Loans and Lease Finance Receivables and Allowance for Loan Losses | 6. LOANS AND LEASE FINANCE RECEIVABLES AND ALLOWANCE FOR LOAN LOSSES Prior to April 1, 2019, our loans and lease finance receivables consisted of purchase credit impaired (“PCI”) loans associated with the acquisition of San Joaquin Bank (SJB”) on October 16, 2009, and loans and lease finance receivables excluding PCI loans (“Non-PCI Summary of Significant Accounting Policies 10-K Beginning with June Non-PCI The following table provides a summary of the Company’s total loans and lease finance receivables by type. September 30, 2019 December 31, 2018 Total Loans Non-PCI PCI Loans Total Loans (Dollars in thousands) Commercial and industrial $ 921,678 $ 1,002,209 $ 519 1,002,728 SBA 319,571 350,043 1,258 351,301 Real estate: Commercial real estate 5,375,668 5,394,229 14,407 5,408,636 Construction 119,931 122,782 - 122,782 SFR mortgage 278,644 296,504 145 296,649 Dairy & livestock and agribusiness 311,229 393,843 700 394,543 Municipal lease finance receivables 54,468 64,186 - 64,186 Consumer and other loans 117,128 128,429 185 128,614 Gross loans 7,498,317 7,752,225 17,214 7,769,439 Less: Deferred loan fees, net (3,866 ) (4,828 ) - (4,828 ) Gross loans, net of deferred loan fees 7,494,451 7,747,397 17,214 7,764,611 Less: Allowance for loan losses (68,672 ) (63,409 ) (204 ) (63,613 ) Total loans and lease finance receivables $ 7,425,779 $ 7,683,988 $ 17,010 $ 7,700,998 As of September 30, 2019, 77.01% of the Company’s total gross loan portfolio consisted of real estate loans, with commercial real estate loans representing total loans At September 30, 2019, the Company held approximately $3.83 billion of total fixed rate loans. At September 30, 2019 and December 31, 2018, loans totaling $5.91 billion and $5.71 billion, respectively, were pledged to secure the borrowings and available lines of credit from the FHLB and the Federal Reserve Bank. There were no outstanding loans held-for-sale Credit Quality Indicators An important element of our approach to credit risk management is our loan risk rating system. The originating officer assigns each loan an initial risk rating, which is reviewed and confirmed or changed, as appropriate, by credit management. Approvals are made based upon the amount of inherent credit risk specific to the transaction and are reviewed for appropriateness by senior line and credit management personnel. Credits are monitored by line and credit management personnel for deterioration or improvement in a borrower’s financial condition, which would impact the ability of the borrower to perform under the contract. Risk ratings are adjusted as necessary. Loans are risk rated into the following categories (Credit Quality Indicators): Pass, Special Mention, Substandard, Doubtful and Loss. Each of these groups is assessed for the proper amount to be used in determining the adequacy of our allowance for losses. These categories can be described as follows: Pass — These loans, including loans on the Bank’s internal watch list, range from minimal credit risk to lower than average, but still acceptable, credit risk. Watch list loans usually require more than normal management attention. Loans on the watch list may involve borrowers with adverse financial trends, higher debt/equity ratios, or weaker liquidity positions, but not to the degree of being considered a defined weakness or problem loan where risk of loss may be apparent. Special Mention — Loans assigned to this category have potential weaknesses that deserve management’s close attention. If left uncorrected, these potential weaknesses may result in the deterioration of the repayment prospects for the asset or the Company’s credit position at some future date. Special mention assets are not adversely classified and do not expose the Company to sufficient risk to warrant adverse classification. Substandard — Loans classified as substandard are inadequately protected by the current sound worth and paying capacity of the