UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended: June 30, 2008
or
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from __________ to __________
Commission File No: 000-49844
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TEMECULA VALLEY BANCORP INC.
(Exact name of registrant as specified in its charter)
California 46-0476193
(State or other jurisdiction of incorporate or organization) (I.R.S. Employer Identification No.)
27710 Jefferson Avenue, Suite A100
Temecula, California 92590
(Address of principal executive offices)(Zip Code)
(951) 694-9940
(Registrant's telephone number, including area code)
None
(Former name, former address and former fiscal year, if changed since last report)
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.Yes [X] No [ ]
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of “accelerated filer and large accelerated filer” in Rule 12b-2 of the Exchange Act.
Large accelerated filer [ ] Accelerated Filer [X] Non-accelerated filer [ ] Small Company Reporter [ ]
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).
Yes [ ] No [X]
As of August 8, 2008, there were 10,038,267 shares of the registrant’s common stock, no par value per share, outstanding.
1
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TABLE OF CONTENTS
PART I – FINANCIAL INFORMATION | 3 |
ITEM 1 – FINANCIAL STATEMENTS (UNAUDITED) | 3 |
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) | 7 |
ITEM 2 – MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS | 10 |
OVERVIEW | 10 |
FINANCIAL CONDITION | 12 |
RESULTS OF OPERATIONS | 19 |
LIQUIDITY | 25 |
CAPITAL PLANNING | 27 |
CRITICAL ACCOUNTING POLICIES AND ESTIMATES | 27 |
LOAN COMMITMENTS AND RELATED FINANCIAL INSTRUMENTS | 27 |
ITEM 3 – QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK | 29 |
ITEM 4 – CONTROLS AND PROCEDURES | 29 |
PART II - OTHER INFORMATION | 29 |
ITEM 1. LEGAL PROCEEDINGS | 29 |
ITEM 1A. RISK FACTORS | 29 |
ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS | 30 |
ITEM 3. DEFAULTS UPON SENIOR SECURITIES | 30 |
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS | 31 |
ITEM 5. OTHER INFORMATION | 31 |
ITEM 6. EXHIBITS | 32 |
SIGNATURES | 32 |
2
PART I – FINANCIAL INFORMATION
ITEM 1 – FINANCIAL STATEMENTS (Unaudited)
TEMECULA VALLEY BANCORP INC.
Consolidated Statements of Financial Condition
(Unaudited)
June 30, 2008 | December 31, 2007 | |||||||
ASSETS | (dollars in thousands, except share data) | |||||||
Cash and Due from Banks | $ | 13,464 | $ | 13,210 | ||||
Federal Funds Sold | - - | 4,220 | ||||||
TOTAL CASH AND CASH EQUIVALENTS | 13,464 | 17,430 | ||||||
Interest-bearing deposits in financial institutions | 1,000 | 1,000 | ||||||
Investment securities available-for-sale | 39,685 | - - | ||||||
Investment securities held-to-maturity (fair value of $2,968 at June 30, 2008 and $3,046 at December 31, 2007) | 2,964 | 2,981 | ||||||
Loans Held for Sale | 222,741 | 207,391 | ||||||
Loans: | ||||||||
Commercial | 80,085 | 68,761 | ||||||
Real Estate – Construction | 506,253 | 481,849 | ||||||
Real Estate – Other | 247,320 | 229,123 | ||||||
SBA | 260,499 | 242,514 | ||||||
Consumer and other | 5,366 | 3,632 | ||||||
TOTAL LOANS HELD IN PORTFOLIO | 1,099,523 | 1,025,879 | ||||||
Net Deferred Loan Fees | 4,309 | 4,447 | ||||||
Allowance for Loan Losses | (19,226 | ) | (16,022 | ) | ||||
TOTAL NET LOANS HELD IN PORTFOLIO | 1,084,606 | 1,014,304 | ||||||
Federal Home Loan Bank Stock, at Cost | 4,650 | 2,905 | ||||||
Premises and Equipment | 5,622 | 5,271 | ||||||
Other Real Estate Owned | 13,724 | - - | ||||||
Cash Surrender Value of Life Insurance | 30,426 | 28,034 | ||||||
Deferred Tax Assets | 14,298 | 12,298 | ||||||
SBA Servicing Assets | 4,993 | 5,350 | ||||||
SBA Interest-Only Strips Receivable | 6,361 | 6,599 | ||||||
Accrued Interest Receivable | 6,042 | 6,827 | ||||||
Other Assets | 14,149 | 8,135 | ||||||
TOTAL ASSETS | $ | 1,464,725 | $ | 1,318,525 | ||||
LIABILITIES AND SHAREHOLDERS’ EQUITY | ||||||||
Deposits: | ||||||||
Non Interest-Bearing Demand | $ | 145,193 | $ | 133,867 | ||||
Money Market and NOW | 134,945 | 146,270 | ||||||
Savings | 26,903 | 28,059 | ||||||
Time Deposits, Under $100,000 | 537,087 | 453,272 | ||||||
Time Deposits, $100,000 and Over | 384,795 | 399,603 | ||||||
TOTAL DEPOSITS | 1,228,923 | 1,161,071 | ||||||
Accrued Interest Payable | 1,808 | 2,329 | ||||||
Borrowings from Federal Home Loan Bank | 60,530 | - - | ||||||
Junior Subordinated Debt | 56,924 | 34,023 | ||||||
Dividend Payable | 401 | 405 | ||||||
Other Liabilities | 10,843 | 12,738 | ||||||
TOTAL LIABILITIES | 1,359,429 | 1,210,566 | ||||||
Shareholders’ Equity: | ||||||||
Common Stock No Par Value; 40,000,000 Shares | ||||||||
Authorized; 10,033,267 and 10,147,910 Shares Issued | ||||||||
and Outstanding at June 30, 2008 and December 31, 2007 | 35,957 | 37,178 | ||||||
Retained Earnings | 69,424 | 70,781 | ||||||
Accumulated other comprehensive income (loss) | (85 | ) | - - | |||||
TOTAL SHAREHOLDERS’ EQUITY | 105,296 | 107,959 | ||||||
TOTAL LIABILITIES AND SHAREHOLDERS’ EQUITY | $ | 1,464,725 | $ | 1,318,525 |
See accompanying notes to the consolidated financial statements
3
TEMECULA VALLEY BANCORP INC.
Consolidated Statements of Income
(Unaudited)
For the Three Months Ended June 30, | For the Six Months Ended June 30, | |||||||||||||||
2008 | 2007 | 2008 | 2007 | |||||||||||||
INTEREST INCOME | (dollars in thousands, except share and per share data) | |||||||||||||||
Loans, including fees | $ | 22,655 | $ | 29,487 | $ | 48,301 | $ | 57,565 | ||||||||
Investment Securities | 168 | 15 | 213 | 32 | ||||||||||||
Due from Banks-Time | 13 | 3 | 26 | 4 | ||||||||||||
Federal Funds Sold | 13 | 399 | 238 | 662 | ||||||||||||
TOTAL INTEREST INCOME | 22,849 | 29,904 | 48,778 | 58,263 | ||||||||||||
INTEREST EXPENSE | ||||||||||||||||
Money Market and NOW | 426 | 1,069 | 1,095 | 2,038 | ||||||||||||
Savings Deposits | 27 | 26 | 58 | 50 | ||||||||||||
Time Deposits | 9,178 | 10,976 | 19,873 | 21,259 | ||||||||||||
Junior Subordinated Debt and Other Borrowings | 1,201 | 779 | 2,239 | 1,614 | ||||||||||||
TOTAL INTEREST EXPENSE | 10,832 | 12,850 | 23,265 | 24,961 | ||||||||||||
NET INTEREST INCOME | 12,017 | 17,054 | 25,513 | 33,302 | ||||||||||||
Provision for Loan Losses | 5,300 | - - | 7,500 | 415 | ||||||||||||
NET INTEREST INCOME AFTER | ||||||||||||||||
PROVISION FOR LOAN LOSSES | 6,717 | 17,054 | 18,013 | 32,887 | ||||||||||||
NON INTEREST INCOME | ||||||||||||||||
Service Charges and Fees | 147 | 151 | 299 | 300 | ||||||||||||
Gain on Sale of Loans | 570 | 4,453 | 1,400 | 6,750 | ||||||||||||
Gain(Loss) on Other Assets and Other Real Estate Owned | (17 | ) | 1 | 35 | (13 | ) | ||||||||||
Servicing Income | 552 | (855 | ) | 523 | (1,710 | ) | ||||||||||
Loan Broker Income | 334 | 1,275 | 950 | 2,661 | ||||||||||||
Loan Related Income | 614 | 559 | 1,027 | 1,017 | ||||||||||||
Other Income | 592 | 533 | 1,309 | 1,050 | ||||||||||||
TOTAL NON INTEREST INCOME | 2,792 | 6,117 | 5,543 | 10,055 | ||||||||||||
NON INTEREST EXPENSE | ||||||||||||||||
Salaries and Employee Benefits | 8,214 | 9,646 | 15,826 | 18,283 | ||||||||||||
Occupancy Expenses | 873 | 817 | 1,719 | 1,609 | ||||||||||||
Furniture and Equipment | 440 | 456 | 930 | 928 | ||||||||||||
Data Processing | 350 | 353 | 697 | 705 | ||||||||||||
Marketing and Business Promotion | 154 | 257 | 417 | 601 | ||||||||||||
Legal and Professional | 285 | 403 | 666 | 711 | ||||||||||||
Regulatory Assessments | 311 | 56 | 555 | 111 | ||||||||||||
Travel & Entertainment | 218 | 285 | 429 | 591 | ||||||||||||
Loan Related Expense | 600 | 493 | 1,068 | 1,115 | ||||||||||||
Office Expenses | 592 | 705 | 1,174 | 1,363 | ||||||||||||
Other Expenses | 1,126 | 846 | 1,327 | 963 | ||||||||||||
TOTAL NON INTEREST EXPENSE | 13,163 | 14,317 | 24,808 | 26,980 | ||||||||||||
INCOME (LOSS) BEFORE INCOME TAX EXPENSE (BENEFIT) | (3,654 | ) | 8,854 | (1,252 | ) | 15,962 | ||||||||||
Income Tax expense (benefit) | (1,643 | ) | 3,603 | (699 | ) | 6,532 | ||||||||||
NET INCOME (LOSS) | $ | (2,011 | ) | $ | 5,251 | $ | (553 | ) | $ | 9,430 | ||||||
Per Share Data : | ||||||||||||||||
Earnings (loss) Per Share – Basic | $ | (0.20 | ) | $ | 0.49 | $ | (0.06 | ) | $ | 0.89 | ||||||
Earnings (loss) Per Share – Diluted | $ | (0.20 | ) | $ | 0.47 | $ | (0.06 | ) | $ | 0.85 | ||||||
Cash Dividend Per Share | $ | 0.04 | $ | 0.04 | $ | 0.04 | $ | 0.04 | ||||||||
Average number of shares outstanding | 10,038,322 | 10,661,179 | 10,069,440 | 10,631,627 | ||||||||||||
Average number of shares and equivalents | 10,038,322 | 11,072,471 | 10,069,440 | 11,063,223 |
See accompanying notes to the consolidated financial statements
4
TEMECULA VALLEY BANCORP INC.
Consolidated Statements of Shareholders’ Equity
(Unaudited)
Accumulated | ||||||||||||||||||||
Common | Other | |||||||||||||||||||
Stock | Retained | Comprehensive | ||||||||||||||||||
Shares | & Surplus | Earnings | Income (Loss) | Total | ||||||||||||||||
(dollars in thousands, except share and per share data) | ||||||||||||||||||||
Balance at January 1, 2007 | 10,587 | $ | 46,383 | $ | 57,052 | $ | (172 | ) | $ | 103,263 | ||||||||||
Exercise of Stock Options, | ||||||||||||||||||||
Including the Realization of Tax Benefits of $1,019 | 183 | 1,640 | 1,640 | |||||||||||||||||
Repurchase and retirement of common stock | (107 | ) | (2,087 | ) | (2,087 | ) | ||||||||||||||
Stock-based compensation | 368 | 368 | ||||||||||||||||||
Adjustment for adoption of FASB 155 | (172 | ) | 172 | - - | ||||||||||||||||
Cash dividends ($0.04 per share) | (426 | ) | (426 | ) | ||||||||||||||||
Net Income | 9,430 | 9,430 | ||||||||||||||||||
Balance at June 30, 2007 | 10,663 | $ | 46,304 | $ | 65,884 | $ | - - | $ | 112,188 | |||||||||||
Balance at January 1, 2008 | 10,148 | $ | 37,178 | $ | 70,781 | $ | - - | $ | 107,959 | |||||||||||
Comprehensive income: | ||||||||||||||||||||
Net Loss | (553 | ) | (553 | ) | ||||||||||||||||
Change in net unrealized gain (loss) on investment securities available for sale, after tax effects | (85 | ) | (85 | ) | ||||||||||||||||
Total Comprehensive income | (638 | ) | ||||||||||||||||||
Exercise of Stock Options, | ||||||||||||||||||||
Including the Realization of Tax Benefits of $111 | 85 | 405 | 405 | |||||||||||||||||
Repurchase and retirement of common stock | (200 | ) | (2,043 | ) | (2,043 | ) | ||||||||||||||
Stock-based compensation | 417 | 417 | ||||||||||||||||||
Cash dividends ($0.04 per share) | (804 | ) | (804 | ) | ||||||||||||||||
Balance at June 30, 2008 | 10,033 | $ | 35,957 | $ | 69,424 | $ | (85 | ) | $ | 105,296 |
See accompanying notes to the consolidated financial statements
5
TEMECULA VALLEY BANCORP INC.
