SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Form 10-K
[X] Annual Report Pursuant to Section 13 or 15(d) of the Securities Exchange
Act of 1934
For the fiscal year ended December 31, 1994.
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 number 0-11008
C U BANCORP
(Exact name of registrant as specified in its charter)
California 95-3657044
(State or other jurisdiction (I.R.S. Employer
of incorporation or organization) Identification Number)
16030 Ventura Boulevard
Encino, California 91436
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code (818) 907-9122
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act:
Common Stock, no par value
(title of class)
Indicate by check mark whether the registrant has (1) 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 shorter periods
that the registrant was required to file such reports), and (2)
has been subject to such filing requirements for the past 90 days.
Yes x No ______
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K (Section 220.405 of this chapter) is not contained
herein, and will not be contained, to the best of registrant's knowledge,
in definitive proxy or information statements incorporated by reference in
Part III of this
Form 10-K [x]
The aggregate market value of the voting stock held by non-affiliates of the
registrant as of February 28, 1995:
Common Stock, no par value -
The number of shares outstanding of the issuer's classes of common stock as of
February 28, 1995:
Common Stock, no par value 4,527,324 shares
DOCUMENTS INCORPORATED BY REFERENCE
None
This document contains 81 pages.
1
TABLE OF CONTENTS
Part Item Number Item Page
I 1. Business 3
I 2. Properties 16
I 3. Legal Proceedings 17
I 4. Submission of Matters to a Vote 19
of Security Holders
II 5. Market for the Company's Common Stock 20
and Related Stockholder Matters
II 6. Selected Financial Data 21
II 7. Management's Discussion and Analysis 22
of Financial Condition and Results
of Operations
II 8. Financial Statements and Supplementary 36
Data
II 9. Changes in and Disagreements with
Accountants on Accounting and
Financial Disclosure 56
III 10. Directors and Executive Officers of
the Company 57
III 11. Executive Compensation 57
III 12. Security Ownership of Certain 57
Beneficial Owners and Management
III 13. Certain Relationships and Related 57
Transaction
IV 14. Exhibits, Financial Statement 57
Schedules and Reports on Form 8-K
2
PART 1
Item 1. BUSINESS
General Development of Business
CU Bancorp, (the "Company) was incorporated under the laws of the
State of California on September 3, 1981.It is the parent of California United
Bank, a National Banking Association (the "Bank") which is a wholly owned
subsidiary of the Company.
DESCRIPTION OF BUSINESS
Commercial Banking Business
The Bank engages in the commercial banking business primarily serving
the San Fernando Valley, Beverly Hills, West Los Angeles, and the South Bay
portions of the County of Los Angeles which are generally affluent residential
and business centers. The Bank also serves the greater Southern California
metropolitan area.
Until November 1993, the Bank operated in two distinct segments,
commercial banking and mortgage banking.The Bank sold the origination portion
of its mortgage banking division in November 1993.
The Bank's primary focus is to engage in middle market lending to
businesses, professionals, the entertainment industry, and high
net-worth individuals. While in the past, the Bank specialized in serving
the real estate industry, the Bank is currently attempting to diversify
its portfolios and will in the future specialize in asset based
lending to middle market businesses. While the Bank does not actively
solicit retail or consumer banking business, it offers these services
primarily to owners, officers, and employees of its wholesale
customers, and customers of accounting and business management firms
with which the Bank regularly does business.
The Bank attracts customers and deposits by offering a personalized
approach and a high degree of service.The key to the Bank's deposit
generation is personal contacts and services rather than rate competition.
A significant portion of its business is with business customers who conduct
substantially all of their banking business with the Bank.
Either alone or in concert with correspondent banks, the Bank
offers a wide variety of credit and deposit services to its customers.
Management believes that its current and prospective customers favorably
respond to the individualized tailored banking services that the
Bank provides. Deposit services, which the Bank offers, include
personal and business checking accounts and savings accounts,
insured money market deposit accounts, interest-bearing negotiable
orders of withdrawal ("NOW") accounts, and time certificates of
deposit, along with IRA and Keogh accounts. The Bank has not requested and
does not have regulatory approval to offer trust services; nor does it
have any present intention to seek such approval.
