<PAGE>
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
[x] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the Quarterly Period Ended September 30, 1998 .
---------------------
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the Transition Period from to
---------- ----------
Commission File No. 0-25418 .
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CENTRAL COAST BANCORP
- -------------------------------------------------------------------------------
(Exact name of registrant as specified in its charter)
California 77-0367061
- ---------------------------------- --------------------------
(State or other jurisdiction of (IRS Employer ID Number)
incorporation or organization)
301 Main Street, Salinas, California 93901
- ----------------------------------------- --------------------------
(Address of principal executive offices) (Zip code)
(831) 422-6642
--------------------------------
(Registrant's telephone number,
including area code)
not applicable
---------------------------------------------------------------
(Former name, former address and former fiscal year, if changed
since last report.)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or such shorter period that the registrant was required
to file such reports), and (2) has been subject to such filing requirements for
the past 90 days.
Yes X No
----- -----
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date:
No par value Common Stock - 4,913,970 shares outstanding at October 29, 1998.
Page 1 of 30
The Index to the Exhibits is located at Page 30
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<TABLE>
<CAPTION>
PART I - FINANCIAL INFORMATION
Item 1. Financial Statements:
CENTRAL COAST BANCORP AND SUBSIDIARIES
CONSOLIDATED CONDENSED BALANCE SHEETS (Unaudited)
- ------------------------------------------------------------------------------------------------------------------------------
September 30, 1998 December 31, 1997
- ------------------------------------------------------------------------------------------------------------------------------
Assets
<S> <C> <C>
Cash and due from banks $40,827,000 $39,891,000
Federal funds sold 47,507,000 64,706,000
- ------------------------------------------------------------------------------------------------------------------------------
Total cash and equivalents 88,334,000 104,597,000
Securities:
Available-for-sale 109,002,000 91,481,000
Held-to-maturity - 39,048,000
(Market value: $39,105,000 at December 31, 1997)
Loans held for sale 4,523,000 1,331,000
Loans:
Commercial 129,101,000 124,714,000
Real estate-construction 21,887,000 14,645,000
Real estate-other 132,522,000 107,354,000
Installment 10,199,000 9,349,000
- ------------------------------------------------------------------------------------------------------------------------------
Total loans 293,709,000 256,062,000
Allowance for credit losses (4,346,000) (4,223,000)
Deferred loan fees, net (628,000) (568,000)
- ------------------------------------------------------------------------------------------------------------------------------
Net Loans 288,735,000 251,271,000
- ------------------------------------------------------------------------------------------------------------------------------
Premises and equipment, net 2,434,000 2,001,000
Accrued interest receivable and other assets 6,644,000 7,945,000
- ------------------------------------------------------------------------------------------------------------------------------
Total assets $499,672,000 $497,674,000
==============================================================================================================================
Liabilities and Shareholders' Equity
Deposits:
Demand, noninterest bearing $113,299,000 $126,818,000
Demand, interest bearing 94,079,000 89,107,000
Savings 101,678,000 99,748,000
Time 136,191,000 134,628,000
- ------------------------------------------------------------------------------------------------------------------------------
Total Deposits 445,247,000 450,301,000
Accrued interest payable and other liabilities 4,794,000 3,649,000
- ------------------------------------------------------------------------------------------------------------------------------
Total liabilities 450,041,000 453,950,000
- ------------------------------------------------------------------------------------------------------------------------------
Commitments and contingencies (Note 4)
Shareholders Equity:
Preferred stock-no par value; authorized
1,000,000 shares; no shares issued
Common stock - no par value; authorized 30,000,000 shares;
issued and outstanding: 4,903,970 shares at September 30,
1998 and 4,368,469 shares at December 31, 1997 41,195,000 31,644,000
Retained earnings 7,772,000 11,979,000
Accumulated other comprehensive income - Net unrealized
gain (loss) on available-for-sale securities, net of tax 664,000 101,000
- ------------------------------------------------------------------------------------------------------------------------------
Shareholders' equity 49,631,000 43,724,000
- ------------------------------------------------------------------------------------------------------------------------------
Total liabilities and shareholders' equity $499,672,000 $497,674,000
==============================================================================================================================
See Notes to Consolidated Condensed Financial Statements
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
CENTRAL COAST BANCORP AND SUBSIDIARIES
CONSOLIDATED CONDENSED STATEMENTS OF INCOME (Unaudited)
Three Months Ended September 30, Nine Months Ended September 30,
1998 1997 1998 1997
- ------------------------------------------------------------------------------------------------------------------------------
Interest Income
<S> <C> <C> <C> <C>
Loans (including fees) $ 7,040,000 $ 6,309,000 $ 19,976,000 $ 18,565,000
Investment securities 1,853,000 1,612,000 5,660,000 4,235,000
Other 690,000 816,000 2,220,000 2,123,000
- ------------------------------------------------------------------------------------------------------------------------------
Total interest income 9,583,000 8,737,000 27,856,000 24,923,000
- ------------------------------------------------------------------------------------------------------------------------------
Interest Expense
Interest on deposits 3,358,000 3,105,000 10,109,000 8,644,000
Other
- 20,000 - 92,000
- ------------------------------------------------------------------------------------------------------------------------------
Total interest expense 3,358,000 3,125,000 10,109,000 8,736,000
- ------------------------------------------------------------------------------------------------------------------------------
Net Interest Income 6,225,000 5,612,000 17,747,000 16,187,000
Provision for Credit Losses -
40,000 - 81,000
- ------------------------------------------------------------------------------------------------------------------------------
Net Interest Income after
Provision for Credit Losses 6,185,000 5,612,000 17,666,000 16,187,000
- ------------------------------------------------------------------------------------------------------------------------------
Other Income 490,000 428,000 1,415,000 1,234,000
- ------------------------------------------------------------------------------------------------------------------------------
Other Expenses
Salaries and benefits 2,074,000 1,926,000 6,281,000 5,668,000
Occupancy 222,000 213,000 714,000 654,000
Furniture and equipment 241,000 205,000 671,000 592,000
Other 777,000 856,000 2,558,000 2,479,000
- ------------------------------------------------------------------------------------------------------------------------------
Total other expenses 3,314,000 3,200,000 10,224,000 9,393,000
- ------------------------------------------------------------------------------------------------------------------------------
Income Before Income Taxes 3,361,000 2,840,000 8,857,000 8,028,000
Provision for Income Taxes 1,391,000 1,155,000 3,664,000 3,284,000
==============================================================================================================================
Net Income $ 1,970,000 $ 1,685,000 $ 5,193,000 $ 4,744,000
==============================================================================================================================
Basic Earnings per Share $ 0.41 $ 0.35 $ 1.08 $ 1.00
Diluted Earnings per Share $ 0.38 $ 0.32 $ 0.99 $ 0.91
==============================================================================================================================
See Notes to Consolidated Condensed Financial Statements
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
CENTRAL COAST BANCORP AND SUBSIDIARIES
CONSOLIDATED CONDENSED STATEMENTS OF CASH FLOWS (Unaudited)
- --------------------------------------------------------------------------------------------------------------------------
Nine months ended September 30, 1998 1997
- --------------------------------------------------------------------------------------------------------------------------
Cash Flows from Operations:
<S> <C> <C>
Net income $ 5,193,000 $ 4,744,000
Reconciliation of net income to net cash provided
by operating activities:
Provision for credit losses 81,000 -
Net gain on sale of fixed assets (1,000) (11,000)
Depreciation 414,000 378,000
Amortization and accretion 22,000 (218,000)
Loss on other real estate owned - 17,000
(Increase) decrease in accrued interest receivable and other assets 721,000 (1,300,000)
Increase in accrued interest payable and other liabilities 1,269,000 2,142,000
Increase (decrease) in deferred loan fees 60,000 (82,000)
- --------------------------------------------------------------------------------------------------------------------------
Net cash provided by operations 7,759,000 5,670,000
- --------------------------------------------------------------------------------------------------------------------------
Cash Flows from Investing Activities:
Net decrease in interest-bearing
deposits in financial institutions - 999,000
Purchases of investment securities (72,512,000) (103,288,000)
Proceeds from maturities
of investment securities 95,160,000 69,026,000
Net change in loans held for sale (3,192,000) (229,000)
Net increase in loans (37,605,000) (4,852,000)
Proceeds from sale of other real estate owned - 709,000
Proceeds from sale of fixed assets 1,000 11,000
Capital expenditures (847,000) (1,138,000)
- --------------------------------------------------------------------------------------------------------------------------
Net cash used by in investing activities (18,995,000) (38,762,000)
- --------------------------------------------------------------------------------------------------------------------------
Cash Flows from Financing Activities:
Net increase (decrease) in deposit accounts (5,054,000) 76,924,000
Net increase (decrease) in short-term borrowings (124,000) 2,500,000
Proceeds from sale of stock 163,000 360,000
Fractional shares repurchased (12,000) (8,000)
- --------------------------------------------------------------------------------------------------------------------------
Net cash provided(used) by financing activities (5,027,000) 79,776,000
- --------------------------------------------------------------------------------------------------------------------------
Net increase (decrease) in cash and equivalents (16,263,000) 46,684,000
Cash and equivalents, beginning of period 104,597,000 60,657,000
- --------------------------------------------------------------------------------------------------------------------------
Cash and equivalents, end of period $88,334,000 $107,341,000
==========================================================================================================================
Other Cash Flow Information:
Interest paid $ 9,762,000 $ 7,913,000
Income taxes paid 3,210,000 1,615,000
==========================================================================================================================
See Notes to Consolidated Financial Statements
</TABLE>
<PAGE>
CENTRAL COAST BANCORP AND SUBSIDIARIES
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
September 30, 1998 (Unaudited)
1. CONSOLIDATED FINANCIAL STATEMENTS
In the opinion of Management, the unaudited consolidated condensed financial
statements contain all adjustments (consisting of only normal recurring
adjustments) necessary to present fairly the Company's consolidated financial
position at September 30, 1998 and December 31, 1997, the results of operations
for the three and nine month periods ended September 30, 1998 and 1997, and cash
flows for the nine month periods ended September 30, 1998 and 1997.