obligor or of the collateral pledged, if any. Assets so classified must have a well-defined weakness, or weaknesses, that jeopardize the liquidation of the debt. Substandard loans are characterized by the distinct possibility that the Company will sustain some loss if deficiencies are not corrected. Doubtful — Loans classified as doubtful have all the weaknesses inherent in those classified substandard with the added characteristic that the weaknesses make collection or the liquidation in full, on the basis of currently existing facts, conditions and values, highly questionable and improbable. Loss — Loans classified as loss are considered uncollectible and of such little value that their continuance as bankable assets is not warranted. This classification does not mean that the loan has absolutely no recovery or salvage value, but rather that it is not practical or desirable to defer writing off this asset with insignificant value even though partial recovery may be affected in the future. The following table summarizes loans by type, according to our internal risk ratings as of dates September 30, 2019 Pass Special Mention Substandard (1) Doubtful & Loss Total (Dollars in thousands) Commercial and industrial $ 892,865 $ 24,456 $ 4,357 $ - $ 921,678 SBA 296,127 13,764 9,680 - 319,571 Real estate: Commercial real estate Owner occupied 1,987,168 83,305 22,618 - 2,093,091 Non-owner 3,269,174 12,663 740 - 3,282,577 Construction Speculative 105,636 - - - 105,636 Non-speculative 14,295 - - - 14,295 SFR mortgage 275,069 2,053 1,522 - 278,644 Dairy & livestock and agribusiness 247,554 43,585 20,090 - 311,229 Municipal lease finance receivables 53,998 470 - - 54,468 Consumer and other loans 115,242 845 1,041 - 117,128 Total gross loans $ 7,257,128 $ 181,141 $ 60,048 $ - $ 7,498,317 (1) Includes $18.0 million of classified loans acquired from CB in the third quarter of 2018. December 31, 2018 (1) Pass Special Substandard (2) Doubtful & Total (Dollars in thousands) Commercial and industrial $ 961,909 29,358 10,942 $ - 1,002,209 SBA 336,033 7,375 6,635 - 350,043 Real estate: Commercial real estate Owner occupied 2,008,169 95,841 13,980 - 2,117,990 Non-owner 3,260,822 9,938 5,479 - 3,276,239 Construction Speculative 118,233 - - - 118,233 Non-speculative 4,549 - - - 4,549 SFR mortgage 289,607 3,310 3,587 - 296,504 Dairy & livestock and agribusiness 350,044 34,586 9,213 - 393,843 Municipal lease finance receivables 63,650 536 - - 64,186 Consumer and other loans 126,085 1,263 1,081 - 128,429 Total gross loans $ 7,519,101 $ 182,207 50,917 $ - $ 7,752,225 (1) Excludes PCI loans of $17.2 million as of December 31, 2018, of which $15.8 million were rated pass, $1.2 million were rated special mention, $224,000 were rated substandard, and zero were rated doubtful & loss. (2) Includes $19.0 million of classified loans acquired from CB in the third quarter of 2018. Allowance for Loan Losses (“ALLL”) The Bank’s Audit and Director Loan Committees provide Board oversight of the ALL L Our methodology for assessing the appropriateness of the allowance is conducted on a regular basis and considers the Bank’s overall loan portfolio. Refer to Note 3 – Summary of Significant Accounting Policies 10-K Management believes that the ALLL was appropriate at September 30, 2019 and December 31, 2018. No assurance can be given that economic conditions which adversely affect the Company’s service areas or other circumstances will not be reflected in increased provisions for loan losses in the future. The following tables present the balance and activity related to the allowance for loan losses for held-for-investment For the Three Months Ended September 30, 2019 Ending Balance 2019 Charge-offs Recoveries Provision for (Recapture of) Ending Balance (Dollars in thousands) Commercial and industrial $ 7,857 $ - $ 94 $ 287 $ 8,238 SBA 1,119 (65 ) - 412 1,466 Real estate: Commercial real estate 48,287 - - 624 48,911 Construction 871 - 3 55 929 SFR mortgage 2,323 - 8 44 2,375 Dairy & livestock