The Bank has developed relationships with an extensive network or
correspondent banks through which it is able to offer customers and prospective
customers a wide variety of commercial and international banking services which
it is otherwise unable to offer by itself. The Bank has successfully attracted
and developed these relationships with several sizable correspondents which
have participated in providing a portion of the Bank's customers' borrowing
needs while the Bank remains the customers' bank of record.
Continued development of a diversified commercial oriented deposit
base is the Bank's highest priority. Time and demand deposits are actively
solicited by the directors, officers, and employees of the Bank.The executive
and senior officers of the Bank have had substantial experience in soliciting
bank deposits and in serving the comprehensive banking needs of small and mid-
size businesses.
The Bank services the commercial banking business from its head office
at 16030 Ventura Boulevard, in Encino, California 91436, a suburb of Los
Angeles, and an office in West Los Angeles, located at 10880 Wilshire
Boulevard, Los Angeles California 90024, in the Westwood commercial and
retail district, with close freeway access. The Bank also maintains a
South Bay Regional Office (non depository) in Gardena, California,
in order to serve the
3
burgeoning South Bay area, a
San Gabriel Valley Regional Office (non depository), located in City
of Industry, which serves the San Gabriel Valley
and northern Orange County and a Ventura County Loan Production Office in
Camarillo which services northern Los Angeles County and Ventura County.
Mortgage Banking
In November 1993, the Bank sold the mortgage origination portion of
its mortgage banking division to Republic Bancorp of Ann Arbor Michigan. This
division had been established in February of 1988. The purpose of this
division was to underwrite residential mortgages and subsequently sell
them into the secondary market. Mortgages were originated on both
a servicing retained and servicing released basis. Substantially
all the loans originated by this division were presold to institutional
investors or government agencies and are only originated subject to this
forward commitment. The division had loan origination offices in
Calabasas, Irvine, Costa Mesa, Pasadena, San Jose, and Sacramento,
California in addition to origination centers at other Bank
branches.
The Bank retained the mortgage servicing portfolio after the sale of
the division, although it retained the former division to service the loans.
At December 31, 1994, the Bank sold all servicing with one sale to
close in January, 1995. The Bank entered into an agreement with the Federal
National Mortgage Association and Federal Home Loan Mortgage Corporation to
dispose of any remaining portion of this portfolio by the of 1994 because,
with the sale of the mortgage origination operation, the Bank is no
longer a qualified seller/servicer of such loans. See Management's
Discussion and Analysis for further amplification on the effect of the
sale.
Entertainment Division
The Bank's entertainment division, housed in its West Los Angeles
Regional Office, is designed specifically to serve the needs of accountants
and business managers serving artists and other entertainment industry
related companies and individuals, while providing a more diverse source of
deposits for the Bank as a whole. At December 31, 1994 and 1993, this
division had total deposits of $33 million and $35 million, respectively.
Customers and Business Concentration
The Bank believes that there is no single customer whose loss would
have a material adverse effect on the Bank. At year end 1993, the Bank
obtained approximately 24% of its deposits from companies associated with the
real estate business, primarily title and escrow companies. However by year
end 1994, this had been reduced to 17 %. While this appears
to be a significant deposit concentration, because these deposits are
attributable to a large number of companies in a diverse market
(from small single family homes to larger projects), the Bank does
not believe there is a problematical concentration in any one industry.
To account for seasonal and economic variations in this industry,
the Bank has taken a number of steps to insure liquidity. Regarding
business concentrations in both lending and deposit activities, see
Management's Discussion and Analysis.
Competition
The Company does not conduct any business unrelated to the business
of the Bank and thus is affected by competition only in the banking industry.
The Bank's primary commercial banking market area consists of the San
Fernando Valley, Beverly Hills, West Los Angeles, and metropolitan areas of
the City and County of Los Angeles. The Bank also serves the South Bay,
Orange County, Northern San Diego County, the San Gabriel Valley, the Conejo
Valley, Ventura County and much of Southern California. The banking
business in California generally, and specifically in the Bank's primary
market area, is highly competitive with respect to both loans and
deposits. The business is dominated by a relatively small number of
major banks which have many offices operating over wide geographic areas.
Many of the major commercial banks offer certain services (such as
international services, trust services, and securities brokerage) which
are not offered directly by the Bank. By virtue of the greater
total capitalization of such banks, they have substantially higher
lending limits than the Bank and substantial advertising and promotional
budgets. However, smaller independent financial institutions also represent a
competitive force, particularly as to the class of customers which the
Bank typically serves.