Certain disclosures normally presented in the notes to the financial statements
prepared in accordance with generally accepted accounting principles have been
omitted. These interim consolidated condensed financial statements should be
read in conjunction with the consolidated financial statements and notes thereto
included in the Company's 1997 Annual Report to Shareholders. The results of
operations for the three and nine month periods ended September 30, 1998 and
1997 may not necessarily be indicative of the operating results for the full
year.
In preparing such financial statements, management is required to make estimates
and assumptions that affect the reported amounts of assets and liabilities as of
the date of the balance sheet and revenues and expenses for the period. Actual
results could differ significantly from those estimates. Material estimates that
are particularly susceptible to significant changes in the near term relate to
the determination of the allowance for credit losses and the carrying value of
other real estate owned. Management uses information provided by an independent
loan review service in connection with the determination of the allowance for
loan losses.
2. INVESTMENT SECURITIES
The Company is required under Financial Accounting Standards Board (FASB)
Statement No. 115, "Accounting for Investments in Certain Debt and Equity
Securities", to classify debt and equity securities into one of three
categories: held-to-maturity, trading or available-for-sale. Investment
securities classified as held-to-maturity are measured at amortized cost based
on the Company's positive intent and ability to hold such securities to
maturity. Trading securities are bought and held principally for the purpose of
selling them in the near term and are carried at market value with a
corresponding recognition of unrecognized holding gain or loss in the results of
operations. The remaining investment securities are classified as
available-for-sale and are measured at market value with a corresponding
recognition of the unrealized holding gain or loss (net of tax effect) as a
separate component of shareholders' equity until realized. Any gains and losses
on sales of investments are computed on a specific identification basis.
<PAGE>
<TABLE>
<CAPTION>
The carrying value and approximate market value of securities at September 30,
1998 and December 31, 1997 are as follows:
- -------------------------------------------------------------------------------------------------------------------------
Amortized Unrealized Unrealized Market
In thousands Cost Gain Losses Value
- -------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
September 30, 1998
Available for sale securities:
U.S. Treasury and agency securities
Maturing within 1 year $ 19,989 $ 93 $ - $ 20,082
Maturing after 1 year but within 5 years 60,686 572 - 61,258
Maturing after 10 years 25,017 457 - 25,474
State & Political Subdivision
Maturing after 5 years but within 10 years 2,180 4 - 2,184
Other 4 - - 4
- -------------------------------------------------------------------------------------------------------------------------
Total investment securities $ 107,876 $ 1,126 $ - $ 109,002
=========================================================================================================================
December 31, 1997
Available for sale securities:
U.S. Treasury and agency securities
Maturing within 1 year $ 32,861 $ - $ 5 $ 32,856
Maturing after 1 year but within 5 years 48,410 184 7 $ 48,587
Bankers' Acceptances
Maturing within 1 year 10,034 - - 10,034
Other 4 - - 4
- -------------------------------------------------------------------------------------------------------------------------
Total available for sale $ 91,309 $ 184 $ - $ 91,481
- -------------------------------------------------------------------------------------------------------------------------
Held to maturity securities:
U.S. Treasury and agency securities
Maturing within 1 year $ 27,484 $ 7 $ 11 $ 27,480
Maturing after 1 year but within 5 years 8,495 66 2 8,559
Maturing after 5 years but within 10 years 20 - - 20
Maturing after 10 years 857 6 9 854
State & Political Subdivision
Maturing after 5 years but within 10 years 2,192 - - 2,192
- -------------------------------------------------------------------------------------------------------------------------
Total held to maturity $ 39,048 $ 79 $ 22 $ 39,105
- -------------------------------------------------------------------------------------------------------------------------
Total investment securities $ 130,357 $ 263 $ 34 $ 130,586
=========================================================================================================================
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
3. LOANS AND ALLOWANCE FOR CREDIT LOSSES
The activity in the allowance for credit losses is summarized as follows:
- -------------------------------------------------------------------------------------------------------------------
Three months ended Nine months ended
September 30, September 30,
In thousands 1998 1997 1998 1997
- -------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Beginning balance $ 4,228 $ 4,203 $ 4,223 $ 4,372
Provision charged to expense 40 - 81 -
Loans charged off (4) (174) (94) (417)
Recoveries 82 79 136 153
- -------------------------------------------------------------------------------------------------------------------
Ending balance $ 4,346 $ 4,108 $ 4,346 $ 4,108
===================================================================================================================
</TABLE>
The allowance for credit losses reflects management's judgement as to the level
considered adequate to absorb potential losses inherent in the loan portfolio.
The allowance is increased by provisions charged to expense and reduced by loan
charge-offs net of recoveries. Management determines an appropriate provision
based upon information currently available to analyze credit loss potential,
including (1) the loan portfolio balance in the period; (2) a comprehensive
grading and review of new and existing loans outstanding; (3) actual previous
charge-offs; and, (4) changes in economic conditions.
In determining the provision for estimated losses related to specific major
loans, management evaluates its allowance on an individual loan basis, including
an analysis of the credit worthiness, cash flows and financial status of the
borrower, and the condition and the estimated value of the collateral. Specific
valuation allowances for secured loans are determined by the excess of recorded
investment in the loan over the fair market value or net realizable value where
appropriate, of the collateral. In determining overall general valuation
allowances to be maintained and the loan loss allowance ratio, management
evaluates many factors including prevailing and forecasted economic conditions,
regular reviews of the quality of loans, industry experience, historical loss
experience, composition and geographic concentrations of the loan portfolio, the
borrowers' ability to repay and repayment performance and estimated collateral
values.
Management believes that the allowance for credit losses at September 30, 1998
is adequate, based on information currently available. However, no prediction of
the ultimate level of loans charged off in future years can be made with any
certainty.
Nonperforming assets are comprised of loans delinquent 90 days or more with
respect to interest or principal, loans for which the accrual of interest has
been discontinued, and other real estate which has been acquired through
foreclosure and is awaiting disposition.
Unless well secured and in the process of collection, loans are placed on
nonaccrual status when a loan becomes 90 days past due as to interest or
principal, when the payment of interest or principal in accordance with the
contractual terms of the loan becomes uncertain or when a portion of the
principal balance has been charged off. When a loan is placed on nonaccrual
status, the accrued and unpaid interest receivable is reversed and the loan is
accounted for on the cash or cost recovery method thereafter, until qualifying
for return to accrual status. Generally, a loan may be returned to accrual
status when all delinquent interest and principal become current in accordance
with the terms of the loan agreement and remaining principal is considered
collectible or when the loan is both well secured and in process of collection.