and agribusiness 5,341 - - 88 5,429 Municipal lease finance receivables 726 - - (64 ) 662 Consumer and other loans 608 (3 ) 3 54 662 Total allowance for loan losses $ 67,132 $ (68 ) $ 108 $ 1,500 $ 68,672 For the Three Months Ended September 30, 2018 Ending Balance June 30, 2018 Charge-offs Recoveries Provision for (Recapture of) Ending Balance September 30, 2018 (Dollars in thousands) Commercial and industrial 6,970 $ - $ 44 $ 477 $ 7,491 SBA 841 (257 ) 5 369 958 Real estate: Commercial real estate 42,597 - - (1,056 ) 41,541 Construction 1,003 - 15 115 1,133 SFR mortgage 2,155 - - (30 ) 2,125 Dairy & livestock and 4,351 - - 673 5,024 Municipal lease finance 808 - - 7 815 Consumer and other loans 642 (1 ) 118 (44 ) 715 PCI loans 216 - - (11 ) 205 Total allowance for loan $ 59,583 $ (258 ) $ 182 $ 500 $ 60,007 For the Nine Months Ended September 30, 2019 Ending Balance December 31, Charge-offs Recoveries Provision for (Recapture of) Loan Losses Ending Balance September 30, 2019 (Dollars in thousands) Commercial and industrial $ 7,528 $ (48 ) $ 253 $ 505 $ 8,238 SBA 1,078 (295 ) 9 674 1,466 Real estate: Commercial real estate 45,097 - - 3,814 48,911 Construction 981 - 9 (61 ) 929 SFR mortgage 2,197 - 191 (13 ) 2,375 Dairy & livestock and 5,225 (78 ) 19 263 5,429 Municipal lease finance receivables 775 - - (113 ) 662 Consumer and other loans 732 (7 ) 6 (69 ) 662 Total allowance for loan $ 63,613 $ (428 ) $ 487 $ 5,000 $ 68,672 For the Nine Months Ended September 30, 2018 Ending Balance Charge-offs Recoveries (Recapture of) Ending Balance (Dollars in thousands) Commercial and industrial $ 7,280 $ - $ 81 $ 130 $ 7,491 SBA 869 (257 ) 15 331 958 Real estate: Commercial real estate 41,722 - - (181 ) 41,541 Construction 984 - 1,945 (1,796 ) 1,133 SFR mortgage 2,112 - - 13 2,125 Dairy & livestock and 4,647 - 19 358 5,024 Municipal lease finance receivables 851 - - (36 ) 815 Consumer and other loans 753 (10 ) 129 (157 ) 715 PCI loans 367 - - (162 ) 205 Total allowance for loan losses $ 59,585 $ (267 ) $ 2,189 $ (1,500 ) $ 60,007 The following tables present the recorded investment in loans held-for-investment September 30, 2019 Recorded Investment in Loans Allowance for Loan Losses Individually Evaluated for Impairment Collectively Evaluated for Impairment Individually Evaluated for Impairment Collectively Evaluated for Impairment (Dollars in thousands) Commercial and industrial $ 1,638 $ 920,040 $ 254 $ 7,984 SBA 3,248 316,323 286 1,180 Real estate: Commercial real estate 1,500 5,374,168 - 48,911 Construction - 119,931 - 929 SFR mortgage 3,009 275,635 - 2,375 Dairy & livestock and agribusiness - 311,229 - 5,429 Municipal lease finance receivables - 54,468 - 662 Consumer and other loans 385 116,743 - 662 Total $ 9,780 $ 7,488,537 $ 540 $ 68,132 September 30, 2018 Recorded Investment in Loans Allowance for Loan Losses Individually Evaluated for Impairment Collectively Evaluated for Impairment Acquired with Deterioriated Credit Quality Individually Evaluated for Collectively Evaluated for Acquired with Deterioriated Credit Quality (Dollars in thousands) Commercial and industrial $ 3,168 $ 1,018,738 $ - $ - $ 7,491 $ - SBA 3,593 353,459 - - 958 - Real estate: Commercial real estate 6,348 5,262,392 - - 41,541 - Construction - 123,274 - - 1,133 - SFR mortgage 5,492 287,024 - 13 2,112 - Dairy & livestock and agribusiness 775 303,823 - - 5,024 - Municipal lease finance receivables - 67,581 - - 815 - Consumer and other loans 807 133,989 - 70 645 - PCI loans - - 17,260 - - 205 Total $ 20,183 $ 7,550,280 $ 17,260 $ 83 $ 59,719 $ 205 Past Due and Nonperforming Loans We seek to manage asset quality and control credit risk through diversification of the loan portfolio and the application of policies designed to promote sound underwriting and loan monitoring practices. The Bank’s Credit Management Division is in charge of monitoring asset quality, establishing credit policies and procedures and enforcing the consistent application of these policies and procedures across