OF OPTIONS
SECURITIES GRANTED TO
UNDERLYING EMPLOYEES
OPTIONS IN FISCAL EXERCISE PRICE EXPIRATION
NAME GRANTED YEAR ($/SH)(2) DATE 5% ($) 10% ($)
- --------------------------------------------- ----------- ------------- -------------- ----------- --------- ---------
Robert P. Keller............................. 154,750 39.7% 9.64/25,791 2/3/2003 83,867 190,919
President and 9.94/25,791 76,129 183,182
Chief Executive Officer 10.24/25,791 68,392 175,445
10.54/25,791 60,654 167,707
10.86/25,791 52,401 159,454
11.20/25,795 43,634 150,691
209,550 53.9% 10.52/34,925 7/14/2003 82,832 227,795
10.84/34,925 71,656 216,619
11.18/34,925 59,782 204,745
11.50/34,925 48,606 193,569
11.86/34,925 36,033 180,996
12.20/34,925 24,158 169,121
Curt A. Christianssen........................ 25,000 6.4% 10.52/4,166 6/30/2003 9,882 27,176
Senior Vice President 10.84/4,166 8,548 25,842
11.18/4,166 7,132 24,426
11.50/4,166 5,799 23,092
11.86/4,166 4,299 21,593
12.20/4,170 2,883 20,181
</TABLE>
- ------------------------
(1) The market price at the date of grant was $9.62, based upon the price at
which Common Stock was issued in connection with the Eldorado Acquisition.
(2) Absent a change in control of the Company, as defined in the Option Plan,
each tranche of option shares will vest in successive six-month increments.
Upon a change in control, the exercisability of the option is accelerated to
such date. Following a change in control, the exercise price with respect to
any option shares exercised prior to their original vesting date shall equal
the exercise price for those option shares that had a scheduled vesting date
that was on or next preceding such exercise date.
OTHER BENEFIT PLANS
The Company's executive officers are also entitled to short term disability,
life, medical and dental insurance as well as participation in the Company's
401(k) retirement plan.
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PRINCIPAL AND SELLING SHAREHOLDERS
The following table sets forth certain information as of July 31, 1998
regarding (i) persons who are beneficial owners of more than 5% of the
outstanding equity securities of the Company, (ii) each director and executive
officer of the Company, and (iii) all of the directors and executive officers as
a group.
<TABLE>
<CAPTION>
SHARES OF COMMON STOCK SHARES OF COMMON STOCK
BENEFICIALLY OWNED BENEFICIALLY OWNED UPON
PRIOR TO THE OFFERING(1) COMPLETION OF OFFERING
----------------------------- --------------------------------
<S> <C> <C> <C> <C> <C>
NUMBER OF
SHARES TO BE
COMMON SOLD IN COMMON
STOCK PERCENTAGE(2) OFFERING STOCK PERCENTAGE(3)
---------- ----------------- --------------- ------------- -----------------
Ernest J. Boch(4)(5)........................... 1,573,164
Director
Dartmouth Capital Group, L.P.(5)............... 1,900,617
Madison Dearborn Capital....................... 1,678,179
Partners II, L.P.(6)
Olympus Growth Fund II, L.P.(7)................ 1,678,179
Olympus Executive Fund, L.P.
F.M. Kirby(8).................................. 1,090,029
Robert P. Keller(5)(9)(10)..................... 236,634
Director, President and Chief
Executive Officer
John J. Byrne.................................. 290,447
James A. Conroy(11)............................ 1,678,179
Director
Mitchell Johnson............................... 64,741
Director
Edward A. Fox(5)(9)(12)........................ 297,098
Director
Jefferson W. Kirby(5)(9)(13)................... 279,400
Director
Hugel Family Limited Partnership(5)(9)(14)..... 214,612
K. Thomas Kemp(5)(9)(15)....................... 29,730
Director
John B. Pettway................................ --
Director
Henry T. Wilson(5)(9)(16)...................... 257,920
Director
Paul R. Wood(17)............................... 1,678,179
Director
Curt A. Christianssen.......................... 1,000 * -- -- *
Senior Vice President
Catherine C. Clampitt.......................... -- * -- -- *
Executive Vice President
SBA Lending Division
Gary A. Green.................................. -- * -- -- *
Executive Vice President
Commercial Lending
Lawrence A. Johnes............................. -- * -- -- *
Executive Vice President
Leasing Division
</TABLE>
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<PAGE>
<TABLE>
<CAPTION>
SHARES OF COMMON STOCK SHARES OF COMMON STOCK
BENEFICIALLY OWNED BENEFICIALLY OWNED UPON
PRIOR TO THE OFFERING(1) COMPLETION OF OFFERING
----------------------------- --------------------------------
NUMBER OF
SHARES TO BE
COMMON SOLD IN COMMON
STOCK PERCENTAGE(2) OFFERING STOCK PERCENTAGE(3)
---------- ----------------- --------------- ------------- -----------------
<S> <C> <C> <C> <C> <C>
William D. Rast................................ -- * -- -- *
Executive Vice President
Mortgage Division
Paul F. Rodeno................................. -- * -- -- *
Executive Vice President
Operations
All Directors and Executive....................
Officers as a Group(9)(10)
</TABLE>
- ------------------------
* Less than 1%
(1) Assumes the conversion of the Special Common Stock, non-voting common stock
and warrants exercisable within 60 days from July 31, 1998 into shares of
voting Common Stock. See "Certain Transactions" and "Description of Capital
Stock."
(2) Based on an aggregate of shares of Common Stock outstanding as of July
31, 1998.
(3) Based on an aggregate of shares of Common Stock outstanding, including
shares outstanding as of July 31, 1998 and shares of Common
Stock to be issued in the Offering.
(4) Such number of shares does not include approximately shares of voting
Common Stock owned indirectly by Mr. Boch as an investor in DCG. Mr. Boch's
address is Subaru of New England, Inc., 95 Morse Street, Norwood, MA 02062.
(5) Gives effect to a distribution by DCG of shares of Common Stock that will
occur immediately prior to the completion of the Offering. As the sole
general partner of DCG, the DCG General Partner exercises sole control over
the voting and disposition of the shares of Common Stock held of record by
DCG. DCG and the DCG General Partner each have a business address c/o
Commerce Security Bancorp, Inc., 24012 Calle de la Plata, Suite 150 Laguna
Hills, CA 92653.
(6) Includes (i) shares of voting Common Stock, (ii) 2,000,000 shares of
Common Stock subject to the terms of a Common Stock warrant and (iii)
shares of non-voting Common Stock that is convertible into voting Common
Stock. See "Description of Capital Securities." The shares of Common Stock
issuable upon exercise of the warrant may only be exercisable into shares of
voting Common Stock if the percentage ownership of Madison Dearborn Capital
Partners II, L.P. ("Madison Dearborn") of all outstanding voting securities
of the Company would not exceed 9.9%. Otherwise, such warrant is exercisable
for shares of non-voting Common Stock. Madison Dearborn sole general partner
is Madison Dearborn Partners II, L.P., whose sole general partner is Madison
Dearborn Partners, Inc. MDP's address is Three First National Plaza, Suite
3900, Chicago, IL 60602.
(7) Includes (i) shares of voting Common Stock, (ii) 2,000,000 shares of
Common Stock subject to the terms of a Common Stock warrant and (iii)
shares of non-voting Common Stock that is convertible into voting Common
Stock. See "Description of Capital Securities." The shares of Common Stock
issuable upon exercise of the warrant may only be exercisable into shares of
voting Common Stock if Olympus' percentage ownership of all outstanding
voting securities of the Company would not exceed 9.9%. Otherwise, such
warrant is exercisable for shares of non-voting Common Stock. Presentation
has been combined for Olympus Growth Fund II, L.P. and Olympus Executive
Fund, L.P. (collective, "Olympus)", as the general partners of the limited
partnerships (OGF II, L.P. and OEF, L.P., respectively) are under common
control. Olympus's address is Metro Center, One Station Place, Stamford, CT
06902.
(8) Mr. Kirby's address is 17 DeHart Street, Morristown, NJ 07963.
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(9) Excludes shares beneficially owned by the DCG General Partner. Each of
Messrs. Keller, Boch, Fox, Hugel, Kemp, Kirby, Pettway and Wilson is a
principal shareholder and director of the DCG General Partner, and pursuant
to the terms of a shareholder agreement, each has a right to designate a
director of DCG General Partner. Messrs. Boch, Keller, Fox, Hugel, Kemp and
Kirby disclaim beneficial ownership of shares of Common Stock beneficially
owned by the DCG General Partner.
(10) Includes (i) 427,556 shares of restricted stock issued to Mr. Keller
pursuant to the terms of his employment agreement, and (ii) [25,791] shares
of voting Common Stock subject to employee stock options exercisable within
60 days. Such number of shares does not include approximately shares
of voting Common Stock owned indirectly by Mr. Keller as an investor in DCG.
(11) Includes securities held by Olympus. See Note 7 of this table, above.
1,485,033 shares of voting Special Common Stock and 146,000 shares of voting
Common Stock owned in the aggregate by Olympus Growth Fund II, L.P. and
Olympus Executive Fund, L.P. (collectively, "Olympus"). Mr. Conroy is a
general partner of such entities. Mr. Conroy disclaims beneficial ownership
of the shares of voting securities owned by Olympus.
(12) Such number of shares does not include approximately shares of voting
Common Stock owned indirectly by Mr. Fox as an investor in DCG.
(13) Jefferson W. Kirby, the adult son of F. M. Kirby, disclaims any beneficial
ownership interest in the shares of voting Common Stock owned by his father.
F. M. Kirby is a principal shareholder of the Company.
(14) Charles E. Hugel, a director of the Company, has sole voting and
dispositive power with respect to the shares held of record by the Hugel
Family Limited Partnership. Such number of shares does not include
approximately shares of voting Common Stock owned indirectly by Mr.
Hugel as an investor in DCG.
(15) Such number of shares does not include approximately shares of voting
Common Stock owned indirectly by Mr. Kemp as an investor in DCG.
(16) Includes 320,412 shares and 80,128 shares of voting Common Stock held by
Northwood Ventures LLC and Northwood Capital Partners LLC, respectively, of
which Mr. Wilson is a Managing Director. Such number of shares does not
include approximately shares and shares of voting Common Stock
owned indirectly by Northwood Ventures LLC and Northwood Capital Partners
LLC, respectively as investors in DCG.
(17) Includes securities held by Madison Dearborn. See Note 6 of this table,
above. Madison Dearborn's sole general partner is Madison Dearborn Capital
Partners II, whose sole general partner is Madison Dearborn Partners, Inc.
Mr. Wood is an executive officer of Madison Dearborn Partners, Inc.
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CERTAIN TRANSACTIONS
TRANSACTIONS WITH CERTAIN SHAREHOLDERS
LOAN FROM DCG TO THE COMPANY. On March 27, 1998, DCG loaned to the Company
$540,000, substantially all of which was used by the Company for the redemption
on that date of certain subordinated debentures originally issued by the
Company's predecessor, SDN. The promissory note evidencing the loan (the "DCG
Note") is repayable in eight quarterly installments commencing June 30, 1998,
and bears interest at a fixed rate of 10.5% which was equal to the Bank's prime
rate plus 2.0% at the time of the DCG Note. The DCG Note is prepayable at any
time without penalty. The Company intends to prepay the DCG Note in full, using
proceeds of the Offering, contemporaneously with the closing of the Offering.
REDEMPTION OF SERIES B PREFERRED STOCK. On June 6, 1997, as part of the
financing for the Eldorado Acquisition, the Company issued shares of Series B
Preferred Stock having an aggregate liquidation amount of $11,659,300. All of
the outstanding Series B Preferred Stock is currently held by two of the
Company's principal sharehholders ("Madison Dearborn" and "Olympus") in
substantially equal proportions. See "Principal and Selling Shareholders."
The Series B Preferred Stock is redeemable pursuant to its terms at a
redemption price of 103% of its liquidation amount, plus accrued and unpaid
dividends, or a total of $12,009,079 plus accrued and unpaid dividends. The
Company intends to redeem all of the outstanding Series B Preferred Stock, using
proceeds of the Offering, contemporaneously with the closing of the Offering.
CONVERSION OF SPECIAL COMMON STOCK. Most of the Common Stock held by
Madison Dearborn and Olympus prior to the Offering is designated as "Special
Common Stock" under the Company's certificate of incorporation and is currently
entitled to certain preferential rights over the other Common Stock. See
"Descriptions of Capital Stock." Madison Dearborn and Olympus have agreed with
the Company to convert all of their Special Common Stock into Common Stock prior
to the closing of the Offering.
AMENDMENT OF SHAREHOLDER AGREEMENT. The Company is a party to a Shareholder
Agreement, dated June 6, 1997, among itself, Madison Dearborn, Olympus, DCG and
certain shareholders of DCG's general partner (the "Shareholder Agreement"). The
Shareholder Agreement creates various rights in favor of, and obligations on,
its parties with respect to their direct and indirect investments in the
Company.
Immediately prior to completion of the Offering, the parties to the
Shareholder Agreement intend to amend the Agreement, eliminating most of its
operative provisions. The material provisions that will remain in effect will
provide that (i) unless and until both Madison Dearborn and Olympus hold 9.9% or
less of the Common Stock (treating any common stock equivalents that they hold
as fully exercised), DCG may not transfer any Common Stock or distribute any
Common Stock to DCG's partners if, as a result of that transfer, DCG would hold
fewer shares of Common Stock than either Madison Dearborn or Olympus; (ii)
neither Madison Dearborn nor Olympus will transfer any of its Common Stock (or
warrants exercisable for Common Stock) without the prior approval of the Federal
Reserve unless certain exceptions apply (which generally are intended to ensure
that the transferee is not acquiring a substantial ownership interest in the
Company without the approval of the Federal Reserve); and (iii) DCG will not
sell any of its shares of Common Stock during a limited period before or after
certain registered offerings of the shares of Common Stock held by Madison
Dearborn and Olympus. See "Description of Capital Stock -- Registration Rights."
AMENDMENT OF SECURITIES AGREEMENT. Pursuant to the agreement providing for
the Madison Dearborn and Olympus investment in connection with the Eldorado
Acquisition, the Company generally is obligated to nominate designees of Madison
Dearborn and Olympus for election to the Company's Board of Directors. Nominees
of each of Madison Dearborn and Olympus have been nominated and elected, and
currently serve on the Company's Board of Directors. See "Management" and
"Principal and Selling Shareholders." Immediately prior to the closing of the
Offering, the Securities Purchase Agreement will be amended to terminate the
Company's contractual obligation to nominate designees of Madison Dearborn and
Olympus.
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FUNDING FOR ELDORADO ACQUISITION. Approximately $94.8 million of cash was
necessary to pay the cash consideration to holders of Eldorado Bancorp common
stock and stock options and Eldorado Acquisition-related expenses incurred by
the Company.
In conjunction with the Eldorado Acquisition financing, certain directors of
the Company and other investors in DCG agreed to purchase up to approximately
$15.2 million of Common Stock at a price of $9.62 per share, less a 1%
commitment fee, to fund a portion of the Eldorado Acquisition. Approximately
$12.4 million of this commitment was invested by such investors with 1,530,964
shares of Common Stock issued at the $9.62 per share price (less a 1% commitment
fee). Of those shares, the following numbers of shares were purchased by persons
who were then directors of the Company, nominees to become directors, or
affiliates of the Company: (i) Ernest J. Boch (550,914 shares), Edward A. Fox
(25,048 shares), Charles E. Hugel (8,713 shares), Robert P. Keller (5,957
shares), K. Thomas Kemp (5,730 shares), each of whom was a director of the
Company in December 1996; (ii) Byrne & sons, l.p. (55,897 shares); (iii)
Northwood Ventures LLC and Northwood Capital Partners LLC (a total of 17,820
shares); and (iv) Mitchell A. Johnson (45,841 shares). John B. Pettway and Henry
T. Wilson are directors of the Company and in December 1996 were directors of
the DCG General Partner. Mr. Pettway is the Chief Financial Officer of Byrne &
sons, l.p., and Mr. Wilson is a Managing Director of Northwood Ventures LLC and
Northwood Capital Partners LLC. Mr. Johnson became a director of the Company in
1997 contemporaneously with the closing of the Eldorado Acquisition. See
"Principal and Selling Shareholders."
DCG purchased 506,122 of those shares of Common Stock for aggregate
consideration, net of a 1% commitment fee, of $4,419,793, of which $4.3 million
initially was made in the form of a loan to the Company in December 1996 to fund
an escrow account that would have been forfeited to Eldorado if the Company were
unable to consummate the Acquisition financing. Peter H. Paulsen, then a
director of the Company, loaned $200,000 to the Company on the same terms as
DCG. That $4.5 million was converted to shares of Common Stock upon the
consummation of the Acquisition at a purchase price of $8.80 per share less the
1% commitment fee, and the interest on such loan was converted to Common Stock
at a purchase price of $9.62 per share less the 1% commitment fee, which was the
same price at which the remaining shares of Common Stock and the Special Common
Stock were sold by the Company to fund the Eldorado Acquisition.
The Company also sold a total of 2,412,859 shares of Common Stock to DCG,
Madison Dearborn and Olympus at a gross purchase price of $9.62 per share,
representing an aggregate payment, net of a 1% commitment fee, of $22,984,570.
Neither Madison Dearborn nor Olympus is an affiliate of the other, and prior to
their investment in the Company, neither was an affiliate of the Company or DCG.
The Common Stock acquired by DCG, Madison Dearborn and Olympus had a liquidation
preference if, in the case of a liquidation or a change in control of the
Company, the distribution per share of Common Stock is less than $9.62, which
liquidation preference will be eliminated prior to the closing of the Offering.
CSBI Capital Trust I (the "Trust"), a special purpose trust formed by the
Company, issued a total of 27,657 of its 11 3/4% Subordinated Capital Income
Securities, Series A, $1,000 initial liquidation value per security (the
"Capital Securities"), to DCG, Madison Dearborn and Olympus for an aggregate
cash payment, net of a 1% commitment fee, of $27,386,368. The Trust in turn
invested the proceeds of the Capital Securities in a Subordinated Debenture
issued by the Company.
The Company issued a total of 116,593 shares of 11% Series B Preferred
Stock, $100 par value per share (the "Series B Preferred"), to DCG, Madison
Dearborn and Olympus for an aggregate amount of $11,545,210, net of a 1%
commitment fee.
In connection with the purchase of the Series B Preferred, each of Madison
Dearborn, Olympus and DCG purchased a common stock warrant (collectively, the
"Investor Warrants") that entitles the holder to purchase shares of Common Stock
at an exercise price of $9.62 per share. An aggregate of 2,000,000 shares of
Common Stock are subject to the Investor Warrants. The Investor Warrants expire
on June 6, 2007. The aggregate purchase price of the Investor Warrants was
$40,000.
LIBERTY ACQUISITION. As of March 27, 1996, DCG invested approximately $13.4
million in SDN to fund SDN's acquisition of Liberty. In exchange, SDN issued
1,696,202 shares of common stock at a price of $7.90 per share. In addition, SDN
issued a total of 19,850 shares of common stock to accredited investors
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contemporaneously with the Liberty acquisition in exchange for cash or services
at a price of $10.37 per share.
CSB ACQUISITION. As of August 28, 1996, DCG invested approximately $14.5
million in SDN to fund the Company's acquisition of CSB. In exchange for that
investment, SDN issued 1,832,388 at a price per share of $7.90.
SDN TRANSACTION. As of September 30, 1995, DCG invested $4.9 million in
SDN. In exchange, SDN issued 420,870 shares of common stock at a price per share
of $11.64 per share. SDN utilized the proceeds on such investment primarily to
recapitalize its bank subsidiary, San Dieguito National Bank.
OTHER MATTERS
Some of the executive officers of the Bank and their immediate families, as
well as the companies with which such directors and executive officers are
associated, are customers of, and have had banking transactions with the Bank in
the ordinary course of the Bank's business and the Bank expects to have such
ordinary banking transactions with such persons in the future. In the Company's
opinion, all loans and commitments to lend included in such transactions were
made in compliance with applicable laws on substantially the same terms,
including interest rates and collateral, as those prevailing for comparable
transactions with other persons of similar creditworthiness and did not involve
more than a normal risk of collectibility or present other unfavorable features.
Although the Bank does not have any limits on the aggregate amount it would be
willing to lend to directors and officers as a group, loans to individual
directors and officers must comply with the Bank's lending policies and
statutory lending limits. There were no loans to executive officers and
directors at June 30, 1998.
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DESCRIPTION OF CAPITAL STOCK
The following summary of the terms of the Common Stock and the Preferred
Stock of the Company does not purport to be complete and is subject to, and is
qualified in its entirety by, the provisions of and the Company's Certificate of
Incorporation.
COMMON STOCK
GENERAL. As of the closing of the Offering, the Common Stock of the Company
will consist of two classes, each having a par value of $.01 per share: voting
Common Stock and non-voting Common Stock (collectively referred to as the
"Common Stock"). Upon completion of the Offering, there will be shares of
voting Common Stock authorized and shares outstanding and shares of
non-voting Common Stock authorized and shares outstanding. All of the
shares being offered pursuant to this Prospectus are shares of voting Common
Stock. With the exception of voting rights, the powers, preferences and rights
of each of the classes of Common Stock are identical, as summarized below.
DIVIDENDS. Except as limited by any series of Preferred Stock that may
hereafter be issued, the Company may pay dividends on the voting Common Stock
and the non-voting Common Stock as declared from time to time by its Board of
Directors out of funds legally available therefor. With certain exceptions, a
Delaware corporation (such as the Company) may pay dividends only out of (i) its
surplus (as defined under the Delaware General Corporation Law ("DGCL")), or
(ii) if there is no surplus, out of net profits for the fiscal year in which the
dividend is declared and/or the preceding year. The Company's principal source
of cash flow for the payment of dividends will be dividends from its banking
subsidiary, Eldorado Bank (the "Bank"), which is subject to substantial
regulatory restrictions on the payment of dividends. See "Risk Factors -- No
Present Intention to Pay Dividends; Prohibition on Dividends by the Bank to the
Company Without Prior Regulatory Approval" and "Supervision and Regulation."