Real estate and other assets acquired in satisfaction of indebtedness are
recorded at the lower of estimated fair market value net of anticipated selling
costs or the recorded loan amount, and any difference between this and the
amount is treated as a loan loss. Costs of maintaining other real estate owned
and gains or losses on the subsequent sale are reflected in current earnings.
Nonperforming loans and other real estate owned (foreclosed properties) are
summarized below:
<TABLE>
<CAPTION>
- -----------------------------------------------------------------------------
September 30, December 31,
In thousands 1998 1997
- -----------------------------------------------------------------------------
<S> <C> <C>
Past due 90 days or more and still accruing
Real estate $ - $ 6
Commercial 73 73
Installment and other - -
- -----------------------------------------------------------------------------
73 79
- -----------------------------------------------------------------------------
Nonaccrual:
Real estate 706 628
Commercial 312 188
Installment and other 6 -
- -----------------------------------------------------------------------------
1,024 816
- -----------------------------------------------------------------------------
Total nonperforming loans $ 1,097 $ 895
=============================================================================
Other real estate owned $ - $ 105
=============================================================================
</TABLE>
4. COMMITMENTS AND CONTINGENCIES
In the normal course of business there are outstanding various commitments to
extend credit which are not reflected in the financial statements, including
loan commitments of approximately $117,192,000 and standby letters of credit of
$1,603,000 at September 30, 1998. However, all such commitments will not
necessarily culminate in actual extensions of credit by the Company during 1998.
Approximately $20,198,000 of loan commitments outstanding at September 30, 1998
relate to real estate construction loans and are expected to fund within the
next twelve months. The remainder relate primarily to revolving lines of credit
or other commercial loans, and many of these commitments are expected to expire
without being drawn upon. Therefore, the total commitments do not necessarily
represent future cash requirements. Each potential borrower and the necessary
collateral are evaluated on an individual basis. Collateral varies, but may
include real property, bank deposits, debt or equity securities or business
assets.
Stand-by letters of credit are commitments written to guarantee the performance
of a customer to a third party. These guarantees are issued primarily relating
to purchases of inventory by commercial customers and are typically short-term
in nature. Credit risk is similar to that involved in extending loan commitments
to customers and accordingly, evaluation and collateral requirements similar to
those for loan commitments are used. Virtually all such commitments are
collateralized.
5. EARNINGS PER SHARE COMPUTATION
Basic earnings per share is computed by dividing net income by the weighted
average common shares outstanding for the period (4,842,000 and 4,823,000 for
the three and nine month periods ended September 30, 1998, and 4,795,000 and
4,763,000 for the three and nine month periods ended September 30, 1997,
respectively). Diluted earnings per share reflects the potential dilution that
could occur if outstanding stock options and stock purchase warrants were
exercised. Diluted earnings per share is computed by dividing net income by the
weighted average common shares outstanding for the period plus the dilutive
effect of options and warrants (393,000 and 412,000 for the three and nine month
periods ended September 30, 1998 and 443,000 and 423,000 for the three and nine
month periods ended September 30, 1997, respectively).
6. RECENTLY ISSUED ACCOUNTING STANDARDS
Effective January 1, 1998, Central Coast Bancorp adopted Statement of Financial
Accounting Standards No. 130, "Reporting Comprehensive Income". This Statement
requires that all items recognized under accounting standards as components of
comprehensive earnings be reported in an annual financial statement that is
displayed with the same prominence as other annual financial statements. This
Statement also requires that an entity classify items of other comprehensive
earnings by their nature in an annual financial statement. For example, other
comprehensive earnings may include foreign currency translation adjustments,
minimum pension liability adjustments, and unrealized gains and losses on
marketable securities classified as available-for-sale. Annual financial
statements for prior periods will be reclassified, as required. Central Coast
Bancorp's total comprehensive earnings were as follows:
<TABLE>
<CAPTION>
- ------------------------------------------------------------------------------------------------------------------
Three Months Ended Nine Months Ended
September 30, September 30,
In thousands 1998 1997 1998 1997
- ------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Net Earnings $ 1,970 $ 1,685 $ 5,193 $ 4,744
Other comprehensive gain - Net unrealized
gain on available-for-sale securities 448 89 563 132
- ------------------------------------------------------------------------------------------------------------------
Total comprehensive earnings $ 2,418 $ 1,774 $ 5,756 $ 4,876
==================================================================================================================
</TABLE>
Effective July 1, 1998 the Company adopted Statement of Financial Accounting
Standards (SFAS) No. 133, "Accounting for Derivative Instruments and Hedging
Activities", which establishes accounting and reporting standards for derivative
instruments and hedging activities. In connection with the adoption of SFAS 133
the Company reclassified certain securities with an amortized cost of
$18,085,000 and a fair value of $18,202,000 from held-to-maturity to
available-for-sale. Adoption of this statement did not have any other impact on
the Company's consolidated financial position and had no impact on the Company's
results of operations or cash flows.
7. STOCK DIVIDEND
On January 20, 1998 the Board of Directors declared a 10% stock dividend, to
be distributed on March 3, 1998, to shareholders of record as of February 17,
1998. All share and per share data including stock option and warrant
information have been retroactively adjusted to reflect the stock dividend.
<PAGE>
Item 2.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Certain matters discussed or incorporated by reference in this Quarterly Report
on Form 10-Q including, but not limited to, matters described in Item 7 -
"Management's Discussion and Analysis of Financial Condition and Results of
Operations," are forward-looking statements that are subject to risks and
uncertainties that could cause actual results to differ materially from those
projected. Changes to such risks and uncertainties, which could impact future
financial performance, include, among others, (1) competitive pressures in the
banking industry; (2) changes in the interest rate environment; (3) general
economic conditions, nationally, regionally and in the operating market areas of
the Company and the Banks; (4) changes in the regulatory environment; (5)
changes in business conditions and inflation; (6) changes in securities markets;
and (7) effects of Year 2000 problems discussed herein. Therefore, the
information set forth therein should be carefully considered when evaluating the
business prospects of the Company and the Banks.
Business Organization
Central Coast Bancorp (the "Company") is a California corporation organized in
1994, and is the parent company for Bank of Salinas and Cypress Bank,
state-chartered banks, headquartered in Salinas and Seaside, California,
respectively (the "Banks"). Other than its investment in the Banks, the Company
currently conducts no other significant business activities, although it is
authorized to engage in a variety of activities which are deemed closely related
to the business of banking upon prior approval of the Board of Governors of the
Federal Reserve System (the "FRB"), the Company's principal regulator.
The Banks offer a full range of commercial banking services, including a diverse
range of traditional banking products and services to individuals, merchants,
small and medium-sized businesses, professionals and agribusiness enterprises
located in the Salinas Valley and Monterey Peninsula.
Summary of Financial Results
At September 30, 1998, total assets of Central Coast Bancorp were $499,672,000,
an increase of $1,998,000 or 0.4% from December 31, 1997 total assets of
$497,674,000. Average total assets for the quarters ended September 30, 1998 and
1997 were $503,059,000 and $454,245,000, respectively.
On February 21, 1997, the Bank of Salinas purchased certain assets and assumed
certain liabilities of the Gonzales and Castroville offices of Wells Fargo Bank
(including total deposit liabilities of approximately $34 million). As a result
of the transaction the Bank assumed deposit liabilities, received cash and
acquired tangible assets. In addition, the transaction resulted in intangible
assets, representing the excess of the liabilities assumed over the fair value
of the tangible assets acquired.
Net loans at September 30, 1998 were $288,735,000 compared to $251,271,000 at
December 31, 1997, an increase of $37,464,000 or 14.9%. The increase in loan
balances is primarily the result of significant increases in term real estate
loan categories, in addition to increases in real estate construction and
commercial loans. Term real estate loans increased $25,168,000 or 23.4% to
$132,522,000 at September 30, 1998 from $107,354,000 at December 31, 1997. The
increase in term real estate loan balances is primarily due to favorable
economic conditions spurring business expansion and refinancing activities.