Consolidated Statements of Cash Flows
(Unaudited)
For the six months ended June 30, | ||||||||
2008 | 2007 | |||||||
OPERATING ACTIVITIES | (dollars in thousands) | |||||||
Net Income (Loss) | $ | (553 | ) | $ | 9,430 | |||
Adjustments to Reconcile Net Income to Net Cash Provided by Operating Activities: | ||||||||
Provision for loan losses | 7,500 | 415 | ||||||
Depreciation and amortization | 913 | 6,234 | ||||||
Fair value adjustment on servicing assets and I/O strips receivable | 2,351 | - - | ||||||
Amortization of debt issuance cost | 33 | 35 | ||||||
Net amortization of securities premiums | (1 | ) | 4 | |||||
Net change in deferred loan origination fees | (6,256 | ) | (35 | ) | ||||
Provision for deferred taxes | (2,000 | ) | (600 | ) | ||||
Gain on sale of loans | (1,400 | ) | (6,750 | ) | ||||
Loans originated for sale | (58,141 | ) | (167,506 | ) | ||||
Proceeds from loan sales | 44,191 | 155,457 | ||||||
Loss (gain) on sale of other real estate owned and fixed assets | (35 | ) | 15 | |||||
Share-based compensation expense | 417 | 368 | ||||||
Earnings on cash surrender value of life Insurance | (542 | ) | (469 | ) | ||||
Federal Home Loan Bank stock dividends | (81 | ) | (53 | ) | ||||
Net change in accrued interest, other assets and other liabilities | (9,653 | ) | (5,823 | ) | ||||
NET CASH USED IN OPERATING ACTIVITIES | (23,257 | ) | (9,278 | ) | ||||
INVESTING ACTIVITIES | ||||||||
Purchases of available-for-sale investments | (39,967 | ) | - - | |||||
Purchases of held-to-maturity investments | (300 | ) | (297 | ) | ||||
Proceeds from maturities of held-to-maturity securities | 600 | 300 | ||||||
Purchases of Federal Home Loan Bank stock | (1,664 | ) | - - | |||||
Proceeds from Federal Home Loan Bank stock | - - | 783 | ||||||
Net decrease (increase) in loans | (85,287 | ) | 52,064 | |||||
Purchase of loans | (716 | ) | (43,443 | ) | ||||
Purchases of premises and equipment | (1,177 | ) | (781 | ) | ||||
Proceeds from sale of premises and equipment | 26 | 93 | ||||||
Proceeds from sale of other real estate owned | 785 | 1,240 | ||||||
Purchase of Cash Surrender Value Life Insurance | (1,850 | ) | (3,000 | ) | ||||
NET CASH PROVIDED (USED) IN INVESTING ACTIVITIES | (129,550 | ) | 6,959 | |||||
FINANCING ACTIVITIES | ||||||||
Net increase (decrease) in demand deposits and savings accounts | (1,155 | ) | 21,400 | |||||
Net increase in time deposits | 69,007 | 46,934 | ||||||
Proceeds from exercise of stock options | 294 | 631 | ||||||
Proceeds from Federal Home Loan Bank borrowings | 60,530 | - - | ||||||
Proceeds from issuance of junior subordinated debt | 22,901 | - - | ||||||
Retirement of junior subordinated debt securities | - - | (7,217 | ) | |||||
Cash dividends on common stock | (804 | ) | (426 | ) | ||||
Repurchase and retirement of common stock | (2,043 | ) | (2,087 | ) | ||||
Excess tax benefits from exercise of stock options | 111 | 1,009 | ||||||
NET CASH PROVIDED BY FINANCING ACTIVITIES | 148,841 | 60,244 | ||||||
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS | (3,966 | ) | 57,925 | |||||
Cash and cash equivalents at beginning of year | 17,430 | 33,469 | ||||||
CASH AND CASH EQUIVALENTS AT END OF PERIOD | $ | 13,464 | $ | 91,394 | ||||
Supplemental Disclosures of Cash Flow Information: | ||||||||
Interest paid | $ | 23,786 | $ | 25,028 | ||||
Income taxes paid, net of refunds | $ | 5,520 | $ | 8,292 | ||||
Transfer of loans to other real estate owned | $ | 14,457 | $ | 722 |
See accompanying notes to the consolidated financial statements
6
TEMECULA VALLEY BANCORP INC.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
For the six months ended June 30, 2008 and 2007
The accompanying unaudited consolidated financial statements have been prepared by Temecula Valley Bancorp Inc. pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”) and include the accounts of Temecula Valley Bancorp Inc. ("company" or “our company” or “our holding company”) and its wholly owned subsidiary, Temecula Valley Bank ("bank" or “our bank”). All significant intercompany transactions have been eliminated. Unless the context indicates otherwise, all references in this report to “we”, “us”, and “our” refer to the company and the bank on a consolidated basis.
Our holding company is also the common shareholder of Temecula Valley Statutory Trust II, Temecula Valley Statutory Trust III, Temecula Valley Statutory Trust IV, Temecula Valley Statutory Trust V, and Temecula Valley Statutory Trust VI. In accordance with Financial Accounting Standards Board Interpretation (“FIN”) No. 46, “Consolidation of Variable Interest Entities, an interpretation of ARB No. 51”, these trusts are not included in our consolidated financial statements.
The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires our management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reported period. Estimates associated with the allowance for loan losses, SBA servicing asset, and SBA interest-only strips receivable are particularly susceptible to material change in the near term. Actual results could differ from those estimates.
The results of operations for the six month period ended June 30, 2008, are not necessarily indicative of the results to be expected for the full year. These financial statements do not include all disclosures associated with our Annual Report on Form 10-K for the fiscal year ended December 31, 2007 filed with the SEC and, accordingly, should be read in conjunction with such statements. In our opinion, the unaudited financial statements contain all adjustments (consisting only of normal, recurring adjustments) necessary to fairly present our financial position on June 30, 2008.
Certain prior year amounts have been reclassified to conform to the current period’s presentation.
Note 1 – Significant Accounting Policies
Significant accounting policies we follow are presented in Note A to the consolidated financial statements included in our Annual Report on Form 10-K for the fiscal year ended December 31, 2007. Effective January 1, 2008, we have adopted Financial Accounting Standards Boards (“FASB”) No. 157 and No. 159 and EITF No. 06-4 as described below.
In September 2006, the FASB issued Statement No. 157, “Fair Value Measurements.” This statement defines fair value, establishes a framework for measuring fair value, and expands disclosures about fair value measurements. This statement establishes a fair value hierarchy about the assumptions used to measure fair value and clarifies assumptions about risk and the effect of a restriction on the sale or use of an asset. The standard is effective for fiscal years beginning after November 15, 2007. In February 2008, the FASB issued Staff Position (FSP) 157-2, Effective Date of FASB Statement No. 157. This FSP delays the effective date of FAS 157 for all non-financial assets and non-financial liabilities, except those that are recognized or disclosed at fair value on a recurring basis (at least annually) to fiscal years beginning after November 15, 2008, and interim periods within those fiscal years. We have adopted FAS 157 effective January 1, 2008. The adoption had no effect on our financial condition or results of operations.
In February 2007, the FASB issued Statement No. 159, “The Fair Value Option for Financial Assets and Financial Liabilities”. The standard provides companies with an option to report selected financial assets and liabilities at fair value and establishes presentation and disclosure requirements designed to facilitate comparisons between companies that choose different measurement attributes for similar types of assets and liabilities. We did not elect the fair value option for any financial assets or financial liabilities as of January 1, 2008, the effective date of the standard.
In September 2006, the FASB Emerging Issues Task Force (“EITF”) finalized Issue No. 06-4, ”Accounting for Deferred Compensation and Postretirement Benefit Aspects of Endorsement Split-Dollar Life Insurance Arrangements”. This issue requires that a liability be recorded during the service period when a split-dollar life insurance agreement continues after participants’ employment or retirement. The required accrued liability will be based on either the post-employment benefit cost for the continuing life insurance or the future death benefit depending on the contractual terms of the underlying agreement. We adopted EITF 06-4 on January 1, 2008. The adoption of this standard did not have a material impact on our financial statements.
7
In May 2008, the FASB issued Statement No. 162, “The Hierarchy of Generally Accepted Accounting Principles”. This Statement identifies the sources of accounting principles and the framework for selecting the principles to be used in the preparation of financial statements of nongovernmental entities that are presented in conformity with GAAP in the United States (the GAAP Hierarchy). The Board issued this Statement because it is the entity (not its auditor) that is responsible for selecting accounting principles for financial statements that are presented in conformity with GAAP. Accordingly, the Board concluded that the GAAP hierarchy should reside in the accounting literature established by the FASB as opposed to auditing literature established by the AICPA and PCAOB. This Statement describes the different sources of GAAP and categorizes them in descending order of authority as follows:
FASB Statements and Interpretations, FASB Statement 133 Implementation Issues, FASB Staff Positions, AICPA Accounting Research Bulletins and APB Opinions that have not been superseded by actions of the FASB. For SEC registrants, the rules and interpretive releases issued by the SEC are sources of level (a) GAAP for SEC registrants. In addition, SEC staff issue Staff Accounting Bulletins that represent practices followed by the SEC in administering issuer disclosure requirements. FASB Technical Bulletins and, if cleared by FASB, AICPA Industry Audit and Accounting Guides and Statements of Position, AICPA Accounting Standards Executive Committee Practice Bulletins that have been cleared by FASB, consensus positions of the FASB Emerging Issues Task Force (EITF), and Appendix D Topics of EITF Abstracts Implementation guides (Q&As) issued by FASB staff, AICPA Accounting Interpretations, AICPA Industry Audit and Accounting Guides and Statements of Positions not cleared by FASB, and practices that are widely recognized and prevalent either generally or in an industry. This Statement is not expected to result in any change in current practice.
Note 2 – Dividends Declared
Our company is a legal entity separate and distinct from our bank. Our company’s shareholders are entitled to receive dividends when and as declared by our board of directors, out of funds legally available therefore, subject to the restrictions set forth in the California General Corporation Law as well as other restrictions discussed below.
The availability of operating funds for our company and the ability of our company to pay a cash dividend depends largely on our bank’s ability to pay a cash dividend to our company. The payment of cash dividends by our bank is subject to restrictions set forth in various federal and state laws and regulations.
The Federal Reserve has broad authority to prohibit the payment of dividends by our company depending upon the condition of each entity within the corporate structure. In addition, the future payment of cash dividends will generally depend, subject to regulatory restraints, upon our company’s earnings during any period, and the assessment by our board of the capital requirements, our company and other factors, including the maintenance of an adequate allowance for loan losses at our bank.
No cash dividends were paid by our bank prior to the formation of our company in 2002. Since 2007, our board of directors authorized five cash dividends.
The table below sets forth information concerning cash dividends paid since 2007:
Date authorized: | Amount: | Date payable: | Date shareholders of record: |
May 2007 | $0.04 per share | July 16, 2007 | July 2, 2007 |
August 2007 | $0.04 per share | October 15, 2007 | October 1, 2007 |
November 2007 | $0.04 per share | January 15, 2008 | January 1, 2008 |
March 2008 | $0.04 per share | April 15, 2008 | April 1, 2008 |
May 2008 | $0.04 per share | July 15, 2008 | July 1, 2008 |
Note 3 – Fair Value
Statement 157 establishes a fair value hierarchy which requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. The standard describes three levels of inputs that may be used to measure fair value:
Level 1: Quoted prices (unadjusted) or identical assets or liabilities in active markets that the entity has the ability to access as of the measurement date.
Level 2: Significant other observable inputs other than Level 1 prices such as quoted prices for similar assets or liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data.
8
Level 3: Significant unobservable inputs that reflect a reporting entity’s own assumptions about the assumptions that market participants would use in pricing an asset or liability.
The fair values of securities available for sale are determined by obtaining quoted prices on nationally recognized securities exchanges (Level 1 inputs) or matrix pricing, which is a mathematical technique widely used in the industry to value debt securities without relying exclusively on quoted prices for the specific securities’ relationship to other benchmark quoted securities (Level 2 inputs).
The fair value of SBA servicing and I/O strip receivable assets are based on a valuation model used by an independent appraiser. We are able to compare the valuation model inputs and results to widely available published industry data for reasonableness (Level 3 inputs).
Assets measured at fair value on a recurring basis are summarized below:
Fair Value Measurements at June 30, 2008 Using | ||||||||||||||||
June 30, 2008 | Quoted Prices in Active Markets for Identical Assets (Level 1) | Significant Other Observable Inputs (Level 2) | Significant Unobservable Inputs (Level 3) | |||||||||||||
Assets: | (dollars in thousands) | |||||||||||||||
Investment securities available-for-sale | $ | 39,685 | $ | - - | $ | 39,685 | $ | - - | ||||||||
SBA Servicing Asset | $ | 4,993 | $ | - - | $ | - - | $ | 4,993 | ||||||||
SBA Interest-Only Strips Receivable | $ | 6,361 | $ | - - | $ | - - | $ | 6,361 |
The loans held for sale consist of SBA 7a loans, SBA 504 loans, and SBA 7a and SBA 504 Construction loans that have relatively long turnover periods as they are not sold until the construction is complete. Additionally, loans held for sale include the second trust deed of SBA 504 for loans which can take up to 6 months to be purchased by an SBA approved Community Development Corp. The majority of these loans are at floating rates and, consequently, fair values generally are stable, which currently results in carrying the loans at historical cost.