VOTING RIGHTS. Except may be provided with respect to any series of
Preferred Stock that may hereafter be issued, the holders of the voting Common
Stock possess exclusive voting rights. The non-voting Common Stock is not
entitled to vote in any matter, excepting only amendments to the Company's
Certificate of Incorporation adversely affecting the rights of the non-voting
Common Stock. Each holder of voting Common Stock is entitled to one vote for
each share held on all matters voted upon by shareholders. Shareholders are not
permitted to cumulate votes in elections of directors.
LIQUIDATION. Subject to any prior rights that may be granted to the holders
of any shares of Preferred Stock that may be outstanding as of the applicable
time, in the event of any liquidation, dissolution or winding up of the Company,
the holders of the Common Stock would be entitled to receive, after payment of
all debts and liabilities of the Company, all assets of the Company that are
available for distribution. See "-- Effect of Capital Securities on Common
Stock."
CONVERSION. Non-voting Common Stock is convertible at any time at the
election of the holder into voting Common Stock; provided, however, that at no
time may a holder of non-voting Common Stock convert such shares into voting
Common Stock if such conversion of shares would result in such holder
beneficially owning more that 9.9% of the voting Common Stock then outstanding.
PROPOSED RECLASSIFICATION. As reflected in the Company's consolidated
financial statements, as of June 30, 1998 the common stock was divided into
several classes consisting of (i) Special Common Stock, having a liquidation
preference of $9.62 per share, (ii) voting Common Stock (designated as "Class B
Common Stock"), and (iii) non-voting Common Stock (designated as "Class C Common
Stock"). Madison Dearborn and Olympus, the holders of the Special Common Stock,
and the Company have agreed that immediately prior to the completion of the
Offering, the Special Common Stock will be converted into Class B Common Stock,
and the Common Stock will then be consolidated into two classes, consisting of
the voting Common Stock offered hereby and non-voting Common Stock. See "Certain
Transactions" and "Capitalization."
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PREFERRED STOCK
SERIES B PREFERRED STOCK. The Company currently has 116,593 shares of
Series B Preferred Stock outstanding, which are held by two of the Company's
principal shareholders. See "Principal and Selling Shareholders." The Company
has agreed to redeem Series B Preferred Stock upon completion of the Offering.
See "Use of Proceeds."
OTHER SERIES OF PREFERRED STOCK. The Company's Board of Directors has the
authority to determine the powers, rights and preferences of any other series of
Preferred Stock issued by the Company without the approval of the holders of
Common Stock, at the time of the issuance, which may include, among other
things, rights in liquidation, rights to participating dividends, voting rights
and rights to convert to Common Stock.
The rights, preferences, privileges, and restrictions or qualifications of
different series of Preferred Stock may differ with respect to dividend rates,
amounts payable on liquidation, voting rights, conversion rights, redemption
provisions, sinking fund provisions, and other matters. The issuance of
Preferred Stock could decrease the amount of earnings and assets available for
distribution to holders of Common Stock or could adversely affect the rights and
powers, including voting rights, of holders of Common Stock.
The existence of the Preferred Stock, and the power of the Board of
Directors to set its terms and issue a series of Preferred Stock at any time
without shareholder approval, could have certain anti-takeover effects. These
effects include that of making the Company a less attractive target for a
"hostile" takeover bid or discouraging the making of a merger proposal, or
rendering it more difficult either to assume control of the Company through the
acquisition of a large block of Common Stock or to remove incumbent management,
even if such actions could be beneficial to the shareholders of the Company.
EFFECT OF CAPITAL SECURITIES ON COMMON STOCK
GENERAL. In connection with the Eldorado Acquisition, CSBI Capital Trust I,
a subsidiary of the Company (the "Trust"), issued an aggregate principal amount
of $28.5 million in 11 3/4% Subordinated Capital Income Securities, Series A
(the "Capital Securities"), which represent undivided beneficial ownership
interests in the assets of the Trust. The sole asset of the Trust is $27.7
million of 11 3/4% Junior Subordinated Debentures (the "Subordinated
Debentures") issued by the Company to the Trust. The terms of the Subordinated
Debentures and the Capital Securities are materially the same, and payments to
the Trust under the Subordinated Debentures are passed through the Trust to the
holders of the Capital Securities. In addition to its obligations under the
Subordinated Debentures, the Company has also guaranteed certain payments on the
Capital Securities to the extent the Trust has funds available therefor.
ACCOUNTING AND REGULATORY TREATMENT. For financial reporting purposes, the
Trust is treated as a subsidiary of the Company and, accordingly, the accounts
of the Trust are included in the consolidated financial statements of the
Company. The Capital Securities are presented as a liability in the consolidated
balance sheet of the Company as a separate line item under the caption
"Subordinated Debentures" and disclosure about the Capital Securities and the
Subordinated Debentures are included in the notes to the consolidated financial
statements. For financial reporting purposes, the Company records distributions
payable on the Capital Securities as an interest expense in its consolidated
statements of income.
Under current Federal Reserve regulations, the Capital Securities are
treated as Tier 1 capital of the Company for regulatory capital purposes. See
"Supervision and Regulation."
LIQUIDATION PREFERENCE RELATIVE TO COMMON STOCK. In the event of any
liquidation, dissolution or winding up of the Company, the holders of the
Capital Securities are entitled to receive payment prior to the holders of the
Common Stock.
DISTRIBUTIONS PAYABLE ON CAPITAL SECURITIES. Interest is payable by the
Company on the Subordinated Debentures (and, in turn, distributions are payable
by the Trust on the Capital Securities) on a quarterly
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basis at an annual rate of 11 3/4%. The Company has the right to defer payment
of interest on the Subordinated Debentures for a period not to exceed 20
consecutive quarterly periods. As a consequence of any such extension, quarterly
distributions on the Capital Securities will be deferred by the Trust for such
period. During any such deferral period, the Company may not, among other
things, declare or pay any dividend or distribution on, or redeem, purchase,
acquire, or make a liquidation payment with respect to, any of the Company's
capital stock, including, without limitation, the Common Stock.
REDEMPTION. The Capital Securities will be redeemed upon the redemption of
the Subordinated Debentures. The Subordinated Debentures are redeemable at the
option of the Company after June 6, 2007 at a redemption premium initially equal
to 105.875% of the liquidation amount of the securities (the principal amount
plus accrued and unpaid interest) and declining over 10 years ratably to 100%
thereof. In addition, upon the occurrence of a Regulatory Capital Event (a
regulatory shift impacting the Company's ability to treat the Capital Securities
as Tier 1 Capital), a Tax Event (a regulatory shift impacting the Company's
ability, among other things, to deduct interest payable on the Subordinated
Debentures) or an Investment Company Event (a regulatory shift whereby the Trust
would be required to be treated as an investment company under the Investment
Company Act), the Company would be required to repurchase the Subordinated
Debentures at the greater of their principal amount or the present value of
their principal amount plus scheduled interest payments for their remaining life
and the premium payable pursuant option redemption thereof.
DELAWARE TAKEOVER STATUTE
The Company is subject to Section 203 of the DGCL which, with certain
exceptions, prohibits a Delaware corporation from engaging in any of a broad
range of business combinations with any "interested" shareholder for a period of
three years following the date that such shareholder became an interested
shareholder, unless: (i) prior to such date, the Board of Directors of the
corporation approved either the business combination or the transaction which
resulted in the shareholder becoming an interested shareholder, (ii) upon
consummation of the transaction which resulted in the shareholder becoming an
interested shareholder, the interested shareholder owned at least 85% of the
voting stock of the corporation outstanding at the time the transaction
commenced, excluding for purposes of determining the number of shares
outstanding those shares owned (a) by persons who are directors and officers and
(b) by employee stock plans in which employee participants do not have the right
to determine confidentially whether shares held subject to the plan will be
tendered in a tender or exchange offer, or (iii) on or after such date, the
business combination is approved by the Board of Directors and authorized at an
annual or special meeting of shareholders by the affirmative vote of at least
66 2/3% of the outstanding voting stock which is not owned by the interested
shareholder. An "interested" shareholder is defined as any person that is (a)
the owner of 15% or more of the outstanding voting stock of the corporation or
(b) an affiliate or associate of the corporation and was the owner of 15% or
more of the outstanding voting stock of the corporation at any time within the
three-year period immediately prior to the date on which it is sought to be
determined whether such person is an interested shareholder.
REGISTRATION RIGHTS
The Company has agreed to register under the Securities Act, the resale
under certain circumstances, of shares of Common Stock held by DCG, Madison
Dearborn, Olympus, certain directors and other shareholders. The various
registration rights agreements generally obligate the Company to effect one or
more such registrations at the request of either DCG, Madison Dearborn or
Olympus or to permit those shareholders and the other beneficiaries of these
agreements to include their shares, subject to certain limitations, in one or
more registrations initiated by the Company. The Company has generally agreed to
bear all fees and expenses incurred by it in connection with any registration,
as well as the fees and expenses of one counsel for the selling shareholders.
The Company has also agreed to indemnify the selling shareholders against
certain liabilities in connection with any registration of the Common Stock,
including liabilities under the Securities Act.
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SHARES ELIGIBLE FOR FUTURE SALE
Upon completion of the Offering, the Company will have shares of
Common Stock outstanding, and shares of Common Stock issuable upon the
exercise of outstanding options and warrants. Of these shares, shares sold
pursuant to the Offering ( or shares if the Underwriters exercise their
over-allotment option in full) will be freely tradeable without restriction
under the Securities Act, except for any shares purchased by an "affiliate" (as
that term is defined in Rule 144) of the Company, which shares will be subject
to the resale limitations of Rule 144 of the Securities Act. The remaining
shares outstanding upon the completion of the Offering may be resold publicly
only upon registration under the Securities Act or in compliance with an
exemption from the registration requirements of the Securities Act, including
the exemption provided by Rule 144.
In addition, the Company has outstanding warrants to purchase shares of
Common Stock, which shares upon exercise will constitute restricted securities
within the meaning of Rule 144 and will be eligible for sale in the open market
subject to the applicable requirements of Rule 144 described below.
Upon completion of the Offering, , 1998, there will be shares
of Common Stock issuable upon the exercise of outstanding options under the
Company's 1997 Stock Option Plan and an additional shares of Common Stock
reserved for future award or grant under such plan. See "Executive Compensation
- -- Stock Option Plan." The Company has filed a registration statement on Form
S-8 to register shares of Common Stock for issuance under the 1997 Stock Option
Plan. Common Stock issued pursuant to such registration statement upon exercise
of outstanding vested options granted pursuant to the 1997 Stock Option Plan,
other than Common Stock issued to affiliates of the Company, is available for
immediate resale in the open market.
In general, under Rule 144, if a period of at least one year has elapsed
between the later of the date on which restricted securities were acquired from
the Company and the date on which they were acquired from an affiliate, then the
holder of such restricted securities (including an affiliate) is entitled to
sell that number of shares within any three-month period that does not exceed
the greater of (i) one percent of the then outstanding shares of the Common
Stock or (ii) the average weekly reported volume of trading of the Common Stock
during the four calendar weeks preceding such sales. Sales under Rule 144 also
are subject to certain requirements pertaining to the manner of such sales,
notices of such sales and the availability of current public information
concerning the Company. Any shares not constituting restricted securities sold
by affiliates must be sold in accordance with the foregoing volume limitations
and other requirements but without regard to the one year holding period. Under
Rule 144(k), if a period of at least two years has elapsed from the later of the
date on which restricted securities were acquired from the Company and the date
on which they were acquired from an affiliate, a holder of such restricted
securities who is not an affiliate at the time of the sale and has not been an
affiliate for at least three months prior to the sale would be entitled to sell
the shares immediately and without regard to the volume limitations and other
conditions described above. As of October 23, 1998, all of the shares of Common
Stock that are restricted securities under Rule 144 will have been held for more
than one year. See "Risk Factors -- Possible Future Sale of Shares."
The Company, its directors and executive officers and the principal
shareholders have agreed that they will not offer, sell, contract to sell,
pledge, grant any option for the sale of, or otherwise dispose or cause the
disposition of any shares of Common Stock, or securities convertible into or
exchangeable or exercisable for such shares, for a period of 180 days after the
date of this Prospectus without the prior written consent of Keefe, Bruyette &
Woods, Inc., except for (i) in the case of the Company, the grant of options
under the 1997 Stock Option Plan or in connection with acquisitions, and (ii) in
the case of directors, executive officers and the Principal Shareholders and
certain other shareholders, the exercise of Common Stock warrants and management
stock options pursuant to the 1997 Stock Option Plan and shares of Common Stock
disposed of as bona fide gifts, subject in each case to any remaining portion of
the 180-day period applying to shares so issued or transferred. In evaluating
any request for a waiver of the
101
<PAGE>
180-day lock-up period, Keefe, Bruyette & Woods, Inc. will consider, in
accordance with their customary practice, all relevant facts and circumstances
at the time of the request, including, without limitation, the recent trading
market for the Common Stock, the size of the request and, with respect to a
request by the Company to issue additional equity securities, the purpose of
such an issuance.
Sales of substantial amounts of Common Stock by existing shareholders could
have an adverse effect on the prevailing market price of the Common Stock. No
predictions can be made as to the effect, if any, that market sales of shares by
existing shareholders or the availability of such shares for future sales will
have on the market price of shares of Common Stock prevailing from time to time.
102
<PAGE>
UNDERWRITING
Subject to the terms and conditions of the Purchase Agreement among the
Company, the Selling Shareholders and the Representatives, on behalf of the
Underwriters, the Underwriters named below have severally agreed to purchase
from the Company and the Selling Shareholders, the following respective numbers
of shares of Common Stock at the initial public offering price less the
underwriting discounts and commissions set forth on the cover page of this
Prospectus.
<TABLE>
<CAPTION>
NAME NUMBER OF SHARES
- ----------------------------------------------------------------------------------------------- -----------------
<S> <C>
Keefe, Bruyette & Woods, Inc...................................................................
Lehman Brothers Inc............................................................................
-----------------
Total....................................................................................
-----------------
-----------------
</TABLE>
The Purchase Agreement provides that the obligations of the Underwriters are
subject to certain conditions precedent and that the Underwriters will purchase
all such shares of the Common Stock if any of such shares are purchased. The
Underwriters are obligated to take and pay for all of the shares of Common Stock
offered hereby (other than those covered by the over-allotment option described
below) if any are taken.
The Company has been advised by the Representatives of the Underwriters that
the Underwriters propose to offer such shares of Common Stock to the public at
the public offering price set forth on the cover page of this Prospectus and to
certain dealers at such price less a concession not in excess of $ per
share. The Underwriters may allow, and such dealers may re-allow, a concession
not in excess of $ per share to certain other dealers. After the initial
public offering, the offering price and other selling terms may be changed by
the Representatives of the Underwriters.
Pursuant to the Purchase Agreement, the Company has granted to the
Underwriters an option, exercisable not later than 30 days after the date of
this Prospectus, to purchase up to [ ] additional shares of
Common Stock at the public offering price, less the underwriting discounts and
commissions set forth on the cover page of this Prospectus, solely to cover
over-allotments. To the extent that the Underwriters exercise such option, each
Underwriter will become obligated, subject to certain conditions, to purchase
approximately the same percentage of such additional shares as the number set
forth next to such Underwriter's name in the preceding table bears to the total
number of shares in such table, and the Company will be obligated, pursuant to
the option, to sell such shares to the Underwriters.
The Company, each of its directors and executive officers, and the principal
shareholders have agreed with the Representatives of the Underwriters not to
sell or otherwise dispose of any shares of Common Stock, or any securities
convertible into or exercisable or exchangeable for shares of Common Stock, for
a period of 180 days after the date of this Prospectus without the prior written
consent of the Representatives, except for: (i) in the case of the Company, the
grant of options or restricted stock under management compensation arrangements
or in connection with acquisitions and (ii) in the case of such holders, the
exercise of Common Stock warrants and management stock options pursuant to the
1997 Stock Option Plan and shares of Common Stock disposed of as bona fide
gifts, subject, in each case, to any remaining portion of the 180-day period
applying to any shares so issued or transferred.
The Representatives of the Underwriters have advised the Company that the
Underwriters do not intend to confirm sales to any account over which they
exercise discretionary authority.
The Company and the Selling Shareholders have agreed to indemnify the
Underwriters against certain liabilities, including liabilities under the
Securities Act.
Until the distribution of the Common Stock is completed, rules of the
Commission (as defined herein) may limit the ability of the Underwriters and
certain selling group members to bid for and purchase the Common Stock. As an
exception to these rules, the Underwriters are permitted to engage in certain
103
<PAGE>
transactions that stabilize the price of the Common Stock. Such transactions
consist of bids or purchases for the purpose of pegging, fixing or maintaining
the price of the Common Stock.
If the Underwriters create a short position in the Common Stock in
connection with the Offering, i.e., if they sell a greater aggregate number of
shares of Common Stock than is set forth on the cover page of this Prospectus,
the Underwriters may reduce the short position by purchasing shares of Common
Stock in the open market. The Underwriters may also elect to reduce any short
position by exercising all or part of the over-allotment option described above.
The Underwriters may also impose a penalty bid on certain selling group
members. This means that if the Underwriters purchase Common Stock in the open
market to reduce the selling group members' short position or to stabilize the
price of the Common Stock, they may reclaim the amount of the selling concession
from the selling group members who sold those shares of Common Stock as part of
the Offering.
In general, purchases of a security for the purpose of stabilization or to
reduce a short position could cause the price of the security to be higher than
it might be in the absence of such purchases. The imposition of a penalty bid
might also have an effect on the price of a security to the extent that it were
to discourage resales of the security.
Neither the Company nor the Representatives make any representation or
prediction as to the direction or magnitude of any effect that the transactions
described above may have on the price of the Common Stock. In addition, neither
the Company nor the Representatives make any representation that the
Underwriters will engage in such transactions or that such transactions, once
commenced, will not be discontinued without notice.
The Underwriters and dealers may engage in passive market making
transactions in the shares of Common Stock in accordance with Rule 103 of
Regulation M promulgated by the Commission. In general, a passive market maker
may not bid for, or purchase, shares of Common Stock at a price that exceeds the
highest independent bid. In addition, the net daily purchases made by any
passive market maker generally may not exceed % of its average daily trading
volume in the Common Stock during a specified month prior period, or
shares, whichever is greater. A passive market maker must identify passive
market making bids as such on the Nasdaq electronic inter-dealer reporting
system. Passive market making may stabilize or maintain the market price of the
Common Stock above independent market levels. Underwriters and dealers are not
required to engage in passive market making and may end passive market making
activities at any time.
Prior to the Offering, there has been no public market for the Common Stock.
Consequently, the initial public offering price for the Common Stock will be
determined by negotiations between the Company and the Representatives of the
Underwriters. Among the factors to be considered in determining the initial
public offering price of the Common Stock will be prevailing market and general
economic conditions, the market capitalizations, trading histories and stages of
development of other traded companies that the Company and the Representatives
of the Underwriters believe to be comparable to the Company, the results of
operations of the Company in recent periods, the current financial position of
the Company, estimates of the business potential of the Company and the present
state of the Company's development and the availability for sale in the market
of a significant number of shares of Common Stock. Additionally, consideration
will be given to the general status of the securities market, the market
conditions for new issues of securities and the demand for securities of
comparable companies at the time the Offering is made.
Application will be made for quotation of the Common Stock on the Nasdaq
National Market.
104
<PAGE>
LEGAL MATTERS
Certain legal matters, including the validity of the Common Stock, have been
passed upon for the Company by Nutter, McClennen & Fish, LLP, Boston,
Massachusetts, and for the Underwriters by Skadden, Arps, Slate, Meagher & Flom
LLP, New York, New York. Michael K. Krebs, the Secretary of the Company, is a
partner of Nutter, McClennen & Fish, LLP.
EXPERTS
The financial statements as of December 31, 1997 and 1996 and for each of
the three years in the period ended December 31, 1997 included in this
Prospectus have been so included in reliance on the report of
PricewaterhouseCoopers LLP, independent accountants, given on the authority of
said firm as experts in auditing and accounting.
AVAILABLE INFORMATION
The Company has filed with the Securities and Exchange Commission (the
"Commission") a Registration Statement on Form S-1 (including any and all
amendments thereto, the "Registration Statement") under the Securities Act, with
respect to the Common Stock offered hereby. This Prospectus omits certain
information contained in the Registration Statement, and reference is made to
the Registration Statement and the exhibits and schedules thereto for further
information with respect to the Company and the Common Stock offered hereby.
Statements contained in this Prospectus concerning the provisions or contents of
any contract, agreement or any other document referred to herein are not
necessarily complete with respect to each such contract, agreement or document
filed as an exhibit to the Registration Statement, and reference is made to such
exhibit for a more complete description of the matters involved, and each such
statement shall be deemed qualified by such reference.
The Company is subject to certain of the informational requirements of the
Securities Exchange Act of 1934, as amended (the "Exchange Act"), and in
accordance with Section 15(d) thereof files reports and other information with
the Commission. Upon completion of the Offering, the Common Stock will be
registered under Section 12(g) of the Exchange Act, and the Company and its
affiliates will then also be subject to the other informational requirements of
the Exchange Act, including the obligation to file proxy statements and other
information with the Commission. Such reports, proxy statements and other
information, as well as the Registration Statement, including exhibits and
schedules thereto, may be inspected and copied at the public reference
facilities maintained by the Commission at Room 1024, Judiciary Plaza, 450 Fifth
Street, N.W., Washington, D.C. 20549, and at the following regional offices of
the Commission: Chicago Regional Office, Suite 1400, Citicorp Center, 14th
Floor, 500 West Madison Street, Chicago, Illinois 60661; and New York Regional
Office, Suite 1300, 7 World Trade Center, 13th Floor, New York, New York 10048.