Enhancing this increase, was an increase in commercial and real estate
construction and land development loans. Commercial loan balances of
$129,101,000 at September 30, 1998 represented an increase of $4,387,000 or 3.5%
over $124,714,000 at December 31, 1997. Real estate construction and land
development loans of $21,887,000 at September 30, 1998 represented an increase
of $7,242,000 or 49.5% from $14,645,000 at December 31, 1997 due to the success
of key marketing strategies capturing the benefit of favorable economic
conditions.
The Company designated securities with an estimated market value of $109,002,000
as available-for-sale at September 30, 1998. The amortized cost of securities
designated as available-for-sale on that date was $107,876,000. The
available-for-sale portfolio at September 30, 1998 consisted primarily of U.S.
Treasury bills and notes and securities issued by U.S. government-sponsored
agencies (FNMA, FHLMC and FHLB) with maturities within five years and U.S.
government-sponsored agencies mortgage backed securities with maturities greater
than ten years. During the nine months ended September 30, 1998, the Company
made securities purchases of $72,512,000 to replace $68,989,000 of maturities
and to more fully employ excess liquidity. During the nine months ended
September 30, 1998, $26,171,000 held-to-maturity securities matured and
$18,085,000 were transferred to available-for-sale.
Other earning assets are comprised of Federal funds sold. Federal funds sold
balances of $47,507,000 at September 30, 1998 represent a decrease of
$17,199,000 over $64,706,000 at December 31, 1997. The decrease in federal funds
sold primarily reflects the growth in the loan portfolio.
Total deposits were $445,247,000 at September 30, 1998 which represented an
decrease of $5,054,000 or 1.1% over balances of $450,301,000 at December 31,
1997. The decrease in total deposits includes increases in all deposit
categories, except noninterest bearing demand. Noninterest-bearing demand
deposits were $113,299,000 at September 30, 1998 compared to $126,818,000 at
December 31, 1997, a decrease of $13,519,000 or 10.7%. The decrease in
noninterest bearing demand balances is partially due to seasonal fluctuation.
Interest bearing demand balances increased $4,972,000 or 5.6% to $94,079,000 at
September 30, 1998 from $89,107,000 at December 31, 1997. Savings balances of
$101,678,000 represent an increase of $1,930,000 or 1.9% from $99,748,000 at
December 31, 1997. Time deposits increased $1,563,000 or 1.2% to $136,191,000 at
September 30, 1998 from $134,628,000 at December 31, 1997.
<PAGE>
THREE MONTHS ENDED SEPTEMBER 30, 1998 AND 1997
Net income for the three months ended September 30, 1998 was $1,970,000 ($.41
basic and $.38 diluted earnings per share) compared to $1,685,000 ($.35 basic
and $.32 diluted earnings per share) for the comparable period in 1997. The
following discussion highlights changes in certain items in the consolidated
condensed statements of income.
Net interest income
Net interest income, the difference between interest earned on loans and
investments and interest paid on deposits and other borrowings, is the principal
component of the Banks' earnings. The components of net interest income are as
follows:
<TABLE>
<CAPTION>
(Unaudited)
Three months ended September 30,
In thousands (except percentages) 1998 1997
- -------------------------------------------------------------------------------------------------------------------
Avg Avg Avg Avg
Balance Interest Yield Balance Interest Yield
- -------------------------------------------------------------------------------------------------------------------
Assets:
Earning Assets
<S> <C> <C> <C> <C> <C> <C>
Loans (1)(2) $ 281,126 $7,040 9.9% $ 240,882 $6,309 10.4%
Investment Securities 122,148 1,853 6.0% 108,777 1,612 5.9%
Other 50,015 690 5.5% 58,938 816 5.5%
--------- ------ ----- --------- ------ -----
Total Earning Assets 453,289 9,583 8.4% 408,597 8,737 8.5%
------ ------
Cash and due from banks 39,311 35,679
Other assets 10,459 9,969
--------- ---------
$ 503,059 $ 454,245
========= =========
Liabilities & Shareholders'
Equity:
Interest bearing liabilities:
Demand deposits $ 90,110 $ 445 2.0% $ 92,604 $ 465 2.0%
Savings 103,828 997 3.8% 95,152 971 4.0%
Time deposits 139,847 1,916 5.4% 119,178 1,669 5.6%
Other borrowings - - n/a 1,740 20 4.6%
--------- ------ ----- --------- ------ -----
Total interest bearing
liabilities 333,785 3,358 4.0% 308,674 3,125 4.0%
Demand deposits 116,278 101,386
Other Liabilities 4,554 3,361
--------- ---------
Total Liabilities 454,617 413,421
Shareholders' Equity 48,442 40,824
--------- ---------
$ 503,059 $ 454,245
========= =========
Net interest income and
margin (net yield) (3) $6,225 5.4% $5,612 5.4%
- -------------------------------------------------- ====== ====== ====== =====
1 Loan interest income includes fee income of $241,000 and $225,000 for the three month periods ended
September 30, 1998 and 1997, respectively.
2 Includes the average allowance for loan losses of $4,302,000 and $4,158,000 and average deferred loan fees
of $622,000 and $537,000 for the three months ended September 30, 1998 and 1997, respectively.
3 Net interest margin is computed by dividing net interest income by the total average earning assets.
</TABLE>
Net interest income for the three months ended September 30, 1998 was $6,225,000
representing an improvement of $613,000 or 10.9% over $5,612,000 for the
comparable period in 1997. The increase in net interest income is comprised of
an increase of $846,000 or 9.7% in interest income partially offset by an
increase in interest expense of $233,000 or 7.5%.
As a percentage of average earning assets, the net interest margin for the third
quarter of 1998 was 5.4% and compares to 5.4% in the same period one year
earlier. On average, the loan to deposit ratio of the Company increased to 63.5%
in the third quarter of 1998 from 59.9% in the same period last year.
Interest income recognized in the three months ended September 30, 1998 was
$9,583,000 representing an increase of $846,000 or 9.7% over $8,737,000 for the
same period of 1997. The increase in interest income was primarily due to an
increase in the volume of average earning assets. Earning assets averaged
$453,289,000 in the three months ended September 30, 1998 compared to
$408,597,000 in the same period in 1997, representing an increase of $44,692,000
or 10.9%. The increase in average earning assets included an increase in average
net loans of $40,244,000 or 16.7% and in investment securities of $13,371,000 or
12.3%, partially offset by a decrease of $8,923,000 or 15.1% in fed funds sold.
The average yield on interest earning assets decreased to 8.4% in the three
months ended September 30, 1998 compared to 8.5% for the same period of 1997.
Included in average yield is a decrease in the yield on average loans, net of
the average allowance for loan losses and average deferred loan fees, to 9.9%
for the three months ended September 30, 1998, from 10.4% for the same period in
1997. Included in the net yield on loans were fees of $241,000 and $225,000 for
the three month periods ended September 30, 1998 and 1997, respectively.
Partially offsetting this decrease, was an increase in the average yield on
investment securities to 6.0%, for the quarter ended September 30, 1998, from
5.9%, for the same period in the prior year. The average yield on federal funds
sold for the three months ended September 30, 1998, compared to that in 1997,
remained unchanged.
The average cost of deposits of 4.0% for the three months ended September
30,1998 compares to 4.0% for the same period in 1997. The average cost of
savings and time deposits decreased to 3.8% and 5.4% respectively, for the three
month period ended September 30,1998 from 4.0% and 5.6% for the same period in
the prior year. This decrease in rates was offset by an increase in the
percentage of average time deposits included in total interest bearing
liabilities. Average time deposits for the three months ended September 30,1998
represents 41.9% of the average total interest bearing liabilities for that
period, compared to 38.6% for the same period in the prior year.
Credit Risk and Provision for Credit Losses
The Company assesses and manages credit risk on an ongoing basis through
stringent credit review and approval policies, extensive internal monitoring and
established formal lending policies. Additionally, the Company contracts with an
outside loan review consultant to periodically grade new loans and to review the
existing loan portfolio. Management believes its ability to identify and assess
risk and return characteristics of the Company's loan portfolio is critical for
profitability and growth. Management strives to continue the historically low
level of credit losses by continuing its emphasis on credit quality in the loan
approval process, active credit administration and regular monitoring. With this
in mind, management has designed and implemented a comprehensive loan review and
grading system that functions to continually assess the credit risk inherent in
the loan portfolio.