Assets and liabilities measured at fair value on a non-recurring basis are summarized below:
Fair Value Measurements at June 30, 2008 Using | ||||||||||||||||
June 30, 2008 | Quoted Prices in Active Markets for Identical Assets (Level 1) | Significant Other Observable Inputs (Level 2) | Significant Unobservable Inputs (Level 3) | |||||||||||||
Assets: | (dollars in thousands) | |||||||||||||||
Impaired loans | $ | 30,818 | $ | - - | $ | - - | $ | 30,818 |
Impaired loans, which are measured for impairment using the fair value of the collateral for collateral dependent loans, had a carrying amount of $37.6 million, with a specific reserve of $6.8 million at June 30, 2008.
9
ITEM 2 – MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
Management’s discussion, as well as other provisions within this report, are intended to provide additional information regarding the significant changes and trends in our Financial Condition, Statements of Income, Funds Management and Capital Planning. Statements made in this Report that state our intentions, beliefs, expectations or predictions of the future are forward-looking statements. Our actual results could differ materially from those projected in such forward-looking statements. Additional information concerning factors that could cause actual results to differ materially from those in the forward-looking statements is contained in our Form 10-K and our other filings made with the SEC. Copies of such filings may be obtained by contacting us or accessing our filings at www.sec.gov. We intend the forward-looking statements to be covered by the safe harbor provisions for forward-looking statements contained in the Private Securities Litigation Reform Act of 1995, and we are including this statement for purposes of invoking these safe harbor provisions.
OVERVIEW
We formed our holding company in 2002. Our bank was formed in 1996 as a locally owned and managed financial institution that assumes an active community role and commenced operations on December 16, 1996 as a national banking association. We converted from a national charter to a state charter on June 29, 2005. Our bank has no subsidiaries. On August 23, 2006, we withdrew from Federal Reserve membership and became a California state-chartered, non-member bank.
We are organized as a single operating segment with a focus upon three business lines. The first is community banking through our eleven full-service banking offices located in Carlsbad, Corona, El Cajon, Escondido, Fallbrook, Murrieta, Ontario, Solana Beach, San Marcos, Temecula, and in the Rancho Bernardo area of San Diego. The second is operations by our Real Estate Industries Group of our bank that focuses on construction lending and maintains loan production offices in Corona and San Rafael, both in California. The third focus area is our network of SBA loan production offices in Arizona, California, Florida, Nevada, Oregon, and Texas.
Since opening in 1996, and through 2006, we experienced substantial annual growth. Since the beginning of 2007, growth has progressively moderated due to a sale of $59.0 million in 1st trust deed loans in 2007 and the fairly abrupt slowdown in the real estate market continuing into 2008. We plan to continue to expand our full service and/or loan production office locations, especially SBA, if they make good business sense and are located within our geographic service areas or contiguous markets and if the target offices can be staffed with seasoned bankers that fit our culture. The following table highlights selected financial data for the three and six month periods ended June 30, 2008 and 2007, and the year ended December 31, 2007:
10
For the Three Months Ended June 30, | For the Six Months Ended June 30, | |||||||||||||||
2008 | 2007 | 2008 | 2007 | |||||||||||||
Income Statement: | (dollars and shares in thousands, except per share data) | |||||||||||||||
Interest income | $ | 22,849 | $ | 29,904 | $ | 48,778 | $ | 58,263 | ||||||||
Interest expense | 10,832 | 12,850 | 23,265 | 24,961 | ||||||||||||
Net interest income | 12,017 | 17,054 | 25,513 | 33,302 | ||||||||||||
Provision for loan losses | 5,300 | - - | 7,500 | 415 | ||||||||||||
Net interest income after provision for loan losses | 6,717 | 17,054 | 18,013 | 32,887 | ||||||||||||
Non interest income | 2,792 | 6,117 | 5,543 | 10,055 | ||||||||||||
Non interest expense | 13,163 | 14,317 | 24,808 | 26,980 | ||||||||||||
Income (loss) before income taxes | (3,654 | ) | 8,854 | (1,252 | ) | 15,962 | ||||||||||
Provision for income taxes | (1,643 | ) | 3,603 | (699 | ) | 6,532 | ||||||||||
Net income (loss) | $ | (2,011 | ) | $ | 5,251 | $ | (553 | ) | $ | 9,430 | ||||||
Per Share Data: | ||||||||||||||||
Basic earnings (loss) per share | $ | (0.20 | ) | $ | 0.49 | $ | (0.06 | ) | $ | 0.89 | ||||||
Diluted earnings (loss) per share | $ | (0.20 | ) | $ | 0.47 | $ | (0.06 | ) | $ | 0.85 | ||||||
Average common shares outstanding | 10,038 | 10,661 | 10,069 | 10,632 | ||||||||||||
Average common shares (dilutive) | 10,041 | 11,072 | 10,126 | 11,063 | ||||||||||||
Book value per share | $ | 10.49 | $ | 10.52 | $ | 10.49 | $ | 10.52 | ||||||||
Selected Ratios: | ||||||||||||||||
Net Interest Margin | 3.66 | % | 5.51 | % | 3.91 | % | 5.53 | % | ||||||||
Efficiency Ratio | 88.89 | % | 61.79 | % | 79.88 | % | 62.23 | % | ||||||||
Return on average assets | (0.58 | )% | 1.59 | % | (0.08 | )% | 1.47 | % | ||||||||
Return on average equity | (7.59 | )% | 19.07 | % | (1.05 | )% | 17.56 | % | ||||||||
June 30, 2008 | December 31, 2007 | |||||||||||||||
Total assets | $ | 1,464,725 | $ | 1,318,525 | ||||||||||||
Loans Held-for-sale | 222,741 | 207,391 | ||||||||||||||
Gross loans(excluding loans held-for-sale) | 1,099,523 | 1,025,879 | ||||||||||||||
Total deposits | 1,228,923 | 1,161,071 | ||||||||||||||
Junior Subordinated Debt | 56,924 | 34,023 | ||||||||||||||
Borrowings from Federal Home Loan Bank | 60,530 | - - | ||||||||||||||
Shareholders' Equity | 105,296 | 107,959 | ||||||||||||||
Net Charge offs – year to date | $ | 4,296 | $ | 1,100 | ||||||||||||
Net Charge offs / average total loans (annualized) | 0.67 | % | 0.09 | % | ||||||||||||
Gross non-performing loans | $ | 60,669 | $ | 30,936 | ||||||||||||
Other Real Estate Owned, gross | 13,724 | - - | ||||||||||||||
Gross non-performing assets / average total loans | 5.81 | % | 2.58 | % | ||||||||||||
Non-performing loans, net of guarantees | $ | 52,102 | $ | 20,557 | ||||||||||||
Other Real Estate Owned, net of guarantees | 11,836 | - - | ||||||||||||||
Net non-performing assets / average total loans | 4.99 | % | 1.72 | % | ||||||||||||
Allowance for loan loss | $ | 19,226 | $ | 16,022 | ||||||||||||
Allowance for loan loss/net loans and loans held-for-sale | 1.45 | % | 1.29 | % | ||||||||||||
Allowance for loan loss/net loans excluding loans held-for-sale | 1.74 | % | 1.56 | % | ||||||||||||
Allowance for loan loss/gross nonperforming loans | 31.69 | % | 51.79 | % | ||||||||||||
Allowance for loan loss/net nonperforming loans | 36.90 | % | 77.94 | % | ||||||||||||
Tier I leverage ratio | 9.96 | % | 10.63 | % | ||||||||||||
Tier I risk based ratio | 9.22 | % | 9.65 | % | ||||||||||||
Total risk based ratio | 11.80 | % | 10.80 | % |
11
FINANCIAL CONDITION
Balance Sheet Summary
Total assets were $1.46 billion at June 30, 2008, compared to $1.32 billion at December 31, 2007, an increase of $146.2 million or 11.09%. Total loans, and loans held-for-sale, excluding deferred loan fees and allowance for loan loss, were $1.32 billion at June 30, 2008, an increase of $89.0 million or 7.22%, from $1.23 billion at December 31, 2007. Total deposits were $1.23 billion at June 30, 2008, an increase of $67.9 million or 5.84%, from $1.16 billion at December 31, 2007. Total shareholders’ equity was $105.3 million at June 30, 2008 a decrease of $2.7 million or 2.47%, from $108.0 million at December 31, 2007.
Cash and Cash Equivalents
Cash and cash equivalents were $13.5 million as of June 30, 2008, compared to $17.4 million at December 31, 2007, a decrease of $3.9 million or 22.75%. The decrease in the first six months of 2008 is attributed to a decrease in federal funds sold of $4.2 million.
Investment Securities, available-for-sale
Investment securities available-for-sale were $39.7 million as of June 30, 2008. During the second quarter of 2008 we purchased $40.0 million in U.S. government agency securities to collateralize new State of California CD deposits totaling approximately $35 million. The securities were classified as available-for-sale.
In accordance with SFAS No. 115, “Accounting for Certain Investments in Debt and Equity Securities”, securities held as “available-for-sale” are reported at current fair value for financial reporting purposes. The related unrealized gains or losses are recorded, net of income taxes, as accumulated other comprehensive income (loss) in shareholders’ equity.
The following table is a comparison of amortized cost and fair value of investment securities available-for-sale as of the dates indicated:
Investment Securities Available-for-Sale | ||||||||||||||||||||||||||||||||
June 30, 2008 | December 31, 2007 | |||||||||||||||||||||||||||||||
Amortized Cost | Unrealized Gains | Unrealized Losses | Fair Value | Amortized Cost | Unrealized Gains | Unrealized Losses | Fair Value | |||||||||||||||||||||||||
(dollars in thousands) | ||||||||||||||||||||||||||||||||
U.S. government agency securities | $ | 39,770 | $ | 4 | $ | (89 | ) | $ | 39,685 | $ | - - | $ | - - | $ | - - | $ | - - | |||||||||||||||
Total | $ | 39,770 | $ | 4 | $ | (89 | ) | $ | 39,685 | $ | - - | $ | - - | $ | - - | $ | - - |
Investment Securities, held-to-maturity
At June 30, 2008, our FNMA mortgage-backed securities, with an amortized cost and fair value of $3.0 million, were classified as held-to-maturity. These securities were purchased in November 2006 and July 2007 and mature in 2036 and 2037, respectively.
Loans
Total loans, excluding loans held-for-sale, were $1.10 billion at June 30, 2008, compared to $1.03 billion at December 31, 2007, an increase of $73.6 million or 7.18%. The loan portfolio composition is primarily commercial, construction, real estate secured and SBA loans. SBA loans, of which we are an active originator, comprise, approximately 24% and 23% of net loans held in portfolio as of June 30, 2008 and December 31, 2007, respectively. Typical of community bank loan markets, a significant portion of our portfolio is real estate secured. Approximately 92% of the loan portfolio at June 30, 2008 and 93% at December 31, 2007 was real estate secured. Approximately 46% and 47% of our lending portfolio, including SBA construction loans was classified as real estate construction loans as of June 30, 2008 and December 31, 2007, respectively.
In 2006, we began purchasing participations in the unguaranteed portions of SBA 7(a) loans to be held in our loan portfolio (“purchase program”). The participations are purchased based upon their payment history and other selected underwriting criteria. At June 30, 2008, we had $137.7 million in outstanding purchased participation balances, down from $156.0 million at December 31, 2007. Only $716 thousand of loans were purchased during the first six months of 2008, with the purchase occurring in the first quarter. No further purchases are anticipated due to the elimination of this department so we can concentrate on traditional SBA products. The participations were purchased from other financial institutions that are eligible to participate in the SBA 7(a) program. The participation agreements are tri-party agreements among the selling financial institution, the SBA and us.
12
In December 2006, the federal banking agencies issued final guidance to reinforce sound risk management practices for bank holding companies and banks in commercial real estate (“CRE”) loans. The guidance establishes CRE concentration thresholds as criteria for examiners to identify CRE concentration that may warrant further analysis. The implementation of these guidelines has not resulted in increased reserves or capital costs for our bank. We believe that our CRE portfolio concentration risk as of June 30, 2008 is mitigated due to low loan-to-value ratios, adequate debt coverage ratios, and a wide variety of property types. Under the final guidance, our ratio of commercial real estate loans, excluding owner-occupied properties, to capital at June 30, 2008, is approximately 357%, down from 382% at December 31, 2007. While this exceeds the 300% benchmark set by the guidance, we believe we have implemented enhanced risk management practices as recommended by the guidance. These practices include the review and analysis of detailed monthly construction loan status reports, detailed monthly geographic concentration reports by product type and county location, detailed monthly commercial real estate concentration reports, and centralized monitoring and servicing of our commercial real estate term loans. As we focus more on building our SBA loan portfolio, we anticipate our ratio of commercial real estate loans, excluding owner-occupied properties, to capital, to decrease and for the downward trend to continue during 2008.