Copies of such material can be obtained from such offices, upon payment of the
fees prescribed by the Commission. The Registration Statement and other
information filed by the Company with the Commission are also available at the
Commission's World Wide Web site at http:// www.sec.gov.
105
<PAGE>
REPORT OF INDEPENDENT ACCOUNTANTS
March 27, 1998
To the Board of Directors and Shareholders of
Commerce Security Bancorp, Inc.
In our opinion, the accompanying consolidated statement of condition and the
related consolidated statements of operations, of shareholders' equity and of
cash flows present fairly, in all material respects, the financial position of
Commerce Security Bancorp, Inc. and its subsidiaries (the "Company") at December
31, 1997 and 1996, and the results of their operations and their cash flows for
the years then ended in conformity with generally accepted accounting
principles. These financial statements are the responsibility of the Company's
management; our responsibility is to express an opinion on these financial
statements based on our audits. We conducted our audits of these statements in
accordance with generally accepted auditing standards which require that we plan
and perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements, assessing the accounting principles used and significant estimates
made by management, and evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for the opinion expressed
above.
PRICE WATERHOUSE LLP /s/
F-1
<PAGE>
COMMERCE SECURITY BANCORP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF CONDITION
<TABLE>
<CAPTION>
DECEMBER 31,
JUNE 30, ------------------------------
1998 1997 1996
---------------- -------------- --------------
<S> <C> <C> <C>
(UNAUDITED)
ASSETS
Cash and due from banks....................................... $ 160,245,000 $ 81,030,000 $ 32,522,000
Federal funds sold............................................ -- 40,000,000 13,700,000
Interest bearing deposits in other financial institutions..... -- -- 338,000
Held-to-maturity investment securities........................ -- -- 20,025,000
Available-for-sale investment securities...................... 61,054,000 67,295,000 15,175,000
Mortgage loans held for sale.................................. 187,603,000 96,230,000 64,917,000
Loans and leases, net......................................... 500,874,000 509,653,000 256,041,000
Servicing sale receivable..................................... 4,655,000 1,247,000 2,870,000
Premises and equipment, net................................... 9,539,000 11,232,000 3,911,000
Real estate acquired through foreclosure, net................. 1,499,000 2,740,000 3,635,000
Intangibles arising from acquisitions, net.................... 65,078,000 66,769,000 10,736,000
Accrued interest receivable and other assets.................. 32,763,000 26,159,000 13,190,000
---------------- -------------- --------------
Total assets.............................................. $ 1,023,310,000 $ 902,355,000 $ 437,060,000
---------------- -------------- --------------
---------------- -------------- --------------
</TABLE>
F-2
<PAGE>
COMMERCE SECURITY BANCORP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF CONDITION (CONTINUED)
<TABLE>
<CAPTION>
DECEMBER 31,
JUNE 30, ------------------------------
1998 1997 1996
---------------- -------------- --------------
<S> <C> <C> <C>
(UNAUDITED)
LIABILITIES AND SHAREHOLDERS' EQUITY
Deposits:
Demand:
Non-interest bearing...................................... $ 256,166,000 $ 289,344,000 $ 126,885,000
Interest bearing.......................................... 99,166,000 97,416,000 38,602,000
Savings:
Regular................................................... 190,350,000 98,465,000 42,190,000
Money market.............................................. 87,898,000 98,189,000 25,662,000
Time:
Under $100,000............................................ 141,751,000 99,713,000 123,789,000
$100,000 or more 101,271,000 82,076,000 25,903,000
---------------- -------------- --------------
Total deposits.......................................... 876,602,000 765,203,000 383,031,000
Federal funds purchased....................................... 3,374,000 2,050,000 --
Due to related parties........................................ 473,000 -- 4,500,000
Accrued expenses and other liabilities........................ 17,510,000 12,172,000 8,220,000
Mandatory convertible debentures.............................. -- 537,000 537,000
Subordinated debentures....................................... 27,657,000 27,657,000 --
---------------- -------------- --------------
Total liabilities....................................... 925,616,000 807,619,000 396,288,000
Commitments and contingencies (Note 17)
Shareholders' equity:
Preferred stock, $.01 par value, 1,500,000 shares
authorized; 58,296, 58,296 and -0- issued and outstanding
at June 30, 1998, December 31, 1997 and December 31, 1996,
respectively.............................................. 11,659,000 11,659,000 --
Special common stock, $.01 par value, 9,651,600 shares
authorized, 2,412,859, 2,412,859 and -0-issued and
outstanding at June 30, 1998, December 31, 1997 and
December 31, 1996, respectively........................... 48,000 48,000 --
Common stock, $.01 par value, 50,000,000 shares authorized;
6,760,839, 6,760,839 and 4,848,715 issued and outstanding
at June 30, 1998, December 31, 1997 and December 31, 1996,
respectively.............................................. 135,000 135,000 97,000
Additional paid-in capital.................................. 83,855,000 83,855,000 42,394,000
Retained earnings (deficit)................................. 3,314,000 524,000 (1,736,000)
Unearned compensation....................................... (1,258,000) (1,509,000) --
Unrealized gain on securities available-for-sale............ (59,000) 24,000 17,000
---------------- -------------- --------------
Total shareholders' equity.............................. 97,694,000 94,736,000 40,772,000
---------------- -------------- --------------
Total liabilities and shareholders' equity.............. $ 1,023,310,000 $ 902,355,000 $ 437,060,000
---------------- -------------- --------------
---------------- -------------- --------------
</TABLE>
See notes to consolidated financial statements.
F-3
<PAGE>
COMMERCE SECURITY BANCORP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENT OPERATIONS
<TABLE>
<CAPTION>
FOR THE SIX MONTHS ENDED
JUNE 30, FOR THE YEARS ENDED DECEMBER 31,
-------------------------- ---------------------------------------
1998 1997 1997 1996 1995
------------ ------------ ------------ ------------ -----------
(UNAUDITED)
<S> <C> <C> <C> <C> <C>
Interest income:
Interest and fees on loans................................ $ 31,253,000 $ 15,463,000 $ 43,103,000 $ 14,782,000 $ 4,086,000
Income from lease finance receivables..................... 2,582,000 2,168,000 4,127,000 1,601,000 --
Interest and dividend on securities....................... 1,919,000 1,693,000 4,979,000 1,968,000 311,000
Interest on Federal funds sold............................ 320,000 673,000 1,286,000 934,000 117,000
Interest on deposits with other financial institutions.... -- -- -- 67,000 54,000
------------ ------------ ------------ ------------ -----------
Total interest income................................... 36,074,000 19,997,000 53,495,000 19,352,000 4,568,000
Interest expense:
Interest bearing demand................................... 833,000 539,000 1,325,000 686,000 149,000
Money market.............................................. 1,740,000 507,000 2,336,000 493,000 --
Savings................................................... 3,732,000 2,138,000 5,117,000 1,150,000 346,000
Time...................................................... 5,245,000 4,188,000 9,365,000 5,241,000 1,075,000
Debentures................................................ 1,658,000 233,000 1,908,000 74,000 181,000
Federal funds purchased................................... 662,000 107,000 563,000 -- --
------------ ------------ ------------ ------------ -----------
Total interest expense.................................. 13,870,000 7,712,000 20,614,000 7,644,000 1,751,000
------------ ------------ ------------ ------------ -----------
Net interest income..................................... 22,204,000 12,285,000 32,881,000 11,708,000 2,817,000
Provision for loan and lease losses......................... 1,922,000 715,000 1,495,000 515,000 295,000
------------ ------------ ------------ ------------ -----------
Net interest income after provision for loan and lease
losses.................................................. 20,282,000 11,570,000 31,386,000 11,193,000 2,522,000
Non-interest income:
Service charges on deposit accounts....................... 1,780,000 652,000 2,675,000 2,911,000 464,000
Gain on sale of mortgage loans............................ 6,710,000 3,452,000 6,887,000 1,727,000 --
Other income.............................................. 2,871,000 1,885,000 5,342,000 261,000 232,000
------------ ------------ ------------ ------------ -----------
Total non-interest income............................... 11,361,000 5,989,000 14,904,000 4,899,000 696,000
Non-interest expense:
Salaries and employee benefits............................ 10,457,000 6,650,000 16,172,000 6,816,000 1,811,000
Occupancy and equipment................................... 3,504,000 2,491,000 5,959,000 2,726,000 861,000
Professional, regulatory and other services............... 749,000 335,000 1,230,000 733,000 346,000
Legal..................................................... 603,000 527,000 1,437,000 453,000 113,000
Insurance................................................. 266,000 287,000 637,000 262,000 114,000
Losses and carrying cost of OREO.......................... 408,000 249,000 382,000 288,000 531,000
Provision for recourse obligation (Note 6)................ -- 905,000 2,021,000 -- --
Amortization of goodwill and other intangibles............ 1,739,000 705,000 2,514,000 268,000 --
Other..................................................... 6,751,000 3,943,000 9,336,000 3,724,000 515,000
------------ ------------ ------------ ------------ -----------
Total non-interest expense.............................. 24,477,000 16,092,000 39,688,000 15,270,000 4,291,000
------------ ------------ ------------ ------------ -----------
Income (loss) before taxes and extraordinary item........... 7,166,000 1,467,000 6,602,000 822,000 (1,073,000)
Income tax benefit (provision).............................. (3,743,000) (912,000) (3,612,000) 1,503,000 443,000
------------ ------------ ------------ ------------ -----------
Income (loss) before extraordinary item..................... 3,423,000 555,000 2,990,000 2,325,000 (630,000)
Extraordinary item:
Gain on forgiveness of debt, net of income taxes of
$443,000................................................ -- -- -- -- 625,000
------------ ------------ ------------ ------------ -----------
Net income (loss)........................................... $ 3,423,000 $ 555,000 $ 2,990,000 $ 2,325,000 $ (5,000)
------------ ------------ ------------ ------------ -----------
------------ ------------ ------------ ------------ -----------
Net income available to common shareholders................. 2,787,000 470,000 $ 2,260,000 $ 2,325,000 $ (5,000)
Earnings per share (basic).................................. $ 0.30 $ 0.09 $ 0.31 $ 0.88 $ (0.04)
Earnings per share (dilutive)............................... $ 0.27 $ 0.09 $ 0.26 $ 0.88 $ (0.04)
</TABLE>
See notes to consolidated financial statements.
F-4
<PAGE>
COMMERCE SECURITY BANCORP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF SHAREHOLDERS' EQUITY
DECEMBER 31, 1997, 1996, AND 1995
<TABLE>
<CAPTION>
PREFERRED STOCK SPECIAL COMMON STOCK CLASS B COMMON STOCK
------------------------ ------------------------------------- ------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
ADDITIONAL ADDITIONAL
NUMBER OF PREFERRED NUMBER OF COMMON PAID-IN NUMBER OF COMMON PAID-IN
SHARES STOCK SHARES STOCK CAPITAL SHARES STOCK CAPITAL
----------- ----------- ----------- ----------- ----------- ----------- ---------- -----------
Balance at December 31,
1994.................. -- $ -- -- $ -- $ -- 564,145 $2,951,000 $ --
Merger and reverse stock
split (1 for 21)(Note
2).................... -- -- -- -- -- (537,281) (2,951,000) 2,951,000
Stock dividend.......... -- -- -- -- -- 26,864 1,000 156,000
Issuance of common
stock................. -- -- -- -- -- 841,739 8,000 4,486,000
Net loss................ -- -- -- -- -- -- -- --
----------- ----------- ----------- ----------- ----------- ----------- ---------- -----------
Balance at December 31,
1995.................. -- -- -- -- -- 895,467 9,000 7,593,000
Fractional share
adjustment............ -- -- -- -- -- 34
Issuance of common
stock--Liberty........ -- -- -- -- -- 3,432,105 34,000 13,373,000
Issuance of common
stock]Commerce........ -- -- -- -- -- 5,369,824 54,000 21,428,000
Unrealized gain on
securities available
for sale.............. -- -- -- -- -- -- -- --
Net income.............. -- -- -- -- -- -- -- --
----------- ----------- ----------- ----------- ----------- ----------- ---------- -----------
Balance at December 31,
1996.................. -- -- -- -- -- 9,697,430 97,000 42,394,000
Issuance of preferred
stock--Eldorado....... 116,593 11,659,000
Issuance of common
stock--Eldorado....... -- -- 4,825,718 48,000 23,164,000 3,820,875 38,000 17,966,000
Restricted stock
issuance.............. -- -- -- -- -- 427,556 4,000 2,008,000
Compensation expense....
Cancellation of shares
(Note 12)............. -- -- -- -- -- (424,182) (4,000) (1,677,000)
Unrealized gain on
securities available
for sale.............. -- -- -- -- -- -- -- --
Net income.............. -- -- -- -- -- -- -- --
Preferred dividends..... -- -- -- -- -- -- -- --
----------- ----------- ----------- ----------- ----------- ----------- ---------- -----------
Balance at December 31,
1997.................. 116,593 $11,659,000 4,825,718 $ 48,000 $23,164,000 13,521,679 $ 135,000 $60,691,000
----------- ----------- ----------- ----------- ----------- ----------- ---------- -----------
----------- ----------- ----------- ----------- ----------- ----------- ---------- -----------
<CAPTION>
<S> <C> <C> <C> <C>
UNREALIZED GAIN
RETAINED ON SECURITIES
EARNINGS UNEARNED AVAILABLE FOR
(DEFICIT) COMPENSATION SALE TOTAL
----------- -------------- ----------------- -----------
Balance at December 31,
1994.................. $(3,899,000) $ -- $ -- $ (948,000)
Merger and reverse stock
split (1 for 21)(Note
2).................... -- -- -- 0
Stock dividend.......... (157,000) -- -- 0
Issuance of common
stock................. -- -- -- 4,494,000
Net loss................ (5,000) -- -- (5,000)
----------- -------------- -------- -----------
Balance at December 31,
1995.................. (4,061,000) -- 3,541,000
Fractional share
adjustment............ --
Issuance of common
stock--Liberty........ -- -- -- 13,407,000
Issuance of common
stock]Commerce........ -- -- -- 21,482,000
Unrealized gain on
securities available
for sale.............. -- -- 17,000 17,000
Net income.............. 2,325,000 -- -- 2,325,000
----------- -------------- -------- -----------
Balance at December 31,
1996.................. (1,736,000) 17,000 40,772,000
Issuance of preferred
stock--Eldorado....... 11,659,000
Issuance of common
stock--Eldorado....... -- -- -- 41,216,000
Restricted stock
issuance.............. -- (2,012,000) -- 0
Compensation expense.... 503,000 -- 503,000
Cancellation of shares
(Note 12)............. -- -- -- (1,681,000)
Unrealized gain on
securities available
for sale.............. -- -- 7,000 7,000
Net income.............. 2,990,000 -- -- 2,990,000
Preferred dividends..... (730,000) -- -- (730,000)
----------- -------------- -------- -----------
Balance at December 31,
1997.................. $ 524,000 ($ 1,509,000) $ 24,000 $94,736,000
----------- -------------- -------- -----------
----------- -------------- -------- -----------
</TABLE>
See notes to consolidated financial statement.
F-5
<PAGE>
COMMERCE SECURITY BANCORP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF CASH FLOWS
<TABLE>
<CAPTION>
FOR THE SIX MONTHS ENDED JUNE
30, FOR THE YEARS ENDED DECEMBER 31,
------------------------------ --------------------------------------------
1998 1997 1997 1996 1995
-------------- -------------- -------------- -------------- ------------
(UNAUDITED)
<S> <C> <C> <C> <C> <C>
Operating Activities:
Net income (loss)................................. $ 3,423,000 $ 555,000 $ 2,990,000 $ 2,325,000 $ (5,000)
Adjustments to reconcile net income (loss) to net
cash provided by (used in) operating activities:
Provision for loan and lease losses............. 1,922,000 715,000 1,495,000 515,000 295,000
Provision for loss on real estate acquired
through foreclosure........................... -- 116,000 176,000 72,000 383,000
Gain on sale of mortgage loans.................. (6,710,000) (3,452,000) (6,887,000) (1,727,000) --
Loss on sale of premises and equipment.......... -- 16,000 11,000 85,000 --
(Gain) loss on sale of real estate owned........ 284,000 29,000 45,000 (135,000) --
Net gain on sale of securities.................. -- -- (221,000) -- --
Depreciation and amortization................... 1,359,000 540,000 1,702,000 642,000 201,000
Amortization of goodwill and other
intangibles................................... 1,406,000 705,000 2,514,000 178,000 --
Accretion/amortization related to securities,
net........................................... (281,000) 2,000 1,103,000 (252,000) --
Amortization of deferred compensation........... 252,000 -- 503,000 -- --
Amortization of deferred loan fees and costs.... (650,000) (667,000) (1,209,000) (109,000) (6,000)
Accretion of mortgage servicing asset........... -- -- 32,000 -- --
Provision (benefit) of deferred taxes........... 2,103,000 412,000 2,087,000 (1,503,000) (443,000)
Mortgage loans originated for sale.............. (754,377,000) (361,127,000) (889,175,000) (242,339,000) --
Proceeds from sales of loans and servicing...... 767,791,000 363,476,000 898,729,000 262,219,000 --
Mortgage servicing rights purchased and
originated.................................... -- -- -- (275,000) --
Equity in loss of real estate joint venture..... -- 306,000 254,000 56,000 --
Extraordinary item-gain on forgiveness of
debt.......................................... -- -- -- -- (1,068,000)
Decrease in servicing sale receivable........... (3,408,000) 1,625,000 1,623,000 -- --
Increase in loans held for sale................. (91,373,000) 993,000 (31,313,000) (47,769,000) --
Other, net...................................... (3,385,000) (342,000) 3,963,000 (6,700,000) 469,000
-------------- -------------- -------------- -------------- ------------
Net cash used in operating activities......... (81,644,000) 3,902,000 (11,578,000) (34,717,000) (174,000)
-------------- -------------- -------------- -------------- ------------
Investing Activities:
Decrease in interest bearing deposits with other
financial institutions.......................... -- 338,000 338,000 1,241,000 89,000
Purchases of investment securities................ (43,236,000) (17,016,000) (44,594,000) (32,445,000) (5,890,000)
Proceeds from maturities of investment
securities...................................... 6,244,000 -- 55,253,000 56,627,000 3,416,000
Proceeds from the sales of investment
securities...................................... 43,434,000 15,707,000 55,150,000 -- --
Loans/leases originated for portfolio, net of
principal repayment............................. 139,000 (5,198,000) (29,149,000) (29,022,000) 5,807,000
Purchases of premises and equipment............... (546,000) (220,000) (1,337,000) (860,000) (19,000)
Proceeds from sale of premises and equipment...... 1,211,000 9,000 98,000 56,000 --
Proceeds from sale of real estate acquired through
foreclosure..................................... 1,591,000 2,139,000 3,901,000 4,188,000 476,000
Capital expenditures for other real estate
owned........................................... -- (1,405,000) (26,000) (2,256,000) --
Purchase of Liberty National Bank, net of cash
received........................................ -- -- -- 7,283,000 --
Purchase of Commerce Security Bank, net of cash
received........................................ -- -- -- 53,175,000 --
Purchase of Eldorado Bank, net of cash received... -- (61,299,000) (61,299,000) -- --
-------------- -------------- -------------- -------------- ------------
Net cash (used in) provided by investing
activities.................................. 8,837,000 (66,945,000) (21,665,000) 57,987,000 3,879,000
-------------- -------------- -------------- -------------- ------------
</TABLE>
F-6
<PAGE>
COMMERCE SECURITY BANCORP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF CASH FLOWS (CONTINUED)
<TABLE>
<CAPTION>
FOR THE SIX MONTHS ENDED JUNE
30, FOR THE YEARS ENDED DECEMBER 31,
------------------------------ --------------------------------------------
1998 1997 1997 1996 1995
-------------- -------------- -------------- -------------- ------------
(UNAUDITED)
<S> <C> <C> <C> <C> <C>
Financing Activities:
Net increase (decrease) in deposits............... 111,399,000 50,309,000 39,235,000 (22,377,000) (4,445,000)
Issuance of subordinated debentures............... -- 27,657,000 27,657,000 -- --
Issuance of preferred stock....................... -- 11,659,000 11,659,000 -- --
Issuance of common stock.......................... -- 18,004,000 18,004,000 34,889,000 4,494,000
Issuance of special common stock.................. -- 23,212,000 23,212,000 -- --
Payment of preferred dividends.................... (636,000) (85,000) (730,000) -- --
Redemption of mandatory convertible debentures...... (537,000) (4,500,000) -- -- --
Repayment of notes payable to shareholder......... (68,000) -- -- -- (656,000)
Proceeds from issuance of notes payable to related
parties......................................... 540,000 -- -- 4,500,000 --
Net decrease in other borrowings.................. 1,324,000 8,009,000 (10,986,000) -- --
-------------- -------------- -------------- -------------- ------------
Net cash (used in) provided by financing
activities.................................. 112,022,000 134,265,000 108,051,000 17,012,000 (607,000)
-------------- -------------- -------------- -------------- ------------
Net increase in cash and cash equivalents........... 39,215,000 71,222,000 74,808,000 40,282,000 3,098,000
Cash and cash equivalents at beginning of period.... 121,030,000 46,222,000 46,222,000 5,940,000 2,842,000
-------------- -------------- -------------- -------------- ------------
Cash and cash equivalents at end of period.......... $ 160,245,000 $ 117,444,000 $ 121,030,000 $ 46,222,000 $ 5,940,000
-------------- -------------- -------------- -------------- ------------
-------------- -------------- -------------- -------------- ------------
Supplemental disclosures of cash flow information:
Cash paid for interest on deposits................ $ 12,432,000 $ 7,521,000 $ 18,643,000 $ 7,670,000 $ 1,673,000
Cash paid for income taxes........................ 1,640,000 500,000 1,525,000 -- 2,000
Supplemental disclosures of non-cash investing
activities:
Loans transferred to foreclosed real estate....... 634,000 1,379,000 3,483,000 2,526,000 982,000
Loans originated to finance the sale of real
estate.......................................... -- -- -- -- 371,000
Transfer of securities from held to maturity to
available for sale (Note 4)..................... -- -- 15,004,000 -- --
Supplemental disclosures of non-cash financing
activities:
Issuance of restricted stock...................... -- 2,012,000 2,012,000 -- --
</TABLE>
See notes to consolidated financial statements.