To compete with major financial institutions, the Bank relies upon
specialized services, responsive handling of customer needs, local promotional
activity, and personal contacts by its officers, directors, and staff, as
opposed to large multi-branch banks which compete primarily by rate and
location of branches. For customers whose
4
loan demands exceed the Bank's lending limit, the Bank seeks to arrange for
such loans on a participation basis with correspondent banks. The Bank also
assists customers requiring services not offered by the Bank in obtaining such
services from its correspondent banks.
In the past, an independent bank's principal competitors for deposits
and loans have been other banks (particularly major banks), savings and loan
associations, and credit unions. To a lesser extent, competition was also
provided by thrift and loans, mortgage brokerage companies, and insurance
companies. In the past several years, the trend has been for other financial
intermediaries to offer financial services traditionally offered by banks.
Other institutions, such as brokerage houses, credit card companies, and
even retail establishments, have offered new investment vehicles such as
money-market funds or cash advances on credit card accounts. This led to
increased cost of funds for most financial institutions. Even within
the banking industry, the trend has been towards offering more
varied services, such as discount brokerage, often through
affiliate relationships. The direction of federal legislation seems
to favor and foster competition between different types of financial
institutions and to encourage new entrants into the financial
services market. However, it is not possible to forecast the impact
such developments will have on commercial banking in general, or on
the Bank in particular.
Economic Environment in the Bank's Market Area
The general economy in the Southern California market area, and
particularly the real estate market, are suffering from the effects of a
prolonged recession that have negatively impacted upon the ability of certain
borrowers of the Bank to perform their obligations to the Bank. According to
the First Interstate Bancorp Forecast 1994/1995 (the "Forecast"), Los Angeles
County continues to serve as "ground zero" for the California recession. Los
Angeles' unemployment rate remains higher than the adjusted rates for both
the state or the nation. The Forecast predicts that economic recovery
"continues to elude California's most populous county, besieged by weak
demand, falling real estate values and defense procurement cuts which
have Los Angeles' aerospace/defense related industries in full retreat.
A stabilization in the area's defense related industries and real estate
market is necessary before a full fledged recovery can begin to take hold.
This is unlikely to happen until early 1995 in Los Angeles." It is too
early to predict the effect of the January 1994 earthquake on the Los
Angeles Area, although reports have indicated that it will be the most
costly natural disaster on record, surpassing the midwest floods of
1993. It is also expected that it will have a positive effect
on the construction industry, but a negative effect on the real estate
market which may further delay the economic recovery.
The financial condition of the Bank has been, and is expected to
continue to be, dependent upon overall general economic conditions and the
real estate market in Southern California. The future success of the Bank is
dependent,in large part, upon the quality of its assets. Although management
of the Bank has devoted substantial time and resources to the
identification, collection and workout of nonperforming assets, and
the diversification of portfolios, the real estate markets in Southern
California and the overall economy in this area is likely to continue
to have a significant effect on the quality of the Bank's assets in
future periods and, accordingly, its financial condition and results of
operations.
REGULATION AND SUPERVISION
The following discussion of statutes and regulations is only a summary
and does not purport to be complete. This discussion is qualified in its
entirety by reference to such statutes and regulations. No assurance can be
given that such regulations will not change in the future.
The Company is subject to periodic reporting requirements of Section
13(d) of the Securities Exchange Act of 1934, which requires the Company to
file annual, quarterly, and other current reports as well as proxy materials
with the Securities and Exchange Commission ("the Commission").
Effect of Governmental Policies and Recent Legislation
Banking is a business that depends on rate differentials. In general,the
difference between the interest rate paid by the Bank on its deposits and its
other borrowings and the interest rate received by the Bank on loans extended
to its customers and securities held in the Bank's portfolio comprise the
major portion of the Company's earnings. These rates are highly sensitive
to many factors that are beyond the control of the Bank. Accordingly, the
earnings and growth of the Company are subject to the influence of
domestic and foreign economic conditions, including inflation, recession
and unemployment.
5
The commercial banking business is not only affected by general economic
conditions but is also influenced by the monetary and fiscal policies of the
federal government and the policies of regulatory agencies, particularly the
Federal Reserve Board. The Federal Reserve Board implements national monetary
policies (with objectives such as curbing inflation and combating recession) by
its open-market operations in United States Government securities, by adjusting
the required level of reserves for financial institutions subject to its
reserve requirements and by varying the discount rates applicable to
borrowings by depository institutions. The actions of the Federal
Reserve Board in these areas influence the growth of bank loans,
investments and deposits and also affect interest rates charged
on loans and paid on deposits. The nature and impact of any future
changes in monetary policies cannot be predicted.