The weighted-average loan-to-value for our real estate loan portfolio, excluding owner occupied properties, is approximately 57% at June 30, 2008. The following table summarizes our loan portfolio, (including loans held-for-sale, excluding deferred loan fees and allowance for loan loss), by type of loan and their percentage distribution:
June 30, 2008 | December 31, 2007 | |||||||
Amount | Percent | Amount | Percent | |||||
Loan portfolio composition: | (dollars in thousands) | |||||||
Commercial | $ | 80,085 | 6% | $ | 68,761 | 6% | ||
Real estate - Construction | 613,503 | 46% | 587,992 | 47% | ||||
Real estate – Other | 300,339 | 23% | 292,869 | 23% | ||||
SBA | 322,971 | 24% | 280,016 | 23% | ||||
Consumer | 5,366 | 1% | 3,632 | 1% | ||||
Total Loans | $ | 1,322,264 | 100% | $ | 1,233,270 | 100% |
Allowance for Loan Losses
The allowance for loan losses is a valuation allowance for probable incurred credit losses established through charges to earnings in the form of a provision for loan losses. Loan losses are charged against the allowance when management believes the uncollectibility of a loan balance is confirmed. Subsequently, any recoveries are credited to the allowance.
Quarterly detailed reviews are performed to identify the risks inherent in the loan portfolio and assess the overall quality of the loan portfolio and the related provision for loan losses to be charged to expense. The analysis considers general factors such as evaluation of collateral securing the credit, changes in lending policies and procedures, economic trends, loan volume trends, changes in lending management and staff, trends in delinquencies, nonaccruals and charge-offs, changes in loan review and Board oversight, the effects of competition, legal and regulatory requirements, and factors inherent to each loan pool. Allocations of the allowance may be made for specific loans or pool of loans, but the entire allowance is available for any loan that, in management’s judgment, should be charged-off.
The allowance for loan losses was $19.2 million at June 30, 2008 and $16.0 million at December 31, 2007. The allowance for loan losses as a percentage of net loans outstanding and loans held-for-sale was 1.45% as of June 30, 2008 and 1.29% at December 31, 2007. The allowance for loan losses as a percentage of net loans outstanding excluding loans held-for-sale was 1.74% as of June 30, 2008, and 1.56% as of December 31, 2007.
13
A summary of the allowance for loan losses for the six months ended June 30, 2008 and 2007, and the year ended December 31, 2007 follows:
Allowance for Loan Losses | ||||||||||||
June 30, 2008 | December 31, 2007 | June 30, 2007 | ||||||||||
(dollars in thousands) | ||||||||||||
Loans outstanding and loans held-for-sale | $ | 1,326,573 | $ | 1,237,717 | $ | 1,151,515 | ||||||
Average amount of loans outstanding and loans held-for-sale | 1,280,433 | 1,196,849 | 1,188,278 | |||||||||
Balance of allowance for loan losses, beginning of periods | 16,022 | 12,522 | 12,522 | |||||||||
Loans charged off: | ||||||||||||
Commercial | (1,784 | ) | (449 | ) | (236 | ) | ||||||
Real Estate - Construction | (2,065 | ) | (100 | ) | - - | |||||||
Real Estate – Other | (635 | ) | (787 | ) | (442 | ) | ||||||
Consumer | (2 | ) | - - | - - | ||||||||
Total loans charged off | $ | (4,486 | ) | $ | (1,336 | ) | $ | (678 | ) | |||
Recoveries of loans previously charged off: | ||||||||||||
Commercial | 28 | 148 | 7 | |||||||||
Real Estate - Construction | - - | - - | - - | |||||||||
Real Estate – Other | 162 | 88 | 2 | |||||||||
Consumer | - - | - - | - - | |||||||||
Total loan recoveries | $ | 190 | $ | 236 | $ | 9 | ||||||
Net loans charged off | (4,296 | ) | (1,100 | ) | (669 | ) | ||||||
Provision for loan losses | 7,500 | 4,600 | 415 | |||||||||
Balance, end of period | $ | 19,226 | $ | 16,022 | $ | 12,268 | ||||||
Ratio of net charge-offs to average loans (annualized) | 0.67 | % | 0.09 | % | 0.11 | % |
14
Nonaccrual, Past Due, Restructured Loans and Other Real Estate Owned (“OREO”)
At June 30, 2008, gross nonaccrual loans totaled $60.7 million, a $29.8 million or 96.11% increase from gross nonaccrual loans of $30.9 million at December 31, 2007. Construction loans accounted for $26.0 million of the increase. The OREO balance was $13.7 million at June 30, 2008, compared to no OREO at December 31, 2007. Restructured loans were $322 thousand at June 30, 2008 and $539 thousand as of December 31, 2007. The following table presents information concerning nonaccrual loans, OREO, accruing loans which are contractually past due 90 days or more, as to interest or principal payments and still accruing, and restructured loans:
June 30, 2008 | December 31, 2007 | |||||||||||||||||||||||
Gross | Government | Net | Gross | Government | Net | |||||||||||||||||||
Balance | Guaranteed | Balance | Balance | Guaranteed | Balance | |||||||||||||||||||
Nonaccrual loans (Gross): | (dollars in thousands) | |||||||||||||||||||||||
Commercial | $ | 1,161 | $ | (114 | ) | $ | 1,047 | $ | 371 | $ | - - | $ | 371 | |||||||||||
Real Estate - Construction | 37,209 | (1,363 | ) | 35,846 | 11,242 | (288 | ) | 10,954 | ||||||||||||||||
Real Estate - Other | 22,299 | (7,090 | ) | 15,209 | 19,323 | (10,091 | ) | 9,232 | ||||||||||||||||
Total | 60,669 | (8,567 | ) | 52,102 | 30,936 | (10,379 | ) | 20,557 | ||||||||||||||||
OREO | 13,724 | (1,888 | ) | 11,836 | - - | - - | - - | |||||||||||||||||
Total nonaccrual loans and OREO | $ | 74,393 | $ | (10,455 | ) | $ | 63,938 | $ | 30,936 | $ | (10,379 | ) | $ | 20,557 | ||||||||||
Gross nonaccrual loans as a percentage of total loans | 4.57 | % | 2.50 | % | ||||||||||||||||||||
Gross nonaccrual loans and OREO as a percentage of total loans and OREO | 5.55 | % | 2.50 | % | ||||||||||||||||||||
Allowance for loan losses to total net loans (including held-for-sale) | 1.45 | % | 1.29 | % | ||||||||||||||||||||
Allowance for loan losses to total net loans (excluding held-for-sale) | 1.74 | % | 1.56 | % | ||||||||||||||||||||
Allowance for loan losses to gross nonaccrual loans | 31.69 | % | 51.79 | % | ||||||||||||||||||||
Loans past due 90 days or more on accrual status: | ||||||||||||||||||||||||
Commercial | $ | - | $ | - - | ||||||||||||||||||||
Real Estate | - | - - | ||||||||||||||||||||||
Installment | - | - - | ||||||||||||||||||||||
Total | $ | - | $ | - - | ||||||||||||||||||||
Restructured loans: | ||||||||||||||||||||||||
On accrual status | $ | - - | $ | - - | ||||||||||||||||||||
On nonaccrual status | 322 | 539 | ||||||||||||||||||||||
Total | $ | 322 | $ | 539 |
Cash Surrender Value of Life Insurance
The cash surrender value of life insurance is bank-owned life insurance (“BOLI”) which is the purchase of single premium life insurance on certain executives. We are the owner and beneficiary of these policies with split-dollar agreements on certain executives. The BOLI had a balance of $30.4 million at June 30, 2008, compared to $28.0 million at December 31, 2007, an increase of $2.4 million or 8.53%. The increase is the result of an addition of one policy totaling $1.8 million, coupled with year-to-date net earnings on the policies.
Servicing Asset and Interest-Only Strips Receivable
Two components of non interest-earning assets are the SBA servicing and SBA interest-only (I/O) strip receivable assets. At June 30, 2008, we were servicing approximately $353.8 million of the guaranteed portion of 7(a) and USDA Business and Industry (“B&I”) loans previously sold with a weighted-average servicing rate of 1.70%. At December 31, 2007, we were servicing approximately $374.4 million of the guaranteed portion of 7(a) loans previously sold with a weighted-average servicing and I/O rate of 1.69%.
SBA 7(a) loans can be sold for a premium or for par. When an SBA 7(a) loan is sold for a premium, the originator is required to retain at least 1% interest on the sold portion of the loan. The 1% interest is considered the contractual servicing fee for the loan. When an SBA 7(a) loan is sold for par, the originator generally retains a much larger interest than the required contractual servicing. The premium represents what the buyer is willing to pay the originator for the difference between the rates passed through to the buyer in a premium sale versus a par sale. When we feel that the premium is not sufficient to compensate us for the future income resulting from the higher retained interest in a par sale, we will sell the loan at a premium versus at par.
15
The servicing asset represents the value of the contractual servicing fee less adequate servicing compensation. Adequate servicing compensation in the SBA industry has been considered 40 basis points. Therefore, the servicing asset value is based upon the contractual servicing fee of generally 1%, less adequate servicing compensation of 40 basis points. At June 30, 2008 and December 31, 2007, we had servicing assets of $5.0 million, and $5.4 million, respectively, which approximate fair value. When the interest rate retained exceeds the contractual servicing fee, generally 1% for SBA 7(a) loans, the excess over 1% is considered the I/O. At June 30, 2008 and December 31, 2007, we had I/O strips of $6.4 million, and $6.6 million, respectively, which approximate fair value. Fair value is estimated by discounting estimated future cash flows from the I/O strips using assumptions similar to those used in valuing servicing assets. Included in the SBA 7(a) totals are USDA B&I loans. These B&I loans usually carry an 80% government guarantee, and are sold in the secondary market much like SBA 7(a) loans. The serviced balance of B&I loans at June 30, 2008 was $29.4 million compared to $21.1 at December 31, 2007.
For the first six months of 2008, we recognized a decrease in the fair value of servicing assets and the interest-only strips receivable. The change in value was caused primarily by a lower outstanding servicing portfolio. A summary of the changes in the related servicing asset and I/O strips receivable are as follows:
Servicing Assets | ||||||||
June 30, 2008 | December 31, 2007 | |||||||
(dollars in thousands) | ||||||||
Balance at Beginning of Period | $ | 5,350 | $ | 8,288 | ||||
Increase from Loan Sales | 492 | 1,557 | ||||||
Fair Market value adjustment | (849 | ) | (4,495 | ) | ||||
Balance at End of Period | $ | 4,993 | $ | 5,350 | ||||
Interest-Only Strips Receivable | ||||||||
June 30, 2008 | December 31, 2007 | |||||||
(dollars in thousands) | ||||||||
Balance at Beginning of Period | $ | 6,599 | $ | 13,215 | ||||
Increase from Loan Sales | 1,264 | 69 | ||||||
Fair Market value adjustment | (1,502 | ) | (6,685 | ) | ||||
Balance at End of Period | $ | 6,361 | $ | 6,599 |
Servicing income is a component of non-interest income in the consolidated statement of income. The $552 thousand in income for the second quarter of 2008 was comprised of $1.5 million of servicing income and $948 thousand of expense due to the fair value adjustment. For the second quarter of 2007, the $855 thousand loss was comprised of $1.8 million of servicing income and $2.6 million of expense due to the fair value adjustment.
The servicing calculations contain certain assumptions such as expected life of the loan and the discount rate used to compute the present value of future cash flows. The exposure of the loan life assumption is if loans prepay faster than expected. The exposure to the discount rate assumption is if rates increase significantly. Such exposure can result in a decrease in servicing income. With the assistance of a quarterly external appraisal, the servicing asset and I/O strip receivables are recorded at fair value. The contractual term of the underlying financial assets is predominately greater than 21 years. The table below summarizes the constant prepayment rates (“CPR”) for national SBA pools for each year following the date of origination based on their maturities at June 30, 2008 and December 31, 2007:
16
SBA Pools – Constant Prepayment Rates Variable Rate Pools | |||||||||||||
June 30, 2008 | December 31, 2007 | ||||||||||||
Issue Date | < 8 Yr Life CPR | 8-10 Yr Life CPR | 10-13 Yr Life CPR | 13-16 Yr Life CPR | 16-20 Yr Life CPR | > 20 Yr Life CPR | < 8 Yr Life CPR | 8-10 Yr Life CPR | 10-13 Yr Life CPR | 13-16 Yr Life CPR | 16-20 Yr Life CPR | > 20 Yr Life CPR | |
Year 1 | 9.45 | 8.00 | 7.11 | 7.21 | 7.86 | 7.35 | 8.69 | 7.79 | 7.24 | 5.20 | 7.94 | 6.76 | |
Year 2 | 16.97 | 16.05 | 14.13 | 13.32 | 14.18 | 13.87 | 17.31 | 16.35 | 14.58 | 12.79 | 13.96 | 13.27 | |
Year 3 | 20.91 | 20.11 | 18.39 | 17.18 | 18.71 | 18.99 | 21.53 | 20.55 | 18.99 | 17.55 | 18.25 | 18.38 | |
Year 4 | 21.75 | 20.95 | 20.31 | 19.09 | 21.63 | 22.83 | 22.13 | 21.26 | 20.91 | 19.82 | 20.98 | 22.20 | |
Year 5 | 19.95 | 19.39 | 20.28 | 19.33 | 23.12 | 25.49 | 19.88 | 19.44 | 20.77 | 20.02 | 22.33 | 24.83 | |
Year 6 | 16.09 | 16.31 | 18.72 | 18.23 | 23.36 | 27.08 | 15.65 | 16.03 | 19.05 | 18.57 | 22.48 | 26.41 | |
Year 7 | 11.12 | 12.58 | 16.07 | 16.08 | 22.54 | 27.72 | 10.69 | 12.04 | 16.20 | 15.92 | 21.61 | 27.03 | |
Year 8 | 6.10 | 9.09 | 12.77 | 13.21 | 20.85 | 27.52 | 6.10 | 8.50 | 12.72 | 12.51 | 19.92 | 26.82 | |
Year 9 | 0.00 | 6.78 | 9.27 | 9.94 | 18.48 | 26.58 | 0.00 | 6.33 | 9.09 | 8.80 | 17.57 | 25.88 | |
Year 10 | 0.00 | 6.02 | 5.99 | 6.59 | 15.63 | 25.04 | 0.00 | 5.93 | 5.78 | 5.25 | 14.80 | 24.35 | |
Year 11+ | 0.00 | 0.00 | 3.20 | 2.19 | 8.40 | 18.42 | 0.00 | 0.00 | 3.12 | 1.61 | 7.84 | 17.93 |
The value of the servicing assets would decrease $698 thousand if prepayment speeds increased 10% and the value of the servicing asset would decrease $1.3 million if prepayment speeds increased 20%.