F-7
<PAGE>
COMMERCE SECURITY BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1997, 1996, AND 1995
NOTE 1--SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:
BASIS OF PRESENTATION
Commerce Security Bancorp, Inc., a Delaware corporation and bank holding
company, and its wholly-owned subsidiaries Eldorado Bank and CSBI Capital Trust
I are included in the accompanying consolidated financial statements and are
collectively referred to as the "Company" or the "Bank". Significant
intercompany transactions and accounts have been eliminated.
Prior to June 1997 and the acquisition of Eldorado Bank, the Company had
three subsidiaries, Commerce Security Bank (CSB), Liberty National Bank (LNB),
and San Dieguito National Bank (SDNB). On June 30, 1997, the Company merged the
then existing three subsidiaries into the newly acquired Eldorado Bank (the
"Bank Mergers"), and contemporaneously with the Bank Mergers, the Company merged
SDN Bancorp, Inc., an intermediate holding, into the Company. The resultant
structure is the Company with one wholly owned banking subsidiary, Eldorado
Bank.
BUSINESS
The Bank offers a broad range of commercial banking services in Northern and
Southern California, catering especially to small business. The Bank offers
commercial, real estate, consumer, Small Business Administration-guaranteed
loans as well as checking and savings deposits, corporate cash management,
international banking services, safe deposit boxes, collection, traveler's
checks, notary public and other customary non-deposit banking services.
RISKS AND UNCERTAINTIES
In the normal course of its business, the Company encounters two significant
types of risk: economic and regulatory. Economic risk is comprised of three
components--interest rate risk, credit risk and market risk. The Company is
subject to interest rate risk to the degree that its interest-bearing
liabilities mature and reprice at different speeds, or on a different basis,
than its interest-bearing assets. Credit risk is the risk of default on the
Company's loan portfolio that results from the borrower's inability or
unwillingness to make contractually required payments. Market risk results from
changes in the value of assets and liabilities which may impact, favorably or
unfavorably, the realizability of those assets and liabilities.
The Company is subject to the regulations of various governmental agencies.
These regulations can and do change significantly from period to period. The
Company is also subject to periodic examinations by the regulatory agencies,
which may subject it to changes in asset valuations, in amounts of required loss
allowances and in operating restrictions resulting from the regulators'
judgments based on information available to them at the time of their
examination.
RECENTLY ISSUED ACCOUNTING STANDARDS
In June 1996 the Financial Accounting Standards Board (FASB) issued
Statement of Financial Accounting Standards 125, "Accounting for Transfers and
Servicing of Financial Assets and Extinguishments of Liabilities" (SFAS 125).
This Statement provides consistent accounting and reporting standards for the
transfers and servicing of financial assets and the extinguishment of
liabilities. The Company adopted SFAS 125 effective January 1, 1997 and it did
not have a material impact on the Company's financial statements.
F-8
<PAGE>
COMMERCE SECURITY BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1997, 1996, AND 1995
NOTE 1--SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES: (CONTINUED)
In February 1997 the FASB issued SFAS 128, "Earnings per Share." This
Statement established new standards for computing and presenting earnings per
share and requires all prior period earnings per share data be restated to
conform with the provisions of the statement. Basic earnings per share is
computed by dividing net income available to common shareholders by the weighted
average number of shares outstanding during the period, as restated for shares
issued in business combinations accounted for as poolings-of-interests and stock
dividends. Diluted earnings per share is computed using the weighted average
number of shares determined for the basic computation plus the number of shares
of common stock that would be issued assuming all contingently issuable shares
having a dilutive effect on earnings per share were outstanding for the period.
In June 1997 the FASB issued SFAS 130, "Reporting Comprehensive Income."
This Statement provides that all enterprises report comprehensive income as a
measure of overall performance. Comprehensive income is the change to equity
(net assets) of a business during a period. The Statement includes the
guidelines for the calculations and required presentations. For the Company,
this new standard is effective for fiscal year 1998 and is not expected to have
a material impact on the Company's financial statements.
In June 1997 the FASB issued SFAS 131, "Disclosures About Segments of an
Enterprise and Related Information." This statement will change the way public
companies report information about segments of their business in their annual
financial statements and require them to report selected segment information in
their quarterly reports issued to shareholders. Companies will be required to
disclose segment data based upon how management makes decisions about allocating
resources to segments and measuring performance. For the Company, this new
standard is effective for 1998 and the impact, if any, is yet to be determined.
In February 1998 the FASB issued SFAS 132, "Employer's Disclosures about
Pensions and other Post-Retirement Benefits." This Statement standardizes the
disclosure requirements for pensions and other post-retirement benefits to the
extent practicable. For the Company, this new standard is effective for fiscal
year 1998 and is not expected to have a material impact.
CASH AND CASH EQUIVALENTS
Cash and cash equivalents include cash and due from banks and federal funds
sold. Generally, federal funds sold are sold for one-day periods.
INVESTMENT SECURITIES
The Company has classified its investment securities as held-to-maturity and
available-for-sale. No trading portfolio is maintained. Investment securities
are segregated in accordance with management's intention regarding their
retention. Accounting for each group of securities follows the requirement of
SFAS 115. "Accounting for Certain Investments in Debt and Equity Securities."
Investment securities classified as held-to-maturity are carried at cost,
adjusted for the amortization of premiums and the accretion of discounts.
Premiums and discounts are amortized and accreted to operations using the
straight line method, which management believes approximates the interest
method. Management has the intent and ability to hold these assets as long-term
investments until their expected maturities. Under certain circumstances,
including the significant deterioration of the issuer's credit
F-9
<PAGE>
COMMERCE SECURITY BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1997, 1996, AND 1995
NOTE 1--SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES: (CONTINUED)
worthiness or a significant change in tax-exempt status or statutory or
regulatory requirements, securities classified as held-to-maturity may be sold
or transferred to another classification.
Investment securities classified as available-for-sale may be held for
indefinite periods of time and may be sold to implement the Company's
asset/liability management strategies and in response to changes in interest
rates and/or prepayment risk and similar factors. These securities are recorded
at estimated fair value. Unrealized gains and losses are reported as a separate
component of shareholders' equity, net of income taxes.
Gains and losses on investment securities are determined on the specific
identification method and are included in other income.
LOANS HELD FOR SALE
Loans held for sale include mortgage loans carried at lower of cost or fair
value on an aggregate basis.
LOANS AND LEASES
Loans are stated at principal amounts outstanding, net of unearned income,
including discounts and fees. Net deferred fees and costs are generally deferred
and amortized into interest income over the contractual life of the related
loans as a yield adjustment. Direct financing leases, which include estimated
residual values of leased equipment, are carried net of unearned income. Income
from these leases is recognized on a basis which produces a level yield on the
outstanding net investment in the lease. The production of new leases comes
exclusively from the wholesale sector through a network of brokers, the Company
services these leases and during 1997, began selling blocks of leases to other
institutions. Leases held for resale are carried at the lower of cost or
estimated fair value on an aggregate basis. Gains and losses on the sale of
leases are recognized upon delivery based on the difference between selling
price and carrying value.
NON-ACCRUAL / IMPAIRED LOANS
When payment of principal or interest on a loan is delinquent for 90 days,
or earlier in some cases, the loan is placed on nonaccrual status, unless the
loan is in the process of collection and the underlying collateral fully
supports the carrying value of the loan. When a loan is placed on nonaccrual
status, interest accrued during the period prior to the judgment of
uncollectibility is charged to operations. Generally, any payment received on
nonaccrual loans is applied first to outstanding loan amounts and next to the
recovery of charged-off loan amounts. Any excess is treated as recovery of lost
interest.
The Company adopted SFAS 114, "Accounting by Creditors for Impairment of a
Loan," and SFAS 118, "Accounting by Creditors for Impairment of a Loan-Income
Recognition and Disclosures," as of January 1, 1995. SFAS 114 requires that
impaired loans be measured based on the present value of expected future cash
flows discounted at the loan's effective interest rate, the loan's observable
market price, or the fair value of the collateral if the loan is collateral
dependent. When the measure of the impaired loan is less than the recorded
balance of the loan, the impairment is recorded through a valuation allowance
included in the allowance for loan and lease losses. The Company had previously
measured the allowance for loan and lease losses using methods similar to those
prescribed in SFAS 114. As a result, no additional provision was required by the
adoption of this pronouncement.
F-10
<PAGE>
COMMERCE SECURITY BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1997, 1996, AND 1995
NOTE 1--SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES: (CONTINUED)
The Company considers a loan impaired when it is probable that both interest
and principal will not be collected in accordance with the contractual terms of
the agreement. All loans that are ninety days or more past due, or have been
restructured to provide a reduction in the interest rate or a deferral of
interest or principal are automatically included in this category.
ALLOWANCE FOR ESTIMATED LOAN AND LEASE LOSSES
A provision for estimated loan and lease losses is charged to expense when,
in the opinion of management, such losses are expected to be incurred or are
inherent in the portfolio. The allowance is increased by provisions charged to
expense, increased for recoveries of loans previously charged-off, and reduced
by charge-offs. Loans and leases are charged-off when management believes that
the collectibility of the principal is unlikely. Management's estimates are used
to determine the allowance that is considered adequate to absorb losses inherent
in the existing loan and lease portfolio. These estimates are inherently
uncertain and their accuracy depends on the outcome of future events. Ultimate
losses may differ from current estimates. Management's estimates are based on
historical loan loss experience, specific problem loans and leases, current
economic conditions that may impact the borrower's ability to pay, volume,
growth and composition of the loan portfolio, value of the collateral and other
relevant factors.
MORTGAGE BANKING ACTIVITIES
The Company originates and sells residential mortgage loans to a variety of
secondary market investors, including the Federal Home Loan Mortgage Corporation
(FHLMC), the Federal National Mortgage Association (FNMA) and others. The
Company has an arrangement with the Government National Mortgage Association
(GNMA) whereby loans originated by the Company are securitized by GNMA and sold
to others. Gains and losses on the sale of mortgage loans are recognized upon
delivery based on the difference between the selling price and the carrying
value of the related mortgage loans sold. Deferred origination fees and expenses
are recognized at the time of sale in the determination of the gain or loss. The
Company sells the servicing for such loans to either the purchaser of the loans
or to a third party. The Company recognizes the gain or loss on servicing sold
when all risks and rewards of ownership have transferred.
Mortgage loans held for sale are stated at the lower of cost or market as
determined by the outstanding commitments from investors or current investor
yield requirements calculated on an aggregate loan basis. Valuation adjustments
are charged against noninterest income.
Forward commitments to sell, and put options on mortgage-backed securities
are used to reduce interest rate risk on a portion of loans held for sale and
anticipated loan fundings. The resulting gains and losses on forward commitments
are deferred and included in the carrying values of loans held for sale.
Premiums on put options are capitalized and amortized over the option period.
Gains and losses on forward commitments and put options deferred against loans
held for sale approximately offset equivalent amounts of unrecognized gains and
losses on the related loans. Forward commitments to sell and put options on
mortgage-backed securities that hedge anticipated loan fundings are not
reflected in the consolidated statement of financial condition. Gains and losses
on these instruments are not recognized until the actual sale of the loans held
for sale. Loans generally fund in 10 to 30 days from the date of commitment.
F-11
<PAGE>
COMMERCE SECURITY BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1997, 1996, AND 1995
NOTE 1--SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES: (CONTINUED)
In 1996, the Company sold its portfolio of loan servicing and no longer
services mortgage loans for others. Previously, the Company capitalized the cost
of acquiring mortgage servicing rights through either purchase or origination of
mortgage loans if it sold or securitized those loans, and retained the
servicing. The Company allocated the cost of the mortgage loans to the mortgage
servicing rights and the loans (without the servicing rights) based on
observable market prices. Capitalized mortgage servicing rights were amortized
in proportion to, and over the period of, estimated net servicing income. Loan
servicing income represents fees earned for servicing real estate and
construction loan participations owned by investors, net of amortization
expense. The fees are generally calculated on the outstanding principal balances
of the loans serviced and are recorded as income when collected.
SBA LENDING
The Company is qualified as a "Preferred Lender" under the SBA programs,
allowing it to originate SBA loans based on its own underwriting decisions and
without prior approval of the SBA. The Company sells the government guaranteed
portion of the SBA loans at a premium, a portion of which is immediately
recognized as income. The remaining portion of the premium, representing the
estimated normal servicing fee retained by the Company, is capitalized and
recognized as income over the estimated life of the loan.
LOAN SERVICING RIGHTS
Loan servicing rights are accounted for under the provisions of SFAS No.
125, "Accounting for Transfers and Servicing of Financial Assets and
Extinguishments of Liabilities," which became effective January 1, 1997. SFAS
125 superseded SFAS 122, "Accounting for Mortgage Servicing Rights," but did not
significantly change the methodology used to account for servicing rights. The
servicing rights currently capitalized, included in other assets, are the result
of servicing rights retained on sold SBA loans and are being amortized in
proportion to and over the period of estimated servicing income. Management
stratifies servicing rights based on origination period and interest rate and
evaluates the recoverability in relation to the impact of actual and anticipated
loan portfolio prepayment, foreclosure, and delinquency experience. The Company
did not have a valuation allowance associated with the servicing rights
portfolio as of December 31, 1997.
PREMISES AND EQUIPMENT
Premises and equipment are carried at cost less accumulated depreciation and
amortization. Depreciation on furniture, fixtures and equipment is computed
using the straight-line method over the estimated useful lives, which range from
two to fifteen years. Leasehold improvements are amortized using the
straight-line method over the estimated useful lives of the improvements or the
remaining lease term, whichever is shorter. Expenditures for betterments or
major repairs are capitalized and those for ordinary repairs and maintenance are
charged to operations as incurred.
REAL ESTATE ACQUIRED THROUGH FORECLOSURE
Real estate acquired in settlement of loans is recorded at the lower of the
unpaid balance of the loan at settlement date or the fair value less estimated
costs to sell. A valuation allowance is established to reflect declines in value
subsequent to foreclosure, if any, below the new basis. Required developmental
costs associated with foreclosed property under construction are capitalized and
considered in determining
F-12
<PAGE>
COMMERCE SECURITY BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1997, 1996, AND 1995
NOTE 1--SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES: (CONTINUED)
the fair value of the property. Operating expenses of such properties, net of
related income, and gains and losses on their disposition are included in other
non-interest expenses.
INTANGIBLES ARISING FROM ACQUISITIONS
The Company has paid amounts in excess of fair value for CSB's, LNB's, and
Eldorado's core deposits and tangible assets. Such amounts are being amortized
by systematic charges to income (primarily for periods from 10 to 25 years) over
a period which is no greater that the estimated remaining life of the assets
acquired or not to exceed the estimated average remaining life of the existing
deposit base assumed. The Company periodically reviews intangibles to assess
recoverability and an impairment is recognized in operations if a permanent loss
of value occurs. The recoverability of intangibles arising from acquisitions is
evaluated if events or circumstances indicate a possible inability to realize
the carrying amount. Such evaluation is based upon various analyses, including
undiscounted cash flow projections.
FEDERAL AND STATE TAXES
The Company provides for income taxes under the provisions of SFAS 109,
"Accounting for Income Taxes." Under the liability method which is prescribed by
SFAS 109, a deferred tax asset and/or liability is computed for both the
expected future impact of differences between the financial statement and tax
bases of assets and liabilities, and for the expected future tax benefit to be
derived from tax loss and tax credit carryforwards. SFAS 109 also requires the
establishment of a valuation allowance, if necessary, to reflect the likelihood
of the realization of deferred tax assets. The effect of tax rate changes will
be reflected in income in the period such changes are enacted.
Deferred income taxes are provided by applying the statutory tax rates in
effect at the balance sheet date to temporary differences between the book basis
and the tax basis of assets and liabilities. The resulting deferred tax assets
and liabilities are adjusted to reflect changes in tax laws or rates.
STOCK-BASED COMPENSATION
On January 1, 1997, the Company adopted SFAS 123, "Accounting for
Stock-Based Compensation", which permits entities to recognize, as expense over
the vesting period, the fair value of all stock-based awards on the date of
grant.
Alternatively, SFAS 123 also allows entities to continue to apply the
provisions of Accounting Principles Board (APB) Opinion 25 and provide pro forma
net income and pro forma earnings per share disclosures for employee stock
option grants made in 1995 and future years as if the fair- value-based method
defined in SFAS 123 had been applied. The Company has elected to continue to
apply the provisions of APB Opinion 25, which requires compensation expense be
recorded on the date of grant only if the current market price of the underlying
stock exceeds the exercise price, and provide the pro forma disclosure
provisions of SFAS 123. See Note 13 of the Notes to Consolidated Statements for
the pro forma net income and pro forma earnings per share disclosures.
F-13
<PAGE>
COMMERCE SECURITY BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1997, 1996, AND 1995
NOTE 1--SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES: (CONTINUED)
PER SHARE DATA
All earnings per share amounts reflect the implementation of SFAS 128,
"Earnings per Share." The weighted average number of common shares outstanding
for basic and diluted earnings per share computations are as follows:
<TABLE>
<CAPTION>
NUMERATOR: 1997 1996 1995
- ------------------------------------------------------------------------- ------------ ------------ -----------
<S> <C> <C> <C>
Net income (loss) before extraordinary item.............................. $ 2,990,000 $ 2,325,000 $ (630,000)
Less: preferred stock dividend (730,000) -- --
------------ ------------ -----------
Net income (loss) before extraordinary item applicable to common shares
(Basic)................................................................ 2,260,000 2,325,000 (630,000)
Extraordinary item....................................................... -- -- 625,000
------------ ------------ -----------
Net income (loss) applicable to common shares............................ 2,260,000 2,325,000 (5,000)
Effect of dilutive securities............................................ -- -- --
------------ ------------ -----------
Net income (Dilutive).................................................... $ 2,260,000 $ 2,325,000 $ (5,000)
------------ ------------ -----------
------------ ------------ -----------
DENOMINATOR:
Weighted average common shares outstanding (Basic)....................... 7,406,062 2,650,386 134,099
Dilutive options and warrants............................................ 1,228,589 -- --
------------ ------------ -----------
Weighted average common stock outstanding (Dilutive)..................... 8,634,651 2,650,386 134,099
------------ ------------ -----------
------------ ------------ -----------
EARNINGS (LOSS) PER SHARE:
Basic:
Net income (loss) before extraordinary item............................ $ 0.31 $ 0.88 $ (4.70)
Extraordinary item..................................................... -- -- 4.66
------------ ------------ -----------
Net income (loss)...................................................... $ 0.31 $ 0.88 $ (0.04)
------------ ------------ -----------
------------ ------------ -----------
Dilutive:
Net income (loss) before extraordinary item............................ $ 0.26 $ 0.88 $ (4.70)
Extraordinary item..................................................... -- -- 4.66
------------ ------------ -----------
Net income (loss)...................................................... $ 0.26 $ 0.88 $ (0.04)
------------ ------------ -----------
------------ ------------ -----------
</TABLE>
RECLASSIFICATIONS
Certain prior year amounts have been reclassified to conform with the 1997
presentation.
ESTIMATES
The preparation of consolidated financial statements in conformity with
generally accepted accounting principles requires management to make estimates
and assumptions that affect the reported amounts of assets, liabilities and
disclosures in the consolidated financial statements. Actual results could
differ from those estimates.
F-14
<PAGE>
COMMERCE SECURITY BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1997, 1996, AND 1995
NOTE 2--ACQUISITIONS AND 1996 REORGANIZATION:
A key element of the Company's strategic plan includes building
profitability through acquisitions of community banks principally, but not
exclusively, in and around its Southern California base, including bank's which
are or recently were in troubled condition, and seeking to increase the earnings
of the banks it has acquired through a combination of expense reduction
programs, merger synergies, improvements in asset quality and strengthening of
capital position. Since September 1995, the Company has completed three
acquisitions, increasing the Company's assets by over $840 million, including
the acquisition, completed on June 6, 1997, of Eldorado Bancorp ("Eldorado") and
its bank subsidiary, Eldorado Bank, a community bank based in Tustin, California
with approximately $400 million in total assets (collectively with the financing
related thereto, the "Eldorado Acquisition").
On March 31, 1996, SDN Bancorp, Inc. ("SDN") completed its acquisition of
LNB (the "Liberty Acquisition") for approximately $15.1 million in cash. LNB had
total assets of approximately $150 million as of the acquisition date.
As of September 1, 1996, the Company completed the plan of reorganization
(the "1996 Reorganization") contemplated by the Agreement and Plan of
Reorganization dated April 23, 1996 (the "Agreement") between SDN and CSB. As
part of the 1996 Reorganization, SDN became a subsidiary of the Company,
effective August 31, 1996, in a transaction in which SDN shareholders received
shares of the Company's common stock in exchange for all of the outstanding
shares of SDN common stock. As of September 1, 1996, the Company completed the
acquisition of CSB (the "Commerce Acquisition") in which the Company acquired
all of the outstanding shares of CSB. Pursuant to the Agreement, holders of CSB
common stock received approximately $14.1 million in cash and a total of 771,846
shares of the Company. CSB had total assets of approximately $220 million at
September 1, 1996.