Ultimately, credit quality may be influenced by underlying trends in the
economic and business cycles. The Company's business is concentrated in Monterey
County, California whose economy is highly dependent on the agricultural
industry. As a result, the Company lends money to individuals and companies
dependent upon the agricultural industry. In addition, the Company has
significant extensions of credit and commitments to extend credit which are
secured by real estate, totaling approximately $202,363,000. The ultimate
recovery of these loans is generally dependent on the successful operation, sale
or refinancing of the real estate. The Company monitors the effects of current
and expected market conditions and other factors on the collectibility of real
estate loans. When, in management's judgement, these loans are impaired,
appropriate provision for losses is recorded. The more significant assumptions
management considers involve estimates of the following: lease, absorption and
sale rates; real estate values and rates of return; operating expenses;
inflation; and sufficiency of collateral independent of the real estate
including, in limited instances, personal guarantees.
In extending credit and commitments to borrowers, the Company generally requires
collateral and/or guarantees as security. The repayment of such loans is
expected to come from cash flow or from proceeds from the sale of selected
assets of the borrowers. The Company's requirement for collateral and/or
guarantees is determined on a case-by-case basis in connection with management's
evaluation of the credit worthiness of the borrower. Collateral held varies but
may include accounts receivable, inventory, property, plant and equipment,
income-producing properties, residences and other real property. The Company
secures its collateral by perfecting its interest in business assets, obtaining
deeds of trust, or outright possession among other means. Credit losses from
lending transactions related to real estate and agriculture compare favorably
with the Company's credit losses on its loan portfolio as a whole.
The Company recorded a $40,000 provision for loan losses through a charge to
earnings in the quarter ended September 30, 1998 and no provision was recorded
during the comparable period in 1997. The small amount of increase in the
provision in relation to the increase in loans reflects the strengthening
economy, continued strong credit performance and an increase in the rate of
recovery of loan balances previously charged-off. Loan balances of $4,000, which
were previously identified and fully reserved for, were charged-off in the third
quarter of 1998 compared to $174,000 charged-off in the same period one year
earlier. Recoveries of loan balances previously charged-off were $82,000 for the
quarter ended September 30, 1998 compared to $79,000 for the same period in
1997. See Note 3 of the consolidated condensed financial statements for further
discussion of nonperforming loans and the allowance for credit losses.
At September 30, 1998 the allowance for credit losses was $4,346,000 or 1.48% of
total loans, compared to $4,223,000 or 1.65% at December 31, 1997.
Management believes that the allowance for loan losses is maintained at an
adequate level for known and anticipated future risks inherent in the loan
portfolio. However, the Company's loan portfolio, particularly the real estate
related segments, may be adversely affected if California's economic conditions
and the Monterey County real estate market were to weaken. As a result, the
level of nonperforming loans, the provision for loan losses and the level of the
allowance for loan losses could increase.
Noninterest Income and Expense
Noninterest income consists primarily of service charges on deposit accounts and
fees for miscellaneous services. Total other income was $490,000 for the three
months ended September 30, 1998 as compared to $428,000 for the same period of
1997. Noninterest income for the third quarter of 1998 represented an increase
of 14.5% over the third quarter of 1997. The increase in noninterest income is
primarily attributed to an increase in mortgage referral fees of $45,000.
Noninterest expense increased $114,000 or 3.6% to $3,314,000 in the quarter
ended September 30, 1998 from $3,200,000 in the same period one year earlier.
The increase in noninterest expenses is primarily due to increases in salaries
and benefits, and occupancy and equipment expense. As a percentage of average
earning assets, other expenses, on an annualized basis, decreased to 2.9% in the
three months ended September 30, 1998 from 3.1% in the comparable period of
1997.
Salary and benefits expense was $2,074,000 in the three months ended September
30, 1998 compared to $1,926,000 in the same period one year earlier, an increase
of $148,000 or 7.7%. The increase in salary and benefits expense is primarily
due to growth and changes in the staffing of the Company.
Occupancy expense for the quarter ended September 30, 1998 was $222,000 and
represented an increase of $9,000 or 4.2% over $213,000 for the same period last
year. Furniture and equipment expense for the third quarter of 1998 increased
$36,000 or 17.6% to $241,000 from $205,000 for the same period last year. The
increase in furniture and equipment expense is the result of a program for
upgrading the Company's internal systems in addition to the impact of facilities
moves and expansion by the Banks.
Other expenses decreased $79,000 or 9.2% to $777,000 in the three months ended
September 30, 1998 from $856,000 for the comparable period one year earlier. Due
largely to decreases in loan and supplies expenses.
<PAGE>
NINE MONTHS ENDED SEPTEMBER 30, 1998 AND 1997
Net income for the nine months ended September 30, 1998 was $5,193,000 ($1.08
basic and $.99 diluted earnings per share) compared to $4,744,000 ($1.00 basic
and $.91 diluted earnings per share) for the comparable period in 1997. The
following discussion highlights changes in certain items in the consolidated
condensed statements of income.
Net Interest income
Net interest income, the difference between interest earned on loans and
investments and interest paid on deposits and other borrowings, is the principal
component of the Banks' earnings. The components of net interest income are as
follows:
<TABLE>
<CAPTION>
(Unaudited)
Nine months ended September 30,
In thousands (except percentages) 1998 1997
- ---------------------------------------------------------------------------------------------------------------------
Avg Avg Avg Avg
Balance Interest Yield Balance Interest Yield
- ---------------------------------------------------------------------------------------------------------------------
Assets:
Earning Assets
<S> <C> <C> <C> <C> <C> <C> <C>
Loans (1)(2) $ 263,830 $ 19,976 10.1% $ 237,525 $ 18,565 10.4%
Investment Securities 125,819 5,660 6.0% 97,310 4,235 5.8%
Other 54,374 2,220 5.5% 52,057 2,123 5.5%
---------- --------- ----- ---------- -------- -----
Total Earning Assets 444,023 27,856 8.4% 386,892 24,923 8.6%
--------- --------
Cash and due from banks 38,516 32,537
Other assets 10,450 9,305
---------- ----------
$ 492,989 $ 428,734
========== ==========
Liabilities & Shareholders'
Equity:
Interest bearing liabilities:
Demand deposits $ 87,707 $ 1,282 2.0% $ 93,623 $ 1,417 2.0%
Savings 100,290 2,864 3.8% 93,775 2,832 4.0%
Time deposits 143,455 5,963 5.6% 106,293 4,395 5.5%
Other borrowings - - n/a 2,502 92 4.9%
---------- --------- ----- ---------- -------- -----
Total interest bearing
Liabilities 331,452 10,109 4.1% 296,193 8,736 3.9%
--------- --------
Demand deposits 111,017 91,368
Other Liabilities 3,996 2,102
---------- ----------
Total Liabilities 446,465 389,663
Shareholders' Equity 46,524 39,071
---------- ----------
$ 492,989 $ 428,734
========== ==========
Net interest income and
Margin (net yield) (3) $ 17,747 5.3% $ 16,187 5.6%
- ------------------------------------------------ ========= ===== ======== =====
1 Loan interest income includes fee income of $747,000 and $838,000 for the nine month periods ended September 30,
1998 and 1997, respectively.
2 Includes the average allowance for loan losses of $4,239,000 and $4,264,000 and average deferred loan fees
of $566,000 and $570,000 for the nine months ended September 30, 1998 and 1997, respectively.
3 Net interest margin is computed by dividing net interest income by the total average earning assets.
</TABLE>
Net interest income for the nine months ended September 30, 1998 was $17,747,000
representing an improvement of $1,560,000 or 9.6% over $16,187,000 for the
comparable period in 1997. The increase in net interest income is comprised of
an increase of $2,933,000 or 11.8% in interest income partially offset by an
increase in interest expense of $1,373,000 or 15.7%.
As a percentage of average earning assets, the net interest margin for the first
nine months of 1998 was 5.3% and compares to 5.6% in the same period one year
earlier. On average, the loan to deposit ratio of the Company decreased to 60.7%
in the first half of 1998 from 62.5% in the same period last year.