The expected overall average life of the servicing portfolio is 3.41 years. The following schedule displays the weighted-average discount rates for each SBA pool after applying the CPRs identified above and our estimated discount rates for each SBA pool at June 30, 2008 and December 31, 2007 based on assessing each component:
Disc Rate | ||||
Original Maturity | June 30, 2008 | December 31, 2007 | ||
< 8 | Years | 12.96% | 13.24% | |
8-10 | Years | 13.59% | 13.78% | |
10-13 | Years | 13.31% | 14.07% | |
13-16 | Years | 12.90% | 14.07% | |
16-20 | Years | 11.87% | 13.25% | |
> 20 | Years | 11.45% | 12.98% |
The servicing assets value would decrease $261 thousand if the discount rate increased 1% and the servicing assets value would decrease $511 thousand if the discount rate increased 2%. The amount of interest retained on the sold portion of the SBA 7(a) loans does not change even though most of the underlying loans are variable rate. Since the retained interest is fixed, changes in interest rates impact the value. Therefore, when rates rise, the value declines and when rates decline the value increases.
Other Assets
Premises and equipment, deferred tax assets and accrued interest receivable are other major components of assets. Following is a summary of these items as of June 30, 2008 and December 31, 2007.
· | Premises and equipment was $5.6 million at June 30, 2008, compared to $5.3 million at December 31, 2007, an increase of $351 thousand or 6.66% due to completion of leasehold improvement projects. |
· | Deferred tax asset was $14.3 million at June 30, 2008, compared to $12.3 million at December 31, 2007, a $2.0 million increase or 16.26%. |
· | Accrued interest receivable was $6.0 million at June 30, 2008, compared to $6.8 million at December 31, 2007, a decrease of $785 thousand or 11.50%. The decrease in accrued interest is a result of a general decrease in interest rates and a higher level of loans on non-accrual status as of June 30, 2008, offset by an increase in loans. |
17
Deposits
Deposits were $1.23 billion at June 30, 2008, compared to $1.16 billion at December 31, 2007, a 5.84% increase. Money market and NOW accounts decreased $11.3 million, savings decreased $1.2 million, certificate of deposits (CD's) increased $69.0 million and non interest-bearing deposits increased $11.3 million. Non interest-bearing demand deposits comprised approximately 12% of total deposits at June 30, 2008 and December 31, 2007.
At June 30, 2008, 48% of deposits at the Bank had balances of $100,000 or more. At June 30, 2008, one of our customers (excluding brokered deposits) had balances over 2% of the Bank’s deposits. We prefer core deposits as a source of funds for the loan portfolio. Consequently, we take steps to attract solid core accounts while at the same time maintaining a reasonable funding cost. We will continue to solicit core deposits to diminish reliance on volatile funds.
Borrowings and Junior Subordinated Debt
Borrowings – Short-term advances from the Federal Home Loan Bank (“FHLB”) were $60.5 million at June 30, 2008, with a remaining available borrowing capacity of $39.0 million compared to no borrowings at December 31, 2007 and an available borrowing capacity of $81.1 million.
We use FHLB borrowings to fund loan demand and to manage liquidity in light of deposit flows. Our borrowing capacity can be used to borrow under various FHLB loan programs, including adjustable and fixed-rate financing, for periods ranging from one day to 30 years, with a variety of interest rate structures available. The borrowing capacity has no commitment fees or cost, requires minimum levels of investment in FHLB stock, (we receive dividend income on our investment in FHLB stock), can be withdrawn by the FHLB if there is any significant change in our financial or operating condition and is conditional upon our compliance with certain agreements covering advances, collateral maintenance, eligibility and documentation.
Junior Subordinated Debt – Pursuant to rulings of the Federal Reserve Board, bank holding companies are permitted to issue long-term subordinated debt instruments called debentures that will, subject to certain conditions, qualify as and, therefore, augment capital for regulatory purposes. The debentures are subordinated to all of our existing and future borrowings. The table below summarizes the terms of each issuance of subordinated debentures at June 30, 2008:
Series | Amount (000s) | Date Issued | Rate Adjustor | Effective Rate | Maturity Date | ||||||
Temecula Valley Statutory Trust II | $ | 5,155 | September 2003 | 3-month LIBOR +2.95% | 5.76 | % | 2033 | ||||
Temecula Valley Statutory Trust III | 8,248 | September 2004 | 3-month LIBOR +2.20% | 5.00 | % | 2034 | |||||
Temecula Valley Statutory Trust IV | 8,248 | September 2005 | 3-month LIBOR +1.40% | 4.18 | % | 2035 | |||||
Temecula Valley Statutory Trust V | 12,372 | September 2006 | 3-month LIBOR +1.60% | 4.40 | % | 2036 | |||||
Temecula Valley Statutory Trust VI | 22,901 | January 2008 | Fixed Rate | 9.45 | % | 2038 | |||||
Total | $ | 56,924 |
On January 17, 2008 we issued $22.9 million of junior subordinated debt at a fixed rate of 9.45%, with $12 million of the net proceeds transferred to the Bank as tier one capital.
The Federal Reserve Board has taken the position that these mandatorily redeemable preferred securities qualify as capital, subject to certain restrictions. As of June 30, 2008, we have included the net junior subordinated debt in our capital for regulatory capital purposes.
Capital
Total capital was $105.3 million at June 30, 2008, compared to $108.0 million at December 31, 2007. For the first six months of 2008, the $2.7 million decrease consisted of the following: $553 thousand decrease from the net loss, $405 thousand increase on the exercise of stock options, $2.0 million decrease from the repurchase and retirement of common stock, $417 thousand increase for stock-based compensation and $804 thousand decrease for cash dividends.
At June 30, 2008 and December 31, 2007, our bank and holding company were in the regulatory “well capitalized” category. Refer to the capital ratio tables included in the “Capital Planning” section of Management’s Discussion and Analysis of Financial Condition and Results of Operations.
18
RESULTS OF OPERATIONS
Net Income (Loss)
Six-month analysis. Our net income (loss) and basic and diluted earnings (loss) per share for the six months ended June 30, 2008 and 2007 are as follows:
· | For June 30, 2008, net loss was $553 thousand or $(0.06) per basic share and $(0.06) per diluted share. |
· | For June 30, 2007, net income was $9.4 million or $0.89 per basic share and $0.85 per diluted share. |
The decrease was primarily the result of a decrease in net interest income of $7.8 million due to a lower net interest margin, a decrease of $5.4 million due to lower loan sales and lower premiums on the sales, and an increase in the loan loss provision of $7.1 million.
Our return on average assets and return on average equity for the six months ended June 30th are as follows:
· | For 2008, return on average assets was (0.08)%; return on average equity was (1.05)%. |
· | For 2007, return on average assets was 1.47%; return on average equity was 17.56%. |
Second quarter analysis. Our net income (loss) and basic and diluted earnings (loss) per share for the second quarter of 2008 and 2007 are as follows:
· | For 2008, net loss was $2.0 million or $(0.20) per basic share and $(0.20) per diluted share. |
· | For 2007, net income was $5.3 million or $0.49 per basic share and $0.47 per diluted share. |
The decrease was primarily the result of a decrease in net interest income of $5.0 million, a decrease of $3.9 million in gain on sale of loans and an increase in the loan loss provision of $5.3 million.
Our return on average assets and return on average equity for the second quarter of 2008 and 2007 are as follows:
· | For 2008, return on average assets was (0.58)%; return on average equity was (7.59)%. |
· | For 2007, return on average assets was 1.59%; return on average equity was 19.07%. |
Net Interest Earnings
Net interest income is the most significant component of our income from operations. Net interest income is the difference between the interest and fees earned on loans and investments (interest-earning assets) and the interest paid on deposits and other borrowings (interest-bearing liabilities). Net interest income depends on the volume of and interest rate earned on interest-earning assets and the volume of and interest rate paid on interest-bearing liabilities.
Six-month analysis. Net interest income was $25.5 million in the first six months of 2008, compared to $33.3 million in the same period in 2007. The net interest margin was 3.91% for the six months ending June 30, 2008, compared to 5.53% for the six months ending June 30, 2007. In a decreasing rate environment, the net interest margin will compress due to longer term, higher rate time deposits maturing and repricing at a slower pace than the loan portfolio which is mostly tied to the prime rate. The yield on interest-earning assets decreased by 220 basis points for the first six months of 2008 as compared to the same period in 2007 and the cost of interest-bearing liabilities decreased by 75 basis points for the same periods. The following is a summation of various yields for interest-earning assets and various costs for interest-bearing liabilities for the six months ending June 30, 2008 and 2007:
· | Yield on loans decreased 220 basis points to 7.57% for the first six months of 2008, compared to 9.77% for the first six months of 2007 as a result of the rapid Federal Reserve Bank targeted fed funds rate decreases as well as interest income being reversed on loans that were placed on nonaccrual status. The placement of loans on non-accrual status resulted in approximately $2.3 million of reduced interest income in the first six months of 2008. |
· | Yield on investments, which include interest-bearing deposits, securities and federal funds sold, decreased 187 basis points to 3.36% for the first six months of 2008, compared to 5.23% for the first six months of 2007. The decrease is a result of a decrease in interest rates. |
· | Cost of interest-bearing deposits decreased 74 basis points to 4.03% for the first six months of 2008, compared to 4.77% for the first six months of 2007 as a result of the decreasing interest rate environment. |
· | Cost of other borrowings, which include federal funds purchased, Federal Home Loan Bank advances and junior subordinated debt borrowings, decreased 219 basis points to 5.72% for the first six months of 2008, compared to 7.91% for the first six months of 2007. Contributing to the decrease in the cost of other borrowings was the increase in the average balance of Federal Home Loan Bank advances and the decreasing interest rate environment, offset by the fixed rate junior subordinated debt issued in January 2008. |
19
The following table shows average balances with corresponding interest income and interest expense as well as average yield and cost information for the six months ending June 30, 2008 and 2007. Average balances are derived from daily balances, and nonaccrual loans are included as interest-bearing loans for purposes of these tables.
