UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

 

FORM 10-Q

 

(Mark One)

SxQuarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
For the period ended JuneSeptember 30, 2013.

o
£  Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

For the Quarterly Transition Period From _____________________________ to _____________________________

 

Commission file number0-10652

 

NORTH VALLEY BANCORP

NORTH VALLEY BANCORP

(Exact name of registrant as specified in its charter)

 

California 94-2751350
(State or other jurisdiction of incorporation or organization)  (IRS Employer ID Number)

of incorporation or organization)
300 Park Marina Circle, Redding, CA96001
(Address of principal executive offices) (Zip code)

Registrant'sRegistrant’s telephone number, including area code (530) 226-2900

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Exchange Act of 1934 during the preceding 12 months (or for such shorter periods that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.

YesSx No£o

 

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).

YesSx No£o

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act (Check one):

 

Large accelerated filer£oAccelerated filerSx
   
Non-accelerated filer£oSmaller reporting company£o

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).

Yes£o NoSx

 

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.

 

Common Stock – 6,835,1926,836,632 shares as of August 2,November 8, 2013.



 

INDEX

 

NORTH VALLEY BANCORP AND SUBSIDIARIES

 

PART I.  FINANCIAL INFORMATION 
    
Item 1.Financial Statements (Unaudited)
Condensed Consolidated Balance Sheets—September 30, 2013 and December 31, 2012 3
 Condensed Consolidated Balance Sheets—June 30, 2013 and December 31, 20123
Condensed Consolidated Statements of Income—For the three and sixnine months ended JuneSeptember 30, 2013 and 2012 4
 Consolidated Statements of Comprehensive (Loss) Income—For the three and sixnine months ended JuneSeptember 30, 2013 and 2012 6
 Condensed Consolidated Statements of Cash Flows—For the sixnine months ended JuneSeptember 30, 2013 and 2012 7
 Notes to Condensed Consolidated Financial Statements 8
    
Item 2.Management'sManagement’s Discussion and Analysis of Financial Condition and Results of Operations 27
    
Item 3.Quantitative and Qualitative Disclosures about Market Risk 46
    
Item 4.Controls and Procedures 46
    
PART II.  OTHER INFORMATION 
Item 1.Legal Proceedings46
   
Item 1A.1.Risk FactorsLegal Proceedings46
Item 2.Unregistered Sales of Equity Securities and Use of Proceeds 46
    
Item 3.1A.Defaults Upon Senior SecuritiesRisk Factors 46
    
Item 4.2.Mine Safety DisclosuresUnregistered Sales of Equity Securities and Use of Proceeds 46
    
Item 3.Defaults Upon Senior Securities46
Item 4.Mine Safety Disclosures46
Item 5.Other Information46
Item 6.Exhibits 47
    
Item 6.Exhibits47
SIGNATURES 47
2

PARTPART I. FINANCIAL INFORMATION

ITEM 1. FINANCIAL STATEMENTS

 

NORTH VALLEY BANCORP AND SUBSIDIARIES    
CONDENSED CONSOLIDATED BALANCE SHEETS    
(In thousands except share data) (Unaudited)      
  June 30,  December 31, 
  2013  2012 
ASSETS        
Cash and cash equivalents:        
Cash and due from banks $21,431  $22,654 
Federal funds sold     15,865 
Total cash and cash equivalents  21,431   38,519 
         
Time deposits at other financial institutions  2,219   2,219 
Investment securities available-for-sale, at fair value  306,300   285,815 
Investment securities held-to-maturity, at amortized cost  6   6 
         
Loans  504,274   492,211 
Less: Allowance for loan losses  (9,527)  (10,458)
Net loans  494,747   481,753 
         
Premises and equipment, net  8,704   9,181 
Accrued interest receivable  2,257   2,217 
Other real estate owned  16,324   22,423 
FHLB and FRB stock and other nonmarketable securities  8,402   8,313 
Bank-owned life insurance policies  36,675   36,045 
Core deposit intangibles, net  182   255 
Other assets  20,511   15,597 
         
TOTAL ASSETS $917,758  $902,343 
         
LIABILITIES AND STOCKHOLDERS' EQUITY        
         
LIABILITIES:        
Deposits:        
Noninterest-bearing $173,119  $177,855 
Interest-bearing  591,936   590,725 
Total deposits  765,055   768,580 
         
Accrued interest payable and other liabilities  16,281   15,951 
Other borrowed funds  22,025    
Subordinated debentures  21,651   21,651 
Total liabilities  825,012   806,182 
         
Commitments and contingencies        
         
STOCKHOLDERS’ EQUITY:        
Preferred stock, no par value: authorized 5,000,000 shares; no shares outstanding at June 30, 2013 and December 31, 2012      
Common stock, no par value: authorized 60,000,000 shares; outstanding 6,835,192 at June 30, 2013 and December 31, 2012, respectively  98,686   98,495 
Accumulated deficit  (1,845)  (4,000)
Accumulated other comprehensive (loss) income, net of tax  (4,095)  1,666 
Total stockholders’ equity  92,746   96,161 
         
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $917,758  $902,343 
         
The accompanying notes are an integral part of these consolidated financial statements.
NORTH VALLEY BANCORP AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF INCOME
(In thousands except per share data) (Unaudited) 
 For the three months ended June 30, 
  2013  2012 
Interest income        
Loans, including fees $6,416  $6,324 
Taxable securities  1,465   1,943 
Tax exempt securities  88   136 
Federal funds sold and repurchase agreements  12   17 
Total interest income  7,981   8,420 
         
Interest expense        
Deposits  269   604 
Other borrowed funds  1    
Subordinated debentures  133   487 
Total interest expense  403   1,091 
         
Net interest income  7,578   7,329 
         
Provision for loan losses     1,000 
         
Net interest income after provision for loan losses  7,578   6,329 
         
Noninterest income        
Service charges on deposit accounts  971   1,136 
Other fees and charges  1,108   1,321 
Earnings on cash surrender value of life insurance policies  319   359 
Gain on sale of loans, net  920   684 
Gain on sales or calls of securities, net     968 
Other  333   219 
Total noninterest income  3,651   4,687 
         
Noninterest expense        
Salaries and employee benefits  5,077   5,051 
Occupancy expense  615   620 
Furniture and equipment expense  202   227 
FDIC and state assessments  213   176 
Other real estate owned expense  990   342 
Other  2,839   2,812 
Total noninterest expenses  9,936   9,228 
         
Income before provision for income taxes  1,293   1,788 
         
Provision for income taxes  399   527 
         
Net income $894  $1,261 
         
Earnings per share        
Basic and diluted income per share $0.13  $0.18 
         
The accompanying notes are an integral part of these consolidated financial statements.

NORTH VALLEY BANCORP AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF INCOME
(In thousands except per share data) (Unaudited) 
 For the six months ended June 30, 
  2013  2012 
Interest income        
Loans, including fees $12,782  $12,794 
Taxable securities  2,841   3,910 
Tax exempt securities  195   280 
Federal funds sold and repurchase agreements  31   45 
Total interest income  15,849   17,029 
         
Interest expense        
Deposits  568   1,338 
Other borrowed funds  1    
Subordinated debentures  266   970 
Total interest expense  835   2,308 
         
Net interest income  15,014   14,721 
         
Provision for loan losses     1,400 
         
Net interest income after provision for loan losses  15,014   13,321 
         
Noninterest income        
Service charges on deposit accounts  1,923   2,188 
Other fees and charges  2,228   2,518 
Earnings on cash surrender value of life insurance policies  782   683 
Gain on sale of loans, net  1,845   1,089 
Gain on sales or calls of securities, net  543   959 
Other  659   509 
Total noninterest income  7,980   7,946 
         
Noninterest expense        
Salaries and employee benefits  10,239   10,108 
Occupancy expense  1,248   1,260 
Furniture and equipment expense  422   472 
FDIC and state assessments  431   489 
Other real estate owned expense  1,366   976 
Other  6,118   5,579 
Total noninterest expenses  19,824   18,884 
         
Income before provision for income taxes  3,170   2,383 
         
Provision for income taxes  1,015   642 
         
Net income $2,155  $1,741 
         
Earnings per share        
Basic income per share $0.32  $0.25 
Diluted income per share $0.31  $0.25 
         
The accompanying notes are an integral part of these consolidated financial statements.

NORTH VALLEY BANCORP AND SUBSIDIARIES
CONSOLIDATED STATEMENTS COMPREHENSIVE (LOSS) INCOME
(In thousands) (Unaudited) 
         
  For three months ended June 30,  For six months ended June 30, 
  2013  2012  2013  2012 
Net income $894  $1,261  $2,155  $1,741 
Other comprehensive (loss) income:                
Unrealized (losses) gains on securities:                
Unrealized holding (losses) gains arising during the period  (9,870)  2,115   (10,517)  3,808 
Tax effect  4,047   (867)  4,312   (1,561)
Reclassification adjustment for gains included in gain on sales or calls of securities, net     (968)  (543)  (959)
Provision for income taxes     397   223   393 
Net of tax  (5,823)  677   (6,525)  1,681 
Defined benefit pension plans                
Net gain (loss) arising during the period  977   35   1,146    
Tax effect  (400)  (14)  (470)   
Reclassification adjustment for amortization of prior service cost and net gain included in salaries and employee benefits  74   34   148   69 
(Benefit) provision for income taxes  (30)  (14)  (60)  (28)
Net of tax  621   41   764   41 
Total other comprehensive (loss) income  (5,202)  718   (5,761)  1,722 
Comprehensive (loss) income $(4,308) $1,979  $(3,606) $3,463 
                 
The accompanying notes are an integral part of these consolidated financial statements.

NORTH VALLEY BANCORP AND SUBSIDIARIES      
CONDENSED CONSOLIDATED BALANCE SHEETS      
(In thousands except share data) (Unaudited)      
       
  September 30,  December 31, 
  2013  2012 
ASSETS        
Cash and cash equivalents:        
Cash and due from banks $23,780  $22,654 
Federal funds sold  2,345   15,865 
Total cash and cash equivalents  26,125   38,519 
         
Time deposits at other financial institutions  2,219   2,219 
Investment securities available-for-sale, at fair value  293,627   285,815 
Investment securities held-to-maturity, at amortized cost  6   6 
         
Loans  509,092   492,211 
Less: Allowance for loan losses  (9,312)  (10,458)
Net loans  499,780   481,753 
         
Premises and equipment, net  8,572   9,181 
Accrued interest receivable  2,166   2,217 
Other real estate owned  15,045   22,423 
FHLB and FRB stock and other nonmarketable securities  8,402   8,313 
Bank-owned life insurance policies  36,941   36,045 
Core deposit intangibles, net  146   255 
Other assets  19,418   15,597 
         
TOTAL ASSETS $912,447  $902,343 
         
LIABILITIES AND STOCKHOLDERS’ EQUITY        
         
LIABILITIES:        
Deposits:        
Noninterest-bearing $184,471  $177,855 
Interest-bearing  595,299   590,725 
Total deposits  779,770   768,580 
         
Accrued interest payable and other liabilities  15,952   15,951 
Subordinated debentures  21,651   21,651 
Total liabilities  817,373   806,182 
         
Commitments and contingencies        
         
STOCKHOLDERS’ EQUITY:        
Preferred stock, no par value: authorized 5,000,000 shares; no shares outstanding at September 30, 2013 and December 31, 2012      
Common stock, no par value: authorized 60,000,000 shares; outstanding 6,836,632 and 6,835,192 at September 30, 2013 and December 31, 2012, respectively  98,817   98,495 
Accumulated deficit  (1,265)  (4,000)
Accumulated other comprehensive (loss) income, net of tax  (2,478)  1,666 
Total stockholders’ equity  95,074   96,161 
         
TOTAL LIABILITIES AND STOCKHOLDERS’ EQUITY $912,447  $902,343 

The accompanying notes are an integral part of these consolidated financial statements.

3

NORTH VALLEY BANCORP AND SUBSIDIARIES      
CONDENSED CONSOLIDATED STATEMENTS OF INCOME      
(In thousands except per share data) (Unaudited)      
    
  Three months ended September 30, 
  2013  2012 
Interest income        
Loans, including fees $6,462  $6,663 
Taxable securities  1,597   1,622 
Tax exempt securities  103   131 
Federal funds sold and repurchase agreements  3   10 
Total interest income  8,165   8,426 
         
Interest expense        
Deposits  257   462 
Other borrowed funds     8 
Subordinated debentures  134   243 
Total interest expense  391   713 
         
Net interest income  7,774   7,713 
         
Provision for loan losses     700 
         
Net interest income after provision for loan losses  7,774   7,013 
         
Noninterest income        
Service charges on deposit accounts  959   1,086 
Other fees and charges  1,152   1,102 
Earnings on cash surrender value of life insurance policies  343   340 
Gain on sale of loans, net  596   769 
Gain on sales or calls of securities, net  5   697 
Other  154   210 
Total noninterest income  3,209   4,204 
         
Noninterest expense        
Salaries and employee benefits  5,084   5,005 
Occupancy expense  629   651 
Furniture and equipment expense  223   237 
FDIC and state assessments  207   212 
Other real estate owned expense  1,226   817 
Other  2,667   2,837 
Total noninterest expenses  10,036   9,759 
         
Income before provision (benefit) for income taxes  947   1,458 
         
Provision (benefit) for income taxes  367   (2,546)
         
Net income $580  $4,004 
         
Earnings per share        
Basic and diluted income per share $0.08  $0.59 

 

The accompanying notes are an integral part of these consolidated financial statements.

4
NORTH VALLEY BANCORP AND SUBSIDIARIES      
CONDENSED CONSOLIDATED STATEMENTS OF INCOME      
(In thousands except per share data) (Unaudited)      
    
  Nine months ended September 30, 
  2013  2012 
Interest income        
Loans, including fees $19,244  $19,457 
Taxable securities  4,438   5,532 
Tax exempt securities  298   411 
Federal funds sold and repurchase agreements  34   55 
Total interest income  24,014   25,455 
         
Interest expense        
Deposits  825   1,800 
Other borrowed funds  1   8 
Subordinated debentures  400   1,213 
Total interest expense  1,226   3,021 
         
Net interest income  22,788   22,434 
         
Provision for loan losses     2,100 
         
Net interest income after provision for loan losses  22,788   20,334 
         
Noninterest income        
Service charges on deposit accounts  2,882   3,274 
Other fees and charges  3,380   3,620 
Earnings on cash surrender value of life insurance policies  1,125   1,023 
Gain on sale of loans, net  2,441   1,858 
Gain on sales or calls of securities, net  548   1,656 
Other  813   719 
Total noninterest income  11,189   12,150 
         
Noninterest expense        
Salaries and employee benefits  15,323   15,113 
Occupancy expense  1,877   1,911 
Furniture and equipment expense  645   709 
FDIC and state assessments  638   701 
Other real estate owned expense  2,592   1,793 
Other  8,785   8,416 
Total noninterest expenses  29,860   28,643 
         
Income before provision (benefit) for income taxes  4,117   3,841 
         
Provision (benefit) for income taxes  1,382   (1,904)
         
Net income $2,735  $5,745 
         
Earnings per share        
Basic and diluted income per share $0.40  $0.84 

The accompanying notes are an integral part of these consolidated financial statements.

NORTH VALLEY BANCORP AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands except per share data) (Unaudited) 
  For the six months ended June 30, 
  2013  2012 
CASH FLOWS FROM OPERATING ACTIVITIES:        
Net income $2,155  $1,741 
Adjustments to reconcile net income to net cash provided by operating activities:        
Depreciation and amortization  507   537 
Amortization of  premium on securities, net  897   1,030 
Amortization of core deposit intangible  73   73 
Provision for loan losses     1,400 
Net losses on sale and write-down of other real estate owned  1,132   749 
Gain on sale of loans  (1,845)  (1,089)
Gain on sales or calls of securities  (543)  (959)
(Gain) loss on sale of premises and equipment  (75)  1 
Stock-based compensation expense  191   89 
Effect of changes in:        
Accrued interest receivable  (40)  187 
Other assets  (1,538)  (1,506)
Accrued interest payable and other liabilities  1,623   2,631 
Proceeds from sales of loan orginated for sale  51,225   38,002 
Loans originated for sale  (52,477)  (38,208)
Net cash provided by operating activities  1,285   4,678 
         
CASH FLOWS FROM INVESTING ACTIVITIES:        
Purchases of available-for-sale securities  (91,054)  (95,172)
Proceeds from sales/calls of available-for-sale securities  17,085   78,439 
Proceeds from maturities of available-for-sale securities  42,070   26,338 
Purchases of FHLB and FRB stock and other securities  (89)  (269)
Net increase in loans  (10,674)  (647)
Proceeds from sales of other real estate owned  5,744   4,284 
Purchases of premises and equipment  (251)  (1,239)
Proceeds from sales of premises and equipment  296    
Net cash (used in) provided by investing activities  ( 36,873)  11,734 
         
CASH FLOWS FROM FINANCING ACTIVITIES:        
Net decrease in deposits  (3,525)  (2,968)
Net change in other borrowed funds  22,025    
Net cash  provided by (used in) financing activities  18,500   (2,968)
         
NET (DECREASE) INCREASE IN CASH AND CASH EQUIVALENTS  (17,088)  13,444 
CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD  38,519   58,968 
CASH AND CASH EQUIVALENTS, END OF PERIOD $21,431  $72,412 
         
Supplemental Disclosures of Cash Flow Information        
Cash paid during the year for:        
Interest $849  $1,354 
Income taxes paid $210  $122 
         
Noncash investing and financing activities:        
Transfer from loans to other real estate owned $777  $575 
         
The accompanying notes are an integral part of these consolidated financial statements.
5

NORTH VALLEY BANCORP AND SUBSIDIARIES 
CONSOLIDATED STATEMENTS COMPREHENSIVE INCOME (LOSS) 
(In thousands) (Unaudited) 
             
  Three months ended September 30,        Nine months ended September 30, 
  2013  2012  2013  2012 
             
Net income $580  $4,004  $2,735  $5,745 
Other comprehensive income (loss):                
Unrealized gains (losses) on securities:                
Unrealized holding gains (losses) arising during the period  2,674   1,471   (7,843)  5,279 
Tax effect  (1,096)  (603)  3,216   (2,164)
Reclassification adjustment for gains included in gain on sales or calls of securities, net  (5)  (697)  (548)  (1,656)
Provision for income taxes  2   286   225   679 
Net of tax  1,575   457   (4,950)  2,138 
Defined benefit pension plans                
Net gain arising during the period     34   1,146   103 
Tax effect     (14)  (470)  (42)
Reclassification adjustment for amortization of prior service cost and net gain included in salaries and employee benefits  72      220    
Benefit for income taxes  (30)     (90)   
Net of tax  42   20   806   61 
Total other comprehensive income (loss)  1,617   477   (4,144)  2,199 
Comprehensive income (loss) $2,197  $4,481  $(1,409) $7,944 

The accompanying notes are an integral part of these consolidated financial statements.

6
NORTH VALLEY BANCORP AND SUBSIDIARIES      
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS      
(In thousands except per share data) (Unaudited)      
    
  Nine months ended September 30, 
  2013  2012 
CASH FLOWS FROM OPERATING ACTIVITIES:        
Net income $2,735  $5,745 
Adjustments to reconcile net income to net cash provided by operating activities:        
Depreciation and amortization  760   808 
Amortization of premium on securities, net  1,320   1,616 
Amortization of core deposit intangible  109   109 
Provision for loan losses     2,100 
Net losses on sale and write-down of other real estate owned  2,273   1,487 
Gain on sale of loans  (2,441)  (1,858)
Gain on sales or calls of securities  (548)  (1,656)
(Gain) loss on sale of premises and equipment  (73)  1 
Stock-based compensation expense  322   158 
Effect of changes in:        
Accrued interest receivable  51   261 
Other assets  (1,837)  (4,634)
Accrued interest payable and other liabilities  1,854   (1,838)
Proceeds from sales of loan originated for sale  69,922   64,882 
Loans originated for sale  (70,514)  (65,509)
Net cash provided by operating activities  3,933   1,672 
         
CASH FLOWS FROM INVESTING ACTIVITIES:        
Purchases of time deposits at other financial institutions     (251)
Purchases of available-for-sale securities  (91,054)  (142,049)
Proceeds from sales/calls of available-for-sale securities  18,700   110,579 
Proceeds from maturities of available-for-sale securities  55,380   48,314 
Purchases of FHLB and FRB stock and other securities  (89)  (269)
Purchases of jumbo residential mortgages     (33,325)
Net increase in loans  (15,812)  (8,688)
Proceeds from sales of other real estate owned  5,436   4,414 
Purchases of premises and equipment  (375)  (1,451)
Proceeds from sales of premises and equipment  297    
Net cash used in investing activities  (27,517)  (22,726)
         
CASH FLOWS FROM FINANCING ACTIVITIES:        
Net increase (decrease) in deposits  11,190   (7,763)
Net change in other borrowed funds     (10,310)
Net cash provided by (used in) financing activities  11,190   (18,073)
         
NET DECREASE IN CASH AND CASH EQUIVALENTS  (12,394)  (39,127)
CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD  38,519   58,968 
CASH AND CASH EQUIVALENTS, END OF PERIOD $26,125  $19,841 
         
Supplemental Disclosures of Cash Flow Information        
Cash paid during the year for:        
Interest $1,252  $7,874 
Income taxes paid $670  $122 
         
Noncash investing and financing activities:        
Transfer from loans to other real estate owned $818  $7,484 

 

The accompanying notes are an integral part of these consolidated financial statements.

7

NORTH VALLEY BANCORP AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

 

NOTE 1 - BASIS OF PRESENTATION

 

The accompanying unaudited condensed consolidated financial statements of North Valley Bancorp and subsidiaries (the “Company”) have been prepared in accordance with the instructions to Form 10-Q and Article 10 of Regulation S-X of the Securities and Exchange Commission. Accordingly, certain information and notes required by accounting principles generally accepted in the United States for annual financial statements are not included herein. Management believes that the disclosures are adequate to make the information not misleading. In the opinion of management, all adjustments (consisting solely of normal recurring adjustments) considered necessary for a fair presentation of the results for the interim periods presented have been included. For further information, refer to the consolidated financial statements and notes thereto included in the Company'sCompany’s Annual Report on Form 10-K for the fiscal year ended December 31, 2012. Operating results for the three and sixnine months ended JuneSeptember 30, 2013 are not necessarily indicative of the results that may be expected for any subsequent period or for the year ended December 31, 2013.

 

The condensed consolidated financial statements include the accounts of the Company and its wholly owned subsidiaries North Valley Bank, a California banking corporation (“NVB”) and North Valley Trading Company, a California corporation, which is inactive. Significant intercompany items and transactions have been eliminated in consolidation. The Company owns the common stock of three business trusts that have issued trust preferred securities fully and unconditionally guaranteed by the Company. North Valley Capital Trust II, North Valley Capital Trust III and North Valley Capital Statutory Trust IV are unconsolidated subsidiaries and have issued an aggregate of $21,651,000 in trust preferred securities, which are reflected as debt on the Company’s condensed consolidated balance sheets.

 

The preparation of condensed consolidated financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions. These estimates and assumptions affect the reported amounts of assets and liabilities at the date of the consolidated financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from these estimates.

 

Management has determined that since all of the banking products and services offered by the Company are available in each branch of NVB, all branches are located within the same economic environment and management does not allocate resources based on the performance of different lending or transaction activities, it is appropriate to aggregate NVB branches and report them as a single operating segment. No single customer accounts for more than ten percent of revenues for the Company or NVB.

8

NOTE 2 – INVESTMENT SECURITIES

The amortized cost of securities and their approximate fair value were as follows (in thousands):

 

  Amortized Cost  Gross Unrealized Gains  Gross Unrealized Losses  Estimated Fair Value 
June 30, 2013                
Available-for-Sale:                
Obligations of U.S. government sponsored agencies $19,669  $  $(1,117) $18,552 
Obligations of state and political subdivisions  8,262   229   (60)  8,431 
Government sponsored agency mortgage-backed securities  274,858   2,580   (5,860)  271,578 
Corporate debt securities  6,000      (1,238)  4,762 
Equity securities  3,000      (23)  2,977 
  $311,789  $2,809  $(8,298) $306,300 
Held-to-Maturity:                
Government sponsored agency mortgage-backed securities $6  $  $  $6 
                 
December 31, 2012                
Available-for-Sale:                
Obligations of U.S. government sponsored agencies $21,003  $115  $  $21,118 
Obligations of state and political subdivisions  10,698   499      11,197 
Government sponsored agency mortgage-backed securities  239,543   6,152   (64)  245,631 
Corporate debt securities  6,000      (1,244)  4,756 
Equity securities  3,000   113      3,113 
  $280,244  $6,879  $(1,308) $285,815 
Held-to-Maturity:                
Government sponsored agency mortgage-backed securities $6  $  $  $6 

     Gross  Gross  Estimated 
  Amortized  Unrealized  Unrealized  Fair 
  Cost  Gains  Losses  Value 
September 30, 2013                
Available-for-Sale:                
Obligations of U.S. government sponsored agencies $19,669  $  $(991) $18,678 
Obligations of state and political subdivisions  6,692   192   (31)  6,853 
Government sponsored agency mortgage-backed securities  261,085   3,566   (4,308)  260,343 
Corporate debt securities  6,000      (1,230)  4,770 
Equity securities  3,000      (17)  2,983 
  $296,446  $3,758  $(6,577) $293,627 
Held-to-Maturity:                
Government sponsored agency mortgage-backed securities $6  $  $  $6 
                 
December 31, 2012                
Available-for-Sale:                
Obligations of U.S. government sponsored agencies $21,003  $115  $  $21,118 
Obligations of state and political subdivisions  10,698   499      11,197 
Government sponsored agency mortgage-backed securities  239,543   6,152   (64)  245,631 
Corporate debt securities  6,000      (1,244)  4,756 
Equity securities  3,000   113      3,113 
  $280,244  $6,879  $(1,308) $285,815 
Held-to-Maturity:                
Government sponsored agency mortgage-backed securities $6  $  $  $6 

For the three months ended JuneSeptember 30, 2013 and 2012 there were no$5,000 and $697,000, respectively, in gross realized gains on sales or calls of available for sale securities. For the three months ended June 30, 2012 there were $968,000 gross realized gains on sales or calls of available for sale securities. For the three months ended JuneSeptember 30, 2013 and 2012 there were no gross realized losses on sales or calls of securities categorized as available for sale securities. For the three months ended JuneSeptember 30, 2013 there were no gross proceeds from sales or calls of available for sale securities. For the three months ended June 30,and 2012 there were $76,989,000$1,615,000 and $32,140,000 in gross proceeds from sales or calls of available for sale securities. There were no sales or transfers of held to maturity securities for the three months ended JuneSeptember 30, 2013 and 2012. For the three months ended JuneSeptember 30, 2013 and 2012, there were no gross proceeds from maturities or calls of held to maturity securities.