Interest income recognized in the nine months ended September 30, 1998 was
$27,856,000 representing an increase of $2,933,000 or 11.8% over $24,923,000 for
the same period of 1997. The increase in interest income was primarily due to an
increase in the volume of average earning assets. Earning assets averaged
$444,023,000 in the nine months ended September 30, 1998 compared to
$386,892,000 in the same period in 1997, representing an increase of $57,131,000
or 14.8%. The increase in average earning assets included an increase in average
loans of $26,305,000 or 11.1% and increases in investment securities and fed
funds sold of $28,509,000 and $2,317,000 or 29.3% and 4.5%, respectively.
The average yield on interest earning assets decreased to 8.4% in the nine
months ended September 30, 1998 compared to 8.6% for the same period of 1997.
The decrease in average yield is attributed to a decrease in the proportion of
loans to total earning assets to 59.4% in the first nine months of 1998 from
61.4% in the same period in 1997. Loan fees recognized during the nine months
ended September 30, 1998 were $747,000 compared to $838,000 one year earlier.
Partially offsetting the increase in interest income was an increase in the cost
of liabilities funding the growth in average earning assets. Interest expense
for the nine months ended September 30, 1998 was $10,109,000 and represented an
increase of $1,373,000 or 15.7% over $8,736,000 for the comparable period in
1997. During the nine months ended September 30, 1998, the average rate paid by
the Banks on interest-bearing liabilities was 4.1% compared to 3.9% for the same
period in 1997. The increase in interest expense for the first nine months of
1998 reflects an increase in the proportion of time deposits to total interest
bearing liabilities to 43.3% in the first nine months of 1998 from 35.9% in the
same period in 1997. Average interest bearing liabilities were $331,452,000 in
the nine months ended September 30, 1998 compared to $296,193,000 for the same
period in 1997, an increase of $35,259,000 or 11.9%. Partially offsetting the
impact on net interest income resulting from the increase in interest bearing
liabilities was an increase in average noninterest bearing demand deposits.
Average noninterest bearing demand deposits of $111,017,000 for the nine months
ended September 30, 1998 represented an increase of $19,649,000 or 21.5% over
$91,368,000 for the same period one year earlier.
Provision for Credit Losses
The Company recorded an $81,000 provision for loan losses through a charge to
earnings in the nine months ended September 30, 1998 and no provision was
recorded during the comparable period in 1997. The small amount of increase in
the provision in relation to the increase in loans reflects the strengthening
economy, continued strong credit performance and an increase in the rate of
recovery of loan balances previously charged off. Loan balances of $94,000,
which were previously identified and fully reserved for, were charged-off in the
first three quarters of 1998 compared to $417,000 charged-off in the same period
one year earlier. Recoveries of loan balances previously charged-off were
$136,000 for the three quarters ended September 30, 1998 compared to $153,000
for the same period in 1997. See Note 3 of the consolidated condensed financial
statements for further discussion of nonperforming loans and the allowance for
credit losses.
Noninterest Income and Expense
Total other income was $1,415,000 for the nine months ended September 30, 1998
as compared to $1,234,000 for the same period of 1997. Noninterest income for
the first three quarters of 1998 represented an increase of 14.7% over that for
1997. The increase in noninterest income is primarily attributed to an increase
in service charges on deposit accounts of $111,000 and mortgage referral fees of
$101,000 offsetting nonrecurring revenues in the prior year.
Noninterest expense increased $831,000 or 8.8% to $10,224,000 in the three
quarters ended September 30, 1998 from $9,393,000 in the same period one year
earlier. The increase in noninterest expenses is primarily due to increases in
salaries and benefits, and occupancy and equipment expense. As a percentage of
average earning assets, other expenses, on an annualized basis, decreased to
3.1% in the nine months ended September 30, 1998 from 3.2% in the comparable
period of 1997.
Salary and benefits expense was $6,281,000 in the nine months ended September
30, 1998 compared to $5,668,000 in the same period one year earlier, an increase
of $613,000 or 10.8%. The increase in salary and benefits expense is primarily
due to increased headcount related to the branch acquisition by Bank of Salinas
during the first quarter of 1997.
Occupancy expense for the three quarters ended September 30, 1998 was $714,000
and represented an increase of $60,000 or 9.2% over $654,000 for the same period
last year. The increase in occupancy expense relates to the branch acquisition
by Bank of Salinas during the first quarter of 1997 and the relocation of a
branch by Bank of Salinas during the second quarter of 1998.
Furniture and equipment expense for the first three quarters of 1998 increased
$79,000 or 13.3% to $671,000 from $592,000 for the same period last year. The
increase in furniture and equipment expense is the result of a program for
upgrading the Company's internal data processing systems in addition to the
impact of facilities moves and expansion by the Banks.
Other expenses increased $79,000 or 3.2% to $2,558,000 in the nine months ended
September 30, 1998 from $2,479,000 for the comparable period one year earlier.
The increase in other expenses is comprised of increases in advertising and
operating expenses and amortization of intangibles. Partially offsetting these
increases were decreases in loan expenses and stationery and supplies.
LIQUIDITY AND INTEREST RATE SENSITIVITY
Liquidity
Liquidity management refers to the Company's ability to provide funds on an
ongoing basis to meet fluctuations in deposit levels as well as the credit needs
and requirements of its clients. Both assets and liabilities contribute to the
Company's liquidity position. Federal funds lines, short-term investments and
securities, and loan repayments contribute to liquidity, along with deposit
increases, while loan funding and deposit withdrawals decrease liquidity. The
Banks assess the likelihood of projected funding requirements by reviewing
historical funding patterns, current and forecasted economic conditions and
individual client funding needs. Commitments to fund loans and outstanding
standby letters of credit at September 30, 1998, were approximately $117,192,000
and $1,603,000, respectively. Such loans relate primarily to revolving lines of
credit and other commercial loans, and to real estate construction loans.
The Company's sources of liquidity consist of its deposits with other banks,
overnight funds sold to correspondent banks, unpledged short-term, marketable
investments and loans available for sale. On September 30, 1998, consolidated
liquid assets totaled $115 million or 23.1% of total assets as compared to
$164.2 million or 33.0% of total consolidated assets on December 31, 1997. In
addition to liquid assets, the Banks maintain lines of credit with correspondent
banks for up to $20,000,000 available on a short-term basis. Informal agreements
are also in place with various other banks to purchase participations in loans,
if necessary. The Company serves primarily a business and professional customer
base and, as such, its deposit base is susceptible to economic fluctuations.
Accordingly, management strives to maintain a balanced position of liquid assets
to volatile and cyclical deposits.
Liquidity is also affected by portfolio maturities and the effect of interest
rate fluctuations on the marketability of both assets and liabilities. In
addition, it has been the Company's policy to restrict average maturities in the
investment portfolio to not more than three years. The short-term repricing
characteristics of the loan and investment portfolios, and loan agreements which
generally require monthly interest payments, provide the Banks with additional
secondary sources of liquidity. Another key liquidity ratio is the ratio of
gross loans to total deposits, which was 66.0% at September 30, 1998 and 56.9%
at December 31, 1997.
Interest Rate Sensitivity
Interest rate sensitivity is a measure of the exposure to fluctuations in the
Banks' future earnings caused by fluctuations in interest rates. Such
fluctuations result from the mismatch in repricing characteristics of assets and
liabilities at a specific point in time. This mismatch, or interest rate
sensitivity gap, represents the potential mismatch in the change in the rate of
accrual of interest revenue and interest expense from a change in market
interest rates. Mismatches in interest rate repricing among assets and
liabilities arise primarily from the interaction of various customer businesses
(i.e., types of loans versus the types of deposits maintained) and from
management's discretionary investment and funds gathering activities. The
Company attempts to manage its exposure to interest rate sensitivity, but due to
its size and direct competition from the major banks, it must offer products
which are competitive in the market place, even if less than optimum with
respect to its interest rate exposure.
The Company's natural position is asset-sensitive (based upon the significant
amount of variable rate loans and the repricing characteristics of its deposit
accounts). This natural position provides a hedge against rising interest rates,
but has a detrimental effect during times of interest rate decreases.