Average Balances with Rates Earned and Paid | ||||||||||||||||||||||||
Six-month period ended June 30, | ||||||||||||||||||||||||
2008 | 2007 | |||||||||||||||||||||||
Average Balance | Interest Income/ Expense | Average Interest Rate | Average Balance | Interest Income/ Expense | Average Interest Rate | |||||||||||||||||||
Assets | (dollars in thousands) | |||||||||||||||||||||||
Interest-bearing deposits | $ | 1,000 | $ | 26 | 5.21 | % | $ | 179 | $ | 4 | 5.06 | % | ||||||||||||
Securities (1) | 11,465 | 213 | 3.73 | % | 1,157 | 32 | 5.61 | % | ||||||||||||||||
Federal Funds Sold | 15,965 | 238 | 2.99 | % | 25,590 | 662 | 5.21 | % | ||||||||||||||||
Total Investments | 28,430 | 477 | 3.36 | % | 26,926 | 698 | 5.23 | % | ||||||||||||||||
Total Loans (2) | 1,280,433 | 48,301 | 7.57 | % | 1,188,278 | 57,565 | 9.77 | % | ||||||||||||||||
Total Interest Earning Assets | 1,308,863 | 48,778 | 7.47 | % | 1,215,204 | 58,263 | 9.67 | % | ||||||||||||||||
Allowance for Loan Loss | (16,399 | ) | (12,659 | ) | ||||||||||||||||||||
Cash & Due From Banks | 11,499 | 13,566 | ||||||||||||||||||||||
Premises & Equipment | 5,528 | 5,581 | ||||||||||||||||||||||
Other Assets | 79,837 | 73,337 | ||||||||||||||||||||||
Total Assets | $ | 1,389,328 | $ | 1,295,029 | ||||||||||||||||||||
Liabilities and Shareholders’ Equity | ||||||||||||||||||||||||
Interest Bearing Demand | $ | 32,824 | $ | 24 | 0.15 | % | $ | 32,328 | $ | 23 | 0.15 | % | ||||||||||||
Money Market | 109,146 | 1,071 | 1.97 | % | 106,446 | 2,015 | 3.82 | % | ||||||||||||||||
Savings | 28,120 | 58 | 0.41 | % | 30,885 | 50 | 0.33 | % | ||||||||||||||||
Time Deposits under $100,000 | 479,580 | 10,932 | 4.57 | % | 408,682 | 10,198 | 5.03 | % | ||||||||||||||||
Time Deposits $100,000 or more | 397,568 | 8,941 | 4.51 | % | 409,543 | 11,061 | 5.45 | % | ||||||||||||||||
Other Borrowings | 78,453 | 2,239 | 5.72 | % | 41,161 | 1,614 | 7.91 | % | ||||||||||||||||
Total Interest Bearing Liabilities | 1,125,691 | 23,265 | 4.14 | % | 1,029,045 | 24,961 | 4.89 | % | ||||||||||||||||
Non-interest Demand Deposits | 139,274 | 144,462 | ||||||||||||||||||||||
Other Liabilities | 18,054 | 13,211 | ||||||||||||||||||||||
Shareholders' Equity | 106,309 | 108,311 | ||||||||||||||||||||||
Total Liabilities and Shareholders' equity | $ | 1,389,328 | $ | 1,295,029 | ||||||||||||||||||||
Net Interest Income | $ | 25,513 | $ | 33,302 | ||||||||||||||||||||
Interest Spread (3) | 3.33 | % | 4.78 | % | ||||||||||||||||||||
Net Interest Margin (4) | 3.91 | % | 5.53 | % | ||||||||||||||||||||
(1) There are no tax exempt investments in any of the reported periods. | ||||||||||||||||||||||||
(2) Average balances are net of deferred fees/gains that are amortized to interest income over the term of the respective loan. | ||||||||||||||||||||||||
(3) Net interest spread is the yield earned on interest-earning assets less the rate paid on interest-bearing liabilities. | ||||||||||||||||||||||||
(4) Net interest margin is the net interest income divided by the interest-earning assets. |
Second quarter analysis. Net interest income was $12.0 million in the second quarter of 2008, compared to $17.1 million in the same period in 2007. The following is a summation of various yields for interest-earning assets and various costs for interest-bearing liabilities for the second quarter 2008 and 2007:
· | Yield on loans decreased 276 basis points to 7.02% for the second quarter of 2008, compared to 9.78% for the second quarter of 2007. |
· | Yield on investments, which include interest-bearing deposits, securities and federal funds sold, decreased 187 basis points to 3.36% for the second quarter of 2008, compared to 5.23% for the second quarter of 2007. |
· | Cost of interest-bearing deposits decreased 105 basis points to 3.74% for the second quarter of 2008, compared to 4.78% for the second quarter of 2007. |
· | Cost of other borrowings, which include federal funds purchased, Federal Home Loan Bank advances and junior subordinated debt borrowings, decreased 303 basis points to 4.63% for the second quarter of 2008, compared to 7.66% for the second quarter of 2007. |
20
The following table shows average balances with corresponding interest income and interest expense as well as average yield and cost information for the three months ending June 30, 2008 and 2007. Average balances are derived from daily balances, and nonaccrual loans are included as interest-bearing loans for purposes of these tables.
Average Balances with Rates Earned and Paid | ||||||||||||||||||||||||
Three-month period ended June 30, | ||||||||||||||||||||||||
2008 | 2007 | |||||||||||||||||||||||
Average Balance | Interest Income/ Expense | Average Interest Rate | Average Balance | Interest Income/ Expense | Average Interest Rate | |||||||||||||||||||
Assets | (dollars in thousands) | |||||||||||||||||||||||
Interest-bearing deposits | $ | 1,000 | $ | 13 | 5.21 | % | $ | 257 | $ | 3 | 5.39 | % | ||||||||||||
Securities (1) | 19,698 | 168 | 3.42 | % | 1,014 | 15 | 5.64 | % | ||||||||||||||||
Federal Funds Sold | 2,429 | 13 | 2.15 | % | 30,705 | 399 | 5.21 | % | ||||||||||||||||
Total Investments | 23,127 | 194 | 3.36 | % | 31,976 | 417 | 5.23 | % | ||||||||||||||||
Total Loans (2) | 1,294,078 | 22,655 | 7.02 | % | 1,208,928 | 29,487 | 9.78 | % | ||||||||||||||||
Total Interest Earning Assets | 1,317,205 | 22,849 | 6.96 | % | 1,240,904 | 29,904 | 9.67 | % | ||||||||||||||||
Allowance for Loan Loss | (16,239 | ) | (12,599 | ) | ||||||||||||||||||||
Cash & Due From Banks | 10,801 | 12,970 | ||||||||||||||||||||||
Premises & Equipment | 5,805 | 5,553 | ||||||||||||||||||||||
Other Assets | 86,787 | 76,260 | ||||||||||||||||||||||
Total Assets | $ | 1,404,359 | $ | 1,323,088 | ||||||||||||||||||||
Liabilities and Shareholders’ Equity | ||||||||||||||||||||||||
Interest Bearing Demand | $ | 34,386 | $ | 12 | 0.14 | % | $ | 32,624 | $ | 12 | 0.15 | % | ||||||||||||
Money Market | 102,606 | 414 | 1.62 | % | 109,535 | 1,057 | 3.87 | % | ||||||||||||||||
Savings | 27,985 | 27 | 0.39 | % | 30,343 | 26 | 0.34 | % | ||||||||||||||||
Time Deposits under $100,000 | 485,641 | 5,203 | 4.30 | % | 423,717 | 5,518 | 5.22 | % | ||||||||||||||||
Time Deposits $100,000 or more | 383,647 | 3,975 | 4.16 | % | 416,428 | 5,458 | 5.26 | % | ||||||||||||||||
Other Borrowings | 104,008 | 1,201 | 4.63 | % | 40,781 | 779 | 7.66 | % | ||||||||||||||||
Total Interest Bearing Liabilities | 1,138,273 | 10,832 | 3.82 | % | 1,053,428 | 12,850 | 4.89 | % | ||||||||||||||||
Non-interest Demand Deposits | 142,939 | 145,629 | ||||||||||||||||||||||
Other Liabilities | 16,603 | 13,607 | ||||||||||||||||||||||
Shareholders' Equity | 106,544 | 110,424 | ||||||||||||||||||||||
Total Liabilities and Shareholders' equity | $ | 1,404,359 | $ | 1,323,088 | ||||||||||||||||||||
Net Interest Income | $ | 12,017 | $ | 17,054 | ||||||||||||||||||||
Interest Spread (3) | 3.14 | % | 4.77 | % | ||||||||||||||||||||
Net Interest Margin (4) | 3.66 | % | 5.51 | % | ||||||||||||||||||||
(1) There are no tax exempt investments in any of the reported periods. | ||||||||||||||||||||||||
(2) Average balances are net of deferred fees/gains that are amortized to interest income over the term of the respective loan. | ||||||||||||||||||||||||
(3) Net interest spread is the yield earned on interest-earning assets less the rate paid on interest-bearing liabilities. | ||||||||||||||||||||||||
(4) Net interest margin is the net interest income divided by the interest-earning assets. |
21
The following table shows a comparison of interest income and interest expense as the result of changes in the volumes and rates on average interest-earning assets and average interest-bearing liabilities for the three and six months ended June 30, 2008 and 2007.
Rate/Volume Analysis | |||||||||||||||||||||||||
Increase/Decrease in Net Interest Income | |||||||||||||||||||||||||
Three month period ended | Six month period ended | ||||||||||||||||||||||||
June 30, 2008 and 2007 | June 30, 2008 and 2007 | ||||||||||||||||||||||||
Volume | Rate | Total | Volume | Rate | Total | ||||||||||||||||||||
Assets | (dollars in thousands) | ||||||||||||||||||||||||
Interest-bearing deposits | $ | 10 | $ | - - | $ | 10 | $ | 21 | $ | 1 | $ | 22 | |||||||||||||
Securities (1) | 262 | (109 | ) | 153 | 289 | (108 | ) | 181 | |||||||||||||||||
Federal Funds Sold | (367 | ) | (19 | ) | (386 | ) | (248 | ) | (176 | ) | (424 | ) | |||||||||||||
Total Investments | (95 | ) | (128 | ) | (223 | ) | 62 | (283 | ) | (221 | ) | ||||||||||||||
Total Loans (2) | 2,077 | (8,909 | ) | (6,832 | ) | 4,807 | (14,071 | ) | (9,264 | ) | |||||||||||||||
Total Interest Earning Assets | $ | 1,982 | $ | (9,037 | ) | $ | (7,055 | ) | $ | 4,869 | $ | (14,354 | ) | $ | (9,485 | ) | |||||||||
Liabilities and | |||||||||||||||||||||||||
Shareholders' Equity | |||||||||||||||||||||||||
Interest Bearing Demand | 1 | (1 | ) | - - | 2 | (1 | ) | 1 | |||||||||||||||||
Money Market | (67 | ) | (576 | ) | (643 | ) | 63 | (1,007 | ) | (944 | ) | ||||||||||||||
Savings | (2 | ) | 3 | 1 | (4 | ) | 12 | 8 | |||||||||||||||||
Time Deposits under $100,000 | 806 | (1,121 | ) | (315 | ) | 1,835 | (1,101 | ) | 734 | ||||||||||||||||
Time Deposits $100,000 or more | (430 | ) | (1,053 | ) | (1,483 | ) | (264 | ) | (1,856 | ) | (2,120 | ) | |||||||||||||
Other Borrowings | 1,208 | (786 | ) | 422 | 1,479 | (854 | ) | 625 | |||||||||||||||||
Total Interest Bearing Liabilities | 1,516 | (3,534 | ) | (2,018 | ) | 3,111 | (4,807 | ) | (1,696 | ) | |||||||||||||||
Net Interest Income | $ | 466 | $ | (5,503 | ) | $ | (5,037 | ) | $ | 1,758 | $ | (9,547 | ) | $ | (7,789 | ) | |||||||||
(1) There are no tax exempt investments in any of the reported periods. | |||||||||||||||||||||||||
(2) Average balances are net of deferred fees/gains that are amortized to interest income over the term of the respective loan. |
Provision for Loan Losses
The allowance for loan losses represents management’s best estimate of probable incurred losses in the loan portfolio. We have a monitoring system to identify impaired and/or potential problem loans. This system assists in the periodic evaluation of impairment and in determining the amount of the allowance for loan losses required.
The monitoring system and allowance for loan losses methodology have evolved over a period of years, and loan classifications have been incorporated into the determination of the allowance for loan losses. The monitoring system and allowance methodology include an assessment of individual impaired loans, as well as applying loss factors to all loans not individually classified as impaired. Impaired loans are reviewed individually to estimate the amount of probable loss that needs to be included in the allowance. These reviews include analysis of financial information as well as evaluation of collateral securing the credit. The analysis also considers general factors such as changes in lending policies and procedures, economic trends, loan volume trends, changes in lending management and staff, trends in delinquencies, nonaccruals and charge-offs, changes in loan review and Board oversight, the effects of competition, legal and regulatory requirements, and factors inherent to each loan pool.
During the second quarter of 2008, the SFAS 5 component of the allowance for loan losses was adjusted upwards as part of the Company’s quarterly review of the calculation. The increases in the factors are primarily related to an increase in the net nonperforming loans and an increase in net charge-offs. Non performing loans increased to $52.1 million as of June 30, 2008 as compared to $20.6 million as of December 31, 2007, an increase $31.5 million while net charge-offs to average total loans increased to an annualized rate of 0.67% as of June 30, 2008 as compared to 0.09% as of December 31, 2007.
The provision was $7.5 million and $415 thousand for the first six months of 2008 and 2007, respectively. For the second quarter of 2008, the provision was $5.3 million, compared to no provision for the second quarter of 2007. The provision for loan losses was increased from $2.2 million in the first quarter to $5.3 million in the second quarter to cover the increased amount of charge-offs, to cover the slight increase in loans outstanding, and to cover probable incurred losses associated with the general economic conditions in the markets we serve.
Non-Interest Income
Non-interest income is an important revenue source for us. Non-interest income consists of service charges and fees, gain on sale of loans and other assets, loan servicing, broker and other loan related income.