 

For the sixnine months ended JuneSeptember 30, 2013 and 2012 there were $543,000$548,000 and $968,000,$1,665,000, respectively, in gross realized gains on sales or calls of available for sale securities. For the sixnine months ended JuneSeptember 30, 2013 there were no gross realized losses on sales or calls of securities categorized as available for sale securities. For the sixnine months ended JuneSeptember 30, 2012 there were $9,000 in gross realized losses on sales or calls of securities categorized as available for sale securities. For the sixnine months ended JuneSeptember 30, 2013 and 2012 there were $17,085,000$18,700,000 and $78,439,000,$110,579,000, respectively, in gross proceeds from sales or calls of available for sale securities. There were no sales or transfers of held to maturity securities for the sixnine months ended JuneSeptember 30, 2013 and 2012. For the sixnine months ended JuneSeptember 30, 2013 and 2012, there were no gross proceeds from maturities or calls of held to maturity securities. Expected maturities of all investment securities are consistent with those reported in the December 31, 2012 Form 10-K.

 

At JuneSeptember 30, 2013 and December 31, 2012, securities having fair value amounts of approximately $300,983,000$285,444,000 and $276,308,000, respectively, were pledged to secure public deposits, short-term borrowings, treasury, tax and loan balances and for other purposes required by law or contract. The Company pledges most of its securities at the Federal Home Loan Bank (“FHLB”) to provide borrowing capacity. See “Liquidity” onpage 44.44.

 

Investment securities are evaluated for other-than-temporary impairment on at least a quarterly basis and more frequently when economic or market conditions warrant such an evaluation to determine whether a decline in their value below amortized cost is other-than-temporary.  Management utilizes criteria such as the magnitude and duration of the decline and the intent and ability of the Company to retain its investment in the issues for a period of time sufficient to allow for an anticipated recovery in fair value, in addition to the reasons underlying the decline, to determine whether the loss in value is other-than-temporary.  The term "other-than-temporary"“other-than-temporary” is not intended to indicate that the decline is permanent, but indicates that the prospects for a near-term recovery of value is not necessarily favorable, or that there is a lack of evidence to support a realizable value equal to or greater than the carrying value of the investment.  Once a decline in value is determined to be other-than-temporary, and management does not intend to sell the security or it is more likely than not that the Company will not be required to sell the security before recovery, only the portion of the impairment loss representing credit exposure is recognized as a charge to earnings, with the balance recognized as a charge to other comprehensive income. If management intends to sell the security or it is more likely than not that the Company will be required to sell the security before recovering its forecasted cost, the entire impairment loss is recognized as a charge to earnings. For debt securities, the credit loss is defined as the difference between the present value of the cash flows expected to be collected and the amortized cost basis. For equity securities, the entire amount of impairment is recognized through earnings.

9

A summary of investments securities in an unrealized loss for less than twelve months and twelve months or longer is as follows (in thousands).

 

 As of September 30, 2013 
 As of June 30, 2013   Less than 12 Months 12 Months or Longer Total 
 Less than 12 Months  12 Months or Longer  Total  Estimated Unrealized Estimated Unrealized Estimated Unrealized 
 Estimated Fair Value  Unrealized Losses  Estimated Fair Value  Unrealized Losses  Estimated Fair Value  Unrealized Losses  Fair Value Losses Fair Value Losses Fair Value Losses 
Description of SecuritiesDescription of Securities                        
Obligations of U.S. government sponsored agencies $18,552  $(1,117) $  $   18,552   (1,117) $18,678  $(991) $  $   18,678   (991)
Obligations of state and political subdivisions  1,108   (60)        1,108   (60) 1,151 (31)   1,151 (31)
Government sponsored agency mortgage-backed securities  175,628   (5,860)        175,628   (5,860) 138,511 (4,308)   138,511 (4,308)
Corporate debt securities        4,762   (1,238)  4,762   (1,238)   4,770 (1,230) 4,770 (1,230)
Equity securities  2,977   (23)        2,977   (23)  2,983  (17 )       2,983  (17)
Total impaired securities $198,265  $(7,060) $4,762  $(1,238) $203,027  $(8,298) $161,323 $(5,347) $4,770  $(1,230) $166,093 $(6,577)

 

  As of December 31, 2012  
  Less than 12 Months  12 Months or Longer  Total 
  Estimated Fair Value  Unrealized Losses  Estimated Fair Value  Unrealized Losses  Estimated Fair Value  Unrealized Losses 
Description of Securities               
Government sponsored agency mortgage-backed securities $34,878 ��$(64) $  $  $34,878  $(64)
Corporate debt securities        4,756   (1,244)  4,756   (1,244)
Total impaired securities $34,878  $(64) $4,756  $(1,244) $39,634  $(1,308)

  As of December 31, 2012 
  Less than 12 Months  12 Months or Longer  Total 
  Estimated  Unrealized  Estimated  Unrealized  Estimated  Unrealized 
  Fair Value  Losses  Fair Value  Losses  Fair Value  Losses 
Description of Securities                        
Government sponsored agency mortgage-backed securities $34,878  $(64) $  $  $34,878  $(64)
Corporate debt securities        4,756   (1,244)  4,756   (1,244)
Total impaired securities $34,878  $(64) $4,756  $(1,244) $39,634  $(1,308)

 

As of JuneSeptember 30, 2013 and December 31, 2012, there were two corporate debt securities in a loss position for twelve months or more. There is a current active market for these securities and management believes that the unrealized losses on the Company’s investment in these corporate debt securities is due to the yield of the securities and is not attributable to changes in credit quality. The two corporate debt securities are each a $3,000,000 single-issuer trust preferred security issued by two separate large publicly-traded financial institutions. The securities are tied to the front-end of the yield curve, three-month LIBOR (a short-term interest rate) and have a spread over that. In addition, the payments on both of these securities have been made as agreed and are considered current. The Company does not intend to sell and does not believe it will be required to sell these securities and expects a full recovery of value. The Company did not consider these investments to be other-than-temporarily impaired at JuneSeptember 30, 2013 or December 31, 2012.

 

Management periodically evaluates each investment security for other-than-temporary impairment, relying primarily on industry analyst reports, observation of market conditions and interest rate fluctuations. Management has the ability and intent to hold securities with established maturity dates until recovery of fair value, which may be at maturity, and believes it will be able to collect all amounts due according to the contractual terms for all of the underlying investment securities; therefore, management does not consider these investments to be other-than-temporarily impaired.

10

NOTE 3 – LOANS

 

The Company originates loans for business, consumer and real estate activities and for equipment purchases. Such loans are concentrated in the Company’s market areas which consist of Yolo, Placer, Sonoma, Shasta, Humboldt, Mendocino, Trinity and Del Norte Counties and neighboring communities. Major classifications of loans were as follows (in thousands):

 June 30,  December 31,  September 30, December 31, 
 2013  2012  2013  2012 
Commercial $49,054  $46,078  $48,903  $46,078 
Real estate - commercial  319,206   295,630   328,967   295,630 
Real estate - construction  18,535   23,003   19,281   23,003 
Real estate - mortgage  68,637   74,353   65,790   74,353 
Installment  6,026   6,689   5,560   6,689 
Other  42,547   45,941   40,771   45,941 
Gross loans  504,005   491,694   509,272   491,694 
Deferred loan fees, net  269   517 
Deferred loan (fees) costs, net  (180)  517 
Allowance for loan losses  (9,527)  (10,458)  (9,312)  (10,458)
Total loans, net $494,747  $481,753  $499,780  $481,753 

Certain real estate loans receivable are pledged as collateral for available borrowings with the FHLB, FRB, and certain correspondent banks. Pledged loans totaled $101,239,000$95,107,000 and $116,929,000 at JuneSeptember 30, 2013 and December 31, 2012, respectively.

 

The following table presents impaired loans and the related allowance for loan losses as of the dates indicated (in thousands):

 

  As of June 30,  2013  As of December 31, 2012 
  Recorded Investment  Unpaid Principal Balance  Related Allowance  Recorded Investment  Unpaid Principal Balance  Related Allowance 
With no allocated allowance                    
Commercial $175  $175  $  $585  $586  $ 
Real estate - commercial  5,002   5,309      2,778   2,974    
Real estate - construction  860   870      1,210   1,273    
Real estate - mortgage  1,173   1,203      684   736    
Installment  116   134      122   138    
Other  253   266      111   120    
    Subtotal  7,579   7,957      5,490   5,827    
                         
With allocated allowance                    
Commercial  473   485   88          
Real estate - commercial           184   217   171 
Real estate - construction           161   161   18 
Real estate - mortgage  164   164   164          
Other  140   140   140          
Subtotal  777   789   392   345   378   189 
Total Impaired Loans $8,356  $8,746  $392  $5,835  $6,205  $189 

  As of September 30, 2013  As of December 31, 2012 
     Unpaid        Unpaid    
  Recorded  Principal  Related  Recorded  Principal  Related 
  Investment  Balance  Allowance  Investment  Balance  Allowance 
With no allocated allowance                        
Commercial $566  $587  $  $585  $586  $ 
Real estate - commercial  4,283   4,348      2,778   2,974    
Real estate - construction  843   864      1,210   1,273    
Real estate - mortgage  1,171   1,194      684   736    
Installment  110   127      122   138    
Other  311   326      111   120    
   Subtotal  7,284   7,446      5,490   5,827    
                         
With allocated allowance                        
Commercial  16   16   16          
Real estate - commercial           184   217   171 
Real estate - construction           161   161   18 
Real estate - mortgage  164   164   164          
   Subtotal  180   180   180   345   378   189 
Total Impaired Loans $7,464  $7,626  $180  $5,835  $6,205  $189 
11

The following table presents the average balance and interest income recognized related to impaired loans for the period indicated (in thousands):

 For the three months ended June 30,  For the three months ended September 30, 
 2013  2012  2013  2012 
     Average Book Interest Income Average Book Interest Income 
  Average Book
Balance
   Interest Income
Recognized
   Average Book
Balance
   Interest Income
Recognized
  Balance Recognized Balance Recognized 
                         
Commercial $438  $  $1,143  $  $372  $  $938  $ 
Real estate - commercial  5,357   21   5,989      4,704   21   7,780    
Real estate - construction  874   6   8,388      869   6   1,766    
Real estate - mortgage  1,371   10   950      1,393   13   986    
Installment  144   1   140      138      123    
Other  407      124      327      277    
Total $8,591  $38  $16,734  $  $7,803  $40  $11,870  $ 

 

 For the nine months ended September 30, 
 For the six months ended June 30,  2013  2012 
 2013  2012  Average Book Interest Income Average Book Interest Income 
 Average
Book
Balance
  Interest
IncomeRecognized
  Average
Book
Balance
  Interest
Income Recognized
  Balance Recognized Balance Recognized 
                 
Commercial $455  $  $1,173  $  $430  $  $1,043  $ 
Real estate - commercial  5,370   41   6,119      4,722   35   7,942    
Real estate - construction  877   13   8,394      874   19   1,780    
Real estate - mortgage  1,379   20   964      1,404   33   1,006    
Installment  145   2   144      140      133    
Other  408      138      330      287    
Total $8,634  $76  $16,932  $  $7,900  $87  $12,191  $ 

  

Nonperforming loans include all such loans that are either on nonaccrual status or are 90 days past due as to principal or interest but still accrue interest because such loans are well-secured and in the process of collection. Nonperforming loans are summarized as follows (in thousands):

 

  June 30,
2013
  December 31,
2012
 
Nonaccrual loans $5,871  $5,835 
Loans 90 days past due or more but still accruing interest      
Total nonperforming loans $5,871  $5,835 
         
Nonaccrual loans to total gross loans  1.16%  1.19%
Nonperforming loans to total gross loans  1.16%  1.19%

  September 30,  December 31, 
  2013  2012 
Nonaccrual loans $5,216  $5,835 
Loans 90 days past due or more but still accruing interest      
Total nonperforming loans $5,216  $5,835 
         
Nonaccrual loans to total gross loans  1.02%  1.19%
Nonperforming loans to total gross loans  1.02%  1.19%
12

If interest on nonaccrual loans had been accrued, such income would have approximated $135,000$36,000 and $357,000$138,000 for the sixthree months ended JuneSeptember 30, 2013 and 2012, respectively. If interest on nonaccrual loans had been accrued, such income would have approximated $171,000 and $495,000 for the nine months ended September 30, 2013 and 2012, respectively.

 

The following table shows an aging analysis of the loan portfolio by the amount of time past due (in thousands):

  As of September 30, 2013 
  Accruing Interest       
       Greater than       
    30-89 Days  90 Days       
  Current  Past Due  Past Due  Nonaccrual  Total 
                
Commercial $48,168  $153  $  $582  $48,903 
Real estate - commercial  325,503   73      3,391   328,967 
Real estate - construction  18,843         438   19,281 
Real estate - mortgage  64,766   612      412   65,790 
Installment  5,469   9      82   5,560 
Other  40,434   26      311   40,771 
Total $503,183  $873  $  $5,216  $509,272 
 As of June 30, 2013  As of December 31, 2012 
  Accruing Interest  
  Current   30-89 DaysPast Due   Greater than90 DaysPast Due   Nonaccrual   Total 
                    
Commercial $48,406  $  $  $648  $49,054 
Real estate - commercial  315,464   73      3,669   319,206 
Real estate - construction  18,085         450   18,535 
Real estate - mortgage  67,993   22      622   68,637 
Installment  5,890   47      89   6,026 
Other  42,154         393   42,547 
Total $497,992  $142  $  $5,871  $504,005 
                     Accruing Interest     
  As of December 31, 2012     Greater than     
  Accruing Interest    30-89 Days  90 Days     
  Current   30-89 DaysPast Due   Greater than 90 DaysPast Due   Nonaccrual   Total  Current Past Due Past Due Nonaccrual Total 
                               
Commercial $45,473  $20  $  $585  $46,078  $45,473  $20  $  $585  $46,078 
Real estate - commercial  292,505   163      2,962   295,630   292,505   163      2,962   295,630 
Real estate - construction  21,436   196      1,371   23,003   21,436   196      1,371   23,003 
Real estate - mortgage  72,907   762      684   74,353   72,907   762      684   74,353 
Installment  6,529   38      122   6,689   6,529   38      122   6,689 
Other  45,581   249      111   45,941   45,581   249      111   45,941 
Total $484,431  $1,428  $  $5,835  $491,694  $484,431  $1,428  $  $5,835  $491,694 

  

A troubled debt restructuring (“TDRs”) is a formal modification of the terms of a loan when the lender, for economic or legal reasons related to the borrower’s financial difficulties, grants a concession to the borrower. The modification of the terms of such loans included one or a combination of the following: a reduction of the stated interest rate of the loan; an extension of the maturity date at a stated rate of interest lower than the current market rate for new debt with similar risk; or a permanent reduction of the recorded investment in the loan.

 

At JuneSeptember 30, 2013, accruing TDRs were $2,485,000$2,248,000 and non-accrualnonaccrual TDRs were $1,170,000$952,000 compared to accruing TDRs of $2,414,000 and non-accrualnonaccrual TDRs of $1,072,000 at December 31, 2012. At JuneSeptember 30, 2013, there were no specific reserves allocated to customers whose loan terms were modified in troubled debt restructurings. There are no commitments to lend additional amounts at JuneSeptember 30, 2013 to customers with outstanding loans that are classified as troubled debt restructurings. There were no TDRs that subsequently defaulted during the twelve months following the modification of terms.

13

The following table presentpresents loans that were modified and recorded as TDRs for the three and sixnine months ended JuneSeptember 30, 2013 and 2012.

 

  For the three months ended June 30,2013  For the six months ended June 30, 2013 
   Number of Contracts   Pre-Modification Outstanding Recorded Investment   Post-Modification Outstanding Recorded Investment   Number ofContracts   Pre-Modification Outstanding Recorded Investment   Post-Modification Outstanding Recorded Investment 
Commercial    $  $   1  $45  $45 
Real estate - commercial    $  $   1  $290  $290 
Real estate-construction    $  $   1  $77  $77 
Real estate - mortgage  1  $201  $201   1  $201  $201 
Other  1  $48  $48   1  $48  $48 

  Three months ended September 30, 2013  Three months ended September 30, 2012 
     Pre-Modification  Post-Modification     Pre-Modification  Post-Modification 
  Number  Outstanding  Outstanding  Number  Outstanding  Outstanding 
  of  Recorded  Recorded  of  Recorded  Recorded 
  Contracts  Investment  Investment    Contracts  Investment  Investment 
Commercial  2  $140  $140     $  $ 
Real estate - construction  1  $114  $114     $  $ 
Real estate - mortgage  1  $116  $116   1  $425  $425 
Other    $  $   1  $26  $26 

 

 Nine months ended September 30, 2013  Nine months ended September 30, 2012 
    Pre-Modification Post-Modification       Pre-Modification Post-Modification 
 Number Outstanding Outstanding Number Outstanding Outstanding 
 For the three months ended June 30, 2012  For the six months ended June 30, 2012  of Recorded Recorded of Recorded Recorded 
 Number of Contracts  Pre-Modification Outstanding Recorded Investment  Post-Modification Outstanding Recorded Investment  Number of Contracts  Pre-Modification Outstanding Recorded Investment  Post-Modification Outstanding Recorded Investment  Contracts  Investment  Investment   Contracts  Investment  Investment 
Commercial  1  $1,076  $1,076   1  $1,076  $1,076   3  $181  $181   1  $800  $800 
Real estate - commercial  2  $278  $278   2  $278  $278   1  $438  $438   2  $269  $269 
Real estate - construction  1  $114  $114     $  $ 
Real estate - mortgage  2  $326  $326   1  $425  $425 
Installment  1  $25  $25   2  $73  $73     $  $   2  $70  $70 
Other  1  $47  $47   1  $26  $26 

 

A summary of TDRs by type of concession and by type of loan as of JuneSeptember 30, 2013 and December 31, 2012, is shown below:

 

  June 30, 2013 
Accruing TDRs Number of Contracts  Rate Reduction  Maturity Extension  Rate Reduction and Maturity Extension  Total 
Real estate - commercial  5  $  $199  $1,133  $1,332 
Real estate - construction  2  $  $411  $  $411 
Real estate - mortgage  2  $  $295  $420  $715 
Installment  1  $  $  $27  $27 

  September 30, 2013 
Accruing TDRs         Rate    
          Reduction    
  Number       and    
  of Rate  Maturity  Maturity    
  Contracts Reduction  Extension  Extension  Total 
Real estate - commercial 5 $  $197  $696  $893 
Real estate - construction 2 $  $405  $  $405 
Real estate - mortgage 3 $  $294  $628  $922 
Installment 1 $  $  $28  $28 

 

 June 30, 2013  September 30, 2013 
Nonaccrual TDRs Number of Contracts  Rate Reduction  MaturityExtension  Rate Reduction and Maturity Extension  Total          Rate    
         Reduction   
 Number     and   
 of Rate Maturity Maturity   
 Contracts Reduction  Extension  Extension  Total 
Commercial  2  $  $  $518  $518  4 $16  $  $566  $582 
Real estate - commercial  1  $  $  $290  $290   $  $  $  $ 
Real estate - construction 1 $  $114  $  $114 
Real estate - mortgage  1  $  $  $201  $201  1 $  $  $116  $116 
Installment  3  $  $  $89  $89  3 $  $  $70  $70 
Other  2  $  $  $72  $72  2 $  $  $70  $70 

 

 December 31, 2012  December 31, 2012 
Accruing TDRs  Number of Contracts   Rate Reduction   Maturity Extension   Rate Reduction and Maturity Extension   Total          Rate    
         Reduction   
 Number     and   
 of Rate Maturity Maturity   
 Contracts Reduction  Extension  Extension  Total 
Real estate - commercial  5  $202  $  $1,148  $1,350  5 $202  $  $1,148  $1,350 
Real estate-construction  1  $  $343  $  $343 
Real estate - construction 1 $  $343  $  $343 
Real estate - mortgage  2  $  $298  $423  $721  2 $  $298  $423  $721 

 

 December 31, 2012  December 31, 2012 
Nonaccrual TDRs  Number of Contracts   Rate Reduction   Maturity Extension   Rate Reduction and Maturity Extension   Total          Rate    
         Reduction   
 Number     and   
 of Rate Maturity Maturity   
 Contracts Reduction  Extension  Extension  Total 
Commercial  1  $  $  $529  $529  1 $  $  $529  $529 
Real estate-construction  2  $327  $71  $  $398  2 $327  $71  $  $398 
Installment  4  $  $  $120  $120  4 $  $  $120  $120 
Other  1  $  $  $25  $25  1 $  $  $25  $25 
14

NOTE 4 – ALLOWANCE FOR LOAN LOSSES

 

The following table shows the changes in the allowance for loan losses (in thousands): 

  For the three months ended June 30, 2013 
      Real Estate  Real Estate  Real Estate                
  Commercial  Commercial  Construction  Mortgage  Installment  Other   Unallocated Total 
                                 
Allowance for Loan Losses                                
Balance March 31, 2013 $1,170  $5,720  $595  $938  $87  $676  $465  $9,651 
Charge-offs  (26)  (3)     (46)  (17)  (55)      (147)
Recoveries  16      1   2   4          23 
Provisions for loan losses  (313)  (230)  (157)  26   93   299   282    
Balance June 30, 2013 $847  $5,487  $439  $920  $167  $920  $747  $9,527 

  For the three months ended June 30, 2012 
      Real Estate  Real Estate  Real Estate                 
  Commercial  Commercial  Construction  Mortgage  Installment  Other  Unallocated  Total 
                                 
Allowance for Loan Losses                                
Balance March 31, 2012 $1,376  $6,847  $1,350  $1,045  $154  $811  $691  $12,274 
Charge-offs  (86)  (1,178)  (126)  (190)  (45)  (47)      (1,672)
Recoveries  14   2   37   36   41          130 
Provisions for loan losses  (44)  915   126   34   (9)  4   (26)  1,000 
Balance June 30, 2012 $1,260  $6,586  $1,387  $925  $141  $768  $665  $11,732 

  For the six months ended June 30, 2013 
      Real Estate  Real Estate  Real Estate                 
  Commercial  Commercial  Construction  Mortgage  Installment  Other  Unallocated  Total 
                                 
Allowance for Loan Losses                                
Balance December 31, 2012 $843  $6,295  $690  $982  $98  $721  $829  $10,458 
Charge-offs  (109)  (440)  (369)  (202)  (28)  (55)      (1,203)
Recoveries  258      3   2   9          272 
Provisions for loan losses  (145)  (368)  115   138   88   254   (82)   
Balance June 30, 2013 $847  $5,487  $439  $920  $167  $920  $747  $9,527 
                                 
   As of June 30, 2013 
Reserve to impaired loans $88  $  $  $164  $  $140      $392 
Reserve to non-impaired loans $759  $5,487  $439  $756  $167  $780  $747  $9,135 

                 
 For the three months ended September 30, 2013 
    Real Estate Real Estate Real Estate          
 Commercial Commercial Construction Mortgage Installment Other Unallocated Total 
                 
Allowance for Loan Losses                                
Balance June 30, 2013 $847  $5,487  $439  $920  $167  $920  $747  $9,527 
Charge-offs  (22)     (20)  (34)  (40)  (174)      (290)
Recoveries  18   48      1   8          75 
Provisions for loan losses  (93)  138   16   (23)  15   110   (163)   
Balance September 30, 2013 $750  $5,673  $435  $864  $150  $856  $584  $9,312 
   
 For the three months ended September 30, 2012 
    Real Estate Real Estate Real Estate          
 Commercial Commercial Construction Mortgage Installment Other Unallocated Total 
                 
Allowance for Loan Losses                                
Balance June 30, 2012 $1,260  $6,586  $1,387  $925  $141  $768  $665  $11,732 
Charge-offs  (250)  (113)  (492)  (143)  (48)  (48)      (1,094)
Recoveries  13      43   1   29   3       89 
Provisions for loan losses  (261)  435   (23)  422      60   67   700 
Balance September 30, 2012 $762  $6,908  $915  $1,205  $122  $783  $732  $11,427 
   
 For the nine months ended September 30, 2013 
    Real Estate Real Estate Real Estate          
 Commercial Commercial Construction Mortgage Installment Other Unallocated Total 
                 