Effective June 6, 1997, the Company completed the Eldorado Acquisition. The
Eldorado Acquisition was effected pursuant to an Agreement and Plan of Merger
entered into between the Company and Eldorado on December 24, 1996 (the
"Acquisition Agreement"). Pursuant to the Acquisition Agreement, the Company
acquired 100% of the outstanding stock of Eldorado for cash consideration of
$23.00 per share. Contemporaneously with the Acquisition, each Eldorado stock
option that had not previously been exercised (collectively, the "Eldorado
Options") was canceled in return for payment by Eldorado of the difference
between the $23.00 price per share and the exercise price thereof. The aggregate
consideration paid to holders of Eldorado common stock and Eldorado Options (net
of the tax benefit arising out of the Eldorado Options) was approximately $90.3
million. Eldorado had total assets of approximately $400 million at June 6,
1997.
The Liberty, Commerce, and Eldorado Acquisition's were accounted for using
the purchase method of accounting in accordance with APB Opinion 16, "Business
Combinations". Under this method of accounting, the purchase price was allocated
to the assets acquired and deposits and liabilities assumed based on their fair
values as of the acquisition date. The consolidated financial statements include
the operations of LNB, CSB, and Eldorado from the date of acquisition.
Intangibles arising from the transactions totaled approximately $3.8 million in
the Liberty Acquisition, $7.2 million in the Commerce Acquisition and
approximately $50.2 million in the Eldorado Acquisition. Certain preacquistion
contingency reserves were established as of the acquisition dates that are
subject to adjustment during the "allocation period" in accordance with SFAS 38
"Accounting for Preacquisition Contingencies." The fair value of CSB has been
adjusted to reflect the resolution of these contingencies established relating
to certain litigation, writedowns of real estate owned and a settlement with the
principal shareholder of CSB.
F-15
<PAGE>
COMMERCE SECURITY BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1997, 1996, AND 1995
NOTE 2--ACQUISITIONS AND 1996 REORGANIZATION: (CONTINUED)
The following table sets forth selected pro forma combined financial
information of SDN, LNB, CSB, and Eldorado for the years ended December 31, 1997
and 1996. The pro forma operating data reflects the effect of the Liberty
Acquisition, the Commerce Acquisition and the Eldorado Acquisition, for periods
prior to acquisition, as if each was consummated at the beginning of the period
presented. The pro forma results are not necessarily indicative of the results
that would have occurred had such acquisitions actually occurred as of such
dates, nor are they necessarily indicative of the results of future operations.
<TABLE>
<CAPTION>
PRO FORMA COMBINED FOR
YEARS ENDED DECEMBER 31,
----------------------------
<S> <C> <C>
1997 1996
(UNAUDITED) (UNAUDITED)
------------- -------------
Interest Income.................................................................... $ 65,648,000 $ 60,876,000
Interest Expense................................................................... 25,182,000 24,483,000
------------- -------------
Net interest income................................................................ 40,466,000 36,393,000
Provision for loan and lease losses................................................ 1,495,000 1,158,000
------------- -------------
Net interest income after provision for loan and lease losses...................... 38,971,000 35,235,000
Non-interest income................................................................ 16,667,000 14,956,000
Non-interest expense............................................................... 48,407,000 53,508,000
------------- -------------
Income (loss) before taxes......................................................... 7,231,000 (3,317,000)
Income tax (benefit) provision..................................................... 4,141,000 (2,231,000)
------------- -------------
Net income (loss).................................................................. $ 3,090,000 $ (1,086,000)
------------- -------------
------------- -------------
</TABLE>
NOTE 3--CASH AND DUE FROM BANKS:
The Bank is required to maintain average reserve balances with the Federal
Reserve Bank. Included in cash and due from banks in the consolidated statement
of financial condition are restricted amounts aggregating $1,779,000 and
$1,775,000 at December 31, 1997 and 1996, respectively.
F-16
<PAGE>
COMMERCE SECURITY BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1997, 1996, AND 1995
NOTE 4--INVESTMENT SECURITIES:
At December 31, 1997 and 1996, the Company's investment portfolio is as
follows:
<TABLE>
<CAPTION>
DECEMBER 31, 1997
--------------------------------------------------
GROSS UNREALIZED ESTIMATED
AMORTIZED -------------------- MARKET
AVAILABLE FOR SALE: COST GAINS LOSSES VALUE
- -------------------------------------------------------------- ------------- --------- --------- -------------
<S> <C> <C> <C> <C>
U.S. Treasury................................................. $ 21,415,000 $ 51,000 $ -- $ 21,466,000
U.S. Government agencies...................................... 13,460,000 -- -- 13,460,000
State and municipal securities................................ 615,000 -- -- 615,000
Mortgage-backed securities.................................... 30,725,000 -- (9,000) 30,716,000
Corporate bonds............................................... 1,038,000 -- -- 1,038,000
------------- --------- --------- -------------
Total......................................................... $ 67,253,000 $ 51,000 $ (9,000) $ 67,295,000
------------- --------- --------- -------------
------------- --------- --------- -------------
</TABLE>
<TABLE>
<CAPTION>
DECEMBER 31, 1997
--------------------------------------------------
<S> <C> <C> <C> <C>
GROSS UNREALIZED ESTIMATED
AMORTIZED -------------------- MARKET
AVAILABLE FOR SALE: COST GAINS LOSSES VALUE
- -------------------------------------------------------------- ------------- --------- --------- -------------
U.S. Treasury................................................. $ 14,394,000 $ 25,000 $ (9,000) $ 14,410,000
State and municipal securities................................ 761,000 4,000 -- 765,000
------------- --------- --------- -------------
Total......................................................... $ 15,155,000 $ 29,000 $ (9,000) $ 15,175,000
------------- --------- --------- -------------
------------- --------- --------- -------------
</TABLE>
<TABLE>
<CAPTION>
DECEMBER 31, 1997
----------------------------------------------------
<S> <C> <C> <C> <C>
GROSS UNREALIZED ESTIMATED
AMORTIZED ---------------------- MARKET
HELD TO MATURITY: COST GAINS LOSSES VALUE
- ----------------------------------------------------------- ------------- --------- ----------- -------------
U.S. Treasury.............................................. $ 499,000 $ 3,000 $ -- $ 502,000
U.S. Government agencies................................... 19,226,000 30,000 (150,000) 19,106,000
State and municipal securities............................. 300,000 3,000 (1,000) 302,000
------------- --------- ----------- -------------
Total...................................................... $ 20,025,000 $ 36,000 $ (151,000) $ 19,910,000
------------- --------- ----------- -------------
------------- --------- ----------- -------------
</TABLE>
In conjunction with the Bank Mergers the Company changed its intent to hold
to maturity those securities classified as such. Accordingly, the Company
reclassified those securities that had an amortized cost of $15,495,000 and an
unrealized gain of $10,000 to available-for-sale and recorded them at estimated
fair value.
F-17
<PAGE>
COMMERCE SECURITY BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1997, 1996, AND 1995
NOTE 4--INVESTMENT SECURITIES: (CONTINUED)
Amortized cost and estimated market value of debt securities at December 31,
1997, by contractual maturity, are shown below.
<TABLE>
<CAPTION>
ESTIMATED
AMORTIZED MARKET
COST VALUE
------------- -------------
<S> <C> <C>
Due in one year or less.................................... $ 23,825,000 $ 23,875,000
Due after one year through five years...................... 8,980,000 8,982,000
Due after five years through ten years..................... 25,867,000 25,861,000
Due after ten years........................................ 8,581,000 8,577,000
------------- -------------
Subtotal................................................... $ 67,253,000 $ 67,295,000
------------- -------------
------------- -------------
</TABLE>
For purposes of the maturity table, mortgage-backed securities, which are
not due at a single maturity date, have been allocated over maturity groupings
based on the weighted-average contractual maturities of the underlying
collateral. The mortgage-backed securities may mature earlier than their
weighted-average contractual maturities because of principal prepayments.
Investment securities with an amortized cost of $15,019,000 and $8,963,000
and an estimated market value of $15,035,000 and $8,849,000 at December 31, 1997
and 1996, respectively, were pledged to secure public deposits and for other
purposes required or permitted by law.
Proceeds from sales and maturities of debt securities during 1997, 1996, and
1995 were $110,403,000, $56,627,000, and $3,416,000, respectively. Gross gains
of $308,000, $-0-, and $-0- were realized on those transactions. Gross losses on
sales totaled $87,000, $4,000, and $-0- for 1997, 1996, and 1995, respectively.
NOTE 5--LOANS AND LEASES:
The loan and lease portfolio consists of the various types of loans and
leases that are classified as held to maturity and available for sale. These
loans and leases by major type are as follows:
<TABLE>
<CAPTION>
DECEMBER 31,
------------------------------
<S> <C> <C>
1997 1996
-------------- --------------
Commercial real estate................................... $ 235,244,000 $ 86,397,000
Residential real estate.................................. 128,362,000 106,567,000
Real estate construction................................. 30,651,000 12,352,000
Consumer................................................. 62,323,000 22,512,000
Commercial............................................... 115,919,000 47,772,000
Land..................................................... 4,966,000 6,460,000
Direct financing leases.................................. 40,819,000 46,498,000
-------------- --------------
618,284,000 328,558,000
Less:
Allowance for loan and lease losses.................. (9,395,000) (5,156,000)
Deferred loan fees and costs......................... (3,006,000) (2,444,000)
-------------- --------------
Loans and leases, net.................................... $ 605,883,000 $ 320,958,000
-------------- --------------
-------------- --------------
</TABLE>
F-18
<PAGE>
COMMERCE SECURITY BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1997, 1996, AND 1995
NOTE 5--LOANS AND LEASES: (CONTINUED)
The components of the Bank's leases receivable are summarized below:
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
----------------------------
<S> <C> <C>
1997 1996
------------- -------------
Furniture minimum lease payments........................... $ 46,797,000 $ 53,508,000
Residuals.................................................. 796,000 511,000
Initial direct cots........................................ 1,363,000 1,018,000
Unearned income............................................ (8,137,000) (8,539,000)
------------- -------------
Total...................................................... $ 40,819,000 $ 46,498,000
------------- -------------
------------- -------------
</TABLE>
At December 31, 1997, future minimum lease payments receivable are as
follows:
<TABLE>
<S> <C>
1998............................................................. $ 25,348,000
1999............................................................. 13,730,000
2000............................................................. 5,970,000
2001............................................................. 1,653,000
2002............................................................. 94,000
Thereafter....................................................... 2,000
-------------
Total............................................................ $ 46,797,000
-------------
-------------
</TABLE>
An analysis of the activity in the allowance for loan and lease losses is as
follows:
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
--------------------------
<S> <C> <C>
1997 1996
------------ ------------
Balance at beginning of year.................................. $ 5,156,000 $ 639,000
Balance acquired.............................................. 4,076,000 4,382,000
Provision for loan and lease losses........................... 1,495,000 515,000
Loans charged off............................................. (2,503,000) (650,000)
Loan recoveries............................................... 1,171,000 270,000
------------ ------------
Balance at end of year........................................ $ 9,395,000 $ 5,156,000
------------ ------------
------------ ------------
</TABLE>
There are no contingent rental payments included in income for the year
ended December 31, 1997.
As of December 31, 1997 there were no loans outstanding to directors,
officers or entities with which each of these individuals are associated, which
in aggregate exceed $60,000 per individual, and there were $2,043,000 as of
December 31, 1996. In the opinion of management, all transactions entered into
between the Bank and such related parties have been and are in the ordinary
course of business, and made on the same terms and conditions consistent with
the Bank's general lending policies for similar transactions with unaffiliated
persons.
F-19
<PAGE>
COMMERCE SECURITY BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1997, 1996, AND 1995
NOTE 5--LOANS AND LEASES: (CONTINUED)
The following table represents information relating to nonperforming and
past due loans:
<TABLE>
<CAPTION>
DECEMBER 31,
---------------------------
<S> <C> <C>
1997 1996
------------- ------------
Nonaccrual, not restructured................................. $ 10,589,000 $ 5,483,000
90 days or more past due, not on nonaccrual.................. 4,638,000 1,314,000
Restructured loans........................................... 2,779,000 2,200,000
------------- ------------
Total........................................................ $ 18,006,000 $ 8,997,000
------------- ------------
</TABLE>
At December 31, 1997 and 1996, loans aggregating $13,368,000 and $7,683,000,
respectively, have been designated as impaired. The total allowance for loan
losses related to these loans was $1,585,000 and $695,000 at December 31, 1997
and 1996, respectively.
The average balance of impaired loans during 1997 and 1996 was $10,594,000
and $5,193,000, respectively. The Company is not committed to lending additional
funds to debtors whose loans have been modified.
With respect to the above nonperforming loans, the following table presents
interest income actually earned and additional interest income that would have
been earned under the original terms of the loans:
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER
31,
----------------------
<S> <C> <C>
1997 1996
---------- ----------
Nonaccrual loans:
Income recognized............................................... $ -- $ --
Income foregone................................................. 980,000 474,000
Restructured loans:
Income recognized............................................... 250,000 38,000
Income foregone................................................. 49,000 5,000
</TABLE>
NOTE 6--MORTGAGE BANKING ACTIVITIES:
The Bank originates and sells residential mortgage loans to secondary market
investors subject to certain recourse provisions. At December 31, 1997 and 1996,
the Bank had sold loans with recourse with an unpaid principal balance of
$61,512,000 and $27,118,000, respectively. The Bank had recorded a reserve of
$316,000 and $436,000, in connection with such sales at December 31, 1997 and
1996, respectively.
As part of its mortgage banking activities, prior to 1997, the Bank sold,
subject to recourse, VA No-Bid loans it originated. At December 31, 1997 and
1996, the Bank had limited recourse, on loans previously sold, with unpaid
principal balances of approximately $25,106,000 and $31,997,000, respectively.
The Bank has recorded reserves of $760,000 and $264,000 relating to these
recourse provisions as of December 31, 1997 and 1996, respectively. During 1997,
the Bank added to this reserve approximately $2,021,000 and charged off
approximately $1,525,000 to this account related to these repurchase
obligations. In management's opinion, these reserves are adequate to absorb
losses inherent in the outstanding recourse obligations.
F-20
<PAGE>
COMMERCE SECURITY BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1997, 1996, AND 1995
NOTE 7--REAL ESTATE ACQUIRED THROUGH FORECLOSURE:
An analysis of the activity in the allowance for credit losses on real
estate acquired through foreclosure as of December 31, 1997 and 1996 is as
follows:
<TABLE>
<CAPTION>
DECEMBER 31,
----------------------
<S> <C> <C>
1997 1996
---------- ----------
Balance at the beginning of year...................................... $ 485,000 $ 320,000
Balance acquired...................................................... -- 576,000
Provision charged to expense.......................................... 176,000 72,000
Balances related to properties sold................................... (209,000) (483,000)
Charge-offs........................................................... -- --
---------- ----------
Balance at the end of year............................................ $ 452,000 $ 485,000
---------- ----------
---------- ----------
</TABLE>
NOTE 8--PREMISES AND EQUIPMENT:
Premises and equipment are summarized as follows:
<TABLE>
<CAPTION>
DECEMBER 31,
---------------------------
<S> <C> <C>
1997 1996
------------- ------------
Land............................................................. $ 2,671,000 $ 204,000
Buildings........................................................ 6,161,000 369,000
Furniture, fixtures and equipment................................ 12,822,000 8,606,000
Leasehold improvements........................................... 5,007,000 2,694,000
Leasehold interests.............................................. 732,000 --
------------- ------------
27,393,000 11,873,000
Less: Accumulated depreciation and amortization.................. (16,161,000) (7,962,000)
------------- ------------
Premises and equipment, net...................................... $ 11,232,000 $ 3,911,000
------------- ------------
------------- ------------
</TABLE>
Depreciation and amortization of premises and equipment included in
operating expense amounted to $1,702,000, $642,000, and $201,000 in 1997, 1996
and 1995, respectively.
F-21
<PAGE>
COMMERCE SECURITY BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1997, 1996, AND 1995
NOTE 9--DEPOSITS:
A summary of deposits is as follows:
<TABLE>
<CAPTION>
DECEMBER 31,
------------------------------
<S> <C> <C>
1997 1996
-------------- --------------
Noninterest bearing:
Checking................................................... $ 205,998,000 $ 63,373,000
Bank controlled............................................ 6,391,000 4,211,000
Title and escrow........................................... 76,670,000 58,141,000
Custodial.................................................. 285,000 1,160,000
-------------- --------------
289,344,000 126,885,000
Interest bearing:
Passbook................................................... 98,465,000 42,190,000
NOW and Super NOW.......................................... 97,416,000 38,602,000
Money market............................................... 98,189,000 25,662,000
Certificates of deposit $100,000 or greater................ 82,076,000 25,903,000
Other certificates......................................... 99,713,000 123,789,000
-------------- --------------
475,859,000 256,146,000
-------------- --------------
Total deposits............................................... $ 765,203,000 $ 383,031,000
-------------- --------------
-------------- --------------
</TABLE>
A summary of certificates of deposit maturities is as follows:
<TABLE>
<CAPTION>
DECEMBER 31,
------------------------------
<S> <C> <C>
1997 1996
-------------- --------------
1998......................................................... $ 171,491,000 $ 138,142,000
1999......................................................... 10,134,000 11,400,000
2000......................................................... 99,000 60,000
2001......................................................... 65,000 90,000
2002......................................................... -- --
Thereafter................................................... -- --
-------------- --------------
$ 181,789,000 $ 149,692,000
-------------- --------------
-------------- --------------
</TABLE>
Interest expense for certificates of deposit in amounts of $100,000 or more
was $4,710,000, $677,000, and $218,000 for the years ended December 31, 1997,
1996, and 1995, respectively.
NOTE 10--BORROWINGS:
MANDATORY CONVERTIBLE DEBENTURES
In conjunction with the mergers on June 30, 1997 of SDN into the Company,
the Company assumed the obligations of SDN. Among these obligations were
mandatory convertible debentures that total approximately $537,000. The
mandatory convertible debentures bear interest at Wall Street Journal prime plus
3.0%, payable quarterly. The debentures are mandatorily convertible at March 30,
1998 into the Company's common stock, at a rate equal to the lower of: (i)
$105.00 per share (subject to certain anti-
F-22
<PAGE>
COMMERCE SECURITY BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1997, 1996, AND 1995
NOTE 10--BORROWINGS: (CONTINUED)
dilutive adjustments and the power of the Company's Board of Directors to reduce
the conversion price), or (ii) the then current fair market value per share of
the Company's common stock. Prior to March 30, 1998, the debentures are
convertible, at the option of the holder, between April 15 and June 15 of each
calendar year, or within 60 days after the date of any Notice of Redemption by
the Company, at a price of $52.50 per share (subject to certain anti-dilutive
adjustments and the power of the Company's Board of Directors to reduce the
conversion price).
The debentures are not subject to any sinking fund requirements and are
subordinated in right of payment to the obligations of the Company under any
other indebtedness. At the Company's option, the debentures are redeemable,
subject to Federal Reserve Bank approval, at 100% of par. The indenture does not
provide for a right of acceleration of the debentures upon a default in payment
of interest or principal or in the performance of any covenant in the debentures
or the indenture, and no trustee is appointed under the indenture to enforce the
rights of the debenture holders. Prior to conversion of the debentures, a
debenture holder has none of the rights or privileges of a shareholder of the
Company. The Company has provided the debenture holders with a Notice of
Redemption, and these debentures will be redeemed as of March 27, 1998.
SUBORDINATED DEBENTURES
In June 1997, CSBI Capital Trust I (the "subsidiary trust"), issued
$27,657,000 of 11 3/4% Trust Originated Preferred Securities (the "preferred
securities"). In connection with the subsidiary trust's issuance of the
preferred securities, the Company issued to the subsidiary trust $27,657,000
principal amount of its 11 3/4% subordinated debentures, due June 6, 2027 (the
"subordinated debentures"). The sole assets of the subsidiary trust are and will
be the subordinated debentures. The Company's obligation under the subordinated
debentures and related agreements, taken together, constitute a firm and
unconditional guarantee by the Company of the subsidiary trust's obligation
under the preferred securities.
NOTE 11--INCOME TAXES:
The components of the income tax provisions (benefits) for the years ended
December 31 are as follows:
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
----------------------------------------
<S> <C> <C> <C>
1997 1996 1995
------------ ------------- -----------
Current:
Federal........................................... $ 1,934,000 $ (38,000) $ --
State............................................. 819,000 5,000 --
------------ ------------- -----------
Total current provision (benefit)................. 2,753,000 (33,000) --
------------ ------------- -----------
Deferred:
Federal........................................... 835,000 (1,276,000) (322,000)
State............................................. 24,000 (194,000) (121,000)
------------ ------------- -----------
Total deferred provision (benefit)................ 859,000 (1,470,000) (443,000)
------------ ------------- -----------
Total income tax provision (benefit).............. $ 3,612,000 $ (1,503,000) $ (443,000)
------------ ------------- -----------
------------ ------------- -----------
</TABLE>
F-23
<PAGE>
COMMERCE SECURITY BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1997, 1996, AND 1995
NOTE 11--INCOME TAXES: (CONTINUED)
The amount of deferred tax assets (liabilities) resulting from each type of
temporary difference are as follows:
<TABLE>
<CAPTION>
DECEMBER 31,
--------------------------
<S> <C> <C>
1997 1996
------------ ------------
Deferred tax liabilities:
FHLB stock dividends............................................ $ (216,000) $ (174,000)
Depreciation.................................................... (575,000) (172,000)
Bad debt reserve recapture...................................... (1,860,000) 0
Deferred loan costs............................................. (462,000) (679,000)
State taxes..................................................... (17,000) (223,000)
Deferred lease acquisition cost................................. (611,000) 0
Core deposits................................................... (525,000) 0
Other........................................................... (45,000) 0
------------ ------------
Total deferred tax liabilities.................................. (4,311,000) (1,248,000)
------------ ------------
Deferred tax assets:
Provision for loan losses....................................... $ 4,216,000 $ 1,202,000
Accrued expenses................................................ 181,000 51,000
Other reserves.................................................. 248,000 645,000
Real estate acquired through foreclosure........................ 143,000 88,000
NOL carryforward................................................ 1,363,000 1,509,000
General business credit......................................... 77,000 77,000
AMT credit...................................................... 104,000 104,000
Salary continuation payable..................................... 375,000 0
Restricted stock................................................ 226,000 0
Accrued Legal................................................... 1,134,000 0
Refinance reserve............................................... 341,000 0
Other........................................................... 0 336,000
------------ ------------
Total deferred tax assets....................................... 8,408,000 4,012,000
------------ ------------
Net deferred tax asset............................................ $ 4,097,000 $ 2,764,000
------------ ------------
------------ ------------
</TABLE>
As of December 31, 1997, no valuation allowance has been established against
the recorded net deferred tax asset as, in management's opinion, it is more
likely than not that such asset will be realized.