The following table sets forth the distribution of repricing opportunities,
based on contractual terms, of the Banks' earning assets and interest-bearing
liabilities at September 30, 1998, the interest rate sensitivity gap (i.e.
interest rate sensitive assets less interest rate sensitive liabilities), the
cumulative interest rate sensitivity gap, the interest rate sensitivity gap
ratio (i.e. interest rate sensitive assets divided by interest rate sensitive
liabilities) and the cumulative interest rate sensitivity gap ratio.
<PAGE>
<TABLE>
<CAPTION>
September 30,1998
- -------------------------------------------------------------------------------------------------------------------
In thousands (except ratios)
- -------------------------------------------------------------------------------------------------------------------
Over three
Assets and Liabilities Next day months and Over one
which Mature or and within within and within Over
Reprice Immediately three months one year five years five years Total
- -------------------------------------------------------------------------------------------------------------------
Interest earning assets:
<S> <C> <C> <C> <C> <C> <C>
Federal funds sold $ 47,507 $ - $ - $ - $ - $ 47,507
Investment securities 4 2,000 18,085 61,215 27,698 109,002
Loans, excluding
Nonaccrual loans
and overdrafts 12,033 189,263 17,095 66,481 10,552 295,424
- -------------------------------------------------------------------------------------------------------------------
Total $ 59,544 $ 191,263 $ 35,180 $127,696 $ 38,250 $ 451,933
===================================================================================================================
Interest bearing
liabilities:
Interest bearing demand $ 94,079 $ - $ - $ - $ - $ 94,079
Savings 101,678 - - - - 101,678
Time certificates 53 36,972 85,426 13,629 111 136,191
- -------------------------------------------------------------------------------------------------------------------
Total $ 195,810 $ 36,972 $ 85,426 $ 13,629 $ 111 $ 331,948
===================================================================================================================
Interest rate
sensitivity gap $ (136,266) $ 154,291 $ (50,246) $114,067 $ 38,139
Cumulative interest
rate sensitivity gap $ (136,266) $ 18,025 $ (32,221) $ 81,846 $ 119,985
Ratios:
Interest rate
sensitivity gap 0.30 5.17 0.41 9.37 344.59
Cumulative interest
rate sensitivity gap 0.30 1.08 0.90 1.25 1.36
- -------------------------------------------------------------------------------------------------------------------
</TABLE>
It is management's objective to maintain stability in the net interest margin in
times of fluctuating interest rates by maintaining an appropriate mix of
interest sensitive assets and liabilities. The Banks strive to achieve this goal
through the composition and maturities of the investment portfolio and by
adjusting pricing of interest-bearing liabilities, however, as noted above, the
ability to manage interest rate exposure may be constrained by competitive
pressures.
CAPITAL RESOURCES
The Company's total shareholders' equity was $49,631,000 at September 30, 1998
compared to $43,724,000 at December 31, 1997.
The Company and the Banks are subject to regulations issued by the Board of
Governors and the FDIC which require maintenance of a certain level of capital.
These regulations impose two capital standards: a risk-based capital standard
and a leverage capital standard.
Under the Board of Governors' risk-based capital guidelines, assets reported on
an institution's balance sheet and certain off-balance sheet items are assigned
to risk categories, each of which has an assigned risk weight. Capital ratios
are calculated by dividing the institution's qualifying capital by its
period-end risk-weighted assets. The guidelines establish two categories of
qualifying capital: Tier 1 capital (defined to include common shareholders'
equity and noncumulative perpetual preferred stock) and Tier 2 capital which
includes, among other items, limited life(and in case of banks, cumulative)
preferred stock, mandatory convertible securities, subordinated debt and a
limited amount of reserve for credit losses. Effective October 1,1998, the Board
of Governors and other federal bank regulatory agencies approved including in
Tier 2 capital up to 45% of the pretax net unrealized gains on certain
available-for-sale equity securities having readily determinable fair values
(i.e. the excess, if any, of fair market value over the book value or historical
cost of the investment security). The federal regulatory agencies reserve the
right to exclude all or a portion of the unrealized gains upon a determination
that the equity securities are not prudently valued. Unrealized gains and losses
on other types of assets, such as bank premises and available-for-sale debt
securities, are not included in Tier 2 capital, but may be taken into account in
the evaluation of overall capital adequacy and net unrealized losses on
available-for-sale equity securities will continue to be deducted from Tier 1
capital as a cushion against risk. Each institution is required to maintain a
risk-based capital ratio (including Tier 1 and Tier 2 capital) of 8%, of which
at least half must be Tier 1 capital.
Under the Board of Governors' leverage capital standard an institution is
required to maintain a minimum ratio of Tier 1 capital to the sum of its
quarterly average total assets and quarterly average reserve for loan losses,
less intangibles not included in Tier 1 capital. Period-end assets may be used
in place of quarterly average total assets on a case-by-case basis. The Board of
Governors and other federal regulatory agencies have adopted a revised minimum
leveraged ratio for banks holding companies as a supplement to the risk-weighted
capital guidelines. The old rule established a 3% minimum leverage standard for
well-run banking organizations (bank holding companies and banks)with
diversified risk profiles. Banking organizations which did not exhibit such
characteristics or had greater risk due to significant growth, among other
factors, were required to maintain a minimum leverage ratio 1% to 2% higher. The
old rule did not take into account the implementation of the market risk capital
measure set forth in the federal regulatory agency capital adequacy guidelines.
The revised leverage ratio establishes a minimum Tier1 ratio of 3% (Tier 1
capital to total assets) for the highest rated bank holding companies or those
that have implemented the risk-based capital market risk measure. All other bank
holding companies must maintain a minimum Tier 1 leverage ratio of 4% with
higher leverage capital ratios required for bank holding companies that have
significant financial and/or operational weakness, a high risk profile, or are
undergoing or anticipating rapid growth. The old rule remains in effect for
banks, however, the federal regulatory agencies are currently continuing work on
revised leverage rule for banks.
The following table shows the Company's actual capital amounts and ratios at
September 30, 1998 and December 31, 1997 as well as the minimum capital ratios
for capital adequacy under the regulatory framework:
<TABLE>
<CAPTION>
For Capital
Actual Adequacy Purposes:
---------------------------- -----------------------------
Amount Ratio Amount Ratio
- ------------------------------------------------------------------------------------------------------------------
As of September 30, 1998
<S> <C> <C> <C> <C>
Total Capital (to Risk Weighted Assets): $ 51,382,000 15.1% $ 27,307,000 8.0%
Tier 1 Capital (to Risk Weighted Assets): 47,114,000 13.8% 13,653,000 4.0%
Tier 1 Capital (to Average Assets): 47,114,000 9.6% 19,724,000 4.0%
As of December 31, 1997
Total Capital (to Risk Weighted Assets): $ 45,782,000 15.2% $ 24,046,000 8.0%
Tier 1 Capital (to Risk Weighted Assets): 41,968,000 14.0% 12,023,000 4.0%
Tier 1 Capital (to Average Assets): 41,968,000 9.6% 17,570,000 4.0%
- ------------------------------------------------------------------------------------------------------------------
</TABLE>
The Federal Deposit Insurance Corporation Improvement Act of 1991 ("FDICIA")
substantially revised banking regulations and established a framework for
determination of capital adequacy of financial institutions. Under the FDICIA,
financial institutions are placed into one of five capital adequacy categories
as follows: (1) "well capitalized" consisting of institutions with a total
risk-based capital ratio of 10% or greater, a Tier 1 risk-based capital ratio of
6% or greater and a leverage ratio of 5% or greater, and the institution is not
subject to an order, written agreement, capital directive or prompt corrective
action directive; (2) "adequately capitalized" consisting of institutions with a
total risk-based capital ratio of 8% or greater, a Tier 1 risk-based capital
ratio of 4% or greater and a leverage ratio of 4% or greater, and the
institution does not meet the definition of a "well capitalized" institution;
(3) "undercapitalized" consisting of institutions with a total risk-based
capital ratio less than 8%, a Tier 1 risk-based capital ratio of less than 4%,
or a leverage ratio of less than 4%; (4) "significantly undercapitalized"
consisting of institutions with a total risk-based capital ratio of less than
6%, a Tier 1 risk-based capital ratio of less than 3%, or a leverage ratio of
less than 3%; and, (5) "critically undercapitalized" consisting of an
institution with a ratio of tangible equity to total assets that is equal to or
less than 2%.