Allowance for Loan Losses                                
Balance December 31, 2012 $843  $6,295  $690  $982  $98  $721  $829  $10,458 
Charge-offs  (131)  (438)  (389)  (236)  (68)  (229)      (1,491)
Recoveries  276   46   3   3   17          345 
Provisions for loan losses  (238)  (230)  131   115   103   364   (245)   
Balance September 30, 2013 $750  $5,673  $435  $864  $150  $856  $584  $9,312 
   
 As of September 30, 2013 
Reserve to impaired loans $16  $  $  $164  $  $  $  $180 
Reserve to non-impaired loans $734  $5,673  $435  $700  $150  $856  $584  $9,132 
   
 For the six months ended June 30, 2012  For the nine months ended September 30, 2012 
  Real Estate Real Estate Real Estate      Real Estate Real Estate Real Estate          
 Commercial  Commercial  Construction  Mortgage  Installment  Other  Unallocated  Total  Commercial Commercial Construction Mortgage Installment Other Unallocated Total 
                                                 
Allowance for Loan Losses                                                                
Balance December 31, 2011 $1,333  $7,528  $1,039  $935  $185  $736  $900  $12,656  $1,333  $7,528  $1,039  $935  $185  $736  $900  $12,656 
Charge-offs  (206)  (1,617)  (330)  (190)  (142)  (72)      (2,557)  (456)  (1,730)  (822)  (333)  (190)  (120)      (3,651)
Recoveries  26   63   37   36   65   6       233   39   63   80   37   94   9       322 
Provisions for loan losses  107   612   641   144   33   98   (235)  1,400   (154)  1,047   618   566   33   158   (168)  2,100 
Balance June 30, 2012 $1,260  $6,586  $1,387  $925  $141  $768  $665  $11,732 
Balance September 30, 2012 $762  $6,908  $915  $1,205  $122  $783  $732  $11,427 
                                   
  As of June 30, 2012  As of September 30, 2012 
Reserve to impaired loans $240  $99  $529  $35  $  $      $903  $  $417  $  $50  $  $      $467 
Reserve to non-impaired loans $1,020  $6,487  $858  $890  $141  $768  $665  $10,829  $762  $6,491  $915  $1,155  $122  $783  $732  $10,960 
                                   
  As of December 31, 2012  As of December 31, 2012 
Reserve to impaired loans $  $171  $18  $  $  $      $189  $  $171  $18  $  $  $      $189 
Reserve to non-impaired loans $843  $6,124  $672  $982  $98  $721  $829  $10,269  $843  $6,124  $672  $982  $98  $721  $829  $10,269 

 

The following table shows the loan portfolio by segment as follows (in thousands):

 

  As of June 30, 2013 
      Real Estate  Real Estate  Real Estate             
  Commercial  Commercial  Construction  Mortgage  Installment  Other  Total 
                             
Total Loans $49,054  $319,206  $18,535  $68,637  $6,026  $42,547  $504,005 
Impaired Loans $648  $5,002  $860  $1,337  $116  $393  $8,356 
Non-impaired loans $48,406  $314,204  $17,675  $67,300  $5,910  $42,154  $495,649 

  As of December 31, 2012 
      Real Estate  Real Estate  Real Estate             
  Commercial  Commercial  Construction  Mortgage  Installment  Other  Total 
                             
Total Loans $46,078  $295,630  $23,003  $74,353  $6,689  $45,941  $491,694 
Impaired Loans $585  $2,962  $1,371  $684  $122  $111  $5,835 
Non-impaired loans $45,493  $292,668  $21,632  $73,669  $6,567  $45,830  $485,859 

  As of September 30, 2013 
     Real Estate  Real Estate  Real Estate          
  Commercial  Commercial  Construction  Mortgage  Installment  Other  Total 
                      
Total Loans $48,903  $328,967  $19,281  $65,790  $5,560  $ 40,771  $ 509,272 
Impaired Loans $582  $4,283  $843  $1,335  $110  $311  $7,464 
Non-impaired loans $48,321  $324,684  $18,438  $64,455  $5,450  $40,460  $501,808 
    
  As of December 31, 2012 
     Real Estate  Real Estate  Real Estate          
  Commercial  Commercial  Construction  Mortgage  Installment  Other  Total 
                      
Total Loans $46,078  $295,630  $23,003  $74,353  $6,689  $ 45,941  $ 491,694 
Impaired Loans $585  $2,962  $1,371  $684  $122  $111  $5,835 
Non-impaired loans $45,493  $292,668  $21,632  $73,669  $6,567  $45,830  $485,859 
15

The following table shows the loan portfolio allocated by management'smanagement’s internal risk ratings as defined in Footnote 1 in the Company’s Annual Report on Form 10-K for the year ended December 31, 2012 (in thousands):

 

 As of June 30, 2013  As of September 30, 2013 
 Pass  Special Mention  Substandard  Doubtful  Total  Pass Special Mention Substandard Doubtful Total 
Commercial $46,828  $1,035  $1,191  $  $49,054  $47,201  $726  $976  $  $48,903 
Real estate - commercial  304,743   2,780   11,683      319,206   315,132   3,238   10,597      328,967 
Real estate - construction  18,037      498      18,535   18,843      438      19,281 
Real estate - mortgage  67,596      1,041      68,637   64,750      1,040      65,790 
Installment  5,907      119      6,026   5,448      112      5,560 
Other  41,957      590      42,547   40,263      508      40,771 
Total $485,068  $3,815  $15,122  $  $504,005  $491,637  $3,964  $13,671  $  $509,272 
                    

 

  As of December 31, 2012 
  Pass  Special Mention  Substandard  Doubtful  Total 
Commercial $44,486  $129  $1,463  $  $46,078 
Real estate - commercial  278,834      16,796      295,630 
Real estate - construction  21,386      1,617      23,003 
Real estate - mortgage  71,973      2,380      74,353 
Installment  6,562      127      6,689 
Other  45,658      283      45,941 
Total $468,899  $129  $22,666  $  $491,694 

 

The allowance for loan losses is established through a provision for loan losses based on management’s evaluation of the probable incurred losses in the loan portfolio. In determining levels of risk, management considers a variety of factors, including, but not limited to, asset classifications, economic trends, industry experience and trends, geographic concentrations, estimated collateral values, historical loan loss experience, and the Company’s underwriting policies. At June 30,During the second quarter of 2013, there was a change in the Bank’s method of calculating the historical loss factors applied to loans identified as “homogenous segments” of the loan portfolio as follows: Losses from the past twelve quarters are applied to loan pools based on a “Migration Analysis” method. The method calculates Net Charge Offs (charge offs less corresponding recoveries) and measures them against average balances in loan pools based on the risk grade in effect on charged-off loans four quarters prior to the actual charge off date. The logic behind this four quarter “look back” is to account for management’s estimate of the typical time lapse between the recognition of the problem loan and the recognition of some or all of the loan as uncollectable. In addition, the loss ratios are calculated using “factored” logic which systematically reduces the Net Charge Off value so that charge offs occurring in older periods do not have as much weight as more recent charge offs. Previously, management utilized a methodology which also utilized the Company’s charge-off history from the previous twelve quarters but did not consider the risk grade of those loans related to the charge-off. This modification had the effect of increasing the quantitative loss component of the allowance by $1,446,000. Management of the Company believes that, given the recent trends in historical losses and the correlation of those losses with a loans identified risk grade, that incorporation of a migration analysis in the current and future analyses was a prudent refinement of the allowance methodology. In addition, management believebelieves that the decreases in the overall level of the allowance for loan losses over the past several quarters is directionally consistent with the improving credit quality trends of the loan portfolio. The allowance for loan losses is maintained at an amount management considers adequate to cover the probable incurred losses in loans receivable. While management uses the best information available to make these estimates, future adjustments to allowances may be necessary due to economic, operating, regulatory, and other conditions that may be beyond the Company’s control. The Company also engages a third party credit review consultant to analyze the Company’s loan loss adequacy periodically. In addition, the regulatory agencies, as an integral part of their examination process, periodically review the Company’s allowance for loan losses. Such agencies may require the Company to recognize additions to the allowance based on judgments different from those of management.

 

The allowance for loan losses is comprised of several components including the specific, formula and unallocated allowance relating to loans in the loan portfolio. Our methodology for determining the allowance for loan losses consists of several key elements, which include:

 

Specific Allowances. A specific allowance is established when management has identified unique or particular risks that were related to a specific loan that demonstrated risk characteristics consistent with impairment. Specific allowances are established when management can estimate the amount of an impairment of a loan.

 

Formula Allowance. The formula allowance is calculated using a “Migration Analysis” method as defined above applied to homogenous pools of loans. Changes in risk grades of both performing and nonperforming loans affect the amount of the formula allowance. Loss factors are based on our historical loss experience and such other data as management believes to be pertinent. Management, also, considers a variety of subjective factors, including regional economic and business conditions that impact important segments of our portfolio, loan growth rates, the depth and skill of lending staff, the interest rate environment, and the results of bank regulatory examinations and findings of our internal credit examiners to establish the formula allowance.

 

Unallocated Allowance. The unallocated loan loss allowance represents an amount for imprecision or uncertainty that is inherent in estimates used to determine the allowance.

16

The Company also maintains a separate allowance for off-balance-sheet commitments. A reserve for unfunded commitments is maintained at a level that, in the opinion of management, is adequate to absorb probable losses associated with commitments to lend funds under existing agreements, for example, the Bank’s commitment to fund advances under lines of credit. The reserve amount for unfunded commitments is determined based on our methodologies described above with respect to the formula allowance. The allowance for off-balance-sheet commitments is included in accrued interest payable and other liabilities on the consolidated balance sheet and was $146,000 and $143,000 for the periods ended JuneSeptember 30, 2013 and December 31, 2012, respectively.

 

NOTE 5 – OTHER REAL ESTATE OWNED

 

The Company had $16,324,000$15,045,000 and $22,423,000 in other real estate owned (“OREO”) at JuneSeptember 30, 2013 and December 31, 2012, respectively. Below is a table with details of the changes in OREO (in thousands):

 

 June 30, December 31,  September 30,       December 31, 
 2013  2012  2013  2012 
Beginning Balance $22,423  $20,106  $22,423  $20,106 
Properties transferred in  777   12,239   818   12,239 
Sales of property  (5,744)  (6,889)  (5,923)  (6,889)
Loss on sale or writedown of property  (1,132)  (3,033)  (2,273)  (3,033)
Total $16,324  $22,423  $15,045  $22,423 

Subsequent to September 30, 2013, the Company sold eight OREO properties located in Sonoma County at their recorded value of $9,885,000 which resulted in no additional gain or loss. The transaction closed on October 29, 2013. 

 

The following table presents the components of OREO expense (in thousands):

 

  Three months ended June 30,  Six months ended June 30, 
  2013  2012  2013  2012 
Operating expenses $92  $72  $234  $227 
Provision for losses  623   165   884   561 
Net, loss on disposal  275   105   248   188 
Total other real estate owned expense $990  $342  $1,366  $976 

NOTE 6 –OTHER BORROWED FUNDS

Other borrowed funds included FHLB advances and Federal Funds purchased. The Bank had outstanding secured overnight FHLB advances as of June 30, 2013 of $22,025,000 at an interest rate of 0.08%. The Bank did not have any other borrowed funds as of December 31, 2012.

  Three months ended September 30,  Nine months ended September 30, 
  2013  2012        2013  2012 
Operating expenses $85  $79  $319  $306 
Provision for losses  1,139   749   2,023   1,310 
Net, loss (gain) on disposal  2   (11)  250   177 
Total other real estate owned expense $1,226  $817  $2,592  $1,793 

 

NOTE 76 – SUBORDINATED DEBENTURES

 

The Company owns the common stock of three business trusts that have issued an aggregate of $21.0 million in trust preferred securities fully and unconditionally guaranteed by the Company. The entire proceeds of each respective issuance of trust preferred securities were invested by the separate business trusts into junior subordinated debentures issued by the Company, with identical maturity, repricing and payment terms as the respective issuance of trust preferred securities. The aggregate amount of junior subordinated debentures issued by the Company is $21,651,000, with the maturity dates for the respective debentures ranging from 2033 through 2036. Subject to regulatory approval, the Company may redeem the respective junior subordinated debentures earlier than the maturity date, based on their respective redemption dates. The respective junior subordinated debentures became redeemable in April 2008, July 2009 and March 2011.

 

The trust preferred securities issued by the trusts are currently included in Tier 1 capital in the amount of $21,000,000 for purposes of determining Leverage, Tier 1 and Total Risk-Based capital ratios for the periods ending JuneSeptember 30, 2013 and December 31, 2012.

 

The following table summarizes the terms of each subordinated debenture issuance for the periods ending JuneSeptember 30, 2013 and December 31, 2012 (dollars in thousands):

 

      Fixed or        
  Date    Variable Current  Rate  Redemption     
Series Issued  Maturity  Rate Rate  Index  Date  Amount 
North Valley Capital Trust II  4/10/03   4/24/33  Variable  3.52%  LIBOR + 3.25%   4/24/08   6,186 
North Valley Capital Trust III  5/5/04   4/24/34  Variable  3.08%  LIBOR + 2.80%   7/23/09   5,155 
North Valley Capital  Statutory Trust IV  12/29/05   3/15/36  Variable  1.60%  LIBOR + 1.33%   3/15/11   10,310 
                        $21,651 

At June 30, 2013 and December 31, 2012, the Company had recorded accrued and unpaid interest payments on junior subordinated debentures of $76,000 and $79,000, respectively.

      Fixed or         
  Date   Variable Current Rate Redemption   
Series Issued Maturity Rate Rate Index Date Amount 
North Valley Capital Trust II 4/10/03 4/24/33 Variable 3.52% LIBOR + 3.25% 4/24/08  6,186 
North Valley Capital Trust III 5/5/04 4/24/34 Variable 3.06% LIBOR + 2.80% 7/23/09  5,155 
North Valley Capital  Statutory Trust IV 12/29/05 3/15/36 Variable 1.58% LIBOR + 1.33% 3/15/11  10,310 
              $21,651 
17

NOTE 87 – INCOME TAXES

 

The Company files its income taxes on a consolidated basis with NVB. The allocation of income tax expense (benefit) represents each entity'sentity’s proportionate share of the consolidated provision for income taxes.

 

The Company applies the asset and liability method to account for income taxes. Deferred tax assets and liabilities are calculated by applying applicable tax laws to the differences between the financial statement basis and the tax basis of assets and liabilities. The effect on deferred taxes of changes in tax laws and rates is recognized in income in the period that includes the enactment date. On the consolidated balance sheet, net deferred tax assets are included in other assets.

 

The Company accounts for uncertainty in income taxes by recording onlytax positions that met the more likely than not recognition threshold, that the tax position would be sustained in a tax examination.

 

When tax returns are filed, it is highly certain that some positions taken would be sustained upon examination by the taxing authorities, while others are subject to uncertainty about the merits of the position taken or the amount of the position that would be ultimately sustained.  The benefit of a tax position is recognized in the financial statements in the period during which, based on all available evidence, management believes it is more likely than not that the position will be sustained upon examination, including the resolution of appeals or litigation processes, if any.  Tax positions taken are not offset or aggregated with other positions.  Tax positions that meet the more-likely-than-not recognition threshold are measured as the largest amount of tax benefit that is more than 50 percent likely of being realized upon settlement with the applicable taxing authority.  The portion of the benefits associated with tax positions taken that exceeds the amount measured as described above is reflected as a liability for unrecognized tax benefits in the accompanying balance sheet along with any associated interest and penalties that would be payable to the taxing authorities upon examination. At JuneSeptember 30, 2013 and December 31, 2012, unrecognized tax benefits totaled $519,000.

 

During the quarter ended September 30, 2012, the Company recorded a $2,546,000 income tax benefit, which was the net result of reversing the state deferred tax asset valuation allowance of $4,277,000 less a $1,347,000 increase in federal deferred tax liabilities against the three and nine months ended September 30, 2012 current period tax expense. The deferred tax asset valuation allowance was established in 2010 due to the Company’s prior net operating losses, its inability to meet its financial projections and because of elevated levels of credit losses. To determine if the benefit of its net deferred tax asset will more likely than not be realized, the Company’s management analyzed both positive and negative evidence that may affect the realization of the deferred tax asset. Management of the Company determined that it was more likely than not that all of its net deferred tax asset would be realized.

Net deferred tax assets totaled $16,351,000$15,226,000 and $12,346,000 at JuneSeptember 30, 2013 and December 31, 2012, respectively.

 

NOTE 9 -8 – PENSION PLAN BENEFITS

 

The Company has a supplemental retirement plan for key executives and a supplemental retirement plan for certain retired key executives and directors. These plans are nonqualified defined benefit plans and are unsecured. Total contributions paid were $63,000 for the three months ended JuneSeptember 30, 2013 and 2012. Components of net periodic benefit cost for the Company’s supplemental nonqualified defined benefit plans for the three and sixnine months ended JuneSeptember 30, 2013 and 2012 are presented in the following table (in thousands):

 

  Three months ended June 30, Six months ended June 30,
Components of net periodic benefits cost: 2013  2012  2013  2012 
Service cost $171  $151  $341  $301 
Interest cost  93   83   186   167 
Prior service amortization  24   24   49   49 
Recognized net actuarial loss  49   10   98   20 
Total components of net periodic cost $337  $268  $674  $537 

   June 30, 2013   December 31, 2012 
         
Total Liability of Pension Plan Benefits $8,699  $9,443 
  Three months ended September 30,  Nine months ended September 30, 
Components of net periodic benefits cost:    2013     2012         2013     2012 
Service cost $171  $150  $512  $451 
Interest cost  93   84   279   251 
Prior service amortization  25   25   74   74 
Recognized net actuarial loss  48   10   146   30 
Total components of net periodic cost $337  $269  $1,011  $806 
               
  September 30, 2013  December 31, 2012         
                 
Total Liability of Pension Plan Benefits $8,900  $9,443         
18

NOTE 109 – STOCK-BASED COMPENSATION

 

Stock Option Plans

 

At JuneSeptember 30, 2013, the Company had two shareholder approved stock-based compensation plans: the 1998 Employee Stock Incentive Plan and the 2008 Stock Incentive Plan. A total of 601,925 shares were authorized under all plans at JuneSeptember 30, 2013. The plans do not provide for the settlement of awards in cash and new shares are issued upon exercise of the options. The North Valley Bancorp 1998 Employee Stock Incentive Plan provides for awards in the form of options (which may constitute incentive stock options (“ISOs”) or non-statutory stock options (“NSOs”) to key employees) and also provides for the award of shares of Common Stock to outside directors. As provided in the 1998 Employee Stock Incentive Plan, the authorization to award incentive stock options terminated on February 19, 2008. Pursuant to the 1998 Employee Stock Incentive Plan there were outstanding options to purchase 51,930 shares of Common Stock at JuneSeptember 30, 2013. The North Valley Bancorp 2008 Stock Incentive Plan was adopted by the Company’s Board of Directors on February 27, 2008, effective that date, and was approved by the Company’s shareholders at the annual meeting, May 22, 2008. The terms of the 2008 Stock Incentive Plan are substantially the same as the North Valley Bancorp 1998 Employee Stock Incentive Plan. The 2008 Stock Incentive Plan provides for the grant to key employees of stock options, which may consist of NSOs and ISOs.Under the 2008 Stock Incentive Plan, options may not be granted at a price less than the fair market value at the date of the grant. Under all plans, options may be exercised over a ten year term.The vesting period is generally four years; however the vesting period can be modified at the discretion of the Company’s Board of Directors, and for all options granted after the fourth quarter in 2008 the vesting period is five years.The 2008 Stock Incentive Plan also provides for the grant to outside directors, and to consultants and advisers to the Company, of stock options, all of which must be NSOs. The shares of Common Stock authorized to be granted as options under the 2008 Stock Incentive Plan consist 549,995 shares of Common Stock reserved for issuance under the terms of the 2008 Stock Incentive Plan, consisting of 302,780 shares to be issued upon the exercise of options granted and still outstanding as of that date, 4,1405,580 shares issued as stock awards and 243,075241,635 shares reserved for future stock option grants and director stock awards at JuneSeptember 30, 2013. Effective January 1, 2009, and on each January 1 thereafter for the remaining term of the 2008 Stock Incentive Plan, the aggregate number of shares of Common Stock which are reserved for issuance pursuant to options granted under the terms of the 2008 Stock Incentive Plan shall be increased by a number of shares of Common Stock equal to 2% of the total number of the shares of Common Stock of the Company outstanding at the end of the most recently concluded calendar year. Any shares of Common Stock that have been reserved but not issued as options during any calendar year shall remain available for grant during any subsequent calendar year. Each outside director of the Company shall also be eligible to receive a stock award of 180 shares of Common Stock as part of his or her annual retainer paid by the Company for his or her services as a director. On September 18, 2013, the Board of Directors approved the 180 share stock award to each of the eight outside directors (total 1,440 shares) for the year 2013. The Company recognized director stock grant expense in the amount of $27,000 for the quarter ending September 30, 2013, relative to these 1,440 shares awarded to the eight outside directors. Each stock award shall be fully vested when granted to the outside director. The number of shares of Common Stock available as stock awards to outside directors shall equal the number of shares of Common Stock to be awarded to such outside directors. Outstanding options under the plans are exercisable until their expiration.

 

Stock-based Compensation

There were no options granted in the three month period ended JuneSeptember 30, 2013. There were 2,500 options granted for the three month period ended June 30,2013 and 2012. There were 114,234114,234 and 77,908 options granted for the sixnine month periodperiods ended JuneSeptember 30, 2013 and 2012, respectively. For the three month periods ended JuneSeptember 30, 2013 and 2012, the compensation cost recognized for share based compensation was $108,000$131,000 and $49,000,$69,000, respectively. For the sixnine month periods ended JuneSeptember 30, 2013 and 2012, the compensation cost recognized for share based compensation was $191,000$322,000 and $89,000,$158,000, respectively At JuneSeptember 30, 2013, the total unrecognized compensation cost related to stock-based awards granted to employees under the Company’s stock option plans was $1,615,000.$1,512,000. This cost is expected to be amortized on a straight-line basis over a weighted average period of approximately 4.13.9 years and will be adjusted for subsequent changes in estimated forfeitures. There were no options granted for the three month periods ended September 30, 2013 and 2012. The following table summarizes the weighted average grant date fair value of options granted for the three and sixnine month periods ended JuneSeptember 30, 2013 and 2012, based on the following assumptions used in a Black-Scholes Merton model.

 

  For three months ended June 30,  For six months ended June 30, 
  2013  2012  2013  2012 
        
Weighted average grant date fair value per share of option granted   N/A  $7.08  $9.53  $6.28 
Significant weighted average assumptions used in calculating fair value:                
Expected term      6.61 years   6.32 years   6.49 years 
Expected annual volatility      58%  60%  59%
Expected annual dividend yield      N/A   N/A   N/A 
Risk-free interest rate      1.38%  1.38%  1.40%

  Three months ended September 30,  Nine months ended September 30, 
  2013  2012         2013  2012 
Weighted average grant date fair value per share of option granted   N/A    N/A  $9.53  $6.28 
Significant weighted average assumptions used in calculating fair value:                
Expected term          6.32 years   6.49 years 
Expected annual volatility          60%  59%
Expected annual dividend yield          N/A   N/A 
Risk-free interest rate          1.38%  1.40%
19

A summary of outstanding stock options follows:

 

      Weighted      
    Weighted Average      
    Average Remaining Exercise Aggregate 
    Exercise Contractual Price Intrinsic 
 Shares Weighted
Average
Exercise
Price
 Weighted Average Remaining Contractual Term  Exercise
Price
Range
 Aggregate Intrinsic Value ($000)  Shares  Price  Term  Range  Value ($000) 
                     
Outstanding at January 1, 2013  248,822  $29.40   7 years    $9.97-$103.10  $822   248,822  $29.40   7 years    $9.97-$103.10  $1,160 
                                        
Granted  114,234  $16.80       $16.80-16.80       114,234  $16.80       $16.80  $240 
Exercised                                  
Expired or Forfeited  (8,346) $63.32        $23.95-$65.30       (8,346) $63.32        $23.95-$65.30     
                                        
Outstanding at June 30, 2013  354,710  $24.55    8 years    $9.97-$103.10  $822 
Fully vested and exercisable at June 30, 2013  117,008  $45.62    5 years    $9.97-$103.10  $164 
Options expected to vest at June 30, 2013  237,702  $14.17    9 years    $9.97-$23.95  $658 
Outstanding at September 30, 2013  354,710  $24.55    7 years    $9.97-$103.10  $1,400 
Fully vested and exercisable at September 30, 2013  130,008  $42.10    5 years    $9.97-$103.10  $344 
Options expected to vest at September 30, 2013  224,702  $14.39    9 years    $9.97-$23.95  $1,056 

 

The aggregate intrinsic value is calculated as the difference between the exercise price of the underlying awards and the quoted price of the Company’s common stock as of JuneSeptember 30, 2013. There were no options exercised during the three and sixnine month periods ended JuneSeptember 30, 2013 and 2012.