F-24
<PAGE>
COMMERCE SECURITY BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1997, 1996, AND 1995
NOTE 11--INCOME TAXES: (CONTINUED)
The income tax provisions (benefits) varied from the federal statutory rate
of 34% for 1997, 1996 and 1995, for the following reasons:
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
-------------------------------
<S> <C> <C> <C>
1997 1996 1995
--------- --------- ---------
Statutory federal expected tax rate............................ 34.0% 34.0% 34.0%
Increase in income taxes resulting from:
State franchise tax (net of federal benefit)................. 8.4 7.5 7.5
Goodwill..................................................... 10.5 18.9 --
Other........................................................ 1.8 (0.4) (0.3)
--- --------- ---
Effective tax rate............................................. 54.7 60.0 41.2
Release of valuation allowance................................. -- (242.8) --
--- --------- ---
Total effective tax rate....................................... 54.7% (182.8)% 41.2%
--- --------- ---
--- --------- ---
</TABLE>
At December 31, 1997 the Bank had federal net operating loss carryforwards
of approximately $3,862,000, which expire in the years 2009 through 2011 and
California net operating loss carryforwards of approximately $1,200,000 which
will expire in the years 1999 through 2001.
Use of these NOLs are subject to limitations imposed by the Internal Revenue
Code Section 382, which restrict the use of NOLs in the event of a change in
ownership. These limitations are not expected to impact the Company's ability to
utilize these NOLs.
NOTE 12--STOCKHOLDERS' EQUITY:
LIBERTY ACQUISITION
As of March 27, 1996, Dartmouth Capital Group, L.P. ("Partnership" or
"DCG"), SDN's controlling shareholder, invested approximately $13.4 million in
SDN to fund the Liberty Acquisition. In exchange for that investment, SDN issued
a total of 1,696,202 additional shares of SDN common stock at a price per share
of $7.90, SDN's book value per share as of December 31, 1995. At the
Partnership's direction, SDN issued 882,000 of those shares of common stock, in
the aggregate, to certain limited partners of the Partnership (the "Direct
Holders") and the remaining 814,202 shares of common stock directly to the
Partnership. A total of 19,150 shares were issued to investment bankers involved
in the Liberty Acquisition and an additional 700 shares were issued to the
directors of Liberty at a price of $10.37 per share.
1996 REORGANIZATION
As of September 1, 1996, the Company completed the 1996 Reorganization
contemplated by the Agreement between SDN and CSB. As part of the 1996
Reorganization, SDN became a subsidiary of the Company, effective August 31,
1996, in a transaction in which SDN shareholders received shares of the
Company's common stock in exchange for all of the outstanding shares of SDN
common stock.
F-25
<PAGE>
COMMERCE SECURITY BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1997, 1996, AND 1995
NOTE 12--STOCKHOLDERS' EQUITY: (CONTINUED)
COMMERCE ACQUISITION
Prior to August 31, 1996, the Partnership invested approximately $14.5
million in SDN to fund the Commerce Acquisition. In exchange for that
investment, SDN issued a total of 1,832,388 additional shares of SDN common
stock at a price per share of $7.90 pursuant to a subscription agreement entered
into in March 1996. At the Partnership's direction, SDN issued 540,000 of those
shares of common stock, in the aggregate, to certain Direct Holders and the
remaining 1,292,388 shares of common stock directly to the Partnership.
Holders of SDN common stock were issued one share of Company common stock
for each share held in SDN. A total of 2,163,803 shares of SDN common stock were
outstanding at the time of the 1996 Reorganization. Holders of CSB common stock
were issued 763,770 shares of Company common stock and received cash of
approximately $14.1 million. An additional 29,106 shares of the Company's common
stock and cash of approximately $346,000 were held in escrow pending final
resolution of the SAIF recapitalization. As a result of legislation that
recapitalized the SAIF, passed on September 30, 1996, the stock and cash escrows
were distributed, with approximately $96,000 disbursed in cash and 8,075 shares
of common stock distributed. A total of 80,679 shares were issued to other
direct investors who invested in conjunction with the 1996 Reorganization and
investment bankers involved in the 1996 Reorganization.
ELDORADO ACQUISITION.
Approximately $94.8 million of cash was necessary to pay the cash
consideration to holders of Eldorado common stock and Eldorado stock options and
Eldorado Acquisition-related expenses incurred by the Company, of which $14.5
million was funded from Eldorado's excess capital and $80.3 million was raised
through the Company's sale, effective June 6, 1997, of Class B Common Stock,
Special Common Stock, a Junior Subordinated Debenture (and, indirectly, Series A
Capital Securities), Series B Preferred Stock and common stock warrants, as
described below.
CLASS B COMMON STOCK. In conjunction with the Eldorado Acquisition
financing, the 4,848,715 shares of Company common stock, $.01 par value per
share, outstanding immediately prior to the closing of the Eldorado Acquisition
were redesignated as "Class B Common Stock," and the Company issued 2,124,215
additional shares of Class B Common Stock to various accredited investors for
consideration of $20,016,000.
DCG, the Company's largest shareholder, purchased 506,122 of those shares of
Class B Common Stock for aggregate consideration of $4,795,000, of which $4.3
million initially was made in the form of a loan to the Company in December 1996
to fund an escrow account that would have been forfeited to Eldorado if the
Company were unable to consummate the Acquisition financing. Peter H. Paulsen, a
director of the Company, loaned $200,000 to the Company on the same terms as
DCG. That $4.5 million was converted to shares of Class B Common Stock upon the
consummation of the Acquisition at a purchase price of $8.80 per share less a 1%
commitment fee.
SPECIAL COMMON STOCK. The Company sold a total of 2,412,859 shares of
Special Common Stock, $.01 par value per share (the "Special Common"), to DCG,
Madison Dearborn Capital Partners II, L.P., ("MDP"), Olympus Growth Fund II,
L.P., ("Olympus I"), and Olympus Executive Fund, L.P., ("Olympus II" and
collectively with Olympus I, "Olympus") at a gross purchase price of $9.62 per
share, representing
F-26
<PAGE>
COMMERCE SECURITY BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1997, 1996, AND 1995
NOTE 12--STOCKHOLDERS' EQUITY: (CONTINUED)
an aggregate payment of $23,212,000. Neither MDP nor Olympus is an affiliate of
the other, and prior to their investment in the Company, neither was an
affiliate of the Company or DCG.
The Special Common Stock will be entitled to a liquidation preference over
the Class B Common Stock , in the case of a liquidation or a change in control
of the Company the distribution per share of Common Stock is less than $9.62.
With the exception of 463,913 shares of Non-Voting Special Common Stock issued
to each of MDP and Olympus, the Special Common Stock will have one vote per
share and will vote as a class with the Class B Common Stock. The Voting Special
Common and the Class B Common Stock are hereinafter sometimes referred to as the
"Voting Common Stock."
SUBORDINATED DEBENTURE AND SERIES A CAPITAL SECURITIES. CSBI Capital Trust
I (the "Trust"), a special purpose trust formed by the Company, issued a total
of 27,657 shares of 11 3/4% Series A Capital Securities, $1,000 initial
liquidation value per share (the "Series A Securities"), to DCG, MDP and Olympus
for an aggregate cash payment of $27,657,000. The Trust in turn invested the
proceeds of the Series A Securities in a Junior Subordinated Debenture issued by
the Company.
SERIES B PREFERRED STOCK. The Company issued a total of 116,593 shares of
11.0% Series B Preferred Stock, $100 par value per share (the "Series B
Preferred"), to DCG, MDP and Olympus for an aggregate amount of $11,545,210, net
of a 1% commitment fee.
COMMON STOCK WARRANTS. In connection with the purchase of the Series B
Preferred Stock, each of MDP and Olympus purchased a common stock warrant
(collectively, the "Investor Warrants") that entitles the holder to purchase
shares of Class B Common Stock at an exercise price of $9.62 per share. An
aggregate of 2,000,000 shares of Class B Common Stock are subject to the
Investor Warrants. The Investor Warrants expire on June 6, 2007. The aggregate
purchase price of the Investor Warrants was $40,000.
The Company also issued common stock warrants (collectively, the "Shattan
Warrants") to affiliates of The Shattan Group, LLC, which acted as the Company's
placement agent for the sale of securities to MDP and Olympus. The Shattan
Warrants, which were issued as of June 6, 1997 and July 15, 1997, respectively,
entitle the holders thereof to purchase an aggregate of 241,217 shares of Class
B Common Stock at an exercise price of $9.62 per share and expire on June 6,
2000 and July 15, 2002, respectively. The aggregate purchase price of the
Shattan Warrants was $4,824.
CANCELLATION OF COMMON STOCK
In October 1997, the Company settled litigation that it had brought against
the former majority shareholder of CSB, and certain other directors and officers
of CSB arising out of the Company's acquisition of CSB in September 1996. As
part of that settlement, the Company canceled 212,091 shares of Class B Common
Stock that was recorded as a purchase price adjustment.
NOTE 13--EMPLOYEE BENEFIT PLANS:
401(K) RETIREMENT PLAN
The Company has a retirement plan under Section 40l(k) of the Internal
Revenue Code. All employees of the Company are eligible to participate in the
40l(k) plan if they are twenty-one years of age or older and have completed 500
hours of service. Under the plan, eligible employees are able to
F-27
<PAGE>
COMMERCE SECURITY BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1997, 1996, AND 1995
NOTE 13--EMPLOYEE BENEFIT PLANS: (CONTINUED)
contribute up to 10% of their compensation (some limitations apply to highly
compensated employees). Company contributions are discretionary and are
determined annually by the Board of Directors. The Company's contribution was
approximately $310,000 for 1997 and -0- for 1996.
DEFINED BENEFIT PENSION PLAN
The Company has employment agreements with two executive officers that
provide for a defined benefit pension plan. Under the terms of the employment
agreements, a fixed monthly benefit is payable in 180 equal installments upon
reaching age 65. These employment agreements were assumed in conjunction with
the Eldorado Acquisition, and the Company had no such plans prior to 1997. The
defined benefit pension plan includes the following pension costs for the year
ended December 31, 1997:
<TABLE>
<S> <C>
Service cost of benefits earned during the year................... $ 43,342
Interest costs of projected benefit obligation.................... 66,815
Net amortization and deferral..................................... 23,000
---------
$ 133,157
---------
---------
</TABLE>
The funded status of the plan at December 31, 1997 was as follows:
<TABLE>
<S> <C>
Actuarial present value of vested benefit obligation........ $ 1,073,749
-----------
-----------
Accumulated and projected benefit obligation................ $ 1,073,749
Plan assets at fair value................................... -0-
-----------
Projected benefit obligation in excess of plan assets....... 1,073,749
Unrecognized net (loss) gain................................ (114,917)
Unrecognized prior service cost............................. (11,499)
-----------
Accrued pension and retirement cost included in accompanying
consolidated financial statements......................... 947,333
Additional minimum liability................................ 126,416
-----------
Required minimum liability.................................. $ 1,073,749
-----------
-----------
</TABLE>
The projected benefit obligation was determined using a weighted-average
assumed discount rate of 7.00% for the year ended December 31, 1997. The benefit
obligation is expected to be paid using Company assets upon the executive
officers reaching age 65.
RESTRICTED STOCK PLAN
During 1997, the Company's shareholders approved the adoption of a
Restricted Stock Plan, providing for the issuance of common stock to the
Company's president, subject to restrictions on sale or transfer. The
restrictions on sale or transfer expire over a period of four years which
coincides with the president's retirement. Under this plan 213,778 restricted
shares were issued with a market value of $2,012,000. This amount was recorded
as unearned compensation and is shown as a separate component of shareholders'
equity. Unearned compensation is being amortized to expense over the four year
vesting period with expense of $503,000 recorded for 1997.
F-28
<PAGE>
COMMERCE SECURITY BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1997, 1996, AND 1995
NOTE 13--EMPLOYEE BENEFIT PLANS: (CONTINUED)
STOCK OPTION PLAN
In January 1997, the Company adopted the Option Plan pursuant to which the
Company's Board of Directors or the Compensation Committee (the "Committee") may
grant stock options to the Company's president and other officers of the Company
or any of its subsidiaries. There are currently 728,600 shares of Class B Common
Stock subject to the Option Plan. The Option Plan provides only for the issuance
of so-called "nonqualified" stock options (as compared to incentive stock
options). At December 31, 1997 the Company's president and chief financial
officer held options to purchase 364,300 and 25,000 shares of Class B Common
Stock, respectively. The president had 154,750 options granted on February 4,
1997 and 209,550 options granted on July 15, 1997. The chief financial officer's
options were granted on June 6, 1997. In February 1998, the Company granted an
additional 105,000 options to purchase Class B Common Stock under the 1997 Plan
to certain officers and directors of the Bank. The exercise price for each
separate tranche is fixed based upon a semi-annual compounding of a "base rate"
using the 5-year U. S. Treasury rate in effect at the date of grant. The options
granted will vest over four years, in half-year increments, with the first
portion vesting on the 18-month anniversary of the date of grant. The Option
Plan provides that unless the Committee otherwise determines, the options will
have a six-year term, expiring on the sixth anniversary of the date of grant.
The president's options will become fully vested in connection with a change
in control, termination of his employment agreement by the Company without
cause, or if he dies or becomes permanently disabled.
For all other option holders, the options would become fully vested if the
option holder is actually or constructively terminated without cause during a
two-year period following a change in control.
A summary of transactions in the Option Plans for the year ended December
31, 1997 follows:
<TABLE>
<CAPTION>
AVAILABLE WEIGHTED
FOR GRANT OUTSTANDING AVERAGE PRICE
---------- ----------- --------------
<S> <C> <C> <C>
Shares authorized under the 1997 plan............... 728,600 -- --
Options granted..................................... (364,300) 364,300 $ 10.25
---------- ----------- --------------
Balance at December 31, 1997........................ 339,300 364,300 $ 10.25
---------- ----------- --------------
---------- ----------- --------------
Exercise Price...................................... $ 9.62-$12.20
--------------
--------------
</TABLE>
The Company did not have any options outstanding prior to 1997.
Additionally, there were no options canceled or exercised during 1997.
The Company applies APB Opinion 25 in accounting for its Options Plan and,
accordingly, no compensation cost has been recognized for its stock options in
the consolidated financial statements. Had the Company determined compensation
cost based on the fair value at the grant date for its stock options under the
methodology prescribed under SFAS 123, the Company's net earnings and earnings
per share for 1997 would have been reduced to the pro forma amounts indicated
below. The per share weighted-average fair value of the stock options granted
during 1997 was $1.23. The fair value of each option grant is
F-29
<PAGE>
COMMERCE SECURITY BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1997, 1996, AND 1995
NOTE 13--EMPLOYEE BENEFIT PLANS: (CONTINUED)
estimated on the date of grant using the Black-Scholes option-pricing model with
the following assumptions: expected dividend yield 0.0%, risk-free interest rate
of 5.5%, an expected life of 6 years and expected volatility of 20%.
<TABLE>
<S> <C>
Net earnings:
As reported................................................. $2,990,000
Pro forma................................................... $2,434,000
Basic earnings per share:
As reported................................................. $ 0.31
Pro forma................................................... $ 0.22
Diluted earnings per share:
As reported................................................. $ 0.26
Pro forma................................................... $ 0.18
</TABLE>
NOTE 14--CAPITAL ADEQUACY:
The Bank is subject to various regulatory capital requirements administered
by the federal banking agencies. Failure to meet minimum capital requirements
can initiate certain mandatory and possibly additional discretionary actions by
regulators that, if undertaken, could have a direct material effect on the
Bank's financial statements. Under capital adequacy guidelines and the
regulatory framework for prompt corrective action, the Bank must meet specific
capital guidelines that involve quantitative measures of the Bank's assets,
liabilities and certain off-balance sheet items as calculated under regulatory
accounting practices. The Bank's capital amounts and classifications are also
subject to qualitative judgment by the regulators about components, risk
weighting, and other factors.
Quantitative measures established by regulation to ensure capital adequacy
require the Bank to maintain minimum amounts and ratios (set forth in the table
below) of total and Tier 1 capital (as defined in the regulations) to
risk-weighted assets (as defined), and of Tier 1 capital (as defined) to average
assets (as defined). Management believes, as of December 31, 1997, that the Bank
meets all capital adequacy requirements to which it is subject.
As of December 31, 1997, the most recent notification from the Department of
Financial Institutions (DFI) categorized the Bank as well capitalized under the
regulatory framework for prompt corrective action. To be categorized as well
capitalized the Bank must maintain minimum total risk-based, Tier 1 risk-based,
and Tier 1 leverage ratios as set forth in the table. There are no conditions or
events since that notification that management believes have changed the Bank's
category.
F-30
<PAGE>
COMMERCE SECURITY BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1997, 1996, AND 1995
NOTE 14--CAPITAL ADEQUACY: (CONTINUED)
The Bank's actual capital amounts and ratios are presented in the table
below (dollars in thousands):
<TABLE>
<CAPTION>
DECEMBER 31, 1997 DECEMBER 31, 1996
-------------------------------------------- --------------------------------------------
MINIMUM CAPITAL MINIMUM CAPITAL
ACTUAL ADEQUACY ACTUAL ADEQUACY
-------------------- ---------------------- -------------------- ----------------------
RATIO AMOUNT RATIO AMOUNT RATIO AMOUNT RATIO AMOUNT
--------- --------- ----- --------- --------- --------- ----- ---------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Tier 1 Capital:
CSB, Inc. (1)................ 8.85% $ 55,600 4.0% $ 25,129 9.22% $ 29,867 4.0% $ 12,953
EB........................... 8.91 55,886 4.0 25,089 -- -- -- --
CSB (1)...................... -- -- -- -- 6.90 12,069 4.0 6.999
LNB.......................... -- -- -- -- 8.68 9,131 4.0 4,208
SDNB......................... -- -- -- -- 14.52 6,174 4.0 1,700
Leverage Capital:
CSB, Inc. (1)................ 6.59% $ 55,600 3.0% $ 25,311 6.98% $ 29,867 3.0% $ 12,845
EB........................... 6.64 55,886 3.0 25,250 -- -- -- --
CSB (1)...................... -- -- -- -- 4.99 12,069 3.0 7,251
LNB.......................... -- -- -- -- 6.19 9,131 3.0 4,428
SDNB......................... -- -- -- -- 11.05 6,174 3.0 1,676
Total Capital:
CSB, Inc. (1)................ 10.18% $ 64,014 8.0% $ 50,306 10.64% $ 34,466 8.0% $ 25,906
EB........................... 10.16 63,749 8.0 50,196 -- -- -- --
CSB (1)...................... -- -- -- -- 8.15 14,263 8.0 13,999
LNB.......................... -- -- -- -- 9.97 10,483 8.0 8,416
SDNB......................... -- -- -- -- 15.78 6,708 8.0 3,401
</TABLE>
- ------------------------
(1) Reflects March 1997 agreements which retroactively released CSB from
contingent recourse liability with respect to $206,309,000 of previously
sold mortgage servicing rights.
F-31
<PAGE>
COMMERCE SECURITY BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1997, 1996, AND 1995
NOTE 15--FINANCIAL INSTRUMENTS WITH OFF-BALANCE SHEET RISK:
In the ordinary course of business, the Company enters into various types of
transactions which involve financial instruments with off-balance sheet risk.
These financial instruments include commitments to extend credit and sell loans,
standby letters of credit, forward commitments to sell mortgage-backed
securities and put options to sell mortgage-backed securities and are not
reflected in the accompanying consolidated statement of financial condition.
These financial instruments carry various degrees of credit and market risk.
Credit risk is defined as the possibility that a loss may occur from the failure
of another party to perform according to the terms of the contract. Market risk
is the possibility that future changes in market prices will make a financial
instrument less valuable. Management does not anticipate that the settlement of
these financial instruments will have a material adverse effect on the Company's
financial position or results of operations.
The contract or notional amounts of those instruments reflect the extent of
the Company's involvement in particular classes of financial instruments. The
following is a summary of the notional amounts of various off-balance sheet
financial instruments entered into by the Company as of December 31, 1997:
<TABLE>
<S> <C>
Commitments to extend credit................................ $173,801,000
Standby letters of credit................................... 2,028,000
Put options to sell mortgage-backed securities.............. 10,000,000
Forward commitments to sell mortgage-backed securities...... 26,000,000
</TABLE>
The Company is principally engaged in providing commercial loans and leases
with interest rates that fluctuate with the various market indices and
variable-rate real estate loans. These loans are primarily funded through
short-term demand deposits and certificates of deposit with fixed rates. The
contractual amounts of commitment to extend credit, standby and commercial
letters of credit represent the amount of credit risk. Since many of the
commitments and letters of credit are expected to expire without being drawn,
the contractual amounts do not necessarily represent future cash requirements.
Commitments to extend credit are agreements to lend to a customer as long as
there are no violations of any conditions established in the contract. The
Company evaluates the creditworthiness of each customer. The amount of
collateral obtained, if deemed necessary by the Company upon the extension of
credit, is based upon management's evaluation. Collateral varies, but may
include securities, accounts receivable, inventory, personal property,
equipment, income property, commercial and residential property. Commitments
generally have fixed expiration dates or other terminal clauses and may require
the payment of fees. The Company experiences interest rate risk on commitments
to extend credit which are at fixed rates. There were no fixed rate commitments
at December 31, 1997 or 1996.