22
Six-month analysis. Non-interest income was $5.5 million for the first six months of 2008, compared to $10.0 million for the same period in 2007, a $4.5 million decrease. The main contributors to the decrease were the decreases of gains on sale of loans and loan broker income, offset by an increase in servicing income. The variances were as follows:
· | Gain on sale of loans were $1.4 million in the first six months of 2008, compared to $6.8 million for the same period in 2007, a $5.4 million decrease. The decrease in gain on sale of loans is the result of lower premiums on SBA 7(a) loan sales coupled with lower volume of SBA 7(a) and SBA 504 loan sales. This is a temporary difference as we anticipate an increase in loan sales with the addition of our SBA production officers. |
· | Loan broker income was $950 thousand in the first six months of 2008, compared to $2.7 million for the same period in 2007, a $1.7 million decrease. The decrease is a result of lower volume in the first six months of 2008 compared to the same period in 2007. |
· | Servicing income was $523 thousand in the first six months of 2008, compared to a loss of $1.7 million for the same period in 2007, a $2.2 million increase. As a result of most SBA 7(a) loans now being sold at a premium instead of at par (par loan sales carry a higher servicing rate), the weighted-average rate on servicing assets has been decreasing. At June 30, 2008, we were servicing approximately $353.8 million of the guaranteed portion of 7(a) loans previously sold with a weighted-average servicing rate of 1.70%. The SBA 7(a) guaranteed servicing portfolio balance as of December 31, 2007 was $374.4 million with a weighted-average servicing rate of 1.69%. The servicing income was negative for the six month period ending June 30, 2007 as a result of adjusting the fair value of the servicing and I/O assets to account for an increase in the discount rate and prepayments experienced in our SBA loan portfolio and higher discount rates due to the dislocation of the credit markets. For the first six months of 2008, the prepayment and discount rates have stabilized and the servicing income has improved. |
Second quarter analysis. Non-interest income was $2.8 million in the second quarter of 2008, compared to $6.1 million in the same period in 2007, a $3.3 million decrease. The main contributors to the decrease were the decreases in gain on sale of loans and loan broker income, offset by an increase in servicing income (loss). The variances were as follows:
· | Gain on sale of loans were $570 thousand in the second quarter of 2008, compared to $4.5 million for the same period in 2007, a $3.9 million decrease. |
· | Loan broker income was $334 thousand in the second quarter of 2008, compared to $1.3 million for the same period in 2007, a $941 thousand decrease. |
· | Servicing income was $552 thousand in the second quarter of 2008, compared to a loss of $855 thousand for the same period in 2007, a $1.4 million increase. |
The following table summarizes the components of non-interest income for the three and six months ended June 30, 2008 and 2007.
Fees and Other Income | ||||||||||||||||
Three Months Ended June 30, | Six Months Ended June 30, | |||||||||||||||
2008 | 2007 | 2008 | 2007 | |||||||||||||
(dollars in thousands) | ||||||||||||||||
Service Charges and Fees | $ | 147 | $ | 151 | $ | 299 | $ | 300 | ||||||||
Gain on Sale of Loans | 570 | 4,453 | 1,400 | 6,750 | ||||||||||||
Gain(Loss) on Other Assets and Other Real Estate Owned | (17 | ) | 1 | 35 | (13 | ) | ||||||||||
Servicing Income (Loss) | 552 | (855 | ) | 523 | (1,710 | ) | ||||||||||
Loan Broker Income | 334 | 1,275 | 950 | 2,661 | ||||||||||||
Loan Related Income | 614 | 559 | 1,027 | 1,017 | ||||||||||||
Other Income | 592 | 533 | 1,309 | 1,050 | ||||||||||||
$ | 2,792 | $ | 6,117 | $ | 5,543 | $ | 10,055 |
23
The gain on sale of loans was $1.4 million in the first six months of 2008 compared to $6.8 million in the same period in 2007, a $5.4 million decrease. For the second quarter of 2008, the gain on sale of loans was $570 thousand compared to $4.5 million for the second quarter of 2007. The following table summarizes the gain on sale of loans and other assets for the three and six months ended June 30, 2008 and 2007.
Gain on Sale of Loans / Assets | ||||||||||||||||
Three months ended June 30, | Six months ended June 30, | |||||||||||||||
2008 | 2007 | 2008 | 2007 | |||||||||||||
(dollars in thousands) | ||||||||||||||||
SBA 7A Unguaranteed Sales | $ | - - | $ | 496 | $ | - - | $ | 648 | ||||||||
SBA 7A Guaranteed Sales | 566 | 1,890 | 1,053 | 2,847 | ||||||||||||
1st TD Sales | - - | 1,311 | - - | 1,311 | ||||||||||||
SBA 504 Sales | 58 | 13 | 404 | 833 | ||||||||||||
Other Loan Related | (54 | ) | 743 | (57 | ) | 1,111 | ||||||||||
REO Gain (Loss) | - - | - - | 52 | (15 | ) | |||||||||||
Fixed Assets Gain (Loss) | (17 | ) | 1 | (17 | ) | 2 | ||||||||||
Total | $ | 553 | $ | 4,454 | $ | 1,435 | $ | 6,737 |
Non-Interest Expense
Non-interest expenses consist of salaries and benefits, occupancy, furniture and equipment, processing, office expense and professional costs such as legal and auditing, marketing and regulatory fees. These expenses are reviewed and controlled to maintain cost effective levels of operation.
Six-month analysis. For the six months ended June 30, 2008, non-interest expense was $24.8 million, compared to $27.0 million for the same period in 2007, a $2.2 million decrease. The main contributors to the decrease were salaries and employee benefits, offset by increases in regulatory assessment expense, and other expense. The variances were as follows:
· | Salaries and benefits were $15.8 million in the first six months of 2008, compared to $18.3 million for the same period in 2007, a $2.5 million decrease. The decrease in salaries and benefits is primarily a result of lower commissions on SBA brokered loan sales, lower bonus accruals and lower full-time equivalent (1), offset by additional SBA production officers. The table below sets forth information concerning our total number of employees, our total number of full-time equivalent (1) and our total number of full time employees for the periods indicated: |
June 30, 2008 | December 31, 2007 | June 30, 2007 | |
Number of employees | 305 | 325 | 323 |
Number of full-time equivalent (1) | 299 | 316 | 318 |
Number of full-time | 283 | 296 | 304 |
(1) Full-time equivalent (“FTE”) is defined as the number of total hours worked divided by the maximum number of compensable hours in a work year. For example, if the work year is defined as 2,080 hours, then one employee occupying a paid full time job all year would consume one FTE. Two employees working for 1,040 hours each would consume one FTE between the two of them. |
Also included in the salaries and benefits expense for the first six months of 2008 is $417 thousand and for the first six months of 2007 is $368 thousand for stock-based compensation for all share-based payments as a result of the adoption of SFAS No. 123R.
· | Regulatory assessment expenses were $555 thousand for the first six months of 2008, compared to $111 thousand for the same period in 2007, a $444 thousand increase. In November 2006, the Federal Deposit Insurance Corporation ("FDIC") finalized a rule intended to match an institution's deposit insurance premium to the risk an institution poses to the deposit insurance fund. The final regulations adopt a new base schedule of rates that the FDIC Board could adjust up or down, depending on the revenue needs of the insurance fund. During the third quarter of 2007, we were assessed at the new deposit insurance rate retroactive to March 31, 2007. The $444 increase is due to the increase in FDIC assessments. |
· | Other expenses were $1.3 million for the first six months of 2008, compared to $963 thousand for the same period in 2007, a $363 thousand increase. A majority of this increase is due to increases in loan collection expenses associated with non-accrual loans and expenses associated with OREO. |
Second quarter analysis. For the second quarter of 2008, non-interest expense was $13.2 million compared, to $14.3 million for the same period in 2007, a $1.1 million decrease. The main contributors to the decrease were salaries and employee benefits, offset by increases in regulatory assessment expense, and other expense. The variances were as follows:
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· | Salaries and benefits were $8.2 million in the second quarter of 2008, compared to $9.6 million for the same period in 2007, a $1.4 million decrease. |
· | Regulatory assessment expenses were $311 thousand in the second quarter of 2008, compared to $56 thousand for the same period in 2007, a $255 thousand increase. |
· | Other expenses were $1.1 million in the second quarter of 2008, compared to $846 thousand for the same period in 2007, a $279 thousand increase. |
The following table summarizes the components of non-interest expense for the three and six months ended June 30, 2008 and 2007.
Other Expenses | ||||||||||||||||
Three Months Ended June 30, | Six Months Ended June 30, | |||||||||||||||
2008 | 2007 | 2008 | 2007 | |||||||||||||
(dollars in thousands) | ||||||||||||||||
Salaries and Employee Benefits | $ | 8,214 | $ | 9,646 | $ | 15,826 | $ | 18,283 | ||||||||
Occupancy Expenses | 873 | 817 | 1,719 | 1,609 | ||||||||||||
Furniture and Equipment | 440 | 456 | 930 | 928 | ||||||||||||
Data Processing | 350 | 353 | 697 | 705 | ||||||||||||
Marketing and Business Promotion | 154 | 257 | 417 | 601 | ||||||||||||
Legal and Professional | 285 | 403 | 666 | 711 | ||||||||||||
Regulatory Assessments | 311 | 56 | 555 | 111 | ||||||||||||
Travel & Entertainment | 218 | 285 | 429 | 591 | ||||||||||||
Loan Related Expense | 600 | 493 | 1,068 | 1,115 | ||||||||||||
Office Expenses | 592 | 705 | 1,174 | 1,363 | ||||||||||||
Other Expenses | 1,126 | 846 | 1,327 | 963 | ||||||||||||
$ | 13,163 | $ | 14,317 | $ | 24,808 | $ | 26,980 |
Income Taxes
The tax provision totaled $(699) thousand for the first six months of 2008 and $6.5 million for the first six months of 2007, representing 55.8% and 40.9%, respectively, of pre-tax income for those periods. The amount of the tax provision is determined by applying our statutory income tax rates to pre-tax book income, adjusted for permanent differences between pre-tax book income and actual taxable income. Such permanent differences include but are not limited to increases in the cash surrender value of bank-owned life insurance, net interest on California Enterprise Zone loans, compensation expense associated with stock options and certain other expenses that are not allowed as tax deductions and tax credits. Deferred tax assets totaled $13.3 million at June 30, 2008, compared to $12.3 million at December 31, 2007. Over half of the deferred tax asset balance is due to the tax deductibility timing difference of the provision for loan losses. The tax provision totaled $(2.0) million for the second quarter of 2008 and $5.3 million for the second quarter of 2007, representing 45.0% and 40.7%, respectively, of pre-tax income for those periods.
LIQUIDITY
Banks are in the business of managing money. Consequently, funds management is essential to the ongoing profitability of a bank. A bank must attract funds at a reasonable rate and deploy the funds at an appropriate rate of return, while taking into account risk factors, interest rates, short- and long-term liquidity positions and profitability needs. Recent disruptions in the financial credit and liquidity markets have had the effect of decreasing the overall liquidity in the marketplace. Competition from financial institutions seeking to maintain adequate liquidity has placed upward pressure on the rates paid on certain deposit accounts. Liquidity management involves our ability to meet cash flow requirements arising from fluctuations in deposit levels and demands of daily operations, which include providing for customers’ credit needs and ongoing repayment of borrowings.
Our cash position is determined on a daily basis. On a monthly basis, our board reviews our liquidity position. One analysis measures the liquidity gap, which is a measurement of primary and secondary liquidity sources to total deposits, and other borrowings that mature within one year. Another analysis measures an industry standard peer group liquidity ratio to ours. Our guidelines state a 10% ratio or more should be maintained. At June 30, 2008, the ratio was 10.86%.
Our primary sources of liquidity are derived from financing activities that include Federal Funds lines of credit at correspondent banks, Federal Home Loan Bank Advances, Money Desk deposits, brokered deposits, and customer deposits. We maintain Federal Funds lines of credit of $78.0 million for short-term liquidity. In addition, we have created a borrowing capacity at the Federal Home Loan Bank that fluctuates with loan balances pledged as collateral. At June 30, 2008, our borrowing capacity with the Federal Home Loan Bank was $99.5 million and at December 31, 2007 it was $81.1 million. Payments of principal and interest on loans and sales and participations of eligible loans augment these funding sources. Primary uses of funds include withdrawal of deposits, interest paid on deposits and borrowings, originations of loans, and payment of operating expenses.
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Net cash used in operating activities totaled $23.3 million for the first six months of 2008, compared to net cash used in operating activities of $9.3 million for the same period last year. The increase was primarily the result of the reduction in net income and the net change in deferred loan origination fees.
Net cash used by investing activities totaled $129.6 million for the first six months of 2008, compared to net cash provided by of $7.0 million for the same period in 2007. The change was primarily the result of the purchase of $40.0 million in U.S. government agency securities, available-for-sale and the increased loan growth in the current year compared to the prior year.
Net cash provided by financing activities totaled $148.8 million for the first six months of 2008, compared to $60.2 million for the same period last year. The change was primarily the result of the borrowings from Federal Home Loan Bank and the addition of junior subordinated debt in 2008.
At June 30, 2008, cash and cash equivalents totaled $13.5 million, compared to $91.4 million at June 30, 2007, a decrease of $77.9 million, or 85.3%. The liquidity of our holding company is primarily dependent on the payment of cash dividends by our bank, subject to restrictions set forth by applicable California and Federal laws and regulations. As of June 30, 2008, approximately $18.9 million of undivided profits of our bank were available for dividends to our company, (an amount that would allow maintenance of the “well capitalized” level).
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CAPITAL PLANNING
It is our goal to maintain capital levels within the regulatory “well capitalized” category. We update our multiple-year capital plan annually in conjunction with the preparation of the annual budget. Capital levels are always a primary concern of the federal regulatory authorities, and we submit capital plans to them when requested. It is our strategy to maintain an adequate level of capital, which by definition excludes excessive as well as inadequate capital. The following tables set forth our actual capital amounts and ratios (dollar amounts in thousands).