 

NOTE 1110 – ACCUMULATED OTHER COMPREHENSIVE INCOME (LOSS)

 

Changes in each component of accumulated other comprehensive income (loss) for the three and sixnine month periods ended JuneSeptember 30, 2013 and JuneSeptember 30, 2012 were as follows (in thousands):

 

  Net Unrealized Gains (Losses) on Securities  Adjustments Related to Defined Benefit Pension Plan  Accumulated Other Comprehensive Income (Loss) 
             
Balance at March 31, 2013 $2,585  $(1,478) $1,107 
Net unrealized losses on securities available for sale, net of tax, $(4,047)  (5,823)     (5,823)
Reclassification adjustment for gains on securities, net of tax,         
Net gains arising during the period, net of tax $400     577   577 
Reclassification adjustment for amortization of prior service cost and net gain included in salaries and employee benefits, net of tax $30     44   44 
Balance at June 30, 2013 $(3,238) $(857) $(4,095)
             
Balance at March 31, 2012 $3,374  $(899) $2,475 
Net unrealized gains on securities available for sale, net of tax, $867  1,247      1,247 
Reclassification adjustment for losses on securities, net of tax, $(397)  (571)     (571)
Net gains arising during the period, net of tax $ 14     21   21 
Reclassification adjustment for amortization of prior service cost and net gain included in salaries and employee benefits, net of tax $ 14     20   20 
Balance at June 30, 2012 $4,050  $(858) $3,192 
  Net Unrealized
Gains (Losses)
on Securities
  Adjustments
Related to
Defined Benefit
Pension Plan
  Accumulated
Other
Comprehensive
Income (Loss)
 
Balance at June 30, 2013 $(3,238) $(857) $(4,095)
Net unrealized gains on securities available for sale, net of tax, $1,096  1,577      1,577 
Reclassification adjustment for losses on securities, net of tax, $(2)  (3)     (3)
Net gains arising during the period, net of tax         
Reclassification adjustment for amortization of prior service cost and net gain included in salaries and employee benefits, net of tax $30     43   43 
Balance at September 30, 2013 $(1,664) $(814) $(2,478)
             
Balance at June 30, 2012 $4,050  $(858) $3,192 
Net unrealized gains on securities available for sale, net of tax, $603  868      868 
Reclassification adjustment for gains on securities, net of tax, $(286)  (411)     (411)
Net gains arising during the period, net of tax $14     20   20 
Reclassification adjustment for amortization of prior service cost and net gain included in salaries and employee benefits, net of tax         
Balance at September 30, 2012 $4,507  $(838) $3,669 

 

   Net Unrealized Gains (Losses) on Securities   Adjustments Related to Defined Benefit Pension Plan   Accumulated Other Comprehensive Income (Loss) 
             
Balance at December 31, 2012 $3,287  $(1,621) $1,666 
Net unrealized losses on securities available for sale, net of tax, $(4,312)  (6,205)     (6,205)
Reclassification adjustment for losses on securities, net of tax, $(223)  (320)     (320)
Net gains arising during the period, net of tax $470     676   676 
Reclassification adjustment for amortization of prior service cost and net gain included in salaries and employee benefits, net of tax $60     88   88 
Balance at June 30, 2013 $(3,238) $(857) $(4,095)
             
Balance at December 31, 2011 $2,369  $(899) $1,470 
Net unrealized gains on securities available for sale, net of tax, $1,561  2,247      2,247 
Reclassification adjustment for losses on securities, net of tax, $(393)  (566)     (566)
Net losses arising during the period, net of tax         
Reclassification adjustment for amortization of prior service cost and net gain included in salaries and employee benefits, net of tax $ 28     41   41 
Balance at June 30, 2012 $4,050  $(858) $3,192 

  Net Unrealized
Gains (Losses)
on Securities
  Adjustments
Related to
Defined Benefit
Pension Plan
  Accumulated
Other
Comprehensive
Income (Loss)
 
Balance at December 31, 2012 $3,286  $(1,620) $1,666 
Net unrealized losses on securities available for sale, net of tax, $(3,215)  (4,627)     (4,627)
Reclassification adjustment for gains on securities, net of tax, $(225)  (323)     (323)
Net gains arising during the period, net of tax $470     676   676 
Reclassification adjustment for amortization of prior service cost and net gain included in salaries and employee benefits, net of tax $90     130   130 
Balance at September 30, 2013 $(1,664) $(814) $(2,478)
             
Balance at December 31, 2011 $2,369  $(899) $1,470 
Net unrealized gains on securities available for sale, net of tax, $2,165  3,115      3,115 
Reclassification adjustment for gains on securities, net of tax, $(679)  (977)     (977)
Net gains arising during the period, net of tax $42     61   61 
Reclassification adjustment for amortization of prior service cost and net gain included in salaries and employee benefits, net of tax         
Balance at September 30, 2012 $4,507  $(838) $3,669 
20

Changes in each component of accumulated other comprehensive income were as follows (in thousands):

 

Three months ended June 30, 2013
Details About Accumulated Other Comprehensive Income Components  Amount Reclassified From Accumulated Other Comprehensive Income  Affected Line Item in the Statement Where Net Income is Presented
Amortization of prior service cost and net gain included in net periodic pension cost $(74) Salaries and employee benefits
   (74) Total before tax
   30  Benefit for income tax
  $(44) Net of tax
Three months ended September 30, 2013
Details About Accumulated Other
Comprehensive Income Components
 Amount Reclassified
From Accumulated Other
Comprehensive Income
  Affected Line Item in the Statement
Where Net Income is Presented
Gains on investment securities $5  Gain on sales or calls of securities, net
Amortization of prior service cost and net gain included in net periodic pension cost $(73) Salaries and employee benefits
   (68) Total before tax
   28  Benefit for income tax
  $(40) Net of tax

 

Three months ended June 30, 2012
Three months ended September 30, 2012Three months ended September 30, 2012
Details About Accumulated Other Comprehensive Income Components  Amount Reclassified From Accumulated Other Comprehensive Income  Affected Line Item in the Statement Where Net Income is Presented Amount Reclassified
From Accumulated Other
Comprehensive Income
  Affected Line Item in the Statement
Where Net Income is Presented
Gain on investment securities $968  Gain on sales or calls of securities, net $697  Gain on sales or calls of securities, net
Amortization of prior service cost and net gain included in net periodic pension cost  (34) Salaries and employee benefits    Salaries and employee benefits
  934  Total before tax  697  Total before tax
  (383) Provision for income tax  (286) Provision for income tax
 $551  Net of tax $411  Net of tax

 

Six months ended June 30, 2013
Nine months ended September 30, 2013Nine months ended September 30, 2013
Details About Accumulated Other Comprehensive Income Components  Amount Reclassified From Accumulated Other Comprehensive Income  Affected Line Item in the Statement Where Net Income is Presented Amount Reclassified
From Accumulated Other
Comprehensive Income
  Affected Line Item in the Statement
Where Net Income is Presented
Gain on investment securities $543  Gain on sales or calls of securities, net $548  Gain on sales or calls of securities, net
Amortization of prior service cost and net gain included in net periodic pension cost  (148) Salaries and employee benefits  (220) Salaries and employee benefits
  395  Total before tax  328  Total before tax
  (163) Provision for income tax  (135) Provision for income tax
 $232  Net of tax $193  Net of tax

 

Six months ended June 30, 2012
Nine months ended September 30, 2012Nine months ended September 30, 2012
Details About Accumulated Other Comprehensive Income Components  Amount Reclassified From Accumulated Other Comprehensive Income  Affected Line Item in the Statement Where Net Income is Presented Amount Reclassified
From Accumulated Other
Comprehensive Income
  Affected Line Item in the Statement
Where Net Income is Presented
Gain on investment securities $959  Gain on sales or calls of securities, net $1,656  Gain on sales or calls of securities, net
Amortization of prior service cost and net gain included in net periodic pension cost  (69) Salaries and employee benefits    Salaries and employee benefits
  890  Total before tax  1,656  Total before tax
  (365) Provision for income tax  (679) Provision for income tax
 $525  Net of tax $977  Net of tax

 

NOTE 1211 – EARNINGS PER SHARE

 

Basic earnings per share (“EPS”), which excludes dilution, is computed by dividing income or loss available to common shareholders by the weighted-average number of common shares outstanding for the period. Diluted EPS reflects the potential dilution that could occur if securities or other contracts to issue common stock, such as stock options, result in the issuance of common stock which shares in the earnings of the Company. The treasury stock method has been applied to determine the dilutive effect of stock options in computing diluted EPS. Stock options for 214,302211,802 and 255,285249,164 shares of common stock were not considered in computing diluted earnings per common share for the three months ended JuneSeptember 30, 2013 and 2012 respectively, because they were anti-dilutive. Stock options for 214,302 and 256,285249,164 shares of common stock were not considered in computing diluted earnings per common share for the sixnine months ended JuneSeptember 30, 2013 and 2012 respectively, because they were anti-dilutive.

21
 

 Three months ended June 30,  Six months ended June 30,  Three months ended September 30,  Nine months ended September 30, 
 2013  2012  2013  2012  2013  2012         2013  2012 
Calculation of basic earnings per share:                        
Numerator - net income $894  $1,261  $2,155  $1,741  $580  $4,004  $2,735  $5,745 
Denominator -                                
Weighted average common shares outstanding  6,835   6,834   6,835   6,834   6,835   6,835   6,835   6,834 
Basic earnings per share $0.13  $0.18  $0.32  $0.25  $0.08  $0.59  $0.40  $0.84 
                                
Calculation of diluted earnings per share:                                
Numerator - net income $894  $1,261  $2,155  $1,741  $580  $4,004  $2,735  $5,745 
Denominator -                                
Weighted average common shares outstanding  6,835   6,834   6,835   6,834   6,835   6,835   6,835   6,834 
Dilutive effect of outstanding options  18      15      26   1   18   1 
Weighted average common shares outstanding and common stock equivalents  6,853   6,834   6,850   6,834   6,861   6,836   6,853   6,835 
Diluted earnings per share $0.13  $0.18  $0.31  $0.25  $0.08  $0.59  $0.40  $0.84 

 

NOTE 1312 – COMMITMENTS AND CONTINGENCIES

The Company is involved in legal actions arising from normal business activities. Management, based upon the advice of legal counsel, believes that the ultimate resolution of all pending legal actions will not have a material effect on the Company'sCompany’s financial position, results of its operations or its cash flows.

 

The Company was contingently liable under letters of credit issued on behalf of its customers in the amount of $4,758,000$5,003,000 and $4,713,000 at JuneSeptember 30, 2013 and December 31, 2012, respectively. At JuneSeptember 30, 2013, commercial and consumer lines of credit and real estate loans of approximately $39,862,000$39,048,000 and $30,407,000,$35,855,000, respectively, were undisbursed. At December 31, 2012, commercial and consumer lines of credit and real estate loans of approximately $47,350,000 and $31,925,000, respectively, were undisbursed.

 

Loan commitments are typically contingent upon the borrower meeting certain financial and other covenants and such commitments typically have fixed expiration dates and require payment of a fee. As many of these commitments are expected to expire without being drawn upon, the total commitments do not necessarily represent future cash requirements. The Company evaluates each potential borrower and the necessary collateral on an individual basis. Collateral varies, but may include real property, bank deposits, debt securities, equity securities or business or personal assets.

 

Standby letters of credit are conditional commitments written by the Company to guarantee the performance of a customer to a third party. These guarantees are issued primarily relating to real estate projects and inventory purchases by the Company’s commercial customers and such guarantees are typically short term. Credit risk is similar to that involved in extending loan commitments to customers and the Company, accordingly, uses evaluation and collateral requirements similar to those for loan commitments. Most of such commitments are collateralized. The fair value of the liability related to these standby letters of credit, which represents the fees received for issuing the guarantees, was not significant at JuneSeptember 30, 2013 and December 31, 2012. The Company recognizes these fees as revenues over the term of the commitment or when the commitment is used.

 

Loan commitments and standby letters of credit involve, to varying degrees, elements of credit and market risk in excess of the amounts recognized in the balance sheet and do not necessarily represent the actual amount subject to credit loss. At JuneSeptember 30, 2013 and December 31, 2012, the Company had a reserve for unfunded commitments of $146,000 and $143,000, respectively.

 

A large portion of the loan portfolio of the Company is collateralized by real estate. At JuneSeptember 30, 2013, real estate served as the principal source of collateral with respect to approximately 81% of the Company’s loan portfolio. At JuneSeptember 30, 2013, real estate construction loans totaled $18,535,000,$19,281,000, or 4% of the total loan portfolio, commercial loans secured by real estate totaled $319,206,000,$328,967,000, or 63%65% of the total loan portfolio, and real estate mortgage loans totaled $68,637,000,$65,790,000, or 14%13% of the total loan portfolio. See the discussion under “Loan Portfolio” starting onpage 35.35. A further decline in the state and national economy, in general, combined with further deterioration in real estate values in the Company’s primary operating market areas, would have an adverse effect on the value of real estate as well as other collateral securing loans, plus the ability of certain borrowers to repay their outstanding loans and the overall demand for new loans, and this could have a material impact on the Company’s financial position, results of operations or its cash flows.

22

As previously reported, NVB has established a reserve in the amount of $1,260,000 for the anticipated settlement of criticisms identified in conjunction with a compliance examination conducted by the Federal Reserve Bank of San Francisco in 2010. During the three month period ending Junequarter ended September 30, 2013, NVB received the final 2010 report of examination and in accordance with the terms of an agreement reached with the Federal Reserve Bank of San Francisco, finalizedall of these funds were disbursed to the amountaffected parties, as agreed, thereby ending the reserve. NVB continues to comply with the terms of this reserve at $1,260,000. This amount is included in accrued interest payable and other liabilities on the balance sheet.agreement reached to resolve criticisms raised by the Federal Reserve Bank of San Francisco.

On June 26, 2013, the Company announced that its Board of Directors has authorized the repurchase of up to 5% of the Company’s outstanding common shares, or approximately 340,000 shares. During the nine month period ended September 30, 2013, there were no repurchases of common shares.

  

NOTE 1413 – FAIR VALUE MEASUREMENTS

 

The Company groups its assets and liabilities measured at fair value in three levels, based on the markets in which the assets and liabilities are traded and the reliability of the assumptions used to determine fair value. These levels are:

 

Quoted prices in active markets for identical assets (Level 1): Inputs that are quoted unadjusted prices in active markets for identical assets that the Company has the ability to access at the measurement date. An active market for the asset is a market in which transactions for the asset or liability occur with sufficient frequency and volume to provide pricing information on an ongoing basis.

 

Significant other observable inputs (Level 2): Inputs that reflect the assumptions market participants would use in pricing the asset or liability developed based on market data obtained from sources independent of the reporting entity including quoted prices for similar assets or liabilities, quoted prices for securities in inactive markets and inputs derived principally from, or corroborated by, observable market data by correlation or other means.

 

Significant unobservable inputs (Level 3): Inputs that reflect the reporting entity'sentity’s own assumptions about the assumptions market participants would use in pricing the asset or liability developed based on the best information available in the circumstances.

 

Assets Recorded at Fair Value on a Recurring Basis:

 

The table below presents assets measured at fair value on a recurring basis (in thousands).

 

 As of June 30, 2013  As of September 30, 2013 
 Fair Value  Level 1  Level 2  Level 3  Fair Value  Level 1  Level 2  Level 3 
Available-for-sale securities:                                
Obligations of U.S. government sponsored agencies $18,552  $  $18,552  $  $18,678  $  $18,678  $ 
Obligations of state and political subdivisions  8,431      8,431      6,853      6,853    
Government sponsored agency mortgage-backed securities  271,578      271,578      260,343      260,343    
Corporate debt securities  4,762      4,762      4,770      4,770    
Equity securities  2,977      2,977      2,983      2,983    
 $306,300  $  $306,300  $  $293,627  $  $293,627  $ 

 

  At December 31, 2012 
  Fair Value  Level 1  Level 2  Level 3 
Available-for-sale securities:                
Obligations of U.S. government sponsored agencies $21,118  $  $21,118  $ 
Obligations of state and political subdivisions  11,197      11,197    
Government sponsored agency mortgage-backed securities  245,631      245,631    
Corporate debt securities  4,756      4,756    
Equity securities  3,113      3,113    
  $285,815  $  $285,815  $ 

Fair values for available-for-sale investment securities are based on quoted market prices for similar securities at JuneSeptember 30, 2013 and December 31, 2012. During the three and sixnine month period speriods ended JuneSeptember 30, 2013, there were no transfers between Levels 1 and 2.

 

Assets Recorded at Fair Value on a Nonrecurring Basis:

 

The Company may be required, from time to time, to measure certain assets at fair value on a nonrecurring basis in accordance with U.S. GAAP. These adjustments to fair value usually result from application of lower-of-cost-or-fair value accounting or write-downs of individual assets. For assets measured at fair value on a nonrecurring basis that were still held in the balance sheet at quarter end, the following table provides the level of valuation assumptions used to determine each adjustment and the carrying value of the related assets at quarter end (in thousands).

          Total Losses  Total Losses 
  As of June 30, 2013  For three months ended June 30,  For six months ended June 30, 
  Fair Value  Level 1  Level 2  Level 3  2013  2012  2013  2012 
Impaired loans:                                
Commercial $385  $  $  $385  $(198) $  $88  $ 
Real estate - commercial  625         625      1,278   239   1,457 
Real estate - construction  450         450      9   357   25 
Real estate - mortgage  118         118   186   70   272   70 
Other  109         109   140      177    
OREO:                                
Real estate - commercial  181         181   104      123    
Real estate - construction  651         651   518   87   518   133 
Real estate - mortgage                 77      152 
Total assets measured at fair value on a nonrecurring basis $2,519  $  $  $2,519  $750  $1,521  $1,774  $1,837 

  As of December 31, 2012 
  Fair Value  Level 1  Level 2  Level 3 
         
Impaired loans:                
Commercial $585  $  $  $585 
Real estate - commercial  2,222         2,222 
Real estate - construction  143         143 
Real estate - mortgage  464         464 
Installment  75         75 
Other 25         25 
OREO:                
Real estate - construction  7,360         7,360 
Real estate - mortgage  184         184 
Total assets measured at fair value                
  on a nonrecurring basis $11,058  $  $  $11,058 
23
              Total Losses  Total Losses 
  As of September 30, 2013  Three months ended
September 30,
  Nine months ended
September 30,
 
     Fair Value     Level 1     Level 2     Level 3     2013     2012     2013     2012 
Impaired loans:                                
Commercial $  $  $  $  $16  $  $16  $ 
Real estate - commercial  609         609      431   239   1,887 
Real estate - construction  438         438         357    
Real estate - mortgage  116         116      76   272   149 
Installment  9         9   18      18    
Other  171         171   34      71    
OREO:                                
Real estate - commercial                 92      92 
Real estate - construction  1,644         1,644   1,100   657   1,618   790 
Real estate - mortgage  219         219   39      39   140 
Total assets measured at fair value on a nonrecurring basis $3,206  $  $  $3,206  $1,207  $1,256  $2,630  $3,058 
                    
  As of December 31, 2012                 
  Fair Value  Level 1  Level 2  Level 3                 
                             
Impaired loans:                                
Commercial $585  $  $  $585                 
Real estate - commercial  2,222         2,222                 
Real estate - construction  143         143                 
Real estate - mortgage  464         464                 
Installment  75         75                 
Other  25         25                 
OREO:                                
Real estate - construction  7,360         7,360                 
Real estate - mortgage  184         184                 
Total assets measured at fair value on a nonrecurring basis $11,058  $  $  $11,058                 

 

Impaired Loans - The fair value of impaired loans with specific allocations of the allowance for loan losses is generally based on recent real estate appraisals. These appraisals may utilize a single valuation approach or a combination of approaches including comparable sales and the income approach. Adjustments are routinely made in the appraisal process by the independent appraisers to adjust for differences between the comparable sales and income data available, and additional discounts by management for known market factors and time since the last appraisal. Such adjustments are usually significant and typically result in a Level 3 classification of the inputs for determining fair value. Impaired loans are evaluated on a quarterly basis for additional impairment and adjusted accordingly.

 

Other Real Estate Owned – Nonrecurring adjustments to certain commercial and residential real estate properties classified as other real estate owned (OREO) are measured at fair value, less costs to sell. Fair values are based on recent real estate appraisals. These appraisals may use a single valuation approach or a combination of approaches including comparable sales and the income approach. Adjustments are routinely made in the appraisal process by the independent appraisers to adjust for differences between the comparable sales and income data available. Such adjustments are usually significant and typically result in a Level 3 classification of the inputs for determining fair value.

 

The following table presents quantitative information about level 3 fair value measurements for financial instruments measured at fair value on a nonrecurring basis (in thousands): There were no adjustments for “Commercial” impaired loans.

 

As of JuneSeptember 30, 2013

 

  Fair Value Valuation Techniques Unobservable Inputs Range (Weighted Average)
             
Impaired loans:            
Real estate - commercial $625  Comparable sales approach Discount adjustment for differences between comparable sales  6% to 11% (9%) 
Real estate - construction $450  Comparable sales approach Discount adjustment for differences between comparable sales  2% to 3% (3%) 
Real estate - mortgage $118  Comparable sales approach Discount adjustment for differences between comparable sales  6% to 11% (9%) 
Other $109  Comparable sales approach Discount adjustment for differences between comparable sales  6% to 11% (9%) 
OREO:            
Real estate - commercial $181  Comparable sales approach Discount adjustment for differences between comparable sales  6% to 11% (9%) 
Real estate - construction $651  Comparable sales approach Discount adjustment for differences between comparable sales  0% to 6% (6%) 

  Fair Value  Valuation Techniques Unobservable Inputs Range
(Weighted
Average)
          
Impaired loans:          
Real estate - commercial $609  Comparable sales approach Discount adjustment for differences between comparable sales 6% to 11% (9%)
Real estate - construction $438  Comparable sales approach Discount adjustment for differences between comparable sales 2% to 3% (3%)
Real estate - mortgage $116  Comparable sales approach Discount adjustment for differences between comparable sales 6% to 11% (9%)
Other $171  Comparable sales approach Discount adjustment for differences between comparable sales 6% to 11% (9%)
OREO:          
Real estate - construction $1,644  Comparable sales approach Discount adjustment for differences between comparable sales 0% to 11% (9%)
Real estate - mortgage $219  Comparable sales approach Discount adjustment for differences between comparable sales 6% to 11% (9%)
24

As of December 31, 2012

        
 Fair Value Valuation Techniques Unobservable Inputs Range (Weighted Average) Fair Value  Valuation Techniques Unobservable Inputs Range
(Weighted
Average)
                     
Impaired loans:                 
Real estate - commercial $2,222  Comparable sales approach Discount adjustment for differences between comparable sales  6% to 11% (9%)  $2,222  Comparable sales approach Discount adjustment for differences between comparable sales 6% to 11% (9%)
Real estate - construction $143  Comparable sales approach Discount adjustment for differences between comparable sales  2% to 3% (3%)  $143  Comparable sales approach Discount adjustment for differences between comparable sales 2% to 3% (3%)
Real estate - mortgage $464  Comparable sales approach Discount adjustment for differences between comparable sales  6% to 11% (9%)  $464  Comparable sales approach Discount adjustment for differences between comparable sales 6% to 11% (9%)
OREO:                 
Real estate - commercial $7,360  Comparable sales approach Discount adjustment for differences between comparable sales  6% to 11% (9%)  $7,360  Comparable sales approach Discount adjustment for differences between comparable sales 0% to 6% (6%)
Real estate - construction $184  Comparable sales approach Discount adjustment for differences between comparable sales  0% to 6% (6%)  $184  Comparable sales approach Discount adjustment for differences between comparable sales 6% to 11% (9%)

 

Disclosures about Fair Value of Financial Instruments

 

The fair values presented represent the Company’s best estimate of fair value using the methodologies discussed below. The fair values of financial instruments which have a relatively short period of time between their origination and their expected realization were valued using historical cost. The values assigned do not necessarily represent amounts which ultimately may be realized. In addition, these values do not give effect to discounts to fair value which may occur when financial instruments are sold in larger quantities.

 

The following assumptions were used as of JuneSeptember 30, 2013 and December 31, 2012 to estimate the fair value of each class of financial instruments for which it is practicable to estimate that value.

 

a)Cash and Due From Banks - The carrying amounts of cash and short-term instruments approximate fair values and are classified as Level 1.

 

b)Federal Funds Sold - The carrying amounts of cash and short-term instruments approximate fair values and are classified as Level 1.

 

c)Time Deposits at Other Financial Institutions - The carrying amounts of cash and short-term instruments approximate fair values and are classified as Level 2.

 

d)FHLB, FRB Stock and Other Securities - It was not practicable to determine the fair value of FHLB or FRB stock due to the restrictions placed on its transferability.

 

e)Investment Securities – The fair value of investment securities are based on quoted market prices, if available. If a quoted market price is not available, fair value is estimated using quoted market prices for similar securities. Available-for-sale securities are carried at fair value.

 

f)Loans - Commercial loans, residential mortgages, construction loans and direct financing leases are segmented by fixed and adjustable rate interest terms, by maturity, and by performing and nonperforming categories.
The fair value of performing loans are estimated as follows: For variable rate loans that reprice frequently and with no significant change in credit risk, fair values are based on carrying values resulting in a Level 3 classification. Fair values for other loans are estimated using discounted cash flow analyses, using interest rates currently being offered for loans with similar terms to borrowers of similar credit quality resulting in a Level 3 classification. Impaired loans are valued at the lower of cost or fair value as described previously. The methods utilized to estimate the fair value of loans do not necessarily represent an exit price.
The fair value of nonperforming loans is estimated by discounting estimated future cash flows using current interest rates with an additional risk adjustment reflecting the individual characteristics of the loans, or using the fair value of underlying collateral for collateral dependent loans as a practical expedient.