Standby letters of credit are written conditional commitments issued by the
Company to guarantee the performance of a customer to a third party, generally
in the production of goods and services or under contractual commitments in the
financial market. The credit risk involved in issuing letters of credit is
essentially the same as that involved in extending loan facilities to customers.
The Bank uses the same underwriting policies as if a loan were made.
The Bank's policy is to hedge a portion of its loans held for sale and its
commitments to originate loans against interest rate risk with forward
commitments to sell, or put options on, mortgage-backed securities. Forward
commitments are contracts for delayed delivery of securities in which the Bank
agrees to make delivery at a specified future date of a specified security, at a
specified price or yield. Put options
F-32
<PAGE>
COMMERCE SECURITY BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1997, 1996, AND 1995
NOTE 15--FINANCIAL INSTRUMENTS WITH OFF-BALANCE SHEET RISK: (CONTINUED)
convey to the Bank the right, but not the obligation, to sell the securities at
a contractually specified price. Risks arise from the possible inability of
counterparties to meet the terms of their contracts and from movements in
securities' values and interest rates. The Bank tries to minimize these risks by
dealing with only primary brokers and maintaining correlation with the asset or
commitment being hedged. The Bank monitors its exposure through the use of
valuation models provided by a financial advisory service. The unrealized losses
on open forward contracts to sell mortgage-backed securities were $44,000 and
$4,000 as of December 31, 1997 and 1996, respectively. There were no unrealized
losses on open put options to sell mortgage-backed securities as of December 31,
1997 and 1996.
Commitments to sell loans are agreements to sell loans originated by the
Bank to investors. These commitments may be optional or mandatory. Under an
optional commitment, a commitment fee is paid and the Bank carries no risk in
excess of the loss of such fee in the event that the Bank is unable to deliver
the loans into the commitment. Mandatory commitments may entail possible
financial risk to the Bank if it is unable to deliver the loans in sufficient
quantity or at sufficient rates for commitments which are at a fixed rate. There
were commitments of $26,000,000 and $17,161,000 at December 31, 1997 and 1996.
At December 31, 1997 the commitments were a combination of fixed and adjustable
rate loans with coupons ranging from 5.5% to 7.50% and with settlement dates
ranging from February 12, 1998 to February 24, 1998. The Bank had closed loans
at December 31, 1997 of $8,224,000 with which to satisfy those commitments and a
pipeline of unclosed loans of $43,507,000 that, in management's opinion, will be
sufficient to fulfill the balance of the commitment.
NOTE 16--DISCLOSURES ABOUT FAIR VALUES OF FINANCIAL INSTRUMENTS:
Fair values for each class of financial instruments are as follows:
<TABLE>
<CAPTION>
DECEMBER 31, 1997 DECEMBER 31, 1996
------------------------------ ------------------------------
CARRYING VALUE FAIR VALUE CARRYING VALUE FAIR VALUE
-------------- -------------- -------------- --------------
<S> <C> <C> <C> <C>
Financial Assets:
Cash and federal funds sold.................. $ 121,030,000 $ 121,030,000 $ 46,560,000 $ 46,560,000
Investment securities........................ 67,295,000 67,295,000 35,200,000 35,085,000
Loans and leases receivable.................. 522,054,000 527,736,000 263,641,000 265,235,000
Servicing sale receivable.................... 1,247,000 1,247,000 2,870,000 2,870,000
Mortgage loans held for sale................. 96,230,000 97,192,000 64,917,000 65,025,000
Financial Liabilities:
Deposits..................................... $ 765,203,000 $ 751,799,000 $ 383,031,000 $ 379,544,000
Federal funds purchased...................... 2,050,000 2,050,000 -- --
Due to related parties....................... -- -- 4,500,000 4,500,000
Mandatory convertible debentures............. 537,000 537,000 537,000 537,000
Guaranteed preferred beneficial interest in
the Company's junior subordinated
debentures................................. 27,657,000 27,657,000 -- --
</TABLE>
CASH AND FEDERAL FUNDS SOLD
For cash and Federal funds sold the carrying amount is a reasonable estimate
of fair value.
F-33
<PAGE>
COMMERCE SECURITY BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1997, 1996, AND 1995
NOTE 16--DISCLOSURES ABOUT FAIR VALUES OF FINANCIAL INSTRUMENTS: (CONTINUED)
INVESTMENT SECURITIES
All investment securities are marketable and have an easily determined
market value. Market quotes are used in determining the fair value.
LOANS AND LEASES RECEIVABLE
Loans were broken into fixed and variable rate loans for this analysis. The
credit risk component of the fair value analysis is assumed to be approximated
by the loan and lease loss reserve. A separate analysis is conducted on the
adequacy for the allowance for loan and lease losses and should be a reasonable
proxy for this credit risk component.
Fixed rate commercial and consumer loans are valued using a discounted cash
flow model that assumes a prepayment rate of 10% and a discount rate of prime
plus 50 basis points. These commercial and consumer loans were grouped into
categories and the weighted average maturity and rate were used in computing the
future cash flows. Leases are regularly sold into the secondary market and on
average have sold at a premium of approximately 3 percent. To determine the fair
value of leases, this potential sale premium was discounted to par to account
for the delinquent leases that would not garner the same sale premium. Fixed
rate residential mortgage loans were valued at par realizing that any premiums
attributable to the performing portfolio would be offset by discounts in the
delinquent portion of the portfolio.
Variable rate loans were broken down by loan type and evaluated based upon
the current weighted average rate of the loans in comparison to current market
conditions. Premiums of up to 2 percent were applied to those groups of loans
that had higher than market rates while loans at or below market were
discounted.
SERVICING SALE RECEIVABLE
The amounts recorded are generally collected within 90 days, and as such the
carrying amount is a reasonable estimate of the fair value.
MORTGAGE LOANS HELD FOR SALE
Loans held for sale are valued at a premium of 1%. These loans consist of
residential mortgage loans and are largely a fixed rate product. The premium
used approximates the gain that would be recognized on the sale of these loans,
discounted for hedging and sales costs.
DEPOSITS
Deposits consist of both non-interest and interest bearing accounts. Each
type of account has been valued differently as described below.
Non-interest bearing demand--Core non-interest bearing deposits are a
premium account for commercial banks and as such have been valued with a factor
of .95. Non-core type accounts such as title company deposits and custodial
accounts have been valued at par due to their temporary and volatile nature.
F-34
<PAGE>
COMMERCE SECURITY BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1997, 1996, AND 1995
NOTE 16--DISCLOSURES ABOUT FAIR VALUES OF FINANCIAL INSTRUMENTS: (CONTINUED)
Interest bearing demand, savings and money market accounts - These accounts
are all priced competitively in the marketplace and are low cost funds for the
Bank. As such, these deposits have also been ascribed as premium accounts and
value with a factor of .99.
Certificates of deposit--Certificates of deposit accounts ("CD") were marked
to market utilizing current CD rates compared to rates being paid. CDS were
grouped based upon their remaining maturities and the weighted average maturity
and rates were grouped based upon their remaining maturities and the weighted
average maturity and rates were utilized in the analysis. Current rates for CD's
were determined utilizing the Treasury rates for comparable maturities less 25
basis points.
Generally, rates currently being paid are higher than current market rates
which results in these accounts having a lower fair value.
BORROWINGS
Federal funds purchased are over-night investments and the carrying value is
a reasonable estimate of fair value. For subordinated debentures, having been
recently priced at the issuance in 1997, the carrying value is a reasonable
estimate of fair value. The mandatory convertible debentures will be redeemed at
par in March 1998, and as such the carrying value is also a reasonable estimate
of its fair value.
DUE TO RELATED PARTIES
Notes payable to related parties have a maturity of less than one year and
are stated at cost.
OFF-BALANCE SHEET FINANCIAL INSTRUMENTS
Commitments to Extend Credit and Standby Letters of Credit--The fair value
of commitments is estimated using the fees currently charged to enter into
similar agreements, taking into account the remaining terms of the agreements
and the present credit worthiness of the counterparties. The fair value of
letters of credit is based on fees currently charged for similar agreements or
on the estimated cost to terminate them or otherwise settle the obligations with
the counterparties at the reporting date. The fair value of commitments to
extend credit and standby letters of credit is not material.
Forward Commitments to Sell Mortgage-Backed Securities-- Fair value is based
on quoted prices for financial instruments with identical or similar terms. The
fair value of forward commitments to sell mortgage-backed securities is not
material.
Put Options to Sell Mortgage-Backed Securities--Fair value is derived from
active exchange quotations. The fair value of put options to sell
mortgage-backed securities is not material.
NOTE 17--COMMITMENTS AND CONTINGENCIES:
LITIGATION
As of December 31, 1997, no litigation was pending against Commerce Security
Bancorp, Inc.. The Bank is the plaintiff in an action, originally filed by CSB
in January 1994, seeking (among other things) to restrain a former CSB loan
production office manager from engaging in activities harmful to the Bank and
its employees. In June 1994, the former employee filed a cross-complaint against
the Bank and certain
F-35
<PAGE>
COMMERCE SECURITY BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1997, 1996, AND 1995
NOTE 17--COMMITMENTS AND CONTINGENCIES: (CONTINUED)
individual employees alleging wrongful termination, breach of contract,
defamation and various other causes of action. Following a jury trial, judgment
was entered against the Bank in October 1997, and this matter is now on appeal.
In conjunction with this initial judgment, the Bank recorded a reserve for the
full amount of the judgment.
The Company is from time to time subject to various legal actions (in
addition to that described above) which are considered to be part of its normal
course of business. Management, after consultation with legal counsel, does not
believe that the ultimate liability, if any, arising from those other actions
will have a materially adverse effect on the financial position or results of
operations of the Company.
A summary of noncancellable future operating lease commitments at December
31, 1997 is as follows:
<TABLE>
<S> <C>
1998.......................................................... $2,077,000
1999.......................................................... 1,780,000
2000.......................................................... 1,383,000
2001.......................................................... 855,000
2002.......................................................... 750,000
Thereafter.................................................... 2,918,000
----------
$9,763,000
----------
----------
</TABLE>
It is expected that in the normal course of business, expiring leases will
be renewed or replaced.
Rent expense under all noncancellable operating lease obligations aggregated
$2,302,000, $1,101,000 and $417,000 for the years ended December 31, 1997, 1996
and 1995, respectively.
DIVIDEND RESTRICTIONS
Federal Reserve policies declare that a bank holding company may not pay
cash dividends on its common stock unless its net income is sufficient to fund
fully such dividend, and its prospective rate of earnings retention after the
payment of such dividend appears consistent with its capital needs, asset
quality and overall financial condition. In connection with the Eldorado
Acquisition, the Company agreed that it will not pay dividends on common stock
without the prior approval of the Federal Reserve.
The Company is a legal entity separate and distinct from the Bank.
Substantially all of the Company's revenues and cash flow, including funds
available for the payments of dividends and other operating expenses, consists
of dividends paid to the Company by the Bank. There are statutory and regulatory
limitations on the amount of dividends which may be paid to the Company by the
Bank. Dividends payable by the Bank are restricted under California law to the
lesser of the Bank's retained earnings, or the Bank's net income for the latest
three fiscal years, less dividends previously declared during that period, or,
with the approval of the DFI, to the greater of the retained earnings of the
Bank, the net income of the Bank for its last fiscal year or the net income of
the Bank for its current fiscal year. In connection with the Eldorado
Acquisition, Eldorado Bank paid a dividend of $14 million, which exceeded the
Bank's net income for the latest three fiscal years. As a result, the Bank must
obtain the approval of the DFI with respect to the payment of any dividend up to
the greater of the Bank's retained earnings, the net income of the Bank for its
last fiscal year and the net income of the Bank for its current fiscal year. In
no event can the Bank pay a dividend in excess of such amounts.
F-36
<PAGE>
COMMERCE SECURITY BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1997, 1996, AND 1995
NOTE 17--COMMITMENTS AND CONTINGENCIES: (CONTINUED)
<TABLE>
<S> <C>
Federal Reserve regulations also limit the payment of dividends by a state
member bank. Under Federal Reserve regulations, dividends may not be paid unless
both undivided profits and earnings limitations have been met. First, no
dividend may be paid if it would result in a withdrawal of capital or exceed the
bank's undivided profits as reported in its most recent Report of Condition and
Income, without the prior approval of the Federal Reserve and two-thirds of the
shareholders of each class of stock outstanding. Second, a state member bank may
not pay a dividend without the prior written approval of the Federal Reserve if
the total of all dividends declared in one year exceeds the total of net income
for that year plus its retained net income for the preceding two calendar years.
The payment of dividends on capital stock by the Company and the Bank may
also be limited by other factors, including applicable regulatory capital
requirements and broad enforcement powers of the federal regulatory agencies.
Both the Federal Reserve and the DFI have broad authority to prohibit the
Company and the Bank from engaging in practices which the banking agency
considers to be unsafe or unsound. It is possible, depending upon the financial
condition of the Bank or the Company and other factors, that the applicable
regulator may assert that the payment of dividends or other payments by the Bank
or the Company is an unsafe or unsound practice and, therefore, implement
corrective action to address such a practice. Among other things, Federal
Reserve policies forbid the payment by bank subsidiaries to their parent
companies of management fees which are unreasonable in amount or exceed the fair
market value of the services rendered and tax sharing payments which do not
reflect the taxes actually due and payable.
The Federal Deposit Insurance Corporation Improvement Act of 1991 ("FDICIA")
generally prohibits a depository institution from making any capital
distribution (including payment of a dividend) or paying any management fee to
its holding company if the depository institution would thereafter be
"undercapitalized" for regulatory purposes. Those regulations and restrictions
may limit the Company's ability to obtain funds from the Bank for its cash
needs, including funds for payment of interest and operating expenses and
dividends.
NOTE 18--CONDENSED FINANCIAL INFORMATION PARENT COMPANY:
The following are condensed unconsolidated financial statements of Commerce
Security Bancorp, Inc.. The Company began operations in 1996, and thus the
statements of operations and cash flows are presented only for 1996 and 1997.
F-37
<PAGE>
COMMERCE SECURITY BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1997, 1996, AND 1995
NOTE 18--CONDENSED FINANCIAL INFORMATION PARENT COMPANY: (CONTINUED)
</TABLE>
CONDENSED STATEMENT OF CONDITION
<TABLE>
<CAPTION>
DECEMBER
31,
----------
1997 1996
-------------- -------------
<S> <C> <S> <C> <C>
Assets
Cash and due from banks......................................................... $ 262,000 $ 4,644,000
Investments..................................................................... 38,000 408,000
Investment in subsidiary........................................................ 73,779,000 39,617,000
Goodwill and other intangibles.................................................. 49,756,000 429,000
Receivables and other assets.................................................... 176,000 210,000
-------------- -------------
Total assets...................................................................... $ 124,011,000 $ 45,308,000
-------------- -------------
-------------- -------------
Liabilities and Shareholders' Equity
Guaranteed preferred beneficial interest in the Company's junior subordinated
debentures.................................................................... $ 28,513,000 $ --
Accrued expenses................................................................ 225,000 --
Mandatory convertible debentures................................................ 537,000 --
Due to subsidiary............................................................... -- 36,000
Notes payable to shareholders................................................... -- 4,500,000
-------------- -------------
Total liabilities................................................................. 29,275,000 4,536,000
-------------- -------------
Shareholders' equity
Preferred stock................................................................. 11,659,000 --
Common stock.................................................................... 183,000 97,000
Additional paid-in-capital...................................................... 83,855,000 42,394,000
Retained earnings (deficit)..................................................... 524,000 (1,736,000)
Unearned compensation........................................................... (1,509,000) --
Unrealized gain on investments, net of tax...................................... 24,000 17,000
-------------- -------------
Total shareholders' equity........................................................ 94,736,000 40,772,000
-------------- -------------
Total liabilities and shareholders' equity........................................ $ 124,011,000 $ 45,308,000
-------------- -------------
-------------- -------------
</TABLE>
F-38
<PAGE>
COMMERCE SECURITY BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1997, 1996, AND 1995
NOTE 18--CONDENSED FINANCIAL INFORMATION PARENT COMPANY: (CONTINUED)
CONDENSED STATEMENT OF OPERATIONS
<TABLE>
<CAPTION>
FOR THE YEARS ENDED
DECEMBER 31,
--------------------------
<S> <C> <C>
1997 1996
------------ ------------
Income:
Dividend from Bank.................................................................. $ 1,700,000 $ --
Interest income..................................................................... 51,000 8,000
Non-interest income................................................................. 866,000 154,000
------------ ------------
Total Income........................................................................ 2,617,000 162,000
Expenses:
Interest expense.................................................................... 1,959,000 --
Amortization of goodwill and intangibles............................................ 1,537,000 6,000
Non-interest expense................................................................ 1,453,000 156,000
------------ ------------
Total expense....................................................................... 4,949,000 162,000
Loss before taxes and equity in undistributed earnings of subsidiary.................. (2,332,000) --
Income tax benefit.................................................................... 1,161,000 --
------------ ------------
Loss before equity in undistributed earnings of subsidiary............................ (1,171,000) --
Equity in undistributed earnings of subsidiary........................................ 4,161,000 2,325,000
------------ ------------
Net income............................................................................ $ 2,990,000 $ 2,325,000
------------ ------------
------------ ------------
</TABLE>
F-39
<PAGE>
COMMERCE SECURITY BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1997, 1996, AND 1995
NOTE 18--CONDENSED FINANCIAL INFORMATION PARENT COMPANY: (CONTINUED)
CONDENSED STATEMENT OF CASH FLOWS
<TABLE>
<CAPTION>
FOR THE YEARS ENDED
DECEMBER 31,
----------------------------
1997 1996
------------- -------------
<S> <C> <C>
Operating activities:
Net income..................................................................... $ 2,990,000 $ 2,325,000
Adjustments to reconcile net income to net cash (used in) provided by operating
activities:
Equity in earnings of subsidiary............................................. (5,861,000) (2,325,000)
Accretion/amortization related to securities................................. -- 1,000
Dividends from subsidiary.................................................... 1,700,000 --
Loss on sale of securities, net.............................................. 7,000 --
Amortization of goodwill and other intangibles............................... 1,537,000 --
Amortization of compensation expense......................................... 503,000 --
Income taxes................................................................. 110,000 --
(Increase) decrease in other assets.......................................... 163,000 (639,000)
Increase (decrease) in other liabilities..................................... (443,000) 35,000
------------- -------------
Net cash (used in) provided by operating activities.............................. 706,000 (603,000)
------------- -------------
Investing activities:
Purchase of investment securities.............................................. -- (409,000)
Purchase of CSB................................................................ -- (20,327,000)
Purchase of SDN Bancorp........................................................ -- (21,008,000)
Merger of SDN Bancorp, net of cash received.................................... 22,000 --
Purchase of Eldorado, net of cash received..................................... (80,815,000) --
Maturities/Sales of investment securities...................................... 404,000 --
------------- -------------
Net cash used in investing activities............................................ (80,389,000) (41,744,000)
------------- -------------
Financing activities:
Issuance of capital securities................................................. 27,657,000 --
Issuance of preferred stock.................................................... 11,659,000 --
Issuance of Class B common stock............................................... 18,004,000 42,491,000
Net proceeds from issuance of notes payable.................................... -- 4,500,000
Issuance of senior common stock................................................ 23,212,000 --
Payment of dividends........................................................... (730,000) --
Other borrowings............................................................... (4,500,000) --
------------- -------------
Net cash provided by financing activities........................................ 75,301,000 46,991,000
------------- -------------
Net increase (decrease) in cash.................................................. (4,382,000) 4,644,000
Cash at beginning of year........................................................ 4,644,000 --
------------- -------------
Cash at end of year.............................................................. $ 262,000 $ 4,644,000
------------- -------------
------------- -------------
</TABLE>
F-40
<PAGE>
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
NO PERSON HAS BEEN AUTHORIZED TO GIVE ANY INFORMATION OR TO MAKE ANY
REPRESENTATION NOT CONTAINED IN THIS PROSPECTUS AND, IF GIVEN OR MADE, SUCH
INFORMATION OR REPRESENTATION MUST NOT BE RELIED UPON AS HAVING BEEN AUTHORIZED
BY THE COMPANY OR THE UNDERWRITERS. THIS PROSPECTUS DOES NOT CONSTITUTE AN OFFER
OF ANY SECURITIES OTHER THAN THE SECURITIES TO WHICH IT RELATES OF AN OFFER TO
ANY PERSON IN ANY JURISDICTION WHERE SUCH OFFER WOULD BE UNLAWFUL. NEITHER THE
DELIVERY OF THIS PROSPECTUS NOR ANY SALE MADE HEREUNDER SHALL, UNDER ANY
CIRCUMSTANCES, CREATE ANY IMPLICATION THAT THERE HAS NOT BEEN ANY CHANGE IN THE
AFFAIRS OF THE COMPANY OR THAT INFORMATION CONTAINED HEREIN IS CORRECT AS OF ANY
TIME SUBSEQUENT TO THE DATE HEREOF.
------------------------
TABLE OF CONTENTS
<TABLE>
<CAPTION>
PAGE
-----
<S> <C>
Summary........................................ 3
Risk Factors................................... 8
The Company.................................... 18
Use of Proceeds................................ 18
Capitalization................................. 19
Price Range of Common Stock and Dividend
Policy....................................... 20
Business....................................... 21
Selected Financial Data........................ 34
Management's Discussion and Analysis of
Financial Condition and Results of
Operations................................... 36
Supervision and Regulation..................... 69
Management..................................... 81
Executive Compensation......................... 85
Principal and Selling Shareholders............. 92
Certain Transactions........................... 95
Description of Capital Stock................... 98
Shares Eligible for Future Sale................ 101
Underwriting................................... 103
Legal Matters.................................. 105
Experts........................................ 105
Available Information.......................... 105
</TABLE>
SHARES
COMMERCE SECURITY
BANCORP, INC.
[LOGO]
COMMON STOCK
--------------
PROSPECTUS
--------------
KEEFE, BRUYETTE & WOODS, INC.