Financial institutions classified as undercapitalized or below are subject to
various limitations including, among other matters, certain supervisory actions
by bank regulatory authorities and restrictions related to (I) growth of assets,
(ii) payment of interest on subordinated indebtedness, (iii) payment of
dividends or other capital distributions, and (iv) payment of management fees to
a parent holding company. The FDICIA requires the bank regulatory authorities to
initiate corrective action regarding financial institutions which fail to meet
minimum capital requirements. Such action may, among other matters, require that
the financial institution augment capital and reduce total assets. Critically
undercapitalized financial institutions may also be subject to appointment of a
receiver or conservator unless the financial institution submits an adequate
capitalization plan.
INFLATION
The impact of inflation on a financial institution differs significantly from
that exerted on manufacturing, or other commercial concerns, primarily because
its assets and liabilities are largely monetary. In general, inflation primarily
affects the Company indirectly through its effect on market rates of interest,
and thus the ability of the Banks to attract loan customers. Inflation affects
the growth of total assets by increasing the level of loan demand, and
potentially adversely affects the Company's capital adequacy because loan growth
in inflationary periods can increase at rates higher than the rate that capital
grows through retention of earnings which the Company may generate in the
future. In addition to its effects on interest rates, inflation directly affects
the Company by increasing the Company's operating expenses.
The effect of inflation was not material to the Company's results of operations
during the periods covered by this report.
<PAGE>
OTHER MATTERS
Year 2000
As the year 2000 approaches, a critical issue has emerged regarding how existing
application software programs and operating systems can accommodate this date
value. In brief, many existing application software products in the marketplace
were designed to only accommodate a two digit date position which represents the
year (e.g., "95""is stored on the system and represents the year 1995). As a
result, the year 1999 (i.e., "99") could be the maximum date value these systems
will be able to accurately process. This is not just a banking problem, as
corporations around the world and in all industries are similarly impacted.
The Company is uncertain regarding the consequences of the Year 2000 issue on
the future results of operations, liquidity and financial condition; but
believes that failure to ensure that its systems are in compliance with Year
2000 requirements could have a material adverse effect on its business. As a
result, the Company has made addressing Year 2000 issues a priority of
management and the Board. Based upon actions implemented to date, the Company
currently anticipates that it will be successful in addressing Year 2000 issues
and anticipates no materially adverse processing problems.
All mission critical systems have been identified by the Company, and the
Company is currently testing, or developing contingency plans, for each. The
term "mission critical" refers to an application or system that is vital to the
successful continuance of core business activity. Significantly all mission
critical hardware and software utilized by the Company are provided by third
parties. This requires that the Company is in close contact with relevant
vendors and contractors as it conducts testing and contingency planning.
The Company anticipates that all of its mission critical systems will
be tested and implemented, or that contingency plans will be written and
in place, by March 31, 1999.
The Company has made disclosures to all existing and new customers regarding the
importance of the Year 2000 issue and its relevance to the Company and the
customer. The Company is conducting an ongoing effort to identify customers that
represent material risk exposure to the institution, to evaluate their Year 2000
preparedness and risk to the Company and to implement appropriate risk controls.
The Company also continues to evaluate the cost to address Year 2000 issues.
Most costs incurred to date are in conjunction with the planned replacement of
systems. The cost of system replacements accelerated to meet Year 2000
requirements and Year 2000 project specific costs have not been significant to
the operations of Company as a whole. The Company believes that it will meet its
Year 2000 compliance commitments using existing resources, without incurring
significant incremental expenses.
Despite efforts undertaken to date and as projected, there can be no assurance
that problems will not arise which could have an adverse impact upon the Company
due, among other matters, to the complexities involved in computer programming
related to resolution of Year 2000 problems and the fact that the systems of
other companies on which Central Coast Bancorp and its subsidiaries, Bank of
Salinas and Cypress Bank, may rely must also be corrected on a timely basis.
Many phases of the Company's Year 2000 preparedness plan have been completed:
the Company has identified, assess and prioritized mission critical systems;
developed Year 2000 testing strategies and plans; implemented a customer due
diligence program; and tested most mission critical systems. But, delays,
mistakes or failures in correcting Year 2000 system problems by other companies
on which Central Coast Bancorp and its subsidiaries may rely, could have a
significant adverse impact upon Central Coast Bancorp and its subsidiaries, Bank
of Salinas and Cypress Bank, and their ability to mitigate the risk of adverse
impact of Year 2000 problems for their customers.
The disclosure set forth above contains forward-looking statements.
Specifically, such statements are contained in sentences including the words
"expect" or "anticipate" or "could" or "should". Such forward-looking statements
are subject to inherent risks and uncertainties that may cause actual results to
differ materially from those contemplated by such forward-looking statements.
The factors that may cause actual results to differ materially from those
contemplated by the forward-looking statements include the failure by third
parties adequately to remediate Year 2000 issues or the inability of the Company
to complete testing software changes on the time schedules currently expected.
Nevertheless, the Company currently expects that its Year 2000 compliance
efforts will be successful without material adverse effects on its business.
QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The reader is referred to pages 28 to 29 of the Annual Report on Form 10--K for
information on market risk. There have been no significant changes since
December 31, 1997 (also see pages 22 - 23 of this report).
<PAGE>
PART II - OTHER INFORMATION
Item 1. Legal proceedings.
None.
Item 2. Changes in securities.
None.
Item 3. Defaults upon senior securities.
None.
Item 4. Submission of matters to a vote of security holders.
None.
Item 5. Other information.
None.
Item 6. Exhibits and reports on Form 8-K.
(a) Exhibits
(27.1) Financial Data Schedules
Reports on Form 8-K - None
<PAGE>
SIGNATURES
- --------------------------------------------------------------------------------
Pursuant to the requirements of the Securities and Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.
October 30, 1998 CENTRAL COAST BANCORP
By: \S\JAYME C. FIELDS
--------------------------
Jayme C. Fields, Controller
(Principal Financial and
Accounting Officer)
<PAGE>
EXHIBIT INDEX
Exhibit
Number Description Page
27.1 Financial Data Schedule 31
<TABLE> <S> <C>
<ARTICLE> 9
<LEGEND>
This Schedule Contains Summary Financial Information Extracted >From (A)
Item 7 - 'Financial Statements And Supplementary Data" And Is Qualified In Its
Entirety By Reference To Such (B) Financial Statements Included In This Report
And Incorporated Herein By Refernce.
</LEGEND>
<CIK> 0000921085
<NAME> CENTRAL COAST BANCORP
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-START> JUL-01-1998
<PERIOD-END> SEP-30-1998
<CASH> 40,827
<INT-BEARING-DEPOSITS> 0
<FED-FUNDS-SOLD> 47,507
<TRADING-ASSETS> 0
<INVESTMENTS-HELD-FOR-SALE> 96,578
<INVESTMENTS-CARRYING> 12,424
<INVESTMENTS-MARKET> 12,525
<LOANS> 298,232
<ALLOWANCE> 4,346
<TOTAL-ASSETS> 499,627
<DEPOSITS> 445,247
<SHORT-TERM> 0
<LIABILITIES-OTHER> 4,794
<LONG-TERM> 0
0
0
<COMMON> 41,195
<OTHER-SE> 7,772
<TOTAL-LIABILITIES-AND-EQUITY> 499,672
<INTEREST-LOAN> 7,040
<INTEREST-INVEST> 1,853
<INTEREST-OTHER> 690
<INTEREST-TOTAL> 9,583
<INTEREST-DEPOSIT> 3,358
<INTEREST-EXPENSE> 3,358
<INTEREST-INCOME-NET> 6,225
<LOAN-LOSSES> 40
<SECURITIES-GAINS> 0
<EXPENSE-OTHER> 3,314
<INCOME-PRETAX> 3,361
<INCOME-PRE-EXTRAORDINARY> 3,361
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 1,970
<EPS-PRIMARY> 0.41
<EPS-DILUTED> 0.38
<YIELD-ACTUAL> 5.40
<LOANS-NON> 1,024
<LOANS-PAST> 73
<LOANS-TROUBLED> 0
<LOANS-PROBLEM> 0
<ALLOWANCE-OPEN> 4,228
<CHARGE-OFFS> 4
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<ALLOWANCE-FOREIGN> 0
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</TABLE>