 

The fair value of performing loans are estimated as follows: For variable rate loans that reprice frequently and with no significant change in credit risk, fair values are based on carrying values resulting in a Level 3 classification. Fair values for other loans are estimated using discounted cash flow analyses, using interest rates currently being offered for loans with similar terms to borrowers of similar credit quality resulting in a Level 3 classification. Impaired loans are valued at the lower of cost or fair value as described previously. The methods utilized to estimate the fair value of loans do not necessarily represent an exit price.

The fair value of nonperforming loans is estimated by discounting estimated future cash flows using current interest rates with an additional risk adjustment reflecting the individual characteristics of the loans, or using the fair value of underlying collateral for collateral dependent loans as a practical expedient.

g)Deposits – The fair values disclosed for noninterest-bearing and interest-bearing demand deposits and savings and money market accounts are, by definition, equal to the amount payable on demand at the reporting date (i.e., their carrying amount) resulting in a Level 1 classification. Fair values for certificates of deposit are estimated using a discounted cash flows calculation that applies interest rates currently being offered on certificates to a schedule of aggregated expected monthly maturities on time deposits resulting in a Level 2 classification.

25
h)Subordinated Debentures - The fair values of the Company’s Subordinated Debentures are estimated using discounted cash flow analyses based on the current borrowing rates for similar types of borrowing arrangements resulting in a Level 3 classification.

 

i)Commitments to Fund Loans/Standby Letters of Credit - The fair values of commitments are estimated using the fees currently charged to enter into similar agreements, taking into account the remaining terms of the agreements and the present creditworthiness of the counterparties. The differences between the carrying value of commitments to fund loans or standby letters of credit and their fair value are not significant and therefore not included in the following table.

 

j)Accrued Interest Receivable/Payable – The carrying amounts of accrued interest approximate fair value and therefore follow the same classification as the related asset or liability.

 

The carrying amounts and estimated fair values of the Company’s financial instruments are as follows (in thousands):

 

    Fair Value Measurements at
June 30, 2013, Using
  
  Carrying Amount  Level 1  Level 2  Level 3  Total 
FINANCIAL ASSETS                    
Cash and due from banks $21,431  $21,431  $  $  $21,431 
Federal funds sold               
Time deposits at other financial institutions  2,219      2,219      2,219 
FHLB, FRB and other securities  8,402                N/A 
Securities:                    
Available-for-sale  306,300      306,300      306,300 
Held-to-maturity  6      6      6 
Loans  494,747         503,363   503,363 
Accrued interest receivable  2,257      794   1,463   2,257 
                     
FINANCIAL LIABILITIES                    
Deposits:                    
Nonmaturity deposits $607,135  $607,135  $  $  $607,135 
Time deposits  157,920      158,090      158,090 
Other borrowed funds  22,025   22,025         22,025 
Subordinated debentures  21,651         8,081   8,081 
Accrued interest payable  123   4   42   77   123 

    Fair Value Measurements at    
    September 30, 2013, Using    
   Fair Value Measurements at
December 31, 2012, Using
   Carrying         
 CarryingAmount  Level 1  Level 2  Level 3  Total  Amount  Level 1  Level 2  Level 3  Total 
FINANCIAL ASSETS                                        
Cash and due from banks $22,654  $22,654  $  $  $22,654  $23,780  $23,780  $  $  $23,780 
Federal funds sold  15,865   15,865         15,865   2,345   2,345         2,345 
Time deposits at other financial institutions  2,219      2,219      2,219   2,219      2,219      2,219 
FHLB, FRB and other securities  8,313             N/A   8,402                N/A  
Securities:                                        
Available-for-sale  285,815      285,815      285,815   293,627      293,627      293,627 
Held-to-maturity  6      6      6   6      6      6 
Loans  481,753         500,689   500,689   499,780         513,426   513,426 
Accrued interest receivable  2,217      767   1,450   2,217   2,166      736   1,430   2,166 
                                        
FINANCIAL LIABILITIES                                        
Deposits:                                        
Nonmaturity deposits $596,204  $596,204  $  $  $596,204  $626,157  $626,157  $  $  $626,157 
Time deposits  172,376      172,805      172,805   153,613      153,798      153,798 
Other borrowed funds               
Subordinated debentures  21,651         9,018   9,018   21,651         7,927   7,927 
Accrued interest payable  136   2   54   80   136   110   2   31   77   110 
26
     Fair Value Measurements at    
     December 31, 2012, Using    
  Carrying             
  Amount  Level 1  Level 2  Level 3  Total 
FINANCIAL ASSETS                    
Cash and due from banks $22,654  $22,654  $  $  $22,654 
Federal funds sold  15,865   15,865         15,865 
Time deposits at other financial institutions  2,219      2,219      2,219 
FHLB, FRB and other securities  8,313             N/A  
Securities:                    
Available-for-sale  285,815      285,815      285,815 
Held-to-maturity  6      6      6 
Loans  481,753         500,689   500,689 
Accrued interest receivable  2,217      767   1,450   2,217 
                     
FINANCIAL LIABILITIES                    
Deposits:                    
Nonmaturity deposits $596,204  $596,204  $  $  $596,204 
Time deposits  172,376      172,805      172,805 
Subordinated debentures  21,651         9,018   9,018 
Accrued interest payable  136   2   54   80   136 

 

ITEM 2. MANAGEMENT'SMANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.

Certain statements in this Form 10-Q (excluding statements of fact or historical financial information) involve forward-looking information within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended, and are subject to the “safe harbor” created by those sections. These forward-looking statements involve certain risks and uncertainties that could cause actual results to differ materially from those in the forward-looking statements. Such risks and uncertainties include, but are not limited to, the following factors: competitive pressure in banking industry increases significantly; changes in the interest rate environment reduce margins; general economic conditions, either nationally or regionally, are less favorable than expected, resulting in, among other things, a deterioration in credit quality and an increase in the provision for possible loan losses; changes in the regulatory environment; changes in business conditions, particularly in the Northern California region; volatility of rate sensitive deposits; operational risks including data processing system failures or fraud; asset/liability matching risks and liquidity risks; California state budget problems; the U.S. “war on terrorism” and military action by the U.S. in the Middle East; and changes in the securities markets.

Critical Accounting Policies

 

General

 

North Valley Bancorp’s financial statements are prepared in accordance with accounting principles generally accepted in the United States of America (GAAP). The financial information contained within our financial statements is, to a significant extent, financial information that is based on measures of the financial effects of transactions and events that have already occurred. A variety of factors could affect the ultimate value that is obtained either when earning income, recognizing an expense, recovering an asset or relieving a liability. We use historical loss factors as one factor in determining the probable incurred losses that may be present in our loan portfolio. Actual losses could differ significantly from the historical factors that we use. Another estimate that we use is related to the expected useful lives of our depreciable assets. In addition, GAAP itself may change from one previously acceptable method to another method. Although the economics of our transactions would be the same, the timing of events that would impact our transactions could change.

 

Allowance for Loan LossesLosses.. The allowance for loan losses is an estimate of probable incurred loan losses in the Company'sCompany’s loan portfolio as of the balance-sheet date. The allowance is established through a provision for loan losses which is charged to expense. Additions to the allowance are expected to maintain the adequacy of the total allowance after loan losses and loan growth. Credit exposures determined to be uncollectible are charged against the allowance. Cash received on previously charged off amounts is recorded as a recovery to the allowance. The overall allowance consists of two primary components, specific reserves related to impaired loans and general reserves for inherent losses related to non-impaired loans. Non-impaired loans are evaluated collectively for impairment as a group by loan type and common risk characteristics.

27

A loan is considered impaired when, based on current information and events, it is probable that the Company will be unable to collect all amounts due, including principal and interest, according to the contractual terms of the original agreement. Loans determined to be impaired are individually evaluated for impairment. When a loan is impaired, the Company measures impairment based on the present value of expected future cash flows discounted at the loan'sloan’s effective interest rate, except that as a practical expedient, it may measure impairment based on a loan'sloan’s observable market price, or the fair value of the collateral if the loan is collateral dependent. A loan is collateral dependent if the repayment of the loan is expected to be provided solely by the underlying collateral. For further information on the allowance for loan losses, seeNote 4 to the Notes to Condensed Consolidated Financial Statements in Item I above.

Allowance for Loan Losses on Off-Balance-Sheet Credit Exposures.. The Company also maintains a separate allowance for off-balance-sheet commitments. Management estimates anticipated losses using historical data and utilization assumptions. The allowance for off-balance-sheet commitments is included in accrued interest payable and other liabilities on the consolidated balance sheet.

Other Real Estate Owned (“OREO”).OREO represents properties acquired through foreclosure or physical possession. Write-downs to fair value at the time of transfer to OREO are charged to allowance for loan losses. Subsequent to foreclosure, management periodically evaluates the value of OREO held for sale and records a valuation allowance for any subsequent declines in fair value less selling costs. Subsequent declines in value are charged to operations. The reported value of OREO is based on our assessment of information available to us at the end of a reporting period and depends upon a number of factors, including our historical experience, economic conditions, and issues specific to individual properties. Management’s evaluation of these factors involves subjective estimates and judgments that may change.

 

Share Based CompensationCompensation.. At JuneSeptember 30, 2013, the Company had two stock-based compensation plans: the 1998 Employee Stock Incentive Plan and the 2008 Stock Incentive Plan, which are described more fully in Note 10 to the Notes to Condensed Consolidated Financial Statements. Compensation cost is recognized on all share-based payments over the requisite service periods of the awards based on the grant-date fair value of the options determined using the Black-Scholes-Merton based option valuation model. Critical assumptions that are assessed in computing the fair value of share-based payments include stock price volatility, expected dividend rates, the risk free interest rate and the expected lives of such options. Compensation cost recorded is net of estimated forfeitures expected to occur prior to vesting. For further information on the computation of the fair value of share-based payments, seeNote 109 to the Notes to Condensed Consolidated Financial Statements onpage 19.

 

Impairment of Investment SecuritiesSecurities.. An investment security is impaired when its carrying value is greater than its fair value. Investment securities that are impaired are evaluated on at least a quarterly basis and more frequently when economic or market conditions warrant such an evaluation to determine whether such a decline in their fair value is other than temporary. Management utilizes criteria such as the magnitude and duration of the decline and the intent and ability of the Company to retain its investment in the securities for a period of time sufficient to allow for an anticipated recovery in fair value, in addition to the reasons underlying the decline, to determine whether the loss in value is other than temporary. The term "other“other than temporary"temporary” is not intended to indicate that the decline is permanent, but indicates that the prospects for a near-term recovery of value is not necessarily favorable, or that there is a lack of evidence to support a realizable value equal to or greater than the carrying value of the investment. Once a decline in value is determined to be other than temporary, and management does not intend to sell the security or it is more likely than not that the Company will not be required to sell the security before recovery, only the portion of the impairment loss representing credit exposure is recognized as a charge to earnings, with the balance recognized as a charge to other comprehensive income. If management intends to sell the security or it is more likely than not that the Company will be required to sell the security before recovering its forecasted cost, the entire impairment loss is recognized as a charge to earnings.

 

Accounting for Income Taxes.The Company files its income taxes on a consolidated basis with its subsidiary. The allocation of income tax expense (benefit) represents each entity'sentity’s proportionate share of the consolidated provision for income taxes.

 

The Company applies the asset and liability method to account for income taxes. Deferred tax assets and liabilities are calculated by applying applicable tax laws to the differences between the financial statement basis and the tax basis of assets and liabilities. The effect on deferred taxes of changes in tax laws and rates is recognized in operations in the period that includes the enactment date. On the consolidated balance sheet, net deferred tax assets are included in other assets.

 

The Company accounts for uncertainty in income taxes by recording onlytax positions that met the more likely than not recognition threshold, that the tax position would be sustained in a tax examination with the assumption that the examination will occur.

28

When tax returns are filed, it is highly certain that some positions taken would be sustained upon examination by the taxing authorities, while others are subject to uncertainty about the merits of the position taken or the amount of the position that would be ultimately sustained.  The benefit of a tax position is recognized in the financial statements in the period during which, based on all available evidence, management believes it is more likely than not that the position will be sustained upon examination, including the resolution of appeals or litigation processes, if any.  Tax positions taken are not offset or aggregated with other positions.  Tax positions that meet the more-likely-than-not recognition threshold are measured as the largest amount of tax benefit that is more than 50 percent likely of being realized upon settlement with the applicable taxing authority.  The portion of the benefits associated with tax positions taken that exceeds the amount measured as described above is reflected as a liability for unrecognized tax benefits in the accompanying balance sheet along with any associated interest and penalties that would be payable to the taxing authorities upon examination.

 

The Company evaluates deferred income tax assets for recoverability based on all available evidence. This process involves significant management judgment about assumptions that are subject to change from period to period based on changes in tax laws, our ability to successfully implement tax planning strategies, or variances between our future projected operating performance and our actual results. The Company is required to establish a valuation allowance for deferred tax assets if we determine, based on available evidence at the time the determination is made, that it is more likely than not that some portion or all of the deferred tax assets will not be realized. In determining the more-likely-than-not criterion, we evaluate all positive and negative available evidence as of the end of each reporting period. Future adjustments to the deferred tax asset valuation allowance, if any, will be determined based upon changes in the expected realization of net deferred tax assets. The realization of deferred tax assets ultimately depends on the existence of sufficient taxable income in the carry back and carry forward periods under the tax law. Due to the Company’s cumulative tax losses in 2009 and 2010, it was determined toestablish a partial valuation allowance in 2010 of $4,500,000 to reflect the portion of the deferred tax assets that the Company determined to be more likely than not that it will not be realized.During the quarter ended December 31, 2011, the Company reversed the Federal portion of its valuation allowance in the amount of $223,000, and in the quarter ended September 30, 2012, the Company eliminated the remaining state deferred tax asset valuation allowance of $4,277,000.

 

Business Organization

 

North Valley Bancorp (the “Company”) is a California corporation and a bank holding company for North Valley Bank, a California state-chartered, Federal Reserve member bank (“NVB”). NVB operates out of its main office located at 300 Park Marina Circle, Redding, California 96001, with twenty-two branches, including two supermarket branches in eight counties in Northern California. The Company views its service area as having four distinct markets: the Redding market, the Coastal market, the I-80 Corridor market and the Santa Rosa market.

 

The Company’s principal business consists of attracting deposits from the general public and using the funds to originate commercial, real estate and installment loans to customers, who are predominately small and middle market businesses and middle income individuals. The Company’s primary source of revenues is interest income from its loan and investment securities portfolios. The Company is not dependent on any single customer for more than ten percent of its revenues.

 

Overview

 

Financial Results

(in thousands except per share amounts) Three months ended June 30,  Six months ended June 30, 
  2013  2012  2013  2012 
Net interest income $7,578  $7,329  $15,014  $14,721 
Provision for loan losses     1,000      1,400 
Noninterest income  3,651   4,687   7,980   7,946 
Noninterest expense  9,936   9,228   19,824   18,884 
Provision for income taxes  399   527   1,015   642 
Net income $894  $1,261  $2,155  $1,741 
                 
Per Share Amounts                
Basic Income Per Share $0.13  $0.18  $0.32  $0.25 
Diluted Income Per Share $0.13  $0.18  $0.31  $0.25 
                 
Annualized Return on Average Assets  0.40%  0.56%  0.48%  0.38%
Annualized Return on Average Equity  3.69%  5.47%  4.49%  3.81%

(in thousands except per share amounts) Three months ended September 30,  Nine months ended September 30, 
  2013  2012  2013  2012 
Net interest income $7,774  $7,713  $22,788  $22,434 
Provision for loan losses     700      2,100 
Noninterest income  3,209   4,204   11,189   12,150 
Noninterest expense  10,036   9,759   29,860   28,643 
Provision (benefit) for income taxes  367   (2,546)  1,382   (1,904)
Net income $580  $4,004  $2,735  $5,745 
                 
Per Share Amounts                
Basic Income Per Share $0.08  $0.59  $0.40  $0.84 
Diluted Income Per Share $0.08  $0.59  $0.40  $0.84 
                 
Annualized Return on Average Assets  0.25%  1.74%        0.40%  0.84
Annualized Return on Average Equity  2.46%  16.91%  3.82%  8.29%
29

The Company had net income of $894,000,$580,000, or $0.13$0.08 per diluted share, and $2,155,000,$2,735,000, or $0.31$0.40 per diluted share, for the three and sixnine months ended JuneSeptember 30, 2013, respectively. This compares to net income of $1,261,000,$4,004,000, or $0.18$0.59 per diluted share, and $1,741,000,$5,745,000, or $0.25$0.84 per diluted share, for the three and sixnine months ended JuneSeptember 30, 2012. Net income for the three and nine months ended September 30, 2012 included a $2,930,000 tax benefit resulting from the reversal of a $4,277,000 state deferred tax asset valuation allowance which was partially offset by an increase in federal deferred tax liabilities of $1,347,000. The decrease in net income before taxes for three months ended JuneSeptember 30, 2013 compared to the three months ended JuneSeptember 30, 2012 was primarily attributed to a decrease in gains on sale of securities, a decrease on gain on sale of loans and an increase in other real estate owned expenses partially offset by an increase on gain on sale of loans and a decrease in the provision for loan losses. The Company did not record a provision for loan losses for the quarter ended JuneSeptember 30, 2013 compared to a provision for loan losses of $1,000,000$700,000 for the quarter ended JuneSeptember 30, 2012. Net interest income

Income before taxes increased $249,000$276,000 for the threenine months ended JuneSeptember 30, 2013, compared to the same period in 2012. Noninterest income decreased $1,036,000The increase was primarily due to a decrease in the provision for loan losses, which was partially offset by a decrease in gains on sale of securities, and an increase in other real estate owned expenses for the threenine months ended JuneSeptember 30, 2013 compared to the same period in 2012 primarily due to the reduction in gains on sale of securities. Noninterest expense increased $708,000 for the three months ended June 30, 2013 compared to the three months ended June 30, 2012 due primarily to the increase in other real estate owned expenses.

Net interest income increased $293,000 for the six months ended June 30, 2013, compared to the same period in 2012, and noninterest income increased $34,000 for the six months ended June 30, 2013 compared to the same period in 2012. Noninterest expense increased $940,000 for the six months ended June 30, 2013 compared to the six months ended June 30, 2012 due primarily to the recording of $560,000 in additional reserves for expenses to be incurred during 2013 in connection with NVB’s settlement of a compliance exam conducted by the Federal Reserve Bank of San Francisco in 2010. At June 30, 2013, the total amount reserved for this purpose was $1,260,000.

 

On June 26, 2013, the Company announced that its Board of Directors has authorized the repurchase of up to 5% of the Company’s outstanding common shares, or approximately 340,000 shares. During the sixnine month period ended JuneSeptember 30, 2013, there were no repurchases of common shares. Future repurchases will be made from time to time by the Company in the open market, or privately negotiated transactions, as conditions allow. All open market transactions will be structured to comply with Securities and Exchange Commission Rule 10b-18 and all shares repurchased under this program will be retired. The number, price and timing of the repurchases shall be at the Company’s sole discretion and the program will be re-evaluated from time to time depending on market conditions, liquidity needs or other factors. The Board of Directors, based on such re-evaluations, may suspend, terminate, modify or cancel the program at any time without notice.

 

Results of Operation

Net Interest Income and Net Interest Margin (fully taxable equivalent basis)

Net interest income is the difference between interest earned on loans, investments and investmentsother earning assets, and interest paid on deposits and borrowings, and is the primary revenue source for the Company. Net interest margin is net interest income expressed as a percentage of average earning assets. These items have been adjusted to give effect to $45,000$54,000 and $70,000$67,000 in taxable-equivalent interest income on tax-free investments for the three month periods ended JuneSeptember 30, 2013 and 2012, respectively.

 

Net interest income for the three months ended JuneSeptember 30, 2013 was $7,623,000,$7,828,000, a $224,000,$48,000, or 3.0%0.6%, increase from net interest income of $7,399,000$7,780,000 for the same period in 2012. Interest income decreased $464,000,$274,000, or 5.5%3.2%, to $8,026,000$8,219,000 for the three month period ended JuneSeptember 30, 2013 compared to the same period in 2012, due primarily to both a decrease in rates earned on loans and securities and a decrease in average securities which was partially offset by an increase in average loan balances. The Company had foregone interest income for the loans placed on nonaccrual status of $50,000$36,000 during the three months ended JuneSeptember 30, 2013 compared to $203,000$138,000 for the same period in 2012. Average loans outstanding during the three months ended JuneSeptember 30, 2013 increased $42,037,000,$24,320,000, or 9.4%5.1%, to $491,252,000$499,920,000 compared to the same period in 2012. This higher loan volume increased interest income by $594,000.$338,000. The average yield earned on the loan portfolio decreased 4143 basis points to 5.24%5.13% for the three months ended JuneSeptember 30, 2013.2013 compared to the same period in 2012. This decrease in yield decreased interest income for the three months ended JuneSeptember 30, 2013 by $502,000.$539,000. The total increasedecrease to interest income from the loan portfolio was $92,000$201,000 for the three months ended JuneSeptember 30, 2013. The average balance of the investment portfolio decreased $33,692,000,$15,849,000, or 10.1%4.9%, which accounted for a $247,000$130,000 reduction in interest income andoffset by a decreaseslight increase in average yield of the investment portfolio of 443 basis points reducedwhich increased interest income by $304,000.$64,000.

 

Interest expense for the three months ended JuneSeptember 30, 2013 compared to the same period in 2012, decreased $688,000,$322,000, or 63.1%45.2%, to $403,000.$391,000. The average rate paid on other borrowed funds decreased 38176 basis points to 2.30%2.07% for the periodquarter ended JuneSeptember 30, 2013 compared to 6.11%2.83% for the same period in 2012, resulting in a decrease to interest expense of $221,000$50,000 along with a decrease in average other borrowed funds of $8,614,000$9,508,000 which reduced interest expense by $132,000.$67,000. The average rates paid on time deposits decreased 4431 basis points to 0.44%0.41% and reduced interest expense by $176,000$122,000 along with a decrease in average time deposits of $42,851,000$29,349,000 which reduced interest expense by $94,000$53,000 for the periodquarter ended JuneSeptember 30, 2013.

 

The net interest margin for the three months ended JuneSeptember 30, 2013 increased 104 basis points to 3.77%3.82% from 3.67%3.78% for the same period in 2012 and a 4an increase of 5 basis point decreasepoints from the 3.81%3.77% net interest margin for the linked quarter ended March 31,June 30, 2013.

30

The following table sets forth the Company’s consolidated condensed average daily balances and the corresponding average yields received and average rates paid of each major category of assets, liabilities, and stockholders’ equity for the periods indicated:

 

Schedule of Average Daily Balance and Average Yields and Rates      
(Dollars in thousands)                  
  Three months ended June 30, 2013  Three months ended June 30, 2012 
  Average  Yield/  Interest  Average  Yield/  Interest 
  Balance  Rate  Amount  Balance  Rate  Amount 
                         
Assets                        
Earning assets:                        
Federal funds sold $20,786   0.23% $12  $27,049   0.25% $17 
Investment securities:                        
Taxable  290,563   2.02%  1,465   320,264   2.43%  1,943 
Tax exempt (1)  8,238   6.48%  133   12,229   6.76%  206 
Total investments  298,801   2.15%  1,598   332,493   2.59%  2,149 
Loans (2)(3)  491,252   5.24%  6,416   449,215   5.65%  6,324 
Total earning assets  810,839   3.97%  8,026   808,757   4.21%  8,490 
                         
Nonearning assets  105,675           111,090         
Allowance for loan losses  (9,591)          (12,098)        
Total nonearning assets  96,084           98,992         
                         
Total assets $906,923          $907,749         
                         
Liabilities and Stockholders' Equity                        
Interest bearing liabilities:                        
Transaction accounts $194,034   0.04% $18  $179,726   0.08% $34 
Savings and money market  244,943   0.12%  76   222,669   0.23%  125 
Time certificates  159,564   0.44%  175   202,415   0.88%  445 
Other borrowed funds  23,347   2.30%  134   31,961   6.11%  487 
Total interest bearing liabilities  621,888   0.26%  403   636,771   0.69%  1,091 
Demand deposits  167,757           157,268         
Other liabilities  20,088           21,299         
Total liabilities  809,733           815,338         
Stockholders' equity  97,190           92,411         
                        
Total liabilities and stockholders' equity $906,923          $907,749         
Net interest income         $7,623          $7,399 
Net interest spread      3.71%          3.52%    
Net interest margin      3.77%          3.67%    
                         
                         
(1)  Tax-equivalent basis; non-taxable securities are exempt from federal taxation.
(2)  Loans on nonaccrual status have been included in the computations of averages balances.
(3)  Includes loan fees of $72 and $89 for the three months ended June 30, 2013 and 2012, respectively.

Schedule of Average Daily Balance and Average Yields and Rates      
(Dollars in thousands)                  
  Three months ended September 30, 2013  Three months ended September 30, 2012 
  Average  Yield/  Interest  Average  Yield/  Interest 
  Balance  Rate  Amount  Balance  Rate  Amount 
                   
Assets                        
Earning assets:                        
Federal funds sold $4,645   0.26% $3  $17,770   0.22% $10 
Investment securities:                        
Taxable  299,956   2.11%  1,598   311,736   2.06%  1,622 
Tax exempt (1)  7,594   8.15%  156   11,663   6.74%  198 
Total investments  307,550   2.26%  1,754   323,399   2.23%  1,820 
Loans (2)(3)  499,920   5.13%  6,462   475,600   5.56%  6,663 
Total earning assets  812,115   4.02%  8,219   816,769   4.13%  8,493 
                         
Nonearning assets  104,787           107,942         
Allowance for loan losses  (9,508)          (11,472)        
Total nonearning assets  95,279           96,470         
                         
Total assets $907,394          $913,239         
                         
Liabilities and Stockholders’ Equity                        
Interest bearing liabilities:                        
Transaction accounts $194,608   0.04% $18  $180,431   0.05% $24 
Savings and money market  244,571   0.13%  79   226,630   0.18%  103 
Time certificates  155,453   0.41%  160   184,802   0.72%  335 
Other borrowed funds  25,664   2.07%  134   35,172   2.83%  251 
Total interest bearing liabilities  620,296   0.25%  391   627,035   0.45%  713 
Demand deposits  177,400           168,658         
Other liabilities  16,171           23,589         
Total liabilities  813,867           819,282         
Stockholders’ equity  93,527           93,957         
Total liabilities and stockholders’ equity $907,394          $913,239         
Net interest income         $7,828          $7,780 
Net interest spread      3.77%          3.68%    
Net interest margin      3.82%          3.78%    
(1)Tax-equivalent basis; non-taxable securities are exempt from federal taxation.