LEHMAN BROTHERS
, 1998
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
<PAGE>
PART II
INFORMATION REQUIRED IN THE REGISTRATION STATEMENT
ITEM 13. OTHER EXPENSES OF ISSUANCE AND DISTRIBUTION
The following table sets forth the various expenses in connection with the
sale and distribution of the securities being registered, other than
underwriting discounts and commissions. All of the amounts shown are estimated
except the Securities and Exchange Commission registration fee and the NASD
filing fee.
<TABLE>
<S> <C>
SEC registration fee............................................................... $ 13,570
NASD filing fee.................................................................... 5,100
Blue Sky fees and expenses.........................................................
Nasdaq entry fee...................................................................
Printing and engraving expenses....................................................
Legal fees and expenses............................................................
Accounting fees and expenses.......................................................
Transfer agent and registrar fees..................................................
Premium for directors' and officers' insurance.....................................
Miscellaneous......................................................................
---------
Total.......................................................................... $
---------
---------
</TABLE>
The Company will bear all of the foregoing fees and expenses.
ITEM 14. INDEMNIFICATION OF DIRECTORS AND OFFICERS
The Company is a Delaware corporation. Reference is made to Section 145 of
the Delaware General Corporation Law, as amended, which provides that a
corporation may indemnify any person who was or is a party to or is threatened
to be made a party to any threatened, pending or completed action, suit or
proceeding whether civil, criminal, administrative or investigative (other than
an action by or in the right of the corporation) by reason of the fact that he
is or was a director, officer, employee or agent of the corporation, or is or
was serving at the request of the corporation as a director, officer, employee
or agent of another corporation, partnership, joint venture, trust or other
enterprise, against expenses (including attorneys' fees), judgments, fines and
amounts paid in settlement actually and reasonably incurred by him in connection
with such action, suit or proceeding if he acted in good faith and in a manner
he reasonably believed to be in or not opposed to the best interests of the
corporation and, with respect to any criminal action or proceedings, had no
reasonable cause to believe his conduct was unlawful. Section 145 further
provides that a corporation similarly may indemnify any person who was or is a
party or is threatened to be made a party to any threatened, pending or
completed action or suit by or in the right of the corporation to procure a
judgment in its favor by reason of the fact that he is or was a director,
officer, employee or agent of the corporation, or is or was serving at the
request of the corporation as a director, officer, employee or agent of another
corporation, partnership, joint venture, trust or other enterprise, against
expenses (including attorneys' fees) actually and reasonably incurred by him in
connection with the defense or settlement of such action or suit if he acted in
good faith and in a manner he reasonably believed to be in or not opposed to the
best interests of the corporation and except that no indemnification shall be
made in respect of any claim, issue or matter as to which such person shall have
been adjudged to be liable to the corporation unless and only to the extent that
the Delaware Court of Chancery or the court in which such action or suit was
brought shall determine upon application that, despite an adjudication of
liability, but in view of all the circumstances of the case, such person is
fairly and reasonably entitled to indemnity for such expenses which the Court of
Chancery or such other court shall deem proper.
II-1
<PAGE>
The Company's Certificate of Incorporation provides that the Company's
directors shall not be liable to the Company or its shareholders for monetary
damages for any breach of fiduciary duty as a director, except to the extent
that exculpation from liability is not permitted under the Delaware General
Corporation Law. The provision does not eliminate liability of a director for
any act or omission occurring prior to the date on which the provision became
effective.
The Company maintains an indemnification insurance policy covering all
directors and officers of the Company and its subsidiaries.
ITEM 15. RECENT SALES OF UNREGISTERED SECURITIES
Described below are sales and other issuances of equity securities by the
Company during the past three years that were not registered under the Section 5
of the Securities Act of 1933, as amended (the "Securities Act"). The share data
presented below have been adjusted to give effect to the 1-for-2 reverse split
to be effected prior to the closing of the Offering.
1997
FUNDING FOR ELDORADO ACQUISITION. Approximately $94.8 million of cash was
necessary to pay the cash consideration to holders of Eldorado Bancorp common
stock and stock options and Eldorado Acquisition-related expenses incurred by
the Company. Of that amount, $14.5 million was funded from Eldorado's excess
capital through a dividend by Eldorado Bank and $80.3 million was raised through
the Company's sale, effective June 6, 1997, of Common Stock, a Junior
Subordinated Debenture (and, indirectly, Series A Capital Securities), Series B
Preferred Stock and common stock warrants, as described below. The issuance of
such securities was exempt from registration under the Securities Act by virtue
of Regulation D thereunder and/or Section 4(2) thereof.
COMMON STOCK. In conjunction with the Eldorado Acquisition financing, the
Company issued 2,124,215 additional shares of Common Stock to various accredited
investors for consideration, net of a 1% commitment fee, of $17,733,115. Of
those shares, 715,919 were sold to persons who, at the time of issuance, were
directors of the Company, affiliates of directors or nominees to become
directors. See "Certain Transactions."
DCG purchased 506,122 of those shares of Common Stock for aggregate
consideration, net of a 1% commitment fee, of $4,419,793, of which $4.3 million
initially was made in the form of a loan to the Company in December 1996 to fund
an escrow account that would have been forfeited to Eldorado Bancorp if the
Company were unable to consummate the Eldorado Acquisition financing. Peter H.
Paulsen, then a director of the Company, loaned $200,000 to the Company on the
same terms as DCG. That $4.5 million was converted to shares of Common Stock
upon the consummation of the Eldorado Acquisition at a purchase price of $8.80
per share less the 1% commitment fee, and the interest on such loan was
converted to Common Stock at a purchase price of $9.62 per share less the 1%
commitment fee, which was the same price at which the remaining shares of Common
Stock and the Special Common Stock were sold by the Company to fund the Eldorado
Acquisition.
The Company also sold a total of 2,412,859 shares of Common Stock to DCG,
Madison Dearborn and Olympus at a gross purchase price of $9.62 per share,
representing an aggregate payment, net of a 1% commitment fee, of $22,984,570.
Neither Madison Dearborn nor Olympus is an affiliate of the other, and prior to
their investment in the Company, neither was an affiliate of the Company or DCG.
The Common Stock acquired by DCG, Madison Dearborn and Olympus had a liquidation
preference if, in the case of a liquidation or a change in control of the
Company, the distribution per share of Common Stock is less than $9.62, which
liquidation preference will be eliminated prior to the closing of the Offering.
II-2
<PAGE>
SUBORDINATED DEBENTURE AND CAPITAL SECURITIES. CSBI Capital Trust I (the
"Trust"), a special purpose trust formed by the Company, issued a total of
27,657 of its 11 3/4% Subordinated Capital Income Securities, Series A, $1,000
initial liquidation value per security (the "Capital Securities"), to DCG,
Madison Dearborn and Olympus for an aggregate cash payment, net of a 1%
commitment fee, of $27,386,368. The Trust in turn invested the proceeds of the
Capital Securities in a Subordinated Debenture issued by the Company.
SERIES B PREFERRED STOCK. The Company issued a total of 116,593 shares of
11% Series B Preferred Stock, $100 par value per share (the "Series B
Preferred"), to DCG, Madison Dearborn and Olympus for an aggregate amount of
$11,545,210, net of a 1% commitment fee.
COMMON STOCK WARRANTS. In connection with the purchase of the Series B
Preferred, each of Madison Dearborn, Olympus and DCG purchased a common stock
warrant (collectively, the "Investor Warrants") that entitles the holder to
purchase shares of Common Stock at an exercise price of $9.62 per share. An
aggregate of 2,000,000 shares of Common Stock are subject to the Investor
Warrants. The Investor Warrants expire on June 6, 2007. The aggregate purchase
price of the Investor Warrants was $40,000.
The Company also issued common stock warrants (collectively, the "Shattan
Warrants") to The Shattan Group, LLC, which acted as the Company's placement
agent for the sale of securities to Madison Dearborn and Olympus. The Shattan
Warrants, which were issued as of June 6, 1997 and July 15, 1997, respectively,
entitle the holders thereof to purchase an aggregate of 241,216 shares of Common
Stock at an exercise price of $9.62 per share and expire on June 6, 2000 and
July 15, 2002, respectively. The aggregate purchase price of the Shattan
Warrants was $4,824.
KELLER RESTRICTED STOCK. During the year ended December 31, 1997, the
Company issued a total of 187,982 shares of Common Stock to Robert P. Keller,
President and Chief Executive Officer of the Company, pursuant to the terms of
the Mr. Keller's Employment Agreement with the Company. This issuance is in
addition to 25,796 shares under the same agreement related to activity in 1996
and reflected in 1997. The Company issuance of those shares was exempt from
registration under the Securities Act by virtue of Regulation D thereunder
and/or Section 4(2) thereof.
1996
As of March 27, 1996, DCG invested approximately $13.4 million in the
Company's predecessor, SDN Bancorp, Inc. ("SDN") to fund SDN's acquisition of
Liberty National Bank ("Liberty"). In exchange, SDN issued 1,696,202 shares of
common stock at a price of $7.90 per share. In addition, SDN issued a total of
19,850 shares of common stock to accredited investors contemporaneously with the
Liberty acquisition in exchange for cash or services at a price of $10.37 per
share. The issuance of such securities was exempt from registration under the
Securities Act by virtue of Regulation D thereunder and Section 4(2) thereof.
As of August 28, 1996, DCG invested approximately $14.5 million in the
Company's predecessor, SDN Bancorp, Inc. ("SDN"), to fund the Company's
acquisition of Commerce Security Bank ("CSB"). In exchange for that investment,
SDN issued 1,832,388 at a price per share of $7.90. The issuance of such shares
was exempt from registration under the Securities Act by virtue of Regulation D
thereunder or Section 4(2) thereof.
As of September 1, 1996, the Company effected a reorganization with SDN and
CSB pursuant to which holders of SDN common stock received for no additional
consideration one share of Common Stock for each share of SDN common stock then
outstanding and CSB shareholders received an aggregate of 771,846 shares of
Common Stock. The issuance of such shares was exempt from registration under the
Securities Act by virtue of Section 3(a)(10) thereof, as confirmed by a staff
no-action letter dated July 12, 1996.
II-3
<PAGE>
Contemporaneously with the SDN and CSB reorganization, the Company is a
total of 80,670 shares of Common Stock to accredited investors in exchange for
cash or services rendered in connection with that reorganization. The price per
share of Common Stock ranged from $7.90 to $10.25. The issuance of such shares
was exempt from registration under the Securities Act by virtue of Regulation D
thereunder or Section 4(2) thereof.
1995
As of September 30, 1995, DCG invested $4.9 million in SDN. In exchange, SDN
issued 420,870 shares of common stock at a price per share of $11.64 per share.
SDN utilized the proceeds on such investment primarily to recapitalize its bank
subsidiary, San Dieguito, to National Bank. The issuance of such securities was
exempt from registration under the Securities Act by virtue of Regulation D
thereunder or Section 4(2) thereof.
ITEM 16. EXHIBITS AND FINANCIAL STATEMENTS
(A) EXHIBITS.
<TABLE>
<CAPTION>
SEQUENTIAL
EXHIBIT DESCRIPTION PAGE NO.
- --------- ----------------------------------------------------------------------------------------------- -----------------
<C> <S> <C>
*1 Form of Underwriting Agreement
3.1 Amended and Restated Certificate of Incorporation (incorporated by reference to the Company's
Current Report on Form 8-K/A filed with the Commission on July 11, 1997)
3.2 By-laws of the Company (incorporated by reference to the Company's September 30, 1996 Quarterly
Report on Form 10-Q)
*4.1 Form of Specimen Stock Certificate
*5 Opinion of Nutter, McClennen & Fish, LLP
10.1 1997 Stock Option Plan (incorporated by reference to the Company's Registration Statement on
Form S-8 (File no. 333-50835))
10.2 Amended and Restated Declaration of Trust of CSBI Capital Trust I (incorporated by reference to
the Company's Current Report on Form 8-K/A filed with the Commission on July 11, 1997)
10.3 Indenture between the Company and Wilmington Trust Company, dated as of July 15, 1997
(incorporated by reference to the Company's Current Report on Form 8-K filed with the
Commission on August 7, 1997)
10.4 Form of Junior Subordinated Debenture (incorporated by reference to the Company's Registration
Statement on Form S-4 (File no. 333-51179))
10.5 Form of Series A Capital Securities Guarantee (incorporated by reference to the Company's
Registration Statement on Form S-4 (File no. 333-51179))
10.6 Form of Subordinated Capital Income Security, Series A (incorporated by reference to the
Company's Registration Statement on Form S-4 (File no. 333-51179))
10.7 Employment Agreement by and between the Company and Robert P. Keller (incorporated by reference
to the Company's Quarterly Report on Form 10-Q for the Quarter Ended September 30, 1996)
*10.8 Employment Agreement by and between the Bank and Cathy C. Clampitt
*10.9 Employment Agreement by and between the Bank and Larry Johnes
*10.10 Employment Agreement by and between the Bank and Richard Korsgaard
*10.11 Employment Agreement by and between the Bank and William Rast
*10.12 Form of Severance Agreement between the Company and certain executive officers
*10.13 Warrant Agreement by and between the Company and Madison Dearborn
*10.14 Warrant Agreement by and between the Company and Olympus
</TABLE>
II-4
<PAGE>
<TABLE>
<CAPTION>
SEQUENTIAL
EXHIBIT DESCRIPTION PAGE NO.
- --------- ----------------------------------------------------------------------------------------------- -----------------
<C> <S> <C>
*21 Subsidiaries of the Registrant
+23.1 Consent of PricewaterhouseCoopers LLP
*23.2 Consent of Nutter, McClennen & Fish, LLP (contained in Exhibit 5)
*24 Power of Attorney (contained in the signature page to this Registration Statement)
*27 Financial Data Schedule
</TABLE>
- ------------------------
* To be filed by amendment.
+ Filed herewith.
(B) FINANCIAL STATEMENT SCHEDULES
None
ITEM 17. UNDERTAKINGS
Insofar as indemnification for liabilities arising under the Securities Act
of 1933 may be permitted to directors, officers and controlling persons of the
Registrant pursuant to the foregoing provisions, or otherwise, the Registrant
has been advised that in the opinion of the Securities and Exchange Commission
such indemnification is against public policy as expressed in the Act and is,
therefore, unenforceable. In the event that a claim for indemnification against
such liabilities (other than the payment by the Registrant of expenses incurred
or paid by a director, officer or controlling person of the Registrant in the
successful defense of any action, suit or proceeding) is asserted by such
director, officer or controlling person in connection with the securities being
registered, the Registrant will, unless in the opinion of its counsel the matter
has been settled by controlling precedent, submit to a court of appropriate
jurisdiction the question whether such indemnification by it is against public
policy as expressed in the Act and will be governed by the final adjudication of
such issue.
The undersigned Registrant hereby undertakes that:
(1) For purposes of determining any liability under the Securities Act of
1933, the information omitted from the form of prospectus filed as part of this
Registration Statement in reliance upon Rule 430A under the Securities Act and
contained in a form of prospectus filed by the Registrant pursuant to Rule
424(b)(1) or (4) or 497(h) under the Securities Act shall be deemed to be part
of this Registration Statement as of the time it was declared effective.
(2) For the purpose of determining any liability under the Securities Act of
1933, each post-effective amendment that contains a form of prospectus shall be
deemed to be a new Registration Statement relating to the securities offered
therein, and the offering of such securities at that time shall be deemed to be
the initial bona fide offering thereof.
II-5
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Act of 1933, as amended, the
registrant has duly caused this Registration Statement to be signed on its
behalf by the undersigned, thereunto duly authorized, in the City of Laguna
Hills, State of California, on the 14th day of August 1998.
COMMERCE SECURITY BANCORP, INC.
BY: /S/ ROBERT P. KELLER
-----------------------------------------
Robert P. Keller
PRESIDENT AND CHIEF EXECUTIVE OFFICER
KNOW ALL PERSONS BY THESE PRESENTS, that each person whose signature appears
below on this Registration Statement hereby constitutes and appoints Robert P.
Keller and Michael K. Krebs, and each of them, with full power to act without
the other, his true and lawful attorney-in-fact and agent, with full power of
substitution and resubstitution, for him and in his name, place and stead, in
any and all capacities (until revoked in writing) to sign any and all amendments
(including post-effective amendments and amendments thereto) to this
Registration Statement on Form S-1 of the registrant, and to file the same, with
all exhibits thereto and other documents in connection therewith, with the
Securities and Exchange Commission, granting unto said attorneys-in-fact and
agents, and each of them, full power and authority to do and perform each and
every act and thing requisite and necessary fully to all intents and purposes as
he might or could do in person thereby ratifying and confirming all that said
attorneys-in-fact and agents or any of them, or their or his substitute or
substitutes, may lawfully do or cause to be done by virtue hereof.
PURSUANT TO THE REQUIREMENTS OF THE SECURITIES ACT OF 1933, AS AMENDED, THIS
REGISTRATION STATEMENT HAS BEEN SIGNED BY THE FOLLOWING PERSONS IN THE
CAPACITIES AND ON THE DATES INDICATED.
<TABLE>
<CAPTION>
SIGNATURE TITLE DATE
- ------------------------------ --------------------------- -------------------
<C> <S> <C>
/s/ ROBERT P. KELLER President, Chief Executive
- ------------------------------ Officer and Director August 14, 1998
Robert P. Keller
/s/ CURT A. CHRISTIANSSEN Senior Vice President and
- ------------------------------ Chief Accounting Officer August 14, 1998
Curt A. Christianssen
/s/ ERNEST J. BOCH Director
- ------------------------------ August 14, 1998
Ernest J. Boch
/s/ JAMES A. CONROY Director
- ------------------------------ August 14, 1998
James A. Conroy
Director
- ------------------------------
Edward A. Fox
/s/ CHARLES E. HUGEL Director
- ------------------------------ August 14, 1998
Charles E. Hugel
/s/ MITCHELL A. JOHNSON Director
- ------------------------------ August 14, 1998
Mitchell A. Johnson
</TABLE>
II-6
<PAGE>
<TABLE>
<CAPTION>
SIGNATURE TITLE DATE
- ------------------------------ --------------------------- -------------------
<C> <S> <C>
/s/ K. THOMAS KEMP Director
- ------------------------------ August 14, 1998
K. Thomas Kemp
Director
- ------------------------------
Jefferson W. Kirby
Director
- ------------------------------
John B. Pettway
/s/ HENRY T. WILSON Director
- ------------------------------ August 14, 1998
Henry T. Wilson
/s/ PAUL R. WOOD Director
- ------------------------------ August 14, 1998
Paul R. Wood
</TABLE>
II-7
<PAGE>
EXHIBIT INDEX
<TABLE>
<CAPTION>
SEQUENTIAL
EXHIBIT DESCRIPTION PAGE NO.
- --------- ----------------------------------------------------------------------------------------------- -----------------
<C> <S> <C>
*1 Form of Underwriting Agreement
3.1 Amended and Restated Certificate of Incorporation (incorporated by reference to the Company's
Current Report on Form 8-K/A filed with the Commission on July 11, 1997)
3.2 By-laws of the Company (incorporated by reference to the Company's September 30, 1996 Quarterly
Report on Form 10-Q)
*4.1 Form of Specimen Stock Certificate
*5 Opinion of Nutter, McClennen & Fish, LLP
10.1 1997 Stock Option Plan (incorporated by reference to the Company's Registration Statement on
Form S-8 (File no. 333-50835))
10.2 Amended and Restated Declaration of Trust of CSBI Capital Trust I (incorporated by reference to
the Company's Current Report on Form 8-K/A filed with the Commission on July 11, 1997)
10.3 Indenture between the Company and Wilmington Trust Company, dated as of July 15, 1997
(incorporated by reference to the Company's Current Report on Form 8-K filed with the
Commission on August 7, 1997)
10.4 Form of Junior Subordinated Debenture (incorporated by reference to the Company's Registration
Statement on Form S-4 (File no. 333-51179))
10.5 Form of Series A Capital Securities Guarantee (incorporated by reference to the Company's
Registration Statement on Form S-4 (File no. 333-51179))
10.6 Form of Subordinated Capital Income Security, Series A (incorporated by reference to the
Company's Registration Statement on Form S-4 (File no. 333-51179))
10.7 Employment Agreement by and between the Company and Robert P. Keller (incorporated by reference
to the Company's Quarterly Report on Form 10-Q for the Quarter Ended September 30, 1996)
*10.8 Employment Agreement by and between the Bank and Cathy C. Clampitt
*10.9 Employment Agreement by and between the Bank and Larry Johnes
*10.10 Employment Agreement by and between the Bank and Richard Korsgaard
*10.11 Employment Agreement by and between the Bank and William Rast
*10.12 Form of Severance Agreement between the Company and certain executive officers
*10.13 Warrant Agreement by and between the Company and Madison Dearborn
*10.14 Warrant Agreement by and between the Company and Olympus
*21 Subsidiaries of the Registrant
+23.1 Consent of PricewaterhouseCoopers LLP
*23.2 Consent of Nutter, McClennen & Fish, LLP (contained in Exhibit 5)
*24 Power of Attorney (contained in the signature page to this Registration Statement)
*27 Financial Data Schedule
</TABLE>
- ------------------------
* To be filed by amendment.
+ Filed herewith.
<PAGE>
Exhibit 23.1
CONSENT OF INDEPENDENT ACCOUNTANTS
We hereby consent to the use in the Prospectus constituting part of this
Registration Statement on Form S-1 of our report dated March 27, 1998,
relating to the consolidated financial statements of Commerce Security
Bancorp, Inc., which appear in such Prospectus. We also consent to the
references to us under the headings "Experts" and "Selected Financial Data"
in such Prospectus. However, it should be noted that PricewaterhouseCoopers
has not prepared or certified such "Selected Financial Data."
/s/ PricewaterhouseCoopers LLP
- ----------------------------------
PRICEWATERHOUSECOOPERS LLP
Los Angeles, California
August 14, 1998