Amount of Capital Required | ||||||||
For Capital Adequacy Purposes | ||||||||
Temecula Valley Bancorp | Amount | Ratio | Amount | Ratio | ||||
As of June 30, 2008: | ||||||||
Total Risk-Based Capital (to Risk-Weighted Assets) | $ | 178,987 | 11.80% | $ | 121,347 | 8.00% | ||
Tier 1 Risk-Based Capital (to Risk-Weighted Assets) | $ | 139,814 | 9.22% | $ | 60,657 | 4.00% | ||
Tier 1 Leverage Ratio (to Average Assets) | $ | 139,814 | 9.96% | $ | 56,150 | 4.00% | ||
As of December 31, 2007: | ||||||||
Total Risk-Based Capital (to Risk-Weighted Assets) | $ | 157,101 | 10.80% | $ | 116,380 | 8.00% | ||
Tier 1 Risk-Based Capital (to Risk-Weighted Assets) | $ | 140,424 | 9.65% | $ | 58,190 | 4.00% | ||
Tier 1 Leverage Ratio (to Average Assets) | $ | 140,424 | 10.63% | $ | 52,844 | 4.00% |
Amount of Capital Required | |||||||||||||
For Capital Adequacy Purposes | To Be Well Capitalized Under Prompt Corrective Provisions | ||||||||||||
Temecula Valley Bank | Amount | Ratio | Amount | Ratio | Amount | Ratio | |||||||
As of June 30, 2008: | |||||||||||||
Total Risk-Based Capital (to Risk-Weighted Assets) | $ | 170,281 | 11.25% | $ | 121,089 | 8.00% | $ | 151,361 | 10.00% | ||||
Tier 1 Risk-Based Capital (to Risk-Weighted Assets) | $ | 151,350 | 10.00% | $ | 60,540 | 4.00% | $ | 90,810 | 6.00% | ||||
Tier 1 Leverage Ratio (to Average Assets) | $ | 151,350 | 10.80% | $ | 56,056 | 4.00% | $ | 70,069 | 5.00% | ||||
As of December 31, 2007: | |||||||||||||
Total Risk-Based Capital (to Risk-Weighted Assets) | $ | 154,912 | 10.66% | $ | 116,290 | 8.00% | $ | 145,362 | 10.00% | ||||
Tier 1 Risk-Based Capital (to Risk-Weighted Assets) | $ | 138,235 | 9.51% | $ | 58,145 | 4.00% | $ | 87,217 | 6.00% | ||||
Tier 1 Leverage Ratio (to Average Assets) | $ | 138,235 | 10.48% | $ | 52,805 | 4.00% | $ | 66,006 | 5.00% |
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
Our accounting policies are integral to understanding the results reported. In preparing our consolidated financial statements, we are required to make judgments and estimates that may have a significant impact upon our financial results. Certain accounting policies require us to make significant estimates and assumptions, which have a material impact on the carrying value of certain assets and liabilities, and are considered critical accounting policies. The estimates and assumptions used are based on historical experiences and other factors, which are believed to be reasonable under the circumstances. Actual results could differ significantly from these estimates and assumptions, which could have a material impact on the carrying value of assets and liabilities at the balance sheet dates and results of operations for the reporting periods.
Two critical accounting policies are noteworthy. They concern the allowance for loan loss and the SBA servicing assets and I/O strips. They are considered critical due to the assumptions that are contained in their calculation, as well as external factors that can affect their value. Through quarterly review and analysis, valuations and calculations are tested for reasonableness. For a discussion of our critical accounting policies, see Item 7 "Management Discussion and Analysis" of our report on Form 10-K for the year-ended December 31, 2007.
LOAN COMMITMENTS AND RELATED FINANCIAL INSTRUMENTS
Loan Commitments and Off-Balance Sheet Financial Instruments
In the normal course of business, we enter into off-balance sheet financial commitments to meet the financing needs of our customers. These financial commitments include commitments to extend credit and standby letters of credit. Those instruments involve to varying degrees, elements of credit and interest rate risk not recognized in the statement of financial position. Our exposure to loan loss in the event of nonperformance on commitments to extend credit and standby letters of credit is represented by the contractual amount of those instruments. We use the same credit policies in making commitments as we do for loans reflected in our financial statements.
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Commitments to extend credit are agreements to lend to a customer as long as there is no violation of any condition established in the contract. Standby letters of credit are conditional commitments to guarantee the performance of a customer to a third party. Since many of the commitments and standby letters of credit are expected to expire without being drawn upon, the total amounts do not necessarily represent future cash requirements. We evaluate each customer's credit worthiness on a case-by-case basis. The amount of collateral obtained, if deemed necessary, is based on management's credit evaluation of the customer.
Contractual Obligations
We conduct business at eleven full-service banking offices in Southern California and multiple loan production offices in six states, including California. The main office facilities are located at 27710 Jefferson Avenue, Suite A100, Temecula, California. As of June 30, 2008, we owned the property at one of our branch locations. The remaining banking offices and other offices are leased. Most of the leases contain multiple renewal options and provisions for rental increases, principally for changes in the cost of living index, property taxes and maintenance. Total future rental payments (exclusive of operating charges and real property taxes) are approximately $4.3 million, with lease expiration dates ranging from 2008 to 2014, exclusive of renewal options.
The following table summarizes our aggregate contractual obligations and their maturities as of June 30, 2008.
Loan Commitments and Related Financial Instruments | ||||||||||||||||||||
Maturity by period as of June 30, 2008 | ||||||||||||||||||||
One year | More than 1 | More than 3 | More than | |||||||||||||||||
Total | or less | year to 3 years | years to 5 years | 5 years | ||||||||||||||||
(Dollars in Thousands) | ||||||||||||||||||||
Commitments to Extend Credit | $ | 363,335 | $ | 233,114 | $ | 59,738 | $ | 1,293 | $ | 69,190 | ||||||||||
Letters of Credit | 12,647 | 12,489 | 158 | - - | - - | |||||||||||||||
Loan Commitments Outstanding | 375,982 | 245,603 | 59,896 | 1,293 | 69,190 | |||||||||||||||
Borrowings from Federal Home Loan Bank | 60,530 | 60,530 | - - | - - | - - | |||||||||||||||
Junior Subordinated Debt | 56,924 | - - | - - | - - | 56,924 | |||||||||||||||
Operating Lease Obligations | 4,347 | 1,749 | 1,941 | 512 | 145 | |||||||||||||||
Other Commitments Outstanding | 121,801 | 62,279 | 1,941 | 512 | 57,069 | |||||||||||||||
Total Outstanding Commitments | $ | 497,783 | $ | 307,882 | $ | 61,837 | $ | 1,805 | $ | 126,259 |
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ITEM 3 – QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Market risk is the possible chance of loss from unfavorable changes in market prices and rates. These changes may result in a reduction of current and future period net interest income, which is the favorable spread earned from the excess of interest income on interest-earning assets over interest expense on interest-bearing liabilities.
We do not currently engage in trading activities or use derivative instruments to control interest rate risk, even though such activities may be permitted with the approval of our board. We are most affected by interest rate and liquidity risks. Other types of market risk, such as foreign currency exchange risk, equity price risk and commodity price risk, are not significant to us in the normal course of our business activities.
The ongoing monitoring and management of both interest rate risk and liquidity, in the short and long-term time horizon, is an important component of our asset/liability management process, which is governed by limits established in the policies reviewed and approved annually by our board. We do not believe it is possible to reliably predict future interest rate movements, but instead maintain an appropriate process and set of measurement tools that enable us to identify and quantify sources of interest rate risk in varying rate environments. Our primary tool in managing interest rate risk is the effect of interest rate shocks on the net interest income.
The following reflects our one year net interest income sensitivity based on asset and liability levels using June 30, 2008 as a starting point. For purposes of this table, there is assumed to be zero growth in loans, investments, deposits, and other components of the balance sheet.
June 30, 2008 | ||||||||||||||
Changes in | Projected Net | Change from | % Change from | |||||||||||
Rates | Interest Income | Base Case | Base Case | |||||||||||
(dollars in thousands) | ||||||||||||||
+300 | bp | $ | 55,016 | $ | 12,481 | 29.34 | % | |||||||
+200 | bp | 50,521 | 7,986 | 18.78 | % | |||||||||
+100 | bp | 46,343 | 3,808 | 8.95 | % | |||||||||
- - | bp | 42,535 | - - | 0.00 | % | |||||||||
-100 | bp | 39,056 | (3,479 | ) | (8.18 | %) | ||||||||
-200 | bp | 35,570 | (6,965 | ) | (16.37 | %) | ||||||||
-300 | bp | 31,734 | (10,801 | ) | (25.39 | %) |
In the model, a rising rate environment will increase net interest income (NII) from a flat rate environment. A lower rate environment will decrease net interest income. The analysis does not represent a forecast and should not be relied upon as being indicative of expected operating results. These hypothetical estimates are based upon various assumptions. While the assumptions are developed upon current economic and market conditions, we cannot make any assurances as to the predictive nature of these assumptions. Furthermore, the sensitivity analysis does not reflect actions our board might take in responding to or anticipating changes in interest rates.
ITEM 4 – CONTROLS AND PROCEDURES
As of the end of the period covered by this report, our management carried out an evaluation, under the supervision and with the participation of our principal executive officer and principal financial officer, of the effectiveness (as defined in Rules 13a through15e) of our disclosure controls and procedures and have concluded that as of the period covered by this report our disclosure controls and procedures were effective.
In addition, there have been no changes in our internal control over financial reporting identified in connection with the evaluation described in the above paragraph that occurred during our last fiscal quarter that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.
PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
As of June 30, 2008, we are not party to any litigation that is considered likely to have a material adverse effect on us.
ITEM 1A. RISK FACTORS
There have been no material changes in the discussion pertaining to risk factors described in Item 1A to Part I of our Annual Report on Form 10-K, for fiscal year ended December 31, 2007, which Item 1A is incorporated herein by reference. These risks are not the only risks we face. Additional risks and uncertainties not currently known to us or that we currently deem to be immaterial also may materially adversely affect our business, financial condition and operating results.
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ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
Stock Repurchases
On May 22, 2007, we announced a program to repurchase up to $5.5 million of our company’s common stock in the open market, for a period of six months ending November 22, 2007. On July 23, 2007, we announced a second program to repurchase up to $10.0 million of our company’s common stock in the open market, for a period of six months ending January 20, 2008. On January 20, 2008, we announced an extension of the second repurchase plan for an additional twelve months ending January 20, 2009 and an increase to allow a repurchase of up to an additional $8.6 million of our company’s common stock in the open market.
The following table provides information concerning our Company’s repurchases of its common stock during the second quarter of 2008, all of which were executed in accordance with SEC Rule 10b-18:
Issuer Purchases of Equity Securities | ||||||||||||
Period | ( a ) Total number of shares purchased | ( b ) Average price paid per share | ( c ) Total number of shares purchased as part of publicly announced plans or programs | ( d ) Maximum number (or approximate dollar value) of shares that may yet be purchased under the plans or programs | ||||||||
04/01/08 | - | 04/30/08 | - - | $ | - - | - - | $ | 10,358,103 | ||||
05/01/08 | - | 05/31/08 | 50,000 | $ | 7.27 | 50,000 | $ | 9,994,753 | ||||
06/01/08 | - | 06/30/08 | - - | $ | - - | - - | $ | 9,994,753 | ||||
Total | 50,000 | (1) | $ | 7.27 | (2) | 50,000 | (1) | $ | 9,994,753 | |||
(1) For 2008, the shares repurchased were pursuant to the plan announced January 20, 2008. All repurchases were made in open market transactions. | ||||||||||||
(2) This price includes a commission of $0.05 per share. |
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
None
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ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
On May 27, 2008, we held our annual meeting of security holders. Two matters were submitted to our common shareholders. The following individuals were elected for a one-year term to our Board of Directors, until their successors are duly elected and qualified, and the amendments to the stock option plan were approved by our shareholders. The results were as follows:
For | Withheld | # of Abstentions/Broker Non-Votes | |||
Dr. Steven W. Aichle | 7,815,001 | 150,166 | - - | ||
Dr. Robert P. Beck | 7,815,001 | 150,166 | - - | ||
Neil M. Cleveland | 7,832,840 | 132,327 | - - | ||
George Cossolias | 7,806,663 | 158,504 | - - | ||
Luther J. Mohr | 7,830,090 | 135,077 | - - | ||
Stephen H. Wacknitz | 7,834,100 | 131,067 | - - | ||
Richard W. Wright | 7,810,151 | 155,016 | - - | ||
Amendment of the Temecula Valley Bancorp Inc. 2004 Stock Incentive Plan | 3,823,289 | 707,599 | 3,434,279 |
ITEM 5. OTHER INFORMATION
(a) None
(b) None.
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ITEM 6. EXHIBITS
Exhibit No. Description of Exhibit
10.1 Salary Continuation Agreement dated April 20, 2008 between David Bartram and Temecula Valley Bank #
31.1 Rule 13a-14(a) Certification of Chief Executive Officer
31.2 Rule 13a-14(a) Certification of Chief Financial Officer
32.1 Section 1350 Certifications
_______________
# Management contract or compensatory plan or arrangement
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) 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.
TEMECULA VALLEY BANCORP INC.
DATE: August 8, 2008 By: /s/ Stephen H. Wacknitz
Stephen H. Wacknitz,
160; Chairman of the Board, President and
0; Chief Executive Officer
By: /s/ Donald A. Pitcher
Donald A. Pitcher,
Executive Vice President,
Chief Financial Officer
32