(2)Loans on nonaccrual status have been included in the computations of averages balances.

(3)Includes loan (costs)/fees of $(36) and $113 for the three months ended September 30, 2013 and 2012, respectively.

 

Net interest income for the sixnine months ended JuneSeptember 30, 2013 was $15,114,000,$22,942,000, a $249,000,$296,000, or 1.7%1.3%, increase from net interest income of $14,865,000$22,646,000 for the same period in 2012. The Company had foregone interest income for the loans placed on nonaccrual status of $135,000$171,000 during the sixnine months ended JuneSeptember 30, 2013 compared to $357,000$495,000 for the same period in 2012. The average loans outstanding during the sixnine months ended JuneSeptember 30, 2013 increased $37,505,000,$33,093,000, or 8.3%7.2%, to $487,852,000.$491,919,000 compared to the same period in 2012. This higher loan volume increased interest income by $1,069,000.$1,402,000. The average yield earned on the loan portfolio decreased 42 basis points to 5.28%5.23% for the sixnine months ended JuneSeptember 30, 2013.2013 compared to the same period in 2012. This decrease in yield decreased interest income by $1,081,000.$1,615,000. The net decrease in interest income from the loan portfolio was $12,000.$213,000. The average balance of the investment portfolio decreased $39,073,000,$28,560,000, or 11.8%8.8%, which accounted for a $557,000$626,000 decrease in interest income and a decrease in average yield of the investment portfolio of 4532 basis points reduced interest income by $641,000.$639,000 for the nine months ended September 30, 2013 compared to the same period in 2012.

 

Interest expense for the sixnine months ended JuneSeptember 30, 2013 decreased $1,473,000,$1,795,000, or 63.8%59.4%, to $835,000$1,226,000 compared to the same period in 2012. The average rate paid on other borrowed funds decreased 370265 basis points to 2.39%2.27% for the sixnine month period ended JuneSeptember 30, 2013 compared to 6.09%4.92% for the same period in 2012, resulting in a decrease to interest expense of $415,000$469,000 along with a decrease in average other borrowed funds of $9,457,000$9,507,000 which reduced interest expense by $288,000.$351,000. These decreases were the result of the payoff of $10,310,000 in subordinated debentures in July 2012. The average rates paid on time deposits decreased 4843 basis points to 0.47%0.45% and reduced interest expense by $396,000$523,000 along with a decrease in average time deposits of $44,794,000$39,617,000 which reduced interest expense by $213,000$261,000 for the nine month period ended JuneSeptember 30, 2013.2013 compared to the same period in 2012.

31

The net interest margin for the sixnine months ended JuneSeptember 30, 2013 increased 149 basis points to 3.78%3.79% from 3.64%3.70% for the same period in 2012. The following table sets forth the Company’s consolidated condensed average daily balances and the corresponding average yields received and average rates paid of each major category of assets, liabilities, and stockholders’ equity for the periods indicated (these items have been adjusted to give effect to $100,000$153,000 and $144,000$212,000 in taxable-equivalent interest income on tax-free investments for the sixnine month periods ended JuneSeptember 30, 2013 and 2012, respectively):

 

Schedule of Average Daily Balance and Average Yields and Rates      
(Dollars in thousands)                  
  Six months ended June 30, 2013  Six months ended June 30, 2012 
  AverageBalance  Yield/Rate  InterestAmount  AverageBalance  Yield/Rate  InterestAmount 
                         
Assets                        
Earning assets:                        
Federal funds sold $26,916   0.23% $31  $38,000   0.24% $45 
Investment securities:                        
Taxable  283,020   2.02%  2,841   318,520   2.46%  3,910 
Tax exempt (1)  9,034   6.59%  295   12,607   6.74%  424 
Total investments  292,054   2.17%  3,136   331,127   2.62%  4,334 
Loans (2)(3)  487,852   5.28%  12,782   450,347   5.70%  12,794 
Total earning assets  806,822   3.99%  15,949   819,474   4.20%  17,173 
                         
Nonearning assets  105,291           104,851         
Allowance for loan losses  (10,036)          (12,363)        
Total nonearning assets  95,255           92,488         
                         
Total assets $902,077          $911,962         
                         
Liabilities and Stockholders' Equity                        
Interest bearing liabilities:                        
Transaction accounts $191,102   0.04% $36  $177,863   0.09% $81 
Savings and money market  242,690   0.13%  154   221,199   0.24%  270 
Time certificates  162,863   0.47%  378   207,657   0.95%  987 
Other borrowed funds  22,504   2.39%  267   31,961   6.09%  970 
Total interest bearing liabilities  619,159   0.27%  835   638,680   0.72%  2,308 
Demand deposits  167,606           157,826         
Other liabilities  18,473           23,888         
Total liabilities  805,238           820,394         
Stockholders' equity  96,839           91,568         
Total liabilities and stockholders' equity $902,077          $911,962         
Net interest income         $15,114          $14,865 
Net interest spread      3.72%          3.48%    
Net interest margin      3.78%          3.64%    
 
 
(1)  Tax-equivalent basis; non-taxable securities are exempt from federal taxation.
(2)  Loans on nonaccrual status have been included in the computations of averages balances.
(3)  Includes loan fees of $190 and $127 for the six months ended June 30, 2013 and 2012, respectively.

Schedule of Average Daily Balance and Average Yields and Rates      
(Dollars in thousands)                  
  Nine months ended September 30, 2013  Nine months ended September 30, 2012 
  Average  Yield/  Interest  Average  Yield/  Interest 
  Balance  Rate  Amount  Balance  Rate  Amount 
                   
Assets                        
Earning assets:                        
Federal funds sold $19,410   0.23% $34  $31,207   0.23% $55 
Investment securities:                        
Taxable  288,727   2.06%  4,439   313,546   2.35%  5,532 
Tax exempt (1)  8,549   7.05%  451   12,290   6.75%  623 
Total investments  297,276   2.20%  4,890   325,836   2.52%  6,155 
Loans (2)(3)  491,919   5.23%  19,244   458,826   5.65%  19,457 
Total earning assets  808,605   4.00%  24,168   815,869   4.19%  25,667 
                         
Nonearning assets  105,120           108,588         
Allowance for loan losses  (9,858)          (12,071)        
Total nonearning assets  95,262           96,517         
                         
Total assets $903,867          $912,386         
                         
Liabilities and Stockholders’ Equity                        
Interest bearing liabilities:                        
Transaction accounts $192,284   0.04% $54  $178,725   0.08% $105 
Savings and money market  243,324   0.13%  233   223,022   0.22%  373 
Time certificates  160,366   0.45%  538   199,983   0.88%  1,322 
Other borrowed funds  23,569   2.27%  401   33,076   4.92%  1,221 
Total interest bearing liabilities  619,543   0.26%  1,226   634,806   0.63%  3,021 
Demand deposits  170,906           161,464         
Other liabilities  17,694           23,751         
Total liabilities  808,143           820,021         
Stockholders’ equity  95,724           92,365         
Total liabilities and stockholders’ equity $903,867          $912,386         
Net interest income         $22,942          $22,646 
Net interest spread      3.74%          3.56%    
Net interest margin      3.79%          3.70%    
(1)Tax-equivalent basis; non-taxable securities are exempt from federal taxation.

(2)Loans on nonaccrual status have been included in the computations of averages balances.

(3)Includes loan fees of $154 and $240 for the nine months ended September 30, 2013 and 2012, respectively.

 

The following table sets forth a summary of the changes in interest income and interest expense due to changes in average asset and liability balances (volume) and changes in average interest rates for the periods indicated. The change in interest due to both rate and volume has been allocated to the change in rate.

32
Changes in Volume/Rate                  
(Dollars in thousands) Three months ended September 30, 2013  Nine months ended September 30, 2013 
  compared with  compared with 
  Three months ended September 30, 2012  Nine months ended September 30, 2012 
        Total        Total 
  Average  Average  Increase  Average  Average  Increase 
  Volume  Yield/Rate  (Decrease)  Volume  Yield/Rate  (Decrease) 
Interest Income                        
Interest on Federal funds sold $(7) $  $(7) $(20) $(1) $(21)
Interest on investments:                        
Taxable securities  (61)  37   (24)  (437)  (656)  (1,093)
Tax exempt securities (1)  (69)  27   (42)  (189)  17   (172)
Total investments  (130)  64   (66)  (626)  (639)  (1,265)
Interest on loans  338   (539)  (201)  1,402   (1,615)  (213)
Total interest income  201   (475)  (274)  756   (2,255)  (1,499)
                         
Interest Expense                        
Transaction accounts $2  $(8) $(6) $8  $(59) $(51)
Savings and money market  8   (32)  (24)  33   (173)  (140)
Time deposits  (53)  (122)  (175)  (261)  (523)  (784)
Other borrowed funds  (67)  (50)  (117)  (351)  (469)  (820)
Total interest expense  (110)  (212)  (322)  (571)  (1,224)  (1,795)
                         
Total change in net interest income $311  $(263) $48  $1,327  $(1,031) $296 

Changes in Volume/Rate
(Dollars in thousands) Three months ended June 30, 2013
compared with
Three months ended June 30, 2012
  Six months ended June 30, 2013
compared with
Six months ended June 30, 2012
 
  Average Volume  Average Yield/Rate  Total Increase (Decrease)  Average Volume  Average Yield/Rate  Total Increase (Decrease) 
Interest Income                        
Interest on Federal funds sold $(4) $(1) $(5) $(13) $(1) $(14)
Interest on investments:                        
Taxable securities  (180)  (298)  (478)  (437)  (632)  (1,069)
Tax exempt securities (1)  (67)  (6)  (73)  (120)  (9)  (129)
Total investments  (247)  (304)  (551)  (557)  (641)  (1,198)
Interest on loans  594   (502)  92   1,069   (1,081)  (12)
Total interest income  343   (807)  (464)  499   (1,723)  (1,224)
                         
Interest Expense                        
Transaction accounts $3  $(19) $(16) $6  $(51) $(45)
Savings and money market  13   (62)  (49)  26   (142)  (116)
Time deposits  (94)  (176)  (270)  (213)  (396)  (609)
Other borrowed funds  (132)  (221)  (353)  (288)  (415)  (703)
Total interest expense  (210)  (478)  (688)  (469)  (1,004)  (1,473)
                         
Total change in net interest income $553  $(329) $224  $968  $(719) $249 
                         
(1) Taxable equivalent

(1) Taxable equivalent

Provision for Loan Losses

 

The provision for loan losses reflects changes in the credit quality of the entire loan portfolio. The provision for loan losses is recorded to bring the allowance for loan losses to a level considered appropriate by management based on factors which are discussed under “Allowance for Loan Losses” starting onpage 41.41.

 

The Company did not record a provision for loan losses for the three and sixnine months ended JuneSeptember 30, 2013 compared to a provision for loan losses of $1,000,000$700,000 and $1,400,000$2,100,000 for the same periods in 2012. The process for determining allowance adequacy and the resultant provision for loan losses includes a comprehensive analysis of the loan portfolio. Factors in the analysis include size and mix of the loan portfolio, nonperforming loan levels, charge-off/recovery activity and other qualitative factors including economic environment and activity. The decision to not record a provision for the three months ended JuneSeptember 30, 2013 reflects management’s assessment of the overall adequacy of the allowance for loan losses including the consideration of the level of nonperforming loans, other trends in the quality and performance of our loan portfolio, and other general economic factors. Management believes that the current level of allowance for loan losses as of JuneSeptember 30, 2013 of $9,527,000,$9,312,000, or 1.89%1.83% of total loans, is adequate at this time. The allowance for loan losses was $10,458,000, or 2.12% of total loans, at December 31, 2012. For further information regarding our allowance for loan losses, see “Allowance for Loan Losses” starting onpage 41.41.

33

Noninterest Income

 

The following table is a summary of the Company’s noninterest income for the periods indicated (in thousands):

 

  Three months ended June 30,  Six months ended June 30, 
  2013  2012  2013  2012 
Service charges on deposit accounts $971  $1,136  $1,923  $2,188 
Other fees and charges  1,108   1,321   2,228   2,518 
Gain on sale of loans  920   684   1,845   1,089 
Gain on sales or calls of securities, net     968   543   959 
Increase in cash value of life insurance  319   359   782   683 
Other  333   219   659   509 
Total $3,651  $4,687  $7,980  $7,946 

  Three months ended September 30,  Nine months ended September 30, 
  2013  2012  2013  2012 
Service charges on deposit accounts $959  $1,086  $2,882  $3,274 
Other fees and charges  1,152   1,102           3,380   3,620 
Gain on sale of loans  596   769   2,441   1,858 
Gain on sales or calls of securities, net  5   697   548   1,656 
Increase in cash value of life insurance  343   340   1,125   1,023 
Other  154   210   813   719 
Total $3,209  $4,204  $11,189  $12,150 

Noninterest income for the three months ended JuneSeptember 30, 2013 decreased $1,036,000,$995,000, or 22.1%23.7%, to $3,651,000$3,209,000 compared to $4,687,000$4,204,000 for the same period in 2012. Service charges on deposits decreased by $165,000$127,000 to $971,000$959,000 for the three months ended JuneSeptember 30, 2013 compared to $1,136,000$1,086,000 for the same period in 2012 andwhile other fees and charges decreased $213,000increased $50,000 to $1,108,000$1,152,000 for the three months ended JuneSeptember 30, 2013 compared to $1,321,000$1,102,000 for the same period in 2012. The Company had a $920,000$596,000 gain on sale of loans for the quarter ended JuneSeptember 30, 2013, an increasea decrease of $236,000$173,000 compared to $684,000$769,000 for the same period in 2012. Of the $920,000$596,000 gain on sale of loans for the second quarter of 2013, the sale of mortgage loans was $700,000$574,000 and the sale of SBA loans was $220,000$22,000 compared to the sale of mortgage loans of $620,000$733,000 and the sale of SBA loans of $64,000$36,000 for the same period in 2012. The Company did not recordrecorded $5,000 for gains on sale of securities for the three months ended JuneSeptember 30, 2013 compared to a $968,000$697,000 gain on sale of securities for the same period in 2012.

 

Noninterest income for the sixnine months ended JuneSeptember 30, 2013 increased $34,000decreased $961,000 to $7,980,000$11,189,000 compared to $7,946,000$12,150,000 for the same period in 2012. Service charges on deposits decreased by $265,000$392,000 to $1,923,000$2,882,000 for the sixnine months ended JuneSeptember 30, 2013 compared to $2,188,000$3,274,000 for the same period in 2012 and other fees and charges decreased $290,000$240,000 to $2,228,000$3,380,000 for the sixnine months ended JuneSeptember 30, 2013 compared to $2,518,000$3,620,000 for the same period in 2012. The Company had a $1,845,000$2,441,000 gain on sale of loans for the quarternine months ended JuneSeptember 30, 2013, an increase of $756,000$583,000 compared to $1,089,000$1,858,000 for the same period in 2012 due primarily to a gain on sale of mortgage loans. Of the $1,845,000$2,441,000 gain on sale of loans for the secondthird quarter of 2013, the sale of mortgage loans was $1,457,000$2,031,000 and the sale of SBA loans was $388,000$410,000 compared to the sale of mortgage loans of $983,000$1,716,000 and the sale of SBA loans of $106,000$142,000 for the same period in 2012. The Company had a $543,000$548,000 gain on sale of securities for the sixnine months ended JuneSeptember 30, 2013, as compared to a gain on sale of securities of $959,000$1,656,000 for the same period in 2012.

 

Noninterest Expense

 

The following table is a summary of the Company’s noninterest expense for the periods indicated (in thousands):

 

 Three months ended June 30, Six months ended June 30,  Three months ended September 30, Nine months ended September 30, 
 2013  2012  2013  2012  2013  2012          2013  2012 
Salaries and employee benefits $5,077  $5,051  $10,239  $10,108  $5,084  $5,005  $15,323  $15,113 
Other real estate owned expense  990   342   1,366   976   1,226   817   2,592   1,793 
Data processing  666   632   1,327   1,249   647   633   1,974   1,882 
Occupancy expense  615   620   1,248   1,260   629   651   1,877   1,911 
Professional services  295   334   564   621   225   331   789   952 
Loan expense  249   217   554   345   237   282   791   627 
Director expense  227   160   420   298   230   180   650   478 
FDIC and state assessments  213   176   431   489   207   212   638   701 
Furniture and equipment expense  202   227   422   472   223   237   645   709 
Marketing expense  136   138   286   333   142   120   428   453 
ATM and on-line banking  129   211   268   461   149   159   417   620 
Operations expense  118   123   234   240   135   142   369   382 
Printing and supplies  117   116   244   240   121   122   365   362 
Postage  117   123   239   244   110   117   349   361 
Messenger  103   115   209   228   106   112   315   340 
Amortization of intangibles  37   37   73   73   36   36   109   109 
Other  645   606   1,700   1,247   529   603   2,229   1,850 
Total $9,936  $9,228  $19,824  $18,884  $10,036  $9,759  $29,860  $28,643 

Noninterest expense increased $708,000,$277,000, or 7.7%2.8%, to $9,936,000$10,036,000 for the secondthird quarter of 2013 from $9,228,000$9,759,000 for the secondthird quarter of 2012. OREO expense increased $409,000 to $1,226,000, for the third quarter of 2013 compared to $817,000 for the same period in 2012. All other expenses decreased $132,000 to $8,810,000 for the third quarter of 2013 compared to $8,942,000 for the same period in 2012.

34

Noninterest expense increased $1,217,000, or 4.3%, to $29,860,000 for the nine months ended September 30, 2013 from $28,643,000 for the same period in 2012. OREO expense increased $648,000$799,000 to $990,000,$2,592,000, for the second quarter ofnine months ended September 30, 2013 compared to $342,000$1,793,000 for the same period in 2012, andwhile FDIC and state assessments increased $37,000decreased $63,000 to $213,000$638,000 for the second quarter ofnine months ended September 30, 2013, compared to $176,000$701,000 for the same period in 2012. All other expenses increased $23,000$481,000 to $8,733,000$26,630,000 for the second quarternine months ended September 30, 2013 compared to $8,710,000$26,149,000 for the same period in 2012.

Noninterest expense increased $940,000, or 5.0%, to $19,824,000 for the six months ended June As of September 30, 2013, from $18,884,000 for the same period in 2012. OREO expense increased $390,000 to $1,366,000, for the six months ended June 30, 2013 compared to $976,000 for the same period inCompany employed 321 people and had 303 full-time equivalent employees. Full-time equivalent employees at December 31, 2012 and FDICSeptember 30, 2012 were 316 and state assessments decreased $58,000 to $431,000 for the six months ended June 30, 2013, compared to $489,000 for the same period in 2012. Increases in OREO expenses primarily related to an increase in provisioning for losses to $884,000 compared to $561,000 for the six months ended June 30, 2013 and 2012, respectively, due to deterioration in the appraised value of real estate. All other expenses increased $608,000 to $18,027,000 for the six months ended June 30, 2013 compared to $17,419,000 for the same period in 2012 due to the recording of $560,000 in additional reserves for expenses to be incurred during 2013 in connection with the settlement of a compliance exam conducted by the Federal Reserve Bank of San Francisco in 2010. The final report of examination was received by NVB during the quarter ended June 30, 2013 and the total reserve has been set at $1,260,000.323, respectively.

 

Income Taxes

 

The Company recorded a provision for income taxes of $399,000$367,000 and $1,015,000,$1,382,000, resulting in an effective tax rate of 30.9%38.8% and 32.0%33.6% for the three and sixnine months ended JuneSeptember 30, 2013, respectively. This compares to a provisionbenefit for income taxes of $527,000$2,564,000 and $642,000, resulting in an effective tax rate of 29.5% and 26.9%$1,904,000 for the three and sixnine months ended JuneSeptember 30, 2012. The benefit for income taxes included a $2,930,000 net benefit for the three and nine month periods ended September 30, 2012, respectively.that resulted from the elimination of the $4,277,000 state deferred tax asset valuation allowance which was partially offset by an increase in federal deferred tax liabilities of $1,347,000. During the quarter ended September 30, 2013, management determined that certain available tax planning strategies would not be executed prior to December 31, 2013. As a result, management determined that certain deferred tax assets totaling approximately $205,000 would more likely than not expire prior to being utilized and therefore were charged to income tax expense. The difference in the effective tax rate compared to the statutory tax rate is primarily the result of the Company’s investment in municipal securities and Company-owned life insurance policies whose income is exempt from Federal taxes. In addition, the Company receives certain tax benefits from the State of California Franchise Tax Board for operating and providing loans, as well as jobs, in designated “Enterprise Zones”.

 

Management evaluates the Company’s deferred tax assets quarterly for recoverability using a consistent approach which considers the relative impact of negative and positive evidence, including the Company’s historical profitability and projections of future taxable income. Management also considered available tax planning strategies, the scheduled reversal of deferred tax assets and liabilities, and the nature and amount of historical and projected future taxable income that provide positive evidence that some of the tax benefits will be realizable.

 

The deferred tax assets will continue to be analyzed quarterly for changes affecting realizability and the valuation allowance may be adjusted in future periods accordingly. At JuneSeptember 30, 2013 and December 31, 2012, there was no valuation allowance recorded against deferred tax assets.

 

Financial Condition as of JuneSeptember 30, 2013 As Compared to December 31, 2012

 

Overview

 

Total assets at JuneSeptember 30, 2013 increased $15,415,000,$10,104,000, or 1.7%1.1%, to $917,758,000,$912,447,000, compared to $902,343,000 at December 31, 2012. Loans, net of deferred loan fees, increased $12,063,000,$16,881,000, or 2.5%3.4%, to $504,274,000$509,092,000 at JuneSeptember 30, 2013 from $492,211,000 at December 31, 2012. Investment securities increased $20,485,000,$7,812,000, or 7.2%2.7%, to $306,300,000$293,633,000 at JuneSeptember 30, 2013 from $285,815,000$285,821,000 at December 31, 2012. The Company did not sell Fed Funds sold decreased $13,520,000 to $2,345,000 as of JuneSeptember 30, 2013 as compared to $15,865,000 at December 31, 2012, and had other borrowed funds of $22,025,000 at June 30, 2013 compared to zero at December 31, 2012.

 

Loan Portfolio

 

The Company originates loans for business, consumer and real estate activities for equipment purchases. Such loans are concentrated in the primary markets in which the Company operates. Substantially all loans are collateralized. Generally, real estate loans are secured by real property. Commercial and other loans are secured by bank deposits or business or personal assets and leases are generally secured by equipment. The Company’s policy for requiring collateral is through analysis of the borrower, the borrower’s industry and the economic environment in which the loan would be granted. The loans are expected to be repaid from cash flows or proceeds from the sale of selected assets of the borrower.

 

Loans, the Company'sCompany’s primary component of earning assets, increased $12,063,000$16,881,000 during the sixnine months ended JuneSeptember 30, 2013 to $504,274,000$509,092,000 at JuneSeptember 30, 2013 from $492,211,000 at December 31, 2012. Commercial loans increased by $2,976,000$2,825,000 and real estate commercial loans increased by $23,576,000.$33,337,000. These increases were partially offset by decreases in real estate construction loans of $4,468,000,$3,722,000, real estate mortgage loans of $5,716,000,$8,563,000, other loans, primarily home equity loans, of $3,394,000,$5,170,000, and installment loans of $663,000.$1,129,000.

35

The Company'sCompany’s average loan to deposit ratio was 64.11%64.1% for the sixnine months ended JuneSeptember 30, 2013 compared to 62.9%60.8% for the quarteryear ended December 31, 2012. The increase in the Company’s average loan to deposit ratio was driven by the increase in total average loans of $9,254,000.$27,272,000.

 

Major classifications of loans are summarized as follows (in thousands):

 

 September 30, December 31, 
 June 30, 2013  December 31, 2012  2013  2012 
Commercial $49,054  $46,078  $48,903  $46,078 
Real estate - commercial  319,206   295,630   328,967   295,630 
Real estate - construction  18,535   23,003   19,281   23,003 
Real estate - mortgage  68,637   74,353   65,790   74,353 
Installment  6,026   6,689   5,560   6,689 
Other  42,547   45,941   40,771   45,941 
Gross loans  504,005   491,694   509,272   491,694 
Deferred loan fees, net  269   517 
Deferred loan (fees) costs, net  (180)  517 
Allowance for loan losses  (9,527)  (10,458)  (9,312)  (10,458)
Total loans, net $494,747  $481,753  $499,780  $481,753 

 

Impaired, Nonaccrual, Past Due and Restructured Loans and Other Nonperforming Assets

 

The Company considers a loan impaired if, based on current information and events, it is probable that the Company will be unable to collect the scheduled payments of principal or interest when due according to the original contractual terms of the loan agreement. The measurement of impaired loans is generally based on the present value of expected future cash flows discounted at the historical effective interest rate, except that all collateral-dependent loans are measured for impairment based on the fair value of the collateral.