the Bank. Reviews of nonperforming, past due loans and larger credits, designed to identify potential charges to the allowance for loan losses, and to determine the adequacy of the allowance, are conducted on an ongoing basis. These reviews consider such factors as the financial strength of borrowers and any guarantors, the value of the applicable collateral, loan loss experience, estimated loan losses, growth in the loan portfolio, prevailing economic conditions and other factors. Refer to Note 3 – Summary of Significant Accounting Policies 10-K A loan is reported as a TDR when the Bank grants a concession(s) to a borrower experiencing financial difficulties that the Bank would not otherwise consider. Examples of such concessions include a reduction in the interest rate, deferral of principal or accrued interest, extending the payment due dates or loan maturity date(s), or providing a lower interest rate than would be normally available for new debt of similar risk. As a result of one or more of these concessions, restructured loans are classified as impaired. Impairment reserves on non-collateral When we identify a loan as impaired, we measure the loan for potential impairment using discounted cash flows, unless the loan is determined to be collateral dependent. In these cases, we use the current fair value of collateral, less selling costs. Generally, the determination of fair value is established through obtaining external appraisals of the collateral. The following tables present the recorded investment in, and the aging of, past due and nonaccrual loans by type of loans as of date September 30, 2019 30-59 60-89 Nonaccrual (4) Current Total Loans and Financing (Dollars in thousands) Commercial and industrial $ 756 $ - $ 756 $ 1,550 $ 919,372 $ 921,678 SBA - 303 303 2,706 316,562 319,571 Real estate: Commercial real estate Owner occupied - - - 494 2,092,597 2,093,091 Non-owner 368 - 368 589 3,281,620 3,282,577 Construction Speculative (2) - - - - 105,636 105,636 Non-speculative - - - - 14,295 14,295 - - - 888 277,756 278,644 Dairy & livestock and - - - - 311,229 311,229 Municipal lease finance - - - - 54,468 54,468 Consumer and other loans - - - 385 116,743 117,128 Total gross loans $ 1,124 $ 303 $ 1,427 $ 6,612 $ 7,490,278 $ 7,498,317 (1) As of September 30-59 60-89 , (2) Speculative construction loans are generally for properties where there is no identified buyer or renter. (3) Includes $4.5 million of nonaccrual loans acquired from CB in the third quarter of 2018. (4) Excludes $1.6 million of guaranteed portion of nonaccrual SBA loans that are in process of collection. December 31, 2018 (1) 30-59 60-89 Total Past Due Nonaccrual Current Total Loans and Financing (Dollars in thousands) Commercial and industrial $ 820 $ 89 $ 909 $ 7,490 $ 993,810 $ 1,002,209 SBA 1,172 135 1,307 2,892 345,844 350,043 Real estate: Commercial real estate Owner occupied 2,439 350 2,789 589 2,114,612 2,117,990 Non-owner - - - 5,479 3,270,760 3,276,239 Construction Speculative (3) - - - - 118,233 118,233 Non-speculative - - - - 4,549 4,549 SFR mortgage - 285 285 2,937 293,282 296,504 Dairy & livestock and agribusiness - - - 78 393,765 393,843 Municipal lease finance receivables - - - - 64,186 64,186 Consumer and other loans - - - 486 127,943 128,429 $ 4,431 $ 859 $ 5,290 $ 19,951 $ 7,726,984 $ 7,752,225 (1) Excludes PCI loans. (2) As of December 31, 2018, $2.3 million of nonaccruing loans were current, $33,000 were 30-59 60-89 (3) Speculative construction loans are generally for properties where there is no identified buyer or renter. (4) Includes $12.3 million of nonaccrual loans acquired from CB in the third quarter of 2018. Impaired Loans At September 30, 2019, the Company had impaired loans of $9.8 million. Impaired loans included $2.7 million of nonaccrual Small Business Administration (“SBA”) loans, $1.6 million of nonaccrual commercial and industrial loans, $1.1 million of nonaccrual commercial real estate loans, $888,000 of nonaccrual single-family residential (“SFR”) mortgage loans, and $385,000 of nonaccrual consumer and other loans. These impaired loans included $3.4 million of loans whose terms were modified in a troubled debt restructuring, of which $249,000 were classified as nonaccrual. The remaining balance of $3.2 million consisted of 12 loans performing according to the restructured terms. The impaired loans had a specific allowance of $540,000 at September 30, 2019. At December 31, 2018, the Company had classified as impaired, loans with a balance of $23.5 million with a related allowance of $561,000. The following tables present information for held-for-investment As of and For the Nine Months Ended September 30, 2019 Recorded Investment Unpaid Principal Balance Related Allowance Average Recorded Investment Interest Income Recognized (Dollars in thousands) With no related allowance recorded: Commercial and industrial $ 1,382 $ 1,537 $ - $ 1,560 $ 4 SBA 2,447 3,554 - 2,606 31 Real estate: Commercial real estate Owner occupied 494 614 - 508 - Non-owner 1,006 1,190 - 1,052 21 Construction Speculative - - - - - Non-speculative - - - - - SFR mortgage 3,009 3,338 - 3,059 62 Dairy & livestock and agribusiness - - - - - Municipal lease finance receivables - - - - - Consumer and other loans 385 516 - 401 - Total 8,723 10,749 - 9,186 118 With a related allowance recorded: Commercial and industrial 256 345 254 829 - SBA 801 816 286 816 - Real estate: Commercial real estate Owner occupied - - - - - Non-owner - - - - - Construction Speculative - - - - - Non-speculative - - - - - SFR mortgage - - - - - Dairy & livestock and agribusiness - - - - - Municipal lease finance receivables - - - - - Consumer and other loans - - - - - Total 1,057 1,161 540 1,645 - Total impaired loans $ 9,780 $ 11,910 $ 540 $ 10,831 $ 118 As of and For the Nine Months Ended September 30, 2018 (1) Recorded Investment Unpaid Balance Related Allowance Average Investment Interest Recognized (Dollars in thousands) With no related allowance recorded: Commercial and industrial $ 3,168 $ 3,829 $ - $ 3,439 $ 6 SBA 3,593 5,779 - 4,457 34 Real estate: Commercial real estate Owner occupied 615 726 - 644 - Non-owner 5,733 6,385 - 5,904 24 Construction Speculative - - - - - Non-speculative - - - - - SFR mortgage 5,479 6,449 - 5,679 59 Dairy & livestock and agribusiness 775 1,091 - 808 - Municipal lease finance receivables - - - - - Consumer and other loans 737 1,025 - 867 - Total 20,100 25,284 - 21,798 123 With a related allowance recorded: Commercial and industrial - - - - - SBA - - - - - Real estate: Commercial real estate Owner occupied - - - - - Non-owner - - - - - Construction Speculative - - - - - Non-speculative - - - - - SFR mortgage 13 13 13 13 - Dairy & livestock and agribusiness - - - - - Municipal lease finance receivables - - - - - Consumer and other loans 70 101 70 85 - Total 83 114 83 98 - Total impaired loans $ 20,183 $ 25,398 $ 83 $ 21,896 $ 123 (1) Excludes PCI loans. As of December 31, 2018 (1) Recorded Unpaid Related (Dollars in thousands) With no related allowance recorded: Commercial and industrial $ 7,436 $ 11,457 $ - SBA 3,467 5,746 - Real estate: Commercial real estate Owner occupied 589 705 - Non-owner 2,808 4,324 - Construction Speculative - - - Non-speculative - - - SFR mortgage 5,349 6,270 - Dairy & livestock and agribusiness - - - Municipal lease finance receivables - - - Consumer and other loans 418 526 - Total 20,067 29,028 - With a related allowance recorded: Commercial and industrial 189 191 3 SBA - - - Real estate: Commercial real estate Owner occupied - - - Non-owner 3,143 3,144 478 Construction Speculative - - - Non-speculative - - - SFR mortgage - - - Dairy & livestock and agribusiness 78 78 12 Municipal lease finance receivables - - - Consumer and other loans 68 100 68 Total 3,478 3,513 561 Total impaired loans $ 23,545 $ 32,541 $ 561 (1) Excludes PCI loans. The Company recognizes the charge-off charge-off non-collateral Reserve for Unfunded Loan Commitments The allowance for off-balance off-balance