 

The following table presents impaired loans and the related allowance for loan losses as of the dates indicated (in thousands):

  As of September 30, 2013  As of December 31, 2012 
     Unpaid        Unpaid    
  Recorded  Principal  Related  Recorded  Principal  Related 
  Investment  Balance  Allowance  Investment  Balance  Allowance 
With no allocated allowance                        
Commercial $566  $587  $  $585  $586  $ 
Real estate - commercial  4,283   4,348      2,778   2,974    
Real estate - construction  843   864      1,210   1,273    
Real estate - mortgage  1,171   1,194      684   736    
Installment  110   127      122   138    
Other  311   326      111   120    
Subtotal  7,284   7,446      5,490   5,827    
                         
With allocated allowance                        
Commercial  16   16   16          
Real estate - commercial           184   217   171 
Real estate - construction           161   161   18 
Real estate - mortgage  164   164   164          
Subtotal  180   180   180   345   378   189 
Total Impaired Loans $7,464  $7,626  $180  $5,835  $6,205  $189 

   As of June 30,  2013  As of December 31, 2012 
  Recorded Investment  Unpaid Principal Balance  Related Allowance  Recorded Investment  Unpaid Principal Balance  Related Allowance 
With no allocated allowance                        
Commercial $175  $175  $  $585  $586  $ 
Real estate - commercial  5,002   5,309      2,778   2,974    
Real estate - construction  860   870      1,210   1,273    
Real estate - mortgage  1,173   1,203      684   736    
Installment  116   134      122   138    
Other  253   266      111   120    
Subtotal  7,579   7,957      5,490   5,827    
                         
With allocated allowance                        
Commercial  473   485   88          
Real estate - commercial           184   217   171 
Real estate - construction           161   161   18 
Real estate - mortgage  164   164   164          
Other  140   140   140          
Subtotal  777   789   392   345   378   189 
Total Impaired Loans $8,356  $8,746  $392  $5,835  $6,205  $189 
36

The following table presents the average balance related to impaired loans for the period indicated (in thousands):

 

  For the three months ended June 30, 
  2013  2012 
  Average Book Balance  Interest Income Recognized  Average Book Balance  Interest Income Recognized 
             
Commercial $438  $  $1,143  $ 
Real estate - commercial  5,357   21   5,989    
Real estate - construction  874   6   8,388    
Real estate - mortgage  1,371   10   950    
Installment  144   1   140    
Other  407      124    
Total $8,591  $38  $16,734  $ 

   For the six months ended June 30, 
  2013  2012 
  Average Book Balance  Interest Income Recognized  Average Book Balance  Interest Income Recognized 
                 
Commercial $455  $  $1,173  $ 
Real estate - commercial  5,370   41   6,119    
Real estate - construction  877   13   8,394    
Real estate - mortgage  1,379   20   964    
Installment  145   2   144    
Other  408      138    
Total $8,634  $76  $16,932  $ 
  For the three months ended September 30, 
  2013  2012 
  Average Book  Interest Income  Average Book  Interest Income 
  Balance  Recognized  Balance  Recognized 
             
Commercial $372  $  $938  $ 
Real estate - commercial  4,704   21   7,780    
Real estate - construction  869   6   1,766    
Real estate - mortgage  1,393   13   986    
Installment  138      123    
Other  327      277    
Total $7,803  $40  $11,870  $ 
                 
  For the nine months ended September 30, 
  2013  2012 
  Average Book  Interest Income  Average Book  Interest Income 
  Balance  Recognized  Balance  Recognized 
             
Commercial $430  $  $1,043  $ 
Real estate - commercial  4,722   35   7,942    
Real estate - construction  874   19   1,780    
Real estate - mortgage  1,404   33   1,006    
Installment  140      133    
Other  330      287    
Total $7,900  $87  $12,191  $ 

 

Loans on which the accrual of interest has been discontinued are designated as nonaccrual loans. Accrual of interest on loans is discontinued either when reasonable doubt exists as to the full and timely collection of interest or principal, or when a loan becomes contractually past due by 90 days or more with respect to interest or principal (except that when management believes a loan is well secured and in the process of collection, interest accruals are continued on loans deemed by management to be fully collectible). When a loan is placed on nonaccrual status, all interest previously accrued but not collected is reversed against current period interest income. Income on such loans is then recognized only to the extent that cash is received and where the future collection of principal is probable. Interest accruals are resumed on such loans when, in the judgment of management, the loans are estimated to be fully collectible as to both principal and interest and borrower has made timely payments for a minimum period of six months.

 

Nonperforming assets are summarized as follows (in thousands):

 

 September 30, December 31, 
 June 30,
2012
  December 31,
2012
  2013  2012 
Nonaccrual loans $5,871  $5,835  $5,216  $5,835 
        
Loans past due 90 days or more and still accruing interest            
Total nonperforming loans  5,871   5,835   5,216   5,835 
Other real estate owned  16,324   22,423   15,045   22,423 
Total nonperforming assets $22,195  $28,258  $20,261  $28,258 
                
Nonaccrual loans to total gross loans  1.16%  1.19%  1.02%  1.19%
Nonperforming loans to total gross loans  1.16%  1.19%  1.02%      1.19%
Total nonperforming assets to total assets  2.42%  3.13%  2.22%  3.13%

 

At JuneSeptember 30, 2013 and December 31, 2012, the recorded investment in nonperforming loans (defined as nonaccrual loans and loans 90 days or more past due and still accruing interest) was approximately $5,871,000$5,216,000 and $5,835,000, respectively. The Company had $392,000$180,000 of specific allowance for loan losses on impaired loans of $777,000$180,000 at JuneSeptember 30, 2013 as compared to $189,000 of specific allowance for loan losses on impaired loans of $345,000 at December 31, 2012. Nonperforming assets (nonperforming loans and OREO) totaled $22,195,000$20,261,000 at JuneSeptember 30, 2013, a decrease of $6,063,000$7,997,000 from the total at December 31, 2012.

37

If interest on nonaccrual loans had been accrued, such income would have approximated $135,000$171,000 and $357,000,$495,000, respectively for the sixnine month periods ended JuneSeptember 30, 2013 and 2012.

 

At JuneSeptember 30, 2013 there were no commitments to lend additional funds to borrowers whose loans were classified as nonaccrual.

 

The composition of nonaccrual loans as of September 30, 2013, June 30, 2013, March 31, 2013 and December 31, 2012, and September 30, 2012 was as follows (in thousands):

 

  June
2013
  March
2013
  December
2012
  September
2012
 
     % of     % of     % of     % of 
  Amount  total  Amount  total  Amount  total  Amount  total 
Commercial $648   11.0% $563   8.7% $585   10.0% $800   6.9%
Real estate - commercial  3,669   62.5%  4,355   67.5%  2,962   50.8%  7,663   66.2%
Real estate - construction  450   7.7%  770   11.9%  1,371   23.5%  1,760   15.2%
Real estate - mortgage  622   10.6%  513   8.0%  684   11.7%  966   8.3%
Installment  89   1.5%  93   1.4%  122   2.1%  109   0.9%
Other  393   6.7%  155   2.4%  111   1.9%  275   2.4%
Total nonaccrual loans $5,871   100.0% $6,449   100.0% $5,835   100.0% $11,573   100.0%

  September  June  March  December 
  2013  2013  2013  2012 
     % of     % of     % of     % of 
  Amount  total  Amount  total  Amount  total  Amount  total 
Commercial $582   11.2% $648   11.0% $563   8.7% $585   10.0%
Real estate - commercial  3,391   65.0%  3,669   62.5%  4,355   67.5%  2,962   50.8%
Real estate - construction  438   8.4%  450   7.7%  770   11.9%  1,371   23.5%
Real estate - mortgage  412   7.9%  622   10.6%  513   8.0%  684   11.7%
Installment  82   1.6%  89   1.5%  93   1.4%  122   2.1%
Other  311   6.0%  393   6.7%  155   2.4%  111   1.9%
Total nonaccrual loans $5,216   100.0% $5,871   100.0% $6,449   100.0% $5,835   100.0%

At JuneSeptember 30, 2013, there were eightsix real-estate-commercial loans on nonaccrual totaling $3,669,000,$3,391,000, or 62.5%65.0%, of the nonaccrual loans. The largest real estate-commercial loan is for a commercial real estate property located in Sacramento County for $1,231,000. Charge-offs of $720,000 have been taken on this loan and no specific reserve has been established for this loan. The remaining sevenfive real estate-commercial loans total $2,438,000$2,160,000 (approximate average loan balance of $348,000)$432,000). Charge-offs of $583,000$239,000 have been taken on these loans and no specific reserves have been established for these loans.

 

At JuneSeptember 30, 2013, nonaccrual real-estate-construction loans totaled $450,000,$438,000, or 7.7%8.4%, of the nonaccrual loans. There are two loans that make up the balance. The first loan is a residential construction loan in Shasta County for $325,000. Charge-offs of $286,000 have been taken on this loan and no specific reserve has been established. The second loan is a commercial land loan in Yolo County totaling $125,000.$113,000. Charge-offs of $71,000 have been taken on this loan and no specific reserve has been established.

 

At JuneSeptember 30, 2013, net carrying value of other real estate owned decreased $6,099,000$7,378,000 to $16,324,000$15,045,000 from $22,423,000 at December 31, 2012. During the sixnine month period ending JuneSeptember 30, 2013, the Company transferred fivesix properties into OREO totaling $777,000,$818,000, sold eightten properties totaling $5,745,000,$5,923,000, had write-downs of OREO of $883,000,$2,023,000, and recorded loss on sale of OREO of $248,000.$250,000. As part of the financial close process, valuations of OREO are performed by management and write-downs are recorded as warranted. At JuneSeptember 30, 2013, OREO was comprised of twentyeighteen properties which consisted of the following: three residential construction properties totaling $3,064,000, nine residential land parcels totaling $11,141,000, one$10,041,000, two commercial land parcelparcels for $301,000,$343,000, one commercial construction property totaling $161,000, three non-farm non-residential properties totaling $181,000 and three residential properties totaling $1,476,000.$1,436,000.

Subsequent to September 30, 2013, the Company sold eight OREO properties located in Sonoma County at their recorded value of $9,885,000 which resulted in no additional gain or loss. The transaction closed on October 29, 2013.

 

The following table shows an aging analysis of the loan portfolio by the amount of time past due (in thousands):

  As of June 30, 2013 
   Accruing Interest         
   Current   30-89 DaysPast Due   Greater than90 DaysPast Due   Nonaccrual   Total 
                     
Commercial $48,406  $  $  $648  $49,054 
Real estate - commercial  315,464   73      3,669   319,206 
Real estate - construction  18,085         450   18,535 
Real estate - mortgage  67,993   22      622   68,637 
Installment  5,890   47      89   6,026 
Other  42,154         393   42,547 
Total $497,992  $142  $  $5,871  $504,005 

   As of December 31, 2012 
   Accruing Interest         
   Current   30-89 DaysPast Due   Greater than 90 DaysPast Due   Nonaccrual   Total 
                     
Commercial $45,473  $20  $  $585  $46,078 
Real estate - commercial  292,505   163      2,962   295,630 
Real estate - construction  21,436   196      1,371   23,003 
Real estate - mortgage  72,907   762      684   74,353 
Installment  6,529   38      122   6,689 
Other  45,581   249      111   45,941 
Total $484,431  $1,428  $  $5,835  $491,694 
38
  As of September 30, 2013 
  Accruing Interest       
     Greater than       
     30-89 Days  90 Days       
  Current  Past Due  Past Due  Nonaccrual  Total 
                
Commercial $48,168  $153  $  $582  $48,903 
Real estate - commercial  325,503   73      3,391   328,967 
Real estate - construction  18,843         438   19,281 
Real estate - mortgage  64,766   612      412   65,790 
Installment  5,469   9      82   5,560 
Other  40,434   26      311   40,771 
Total $503,183  $873  $  $5,216  $509,272 
                     
  As of December 31, 2012 
  Accruing Interest       
     Greater than       
     30-89 Days  90 Days       
  Current  Past Due  Past Due  Nonaccrual  Total 
                
Commercial $45,473  $20  $  $585  $46,078 
Real estate - commercial  292,505   163      2,962   295,630 
Real estate - construction  21,436   196      1,371   23,003 
Real estate - mortgage  72,907   762      684   74,353 
Installment  6,529   38      122   6,689 
Other  45,581   249      111   45,941 
Total $484,431  $1,428  $  $5,835  $491,694 

 

A troubled debt restructuring (“TDRs”) is a formal modification of the terms of a loan when the lender, for economic or legal reasons related to the borrower’s financial difficulties, grants a concession to the borrower. The modification of the terms of such loans included one or a combination of the following: a reduction of the stated interest rate of the loan; an extension of the maturity date at a stated rate of interest lower than the current market rate for new debt with similar risk; or a permanent reduction of the recorded investment in the loan.

 

At JuneSeptember 30, 2013, accruing TDRs were $2,485,000$2,248,000 and non-accrualnonaccrual TDRs were $1,170,000$952,000 compared to accruing TDRs of $2,414,000 and non-accrualnonaccrual TDRs of $1,072,000 at December 31, 2012. At JuneSeptember 30, 2013, there were no specific reserves allocated to customers whose loan terms were modified in troubled debt restructurings. There are no commitments to lend additional amounts at JuneSeptember 30, 2013 to customers with outstanding loans that are classified as troubled debt restructurings. There were no TDRs that subsequently defaulted during the twelve months following the modification of terms.

39

The following table present loans that were modified and recorded as TDRs for the three and sixnine months ended JuneSeptember 30, 2013 and 2012.

 

  For the three months ended June 30, 2013  For the six months ended June 30, 2013 
   Number of Contracts   Pre-Modification Outstanding Recorded Investment   Post-Modification Outstanding Recorded Investment   Number ofContracts   Pre-Modification Outstanding Recorded Investment   Post-Modification Outstanding Recorded Investment 
Commercial    $  $   1  $45  $45 
Real estate - commercial    $  $   1  $290  $290 
Real estate-construction    $  $   1  $77  $77 
Real estate - mortgage  1  $201  $201   1  $201  $201 
Other  1  $48  $48   1  $48  $48 

 Three months ended September 30, 2013  Three months ended September 30, 2012 
    Pre-Modification Post-Modification     Pre-Modification Post-Modification 
 Number Outstanding Outstanding Number Outstanding Outstanding 
 of Recorded Recorded of Recorded Recorded 
 Contracts  Investment  Investment  Contracts  Investment  Investment 
Commercial  2  $140  $140     $  $ 
Real estate - construction  1  $114  $114     $  $ 
Real estate - mortgage  1  $116  $116   1  $425  $425 
Other    $  $   1  $26  $26 
                        
 Nine months ended September 30, 2013  Nine months ended September 30, 2012 
    Pre-Modification Post-Modification     Pre-Modification Post-Modification 
 Number Outstanding Outstanding Number Outstanding Outstanding 
 For the three months ended June 30, 2012  For the six months ended June 30, 2012  of Recorded Recorded of Recorded Recorded 
 Number of Contracts  Pre-Modification Outstanding Recorded Investment  Post-Modification Outstanding Recorded Investment  Number of Contracts  Pre-Modification Outstanding Recorded Investment  Post-Modification Outstanding Recorded Investment  Contracts  Investment  Investment  Contracts  Investment  Investment 
Commercial  1  $1,076  $1,076   1  $1,076  $1,076   3  $181  $181   1  $800  $800 
Real estate - commercial  2  $278  $278   2  $278  $278   1  $438  $438   2  $269  $269 
Real estate - construction  1  $114  $114     $  $ 
Real estate - mortgage  2  $326  $326   1  $425  $425 
Installment  1  $25  $25   2  $73  $73     $  $   2  $70  $70 
Other  1  $47  $47   1  $26  $26 

 

A summary of TDRs by type of concession and by type of loan as of JuneSeptember 30, 2013 and December 31, 2012, is shown below:

  June 30, 2013 
   
Accruing TDRs Number of Contracts  Rate Reduction  Maturity Extension  Rate Reduction and Maturity Extension  Total 
Real estate - commercial  5  $  $199  $1,133  $1,332 
Real estate - construction  2  $  $411  $  $411 
Real estate - mortgage  2  $  $295  $420  $715 
Installment  1  $  $  $27  $27 

  June 30, 2013 
Nonaccrual TDRs Number of Contracts  Rate Reduction  Maturity Extension  Rate Reduction and Maturity Extension  Total 
Commercial  2  $  $  $518  $518 
Real estate - commercial  1  $  $  $290  $290 
Real estate - mortgage  1  $  $  $201  $201 
Installment  3  $  $  $89  $89 
Other  2  $  $  $72  $72 

  December 31, 2012 
Accruing TDRs  Number of Contracts   Rate Reduction   Maturity Extension   Rate Reduction and Maturity Extension   Total 
Real estate - commercial  5  $202  $  $1,148  $1,350 
Real estate-construction  1  $  $343  $  $343 
Real estate - mortgage  2  $  $298  $423  $721 

  December 31, 2012 
Nonaccrual TDRs  Number of Contracts   Rate Reduction   Maturity Extension   Rate Reduction and Maturity Extension   Total 
Commercial  1  $  $  $529  $529 
Real estate-construction  2  $327  $71  $  $398 
Installment  4  $  $  $120  $120 
Other  1  $  $  $25  $25 

  September 30, 2013 
Accruing TDRs          Rate    
           Reduction    
  Number        and    
  of  Rate  Maturity  Maturity    
  Contracts  Reduction  Extension  Extension  Total 
Real estate - commercial  5  $  $197  $696  $893 
Real estate - construction  2  $  $405  $  $405 
Real estate - mortgage  3  $  $294  $628  $922 
Installment  1  $  $  $28  $28 
                     
  September 30, 2013 
Nonaccrual TDRs          Rate    
           Reduction    
  Number        and    
  of  Rate  Maturity  Maturity    
  Contracts  Reduction  Extension  Extension  Total 
Commercial  4  $16  $  $566  $582 
Real estate - commercial    $  $  $  $ 
Real estate - construction  1  $  $114  $  $114 
Real estate - mortgage  1  $  $  $116  $116 
Installment  3  $  $  $70  $70 
Other  2  $  $  $70  $70 
                     
  December 31, 2012 
Accruing TDRs          Rate    
           Reduction    
  Number        and    
  of  Rate  Maturity  Maturity    
  Contracts  Reduction  Extension  Extension  Total 
Real estate - commercial  5  $202  $  $1,148  $1,350 
Real estate - construction  1  $  $343  $  $343 
Real estate - mortgage  2  $  $298  $423  $721 
                     
  December 31, 2012 
Nonaccrual TDRs          Rate    
           Reduction    
  Number        and    
  of  Rate  Maturity  Maturity    
  Contracts  Reduction  Extension  Extension  Total 
Commercial  1  $  $  $529  $529 
Real estate - construction  2  $327  $71  $  $398 
Installment  4  $  $  $120  $120 
Other  1  $  $  $25  $25 

40
 

Allowance for Loan Losses

 

The following table shows the changes in the allowance for loan losses were as follows (in thousands):

 

  For the three months ended June 30, 2013 
      Real Estate  Real Estate  Real Estate                
  Commercial  Commercial  Construction  Mortgage  Installment  Other   Unallocated Total 
                                 
Allowance for Loan Losses                                
Balance March 31, 2013 $1,170  $5,720  $595  $938  $87  $676  $465  $9,651 
Charge-offs  (26)  (3)     (46)  (17)  (55)      (147)
Recoveries  16      1   2   4          23 
Provisions for loan losses  (313)  (230)  (157)  26   93   299   282    
Balance June 30, 2013 $847  $5,487  $439  $920  $167  $920  $747  $9,527 

  For the three months ended June 30, 2012 
      Real Estate  Real Estate  Real Estate                 
  Commercial  Commercial  Construction  Mortgage  Installment  Other  Unallocated  Total 
                                 
Allowance for Loan Losses                                
Balance March 31, 2012 $1,376  $6,847  $1,350  $1,045  $154  $811  $691  $12,274 
Charge-offs  (86)  (1,178)  (126)  (190)  (45)  (47)      (1,672)
Recoveries  14   2   37   36   41          130 
Provisions for loan losses  (44)  915   126   34   (9)  4   (26)  1,000 
Balance June 30, 2012 $1,260  $6,586  $1,387  $925  $141  $768  $665  $11,732 

  For the six months ended June 30, 2013 
      Real Estate  Real Estate  Real Estate                 
  Commercial  Commercial  Construction  Mortgage  Installment  Other  Unallocated  Total 
                                 
Allowance for Loan Losses                                
Balance December 31, 2012 $843  $6,295  $690  $982  $98  $721  $829  $10,458 
Charge-offs  (109)  (440)  (369)  (202)  (28)  (55)      (1,203)
Recoveries  258      3   2   9          272 
Provisions for loan losses  (145)  (368)  115   138   88   254   (82)   
Balance June 30, 2013 $847  $5,487  $439  $920  $167  $920  $747  $9,527 
                                 
   As of June 30, 2013 
Reserve to impaired loans $88  $  $  $164  $  $140      $392 
Reserve to non-impaired loans $759  $5,487  $439  $756  $167  $780  $747  $9,135 

 For the three months ended September 30, 2013 
   Real Estate Real Estate Real Estate          
 Commercial  Commercial  Construction  Mortgage  Installment  Other  Unallocated  Total 
                 
Allowance for Loan Losses                                
Balance June 30, 2013 $847  $5,487  $439  $920  $167  $920  $747  $9,527 
Charge-offs  (22)     (20)  (34)  (40)  (174)      (290)
Recoveries  18   48      1   8          75 
Provisions for loan losses  (93)  138   16   (23)  15   110   (163)   
Balance September 30, 2013 $750  $5,673  $435  $864  $150  $856  $584  $9,312 
                                
 For the three months ended September 30, 2012 
   Real Estate Real Estate Real Estate          
 Commercial  Commercial  Construction  Mortgage  Installment  Other  Unallocated  Total 
                 
Allowance for Loan Losses                                
Balance June 30, 2012 $1,260  $6,586  $1,387  $925  $141  $768  $665  $ 11,732 
Charge-offs  (250)  (113)  (492)  (143)  (48)  (48)      (1,094)
Recoveries  13      43   1   29   3       89 
Provisions for loan losses  (261)  435   (23)  422      60   67   700 
Balance September 30, 2012 $762  $6,908  $915  $1,205  $122  $783  $732  $11,427 
                                
 For the nine months ended September 30, 2013 
   Real Estate Real Estate Real Estate          
 Commercial  Commercial  Construction  Mortgage  Installment  Other  Unallocated  Total 
                 
Allowance for Loan Losses                                
Balance December 31, 2012 $843  $6,295  $690  $982  $98  $721  $829  $ 10,458 
Charge-offs  (131)  (438)  (389)  (236)  (68)  (229)      (1,491)
Recoveries  276   46   3   3   17          345 
Provisions for loan losses  (238)  (230)  131   115   103   364   (245)   
Balance September 30, 2013 $750  $5,673  $435  $864  $150  $856  $584  $9,312 
                                
 As of September 30, 2013 
Reserve to impaired loans $16  $  $  $164  $  $  $  $180 
Reserve to non-impaired loans $734  $5,673  $435  $700  $150  $856  $584  $9,132 
                                
 For the six months ended June 30, 2012  For the nine months ended September 30, 2012 
  Real Estate Real Estate Real Estate     Real Estate Real Estate Real Estate          
 Commercial  Commercial  Construction  Mortgage  Installment  Other  Unallocated  Total  Commercial  Commercial  Construction  Mortgage  Installment  Other  Unallocated  Total 
                                                 
Allowance for Loan Losses                                                                
Balance December 31, 2011 $1,333  $7,528  $1,039  $935  $185  $736  $900  $12,656  $1,333  $7,528  $1,039  $935  $185  $736  $900  12,656 
Charge-offs  (206)  (1,617)  (330)  (190)  (142)  (72)      (2,557)  (456)  (1,730)  (822)  (333)  (190)  (120)      (3,651)
Recoveries  26   63   37   36   65   6       233   39   63   80   37   94   9       322 
Provisions for loan losses  107   612   641   144   33   98   (235)  1,400   (154)  1,047   618   566   33   158   (168)  2,100 
Balance June 30, 2012 $1,260  $6,586  $1,387  $925  $141  $768  $665  $11,732 
Balance September 30, 2012 $762  $6,908  $915  $1,205  $122  $783  $732  $11,427 
                                                                
  As of June 30, 2012  As of September 30, 2012 
Reserve to impaired loans $240  $99  $529  $35  $  $      $903  $  $417  $  $50  $  $      $467 
Reserve to non-impaired loans $1,020  $6,487  $858  $890  $141  $768  $665  $10,829  $762  $6,491  $915  $1,155  $122  $783  $732  $ 10,960 
                                                                
  As of December 31, 2012  As of December 31, 2012 
Reserve to impaired loans $  $171  $18  $  $  $      $189  $  $171  $18  $  $  $      $189 
Reserve to non-impaired loans $843  $6,124  $672  $982  $98  $721  $829  $10,269  $843  $6,124  $672  $982  $98  $721  $829  $ 10,269 

 

The following table shows the loan portfolio by segment was as follows (in thousands):

 

  As of June 30, 2013 
      Real Estate  Real Estate  Real Estate             
  Commercial  Commercial  Construction  Mortgage  Installment  Other  Total 
                             
Total Loans $49,054  $319,206  $18,535  $68,637  $6,026  $42,547  $504,005 
Impaired Loans $648  $5,002  $860  $1,337  $116  $393  $8,356 
Non-impaired loans $48,406  $314,204  $17,675  $67,300  $5,910  $42,154  $495,649 

  As of December 31, 2012 
      Real Estate  Real Estate  Real Estate             
  Commercial  Commercial  Construction  Mortgage  Installment  Other  Total 
                             
Total Loans $46,078  $295,630  $23,003  $74,353  $6,689  $45,941  $491,694 
Impaired Loans $585  $2,962  $1,371  $684  $122  $111  $5,835 
Non-impaired loans $45,493  $292,668  $21,632  $73,669  $6,567  $45,830  $485,859 

  As of September 30, 2013 
     Real Estate  Real Estate  Real Estate          
  Commercial  Commercial  Construction  Mortgage  Installment  Other  Total 
                      
Total Loans $48,903  $328,967  $19,281  $65,790  $5,560  $40,771  $509,272 
Impaired Loans $582  $4,283  $843  $1,335  $110  $311  $7,464 
Non-impaired loans $48,321  $324,684  $18,438  $64,455  $5,450  $ 40,460  $  501,808 
                             
  As of December 31, 2012 
     Real Estate  Real Estate  Real Estate          
  Commercial  Commercial  Construction  Mortgage  Installment  Other  Total 
                      
Total Loans $46,078  $295,630  $23,003  $74,353  $6,689  $45,941  $491,694 
Impaired Loans $585  $2,962  $1,371  $684  $122  $111  $5,835 
Non-impaired loans $45,493  $292,668  $21,632  $73,669  $6,567  $45,830  $ 485,859 
41

The following table shows the loan portfolio allocated by management'smanagement’s internal risk ratings (in thousands):

 

  As of June 30, 2013 
   Pass   Special Mention   Substandard   Doubtful   Total 
Commercial $46,828  $1,035  $1,191  $  $49,054 
Real estate - commercial  304,743   2,780   11,683      319,206 
Real estate - construction  18,037      498      18,535 
Real estate - mortgage  67,596      1,041      68,637 
Installment  5,907      119      6,026 
Other  41,957      590      42,547 
Total $485,068  $3,815  $15,122  $  $504,005 

  As of December 31, 2012 
   Pass   Special Mention   Substandard   Doubtful   Total 
Commercial $44,486  $129  $1,463  $  $46,078 
Real estate - commercial  278,834      16,796      295,630 
Real estate - construction  21,386      1,617      23,003 
Real estate - mortgage  71,973      2,380      74,353 
Installment  6,562      127      6,689 
Other  45,658      283      45,941 
Total $468,899  $129  $22,666  $  $491,694 

  As of September 30, 2013 
  Pass  Special Mention  Substandard  Doubtful  Total 
Commercial $47,201  $726  $976  $  $48,903 
Real estate - commercial  315,132   3,238   10,597      328,967 
Real estate - construction  18,843      438      19,281 
Real estate - mortgage  64,750      1,040      65,790 
Installment  5,448      112      5,560 
Other  40,263      508      40,771 
Total $491,637  $3,964  $13,671  $  $509,272 
                     
  As of December 31, 2012 
  Pass  Special Mention  Substandard  Doubtful  Total 
Commercial $44,486  $129  $1,463  $  $46,078 
Real estate - commercial  278,834      16,796      295,630 
Real estate - construction  21,386      1,617      23,003 
Real estate - mortgage  71,973      2,380      74,353 
Installment  6,562      127      6,689 
Other  45,658      283      45,941 
Total $468,899  $129  $22,666  $  $491,694 

The allowance for loan losses is established through a provision for loan losses based on management’s evaluation of the probable incurred losses in the loan portfolio. In determining levels of risk, management considers a variety of factors, including, but not limited to, asset classifications, economic trends, industry experience and trends, geographic concentrations, estimated collateral values, historical loan loss experience, and the Company’s underwriting policies. At June 30,During the second quarter of 2013, there was a change in the Bank’s method of calculating the historical loss factors applied to loans identified as “homogenous segments” of the loan portfolio as follows: Losses from the past twelve quarters are applied to loan pools based on a “Migration Analysis” method. The method calculates Net Charge Offs (charge offs less corresponding recoveries) and measures them against average balances in loan pools based on the risk grade in effect on charged-off loans four quarters prior to the actual charge off date. The logic behind this four quarter “look back” is to account for management’s estimate of the typical time lapse between the recognition of the problem loan and the recognition of some or all of the loan as uncollectable. In addition, the loss ratios are calculated using “factored” logic which systematically reduces the Net Charge Off value so that charge offs occurring in older periods do not have as much weight as more recent charge offs. Previously, management utilized a methodology which also utilized the Company’s charge-off history from the previous twelve quarters but did not consider the risk grade of those loans related to the charge-off. This modification had the effect of increasing the quantitative loss component of the allowance by $1,446,000. Management of the Company believes that, given the recent trends in historical losses and the correlation of those losses with a loans identified risk grade, that incorporation of a migration analysis in the current and future analyses was a prudent refinement of the allowance methodology. In addition, management believebelieves that the decreases in the overall level of the allowance for loan losses over the past several quarters is directionally consistent with the improving credit quality trends of the loan portfolio. The allowance for loan losses is maintained at an amount management considers adequate to cover the probable incurred losses in loans receivable. While management uses the best information available to make these estimates, future adjustments to allowances may be necessary due to economic, operating, regulatory, and other conditions that may be beyond the Company’s control. The Company also engages a third party credit review consultant to analyze the Company’s loan loss adequacy periodically. In addition, the regulatory agencies, as an integral part of their examination process, periodically review the Company’s allowance for loan losses. Such agencies may require the Company to recognize additions to the allowance based on judgments different from those of management.

 

The allowance for loan losses is comprised of several components including the specific, formula and unallocated allowance relating to loans in the loan portfolio. Our methodology for determining the allowance for loan losses consists of several key elements, which include:

 

Specific Allowances. A specific allowance is established when management has identified unique or particular risks that were related to a specific loan that demonstrated risk characteristics consistent with impairment. Specific allowances are established when management can estimate the amount of an impairment of a loan. As of September 30, 2013 the Company had total impaired loans of $7,464,000 of which $180,000 had $180,000 in specific allowances recorded against them. As of December 31, 2012 the Company had total impaired loans of $5,835,000 of which $345,000 had $189,000 in specific allowances recorded against them. The ratio of specific allowances to total impaired loans was 2.41% and 3.24% at September 30, 2013 and December 31, 2012, respectively.

42
Formula Allowance. The formula allowance is calculated using a “Migration Analysis” method as defined above applied to homogenous pools of loans. Changes in risk grades of both performing and nonperforming loans affect the amount of the formula allowance. Loss factors are based on our historical loss experience and such other data as management believes to be pertinent. Management, also, considers a variety of subjective factors, including regional economic and business conditions that impact important segments of our portfolio, loan growth rates, the depth and skill of lending staff, the interest rate environment, and the results of bank regulatory examinations and findings of our internal credit examiners to establish the formula allowance. As of September 30, 2013, the Company had total non-impaired loans of $501,808,000 for which a formula allowance totaling $9,132,000 was recorded. As of December 31, 2012 the Company had total non-impaired loans of $485,859,000 for which a formula allowance totaling $10,269,000 was recorded. The ratio of formula allowances to total non-impaired loans was 1.82% and 2.11% at September 30, 2013 and December 31, 2012, respectively. The decline in this ratio for the nine month period ended September 30, 2013 was due to the overall improvement in credit quality of the Company’s loan portfolio and more specifically, the decline in net charge-offs and reductions in the level of classified (substandard) loans.

 

Unallocated Allowance. The unallocated loan loss allowance represents an amount for imprecision or uncertainty that is inherent in estimates used to determine the allowance.

 

The Company also maintains a separate allowance for off-balance-sheet commitments. A reserve for unfunded commitments is maintained at a level that, in the opinion of management, is adequate to absorb probable losses associated with commitments to lend funds under existing agreements, for example, the Bank’s commitment to fund advances under lines of credit. The reserve amount for unfunded commitments is determined based on our methodologies described above with respect to the formula allowance. The allowance for off-balance-sheet commitments is included in accrued interest payable and other liabilities on the consolidated balance sheet and was $146,000 and $143,000 for the periods ended Juneat September 30, 2013 and December 31, 2012, respectively.

 

Deposits

 

Total deposits decreased $3,525,000increased $11,190,000 to $765,055,000$779,770,000 at JuneSeptember 30, 2013 compared to $768,580,000 at December 31, 2012. During the sixnine months ended JuneSeptember 30, 2013, savings and money market deposits increased $6,910,000 and$11,005,000, interest-bearing demand deposits increased $8,757,000, while$12,332,000, and noninterest-bearing demand deposits decreased $4,736,000 andincreased $6,616,000 while certificates of deposit decreased $14,456,000.$18,763,000. There were no changes in the deposit products or deposit promotions offered by the Company during the sixnine months ended JuneSeptember 30, 2013.

 

  June 30, 2013  December 31, 2012 
Noninterest-bearing demand $173,119  $177,855 
Interest-bearing demand  194,072   185,315 
Savings and money market  239,944   233,034 
Time certificates  157,920   172,376 
Total deposits $765,055  $768,580 

  September 30,  December 31, 
  2013     2012 
Noninterest-bearing demand $184,471  $177,855 
Interest-bearing demand  197,647   185,315 
Savings and money market  244,039   233,034 
Time certificates  153,613   172,376 
Total deposits $779,770  $768,580 

 

Capital Resources

 

The Company maintains capital to support future growth and maintain financial strength while trying to effectively manage the capital on hand. From the depositor standpoint, a greater amount of capital on hand relative to total assets is generally viewed as positive. At the same time, from the standpoint of the shareholder, a greater amount of capital on hand may not be viewed as positive because it limits the Company’s ability to earn a high rate of return on stockholders’ equity (ROE). Stockholders'Stockholders’ equity decreased $3,415,000$1,087,000 to $92,746,000$95,074,000 as of JuneSeptember 30, 2013, as compared to $96,161,000 at December 31, 2012. The decrease was the result of net income of $2,155,000, a change in accumulated other comprehensive loss of $5,761,000$4,144,000, which was partially offset by net income of $2,735,000 and stock based compensation expense of $191,000,$322,000, all during the first sixnine months of 2013. Under current regulations, management believes that the Company meets all capital adequacy requirements.

 

On June 26, 2013, the Company announced that its Board of Directors has authorized the repurchase of up to 5% of the Company’s outstanding common shares, or approximately 340,000 shares. During the sixnine month period ended JuneSeptember 30, 2013, there were no repurchases of common stock. Future repurchases will be made from time to time by the Company in the open market, or privately negotiated transactions, as conditions allow. All open market transactions will be structured to comply with Securities and Exchange Commission Rule 10b-18 and all shares repurchased under this program will be retired. The number, price and timing of the repurchases shall be at the Company’s sole discretion and the program will be re-evaluated from time to time depending on market conditions, liquidity needs or other factors. The Board of Directors, based on such re-evaluations, may suspend, terminate, modify or cancel the program at any time without notice.

 

The Company’s and NVB’s capital amounts and risk-based capital ratios are presented below (in thousands).

43
              To be Well Capitalized 
        For Capital  Under Prompt Corrective 
        Adequacy Purposes  Action Provisions 
  Actual  Minimum  Minimum  Minimum  Minimum 
  Amount  Ratio  Amount  Ratio  Amount  Ratio 
Company                        
As of September 30, 2013                        
Total capital (to risk weighted assets) $117,597   18.58% $50,634   8.00%  N/A   N/A 
Tier 1 capital (to risk weighted assets) $109,665   17.32% $25,327   4.00%  N/A   N/A 
Tier 1 capital (to average assets) $109,665   12.21% $35,926   4.00%  N/A   N/A 
                         
As of December 31, 2012:                        
Total capital (to risk weighted assets) $113,028   18.28% $49,465   8.00%  N/A   N/A 
Tier 1 capital (to risk weighted assets) $105,211   17.01% $24,741   4.00%  N/A   N/A 
Tier 1 capital (to average assets) $105,211   11.77% $35,756   4.00%  N/A   N/A 
                         
North Valley Bank                        
As of September 30, 2013:                        
Total capital (to risk weighted assets) $117,171   18.54% $50,559   8.00% $63,199   10.00%
Tier 1 capital (to risk weighted assets) $109,252   17.29% $25,275   4.00% $37,913   6.00%
Tier 1 capital (to average assets) $109,252   12.17% $35,909   4.00% $44,886   5.00%
                         
As of December 31, 2012:                        
Total capital (to risk weighted assets) $112,938   18.26% $49,480   8.00% $61,850   10.00%
Tier 1 capital (to risk weighted assets) $105,122   17.00% $24,735   4.00% $37,102   6.00%
Tier 1 capital (to average assets) $105,122   11.76% $35,756   4.00% $44,695   5.00%

     For CapitalAdequacy Purposes  To be Well Capitalized Under Prompt Corrective Action Provisions
  Actual  Minimum  Minimum  Minimum  Minimum 
  Amount  Ratio  Amount  Ratio  Amount  Ratio 
Company               
As of June 30, 2013               
Total capital (to risk weighted assets) $116,607   18.58% $50,208   8.00%  N/A   N/A 
Tier 1 capital (to risk weighted assets) $108,740   17.33% $25,099   4.00%  N/A   N/A 
Tier 1 capital (to average assets) $108,740   12.11% $35,917   4.00%  N/A   N/A 
                         
As of December 31, 2012:                        
Total capital (to risk weighted assets) $113,028   18.28% $49,465   8.00%  N/A   N/A 
Tier 1 capital (to risk weighted assets) $105,211   17.01% $24,741   4.00%  N/A   N/A 
Tier 1 capital (to average assets) $105,211   11.77% $35,756   4.00%  N/A   N/A 
                         
North Valley Bank                        
As of June 30, 2013:                        
Total capital (to risk weighted assets) $115,864   18.48% $50,158   8.00% $62,697   10.00%
Tier 1 capital (to risk weighted assets) $108,005   17.23% $25,074   4.00% $37,611   6.00%
Tier 1 capital (to average assets) $108,005   12.04% $35,882   4.00% $44,853   5.00%
                         
As of December 31, 2012:                        
Total capital (to risk weighted assets) $112,938   18.26% $49,480   8.00% $61,850   10.00%
Tier 1 capital (to risk weighted assets) $105,122   17.00% $24,735   4.00% $37,102   6.00%
Tier 1 capital (to average assets) $105,122   11.76% $35,756   4.00% $44,695   5.00%

 

Liquidity

 

The objective of liquidity management is to ensure the continuous availability of funds to meet the demands of depositors and borrowers. Collection of principal and interest on loans, the liquidations and maturities of investment securities, deposits with other banks, customer deposits and short term borrowings, when needed, are primary sources of funds that contribute to liquidity. As of JuneSeptember 30, 2013, $21,651,000 was outstanding in the form of subordinated debentures issued by the Company. Unused lines of credit with correspondent banks to provide federal funds of $10,000,000 as of JuneSeptember 30, 2013 were also available to provide liquidity. In addition, NVB is a member of the Federal Home Loan Bank providing additional unused borrowing capacity of $260,527,000$269,119,000 secured by certain loans and investment securities as of JuneSeptember 30, 2013. The Company also has an unused line of credit with the Federal Reserve Bank of San Francisco of $2,632,000$2,333,000 secured by investment securities.

 

The Company manages both assets and liabilities by monitoring asset and liability mixes, volumes, maturities, yields and rates in order to preserve liquidity and earnings stability. Total liquid assets (cash and due from banks, Federal funds sold and available for sale investment securities) totaled $327,731,000$319,752,000 and $324,334,000 (or 35.7%35.0% and 35.9% of total assets) at JuneSeptember 30, 2013 and December 31, 2012, respectively.

 

Core deposits, defined as demand deposits, interest bearing demand deposits, regular savings, money market deposit accounts and time deposits of less than $100,000, continue to provide a relatively stable and low cost source of funds. Core deposits totaled $691,109,000$707,711,000 and $686,544,000 at JuneSeptember 30, 2013 and December 31, 2012, respectively.

 

In assessing liquidity, historical information such as seasonal loan demand, local economic cycles and the economy in general are considered along with current ratios, management goals and unique characteristics of the Company. Management believes the Company is in compliance with its policies relating to liquidity.

 

Interest Rate Sensitivity

 

Overview. The Company constantly monitors earning asset and deposit levels, developments and trends in interest rates, liquidity, capital adequacy and marketplace opportunities with the view towards maximizing shareholder value and earnings while maintaining a high quality balance sheet without exposing the Company to undue market risk. Management responds to all of these to protect and possibly enhance net interest income while managing risks within acceptable levels as set forth in the Company’s policies. In addition, alternative business plans and contemplated transactions are also analyzed for their impact. This process, known as asset/liability management is carried out by changing the maturities and relative proportions of the various types of loans, investments, deposits and other borrowings.

 

Market Risk. Market risk results from the fact that the market values of assets or liabilities on which the interest rate is fixed will increase or decrease with changes in market interest rates. If the Company invests in a fixed-rate, long term security and then interest rates rise, the security is worth less than a comparable security just issued because the older security pays less interest than the newly issued security. If the security had to be sold before maturity, then the Company would incur a loss on the sale. Conversely, if interest rates fall after a fixed-rate security is purchased, its value increases, because it is paying at a higher rate than newly issued securities. The fixed rate liabilities of the Company, like certificates of deposit and fixed-rate borrowings, also change in value with changes in interest rates. As rates drop, they become more valuable to the depositor and hence more costly to the Company. As rates rise, they become more valuable to the Company. Therefore, while the value changes when rates move in either direction, the adverse impacts of market risk to the Company’s fixed-rate assets are due to rising rates and for the Company’s fixed-rate liabilities, they are due to falling rates. In general, the change in market value due to changes in interest rates is greater in financial instruments that have longer remaining maturities. Therefore, the exposure to market risk of assets is lessened by managing the amount of fixed-rate assets and by keeping maturities relatively short. These steps, however, must be balanced against the need for adequate interest income because variable-rate and shorter-term assets generally yield less interest than longer-term or fixed-rate assets.

44

Mismatch Risk.. The second interest-related risk, mismatched risk, arises from the fact that when interest rates change, the changes do not occur equally in the rates of interest earned and paid because of differences in the contractual terms of the assets and liabilities held. A difference in the contractual terms, a mismatch, can cause adverse impacts on net interest income.

 

The Company has a certain portion of its loan portfolio tied to the national prime rate. If these rates are lowered because of general market conditions, e.g., the prime rate decreases in response to a rate decrease by the Federal Reserve Open Market Committee (“FOMC”), these loans will be repriced. If the Company were at the same time to have a large proportion of its deposits in long-term fixed-rate certificates, interest earned on loans would decline while interest paid on the certificates would remain at higher levels for a period of time until they mature. Therefore, net interest income would decrease immediately. A decrease in net interest income could also occur with rising interest rates if the Company had a large portfolio of fixed-rate loans and securities that was funded by deposit accounts on which the rate is steadily rising.

 

This exposure to mismatch risk is managed by attempting to match the maturities and repricing opportunities of assets and liabilities. This may be done by varying the terms and conditions of the products that are offered to depositors and borrowers. For example, if many depositors want shorter-term certificates while most borrowers are requesting longer-term fixed rate loans, the Company will adjust the interest rates on the certificates and loans to try to match up demand for similar maturities. The Company can then partially fill in mismatches by purchasing securities or borrowing funds from the Federal Home Loan Bank with the appropriate maturity or repricing characteristics.

 

Basis Risk. The third interest-related risk, basis risk, arises from the fact that interest rates rarely change in a parallel or equal manner. The interest rates associated with the various assets and liabilities differ in how often they change, the extent to which they change, and whether they change sooner or later than other interest rates. For example, while the repricing of a specific asset and a specific liability may occur at roughly the same time, the interest rate on the liability may rise one percent in response to rising market rates while the asset increases only one-half percent. While the Company would appear to be evenly matched with respect to mismatch risk, it would suffer a decrease in net interest income. This exposure to basis risk is the type of interest risk least able to be managed, but is also the least dramatic. Avoiding concentrations in only a few types of assets or liabilities is the best means of increasing the chance that the average interest received and paid will move in tandem. The wider diversification means that many different rates, each with their own volatility characteristics, will come into play.

 

Net Interest Income and Net Economic Value Simulations.. The tool used to manage and analyze the interest rate sensitivity of a financial institution is known as a simulation model and is performed with specialized software built for this specific purpose for financial institutions. This model allows management to analyze the three specific types of risks; market risk, mismatch risk, and basis risk.

 

To quantify the extent of all of these risks both in its current position and in transactions it might make in the future, the Company uses computer modeling to simulate the impact of different interest rate scenarios on net interest income and on net economic value. Net economic value or the market value of portfolio equity is defined as the difference between the market value of financial assets and liabilities. These hypothetical scenarios include both sudden and gradual interest rate changes, and interest rate changes in both directions. This modeling is the primary means the Company uses for interest rate risk management decisions.

 

The hypothetical impact of sudden interest rate shocks applied to the Company’s asset and liability balances are modeled quarterly. The results of this modeling indicate how much of the Company’s net interest income and net economic value are “at risk” (deviation from the base level) from various sudden rate changes. This exercise is valuable in identifying risk exposures. The results for the Company’s most recent simulation analysis indicate that the Company’s net interest income at risk over a one-year period and net economic value at risk from 2% shocks are within normal expectations for sudden changes and do not materially differ from those of JuneSeptember 30, 2013.

 

For this simulation analysis, the Company has made certain assumptions about the duration of its non-maturity deposits that are important to determining net economic value at risk.

45

ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

 

In management’s opinion, there has not been a material change in the Company’s market risk profile for the sixnine months ended JuneSeptember 30, 2013 compared to December 31, 2012. Please see discussion under the caption “Interest Rate Sensitivity” onpage 44.44.

 

ITEM 4.CONTROLS AND PROCEDURES

 

Disclosure Controls and Procedures

 

Disclosure controls and procedures are designed with the objective of ensuring that information required to be disclosed in reports filed by the Company under the Exchange Act, such as this Quarterly Report, is recorded, processed, summarized and reported within the time periods specified in the rules and forms of the Securities and Exchange Commission. Disclosure controls and procedures are also designed with the objective of ensuring that such information is accumulated and communicated to management, including the Chief Executive Officer and the Chief Financial Officer, as appropriate to allow timely decisions regarding required disclosure.

 

Evaluation of Disclosure Controls and Procedures

 

The Company'sCompany’s management, including the Chief Executive Officer and the Chief Financial Officer, evaluated the Company'sCompany’s disclosure controls and procedures (as defined in Rule 13a-15(e) under the Exchange Act) as of JuneSeptember 30, 2013. Based on this evaluation, the Chief Executive Officer and the Chief Financial Officer concluded that the Company'sCompany’s disclosure controls and procedures are effective.

 

Internal Control over Financial Reporting

 

Management of the Company is responsible for establishing and maintaining adequate internal control over financial reporting for the Company. There was no change in the Company’s internal control over financial reporting that occurred during the quarter ended JuneSeptember 30, 2013 that has materially affected or is reasonable likely to materially affect, the Company’s internal control over financial reporting.

 

PART II - OTHER INFORMATION

 

ITEM 1.LEGAL PROCEEDINGS

 

There are no material legal proceedings pending against the Company or against any of its property. The Company, because of the nature of its business, is generally subject to various legal actions, threatened or filed, which involve ordinary, routine litigation incidental to its business. Although the amount of the ultimate exposure, if any, cannot be determined at this time, the Company does not expect that the final outcome of threatened or filed suits will have a materially adverse effect on its consolidated financial position.

 

ITEM 1A.RISK FACTORS

 

There have been no material changes from risk factors as previously disclosed by the Company in its response to Item 1A of Part 1 of Form 10-K for the fiscal year ended December 31, 2012.

 

ITEM 2.UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS

 

Not applicable

 

ITEM 3.DEFAULTS UPON SENIOR SECURITIES

 

Not applicable

 

ITEM 4.MINE SAFETY DISCLOSURES

 

Not applicable

 

ITEM 5.OTHER INFORMATION

 

None

46

ITEM 6.EXHIBITS

 

31Rule 13a-14(a) / 15d-14(a) Certifications
32Section 1350 Certifications
101.INSXBRL Instance Document (furnished herewith)*
101.SCHXBRL Taxonomy Extension Schema Document (furnished herewith)*
101.CALXBRL Taxonomy Extension Calculation Linkbase Document (furnished herewith)*
101.DEFXBRL Taxonomy Extension Definition Linkbase Document (furnished herewith)*
101.LABXBRL Taxonomy Extension Label Linkbase Document (furnished herewith)*
101.PREXBRLTaxonomy Extension Presentation Linkbase Document (furnished herewith)*

 

*The interactive data files listed above shall not be deemed filed for purposes of Section 11 or 12 of the Securities Act of 1933, as amended, or Section 18 of the Securities Exchange Act of 1934, as amended, or otherwise subject to liability under those sections.

 

SIGNATURES

 

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.

 

NORTH VALLEY BANCORP

(Registrant)

Date       August 5, 2013   

(Registrant)

  
DateNovember 8, 2013
By: 
 
/s/ Michael J. Cushman 
Michael J. Cushman
President & Chief Executive Officer
(Principal Executive Officer)
 
/s/ Kevin R. Watson 
Kevin R. Watson
Executive Vice President & Chief Financial Officer
(Principal Financial Officer & Principal Accounting Officer)Officer)

47

47