as i Troubled Debt Restructurings (“TDRs”) Loans that are reported as TDRs are considered impaired and charge-off Summary of Significant Accounting Policies 10-K As of September 30, 2019, there were $3.4 million of loans classified as a TDR, of which $3.2 million were performing and $249,000 were nonperforming. TDRs on accrual status are comprised of loans that were accruing interest at the time of restructuring or have demonstrated repayment performance in compliance with the restructured terms for a sustained period and for which the Company anticipates full repayment of both principal and interest. At September 30, 2019, performing TDRs were comprised of eight SFR mortgage loans of $2.1 million, one SBA loan of $542,000, one commercial real estate loan of $417,000, and two commercial and industrial loans of $88,000. The majority of TDRs have no specific allowance allocated as any impairment amount is normally charged off at the time a probable loss is determined. We have allocated zero and $490,000 of specific allowance to TDRs as of September 30, 2019 and December 31, 2018, respectively. The following table provides a summary of the activity related to TDRs for the periods presented . For the Three Months Ended September 30, For the Nine Months Ended September 30, (Dollars in thousands) (Dollars in thousands) Performing TDRs: Beginning balance $ 3,219 $ 4,530 $ 3,594 $ 4,809 New modifications - - - 311 Payoffs/payments, net and other (51 ) (777 ) (426 ) (1,367 ) TDRs returned to accrual status - - - - TDRs placed on nonaccrual status - - - - Ending balance $ 3,168 $ 3,753 $ 3,168 $ 3,753 Nonperforming TDRs: Beginning balance $ 263 $ 3,892 $ 3,509 $ 4,200 New modifications - 278 - 316 Charge-offs - - (78 ) - Transfer to OREO - - (2,275 ) - Payoffs/payments, net and other (14 ) (650 ) (907 ) (996 ) TDRs returned to accrual status - - - - TDRs placed on nonaccrual status - - - - Ending balance $ 249 $ 3,520 $ 249 $ 3,520 Total TDRs $ 3,417 $ 7,273 $ 3,417 $ 7,273 (1) Excludes PCI loans. There were no loans that were modified as TDRs for The following tables summarize loans modified as TDRs for the periods presented. Modifications (1) For the Three Months Ended September 30, 201 8 Outstanding Recorded Investment Outstanding Financial Effect (Dollars in thousands) Commercial and industrial: Interest rate reduction - $ - - - - Change in amortization period - - - - - Real estate: Commercial real estate: Owner occupied Interest rate reduction - - - - - Change in amortization period - - - - - Non-owner Interest rate reduction - - - - - Change in amortization period - - - - - SFR mortgage: Interest rate reduction - - - - - Change in amortization period - - - - - Consumer: Interest rate reduction - - - - - Change in amortization period 1 278 278 272 - Total loans 1 $ 278 $ 278 $ 272 $ - For the Nine Months Ended September 30, 2018 (2) Number of Pre-Modification Post-Modification Investment Outstanding Financial Effect (Dollars in thousands) Commercial and industrial: Interest rate reduction - $ - $ - $ - $ - Change in amortization period or maturity 1 38 38 27 - Real estate: Commercial real estate: Owner occupied Interest rate reduction - - - - - Change in amortization period or maturity - - - - - Non-owner Interest rate reduction - - - - - Change in amortization period or maturity - - - - - SFR mortgage: Interest rate reduction - - - - - Change in amortization period or maturity 1 311 311 304 - Consumer: Interest rate reduction - - - - - Change in amortization period or maturity 1 278 278 272 - Total loans 3 $ 627 $ 627 $ 603 $ - (1) The tables above exclude modified loans that were paid off prior to the end of the period. (2) Excludes PCI loans. (3) Financial effects resulting from modifications represent charge-offs and specific allowance recorded at modification date. There were loans that were previously modified as a TDR within the previous 12 months that subsequently defaulted during the three and nine months ended September 30, 2019 and 2018. |