From time to time, legislation is enacted which has the effect of
increasing the cost of doing business,limiting or expanding permissible
activities or affecting the competitive balance between banks and other
financial institutions. Proposals to change the laws and regulations governing
the operations and taxation of banks, bank holding companies and other
financial institutions are frequently made in Congress, in the California
legislature and before various bank regulatory and other professional
agencies. For example, legislation was recently introduced in
Congress that would repeal the current statutory restrictions on
affiliations between commercial banks and securities firms. Under
the legislation, as proposed, bank holding companies would be allowed
to control both a commercial bank and a securities affiliate, which
could engage in the full range of investment banking activities,
including corporate underwriting. The likelihood of any major legislative
changes and the impact such changes might have on the Company
are impossible to predict. See "Item 1. Business - Supervision
and Regulation."
Supervision and Regulation
Bank holding companies and banks are extensively regulated under both
federal and state law. Set forth below is a summary description of certain laws
which relate to the regulation of the Company and the Bank. The description
does not purport to be complete and is qualified in its entirety by reference
to the applicable laws and regulations.
The Company
The Company, as a registered bank holding company,is subject to regulation
under the Bank Holding Company Act of 1956, as amended (the "BHCA"). The
Company is required to file with the Federal Reserve Board quarterly and annual
reports and such additional information as the Federal Reserve Board may
require pursuant to the BHCA. The Federal Reserve Board may conduct
examinations of the Company and its subsidiaries.
The Federal Reserve Board may require that the Company terminate an
activity or terminate control of or liquidate or divest certain subsidiaries or
affiliates when the Federal Reserve Board believes the activity or the control
of the subsidiary or affiliate constitutes a significant risk to the financial
safety, soundness or stability of any of its banking subsidiaries. The Federal
Reserve Board also has the authority to regulate provisions of certain bank
holding company debt, including authority to impose interest ceilings
and reserve requirements on such debt. Under certain circumstances,
the Company must file written notice and obtain approval from the
Federal Reserve Board prior to purchasing or redeeming its equity
securities.
Under the BHCA and regulations adopted by the Federal Reserve Board, a
bank holding company and its nonbanking subsidiaries are prohibited from
requiring certain tie-in arrangements in connection with any extension of
credit, lease or sale of property or furnishing of services. Further,
the Company is required by the Federal Reserve Board to maintain
certain levels of capital. See "Item 1. Business - Supervision
and Regulation - Capital Standards."
The Company is required to obtain the prior approval of the Federal Reserve
Board for the acquisition of more than 5% of the outstanding shares of any
class of voting securities or substantially all of the assets of any bank
or bank holding company. Prior approval of the Federal Reserve Board is
also required for the merger or consolidation of the Company and another
bank holding company.
The Company is prohibited by the BHCA, except in certain statutorily
prescribed instances, from acquiring direct or indirect ownership or control of
more than 5% of the outstanding voting shares of any company that is not a bank
or bank holding company and from engaging directly or indirectly in activities
other than those of banking, managing or controlling banks or furnishing
services to its subsidiaries. However, the Company, subject to the prior
approval of the 6
Federal Reserve Board, may engage in any, or acquire shares of companies
engaged in, activities that are deemed by the Federal Reserve Board to be so
closely related to banking or managing or controlling banks as to be a proper
incident thereto. In making any such determination, the Federal Reserve Board
is required to consider whether the performance of such activities by the
Company or an affiliate can reasonably be expected to produce benefits to the
public, such as greater convenience, increased competition or gains in
efficiency, that outweigh possible adverse effects, such as undue
concentration of resources, decreased or unfair competition, conflicts
of interest or unsound banking practices. The Federal Reserve Board
is also empowered to differentiate between activities commenced de novo
and activities commenced by acquisition, in whole or in part, of a going
concern and is generally prohibited from approving an application by a
bank holding company to acquire voting shares of any commercial bank
in another state unless such acquisition is specifically authorized by the
laws of such other state.
Under Federal Reserve Board regulations, a bank holding company is
required to serve as a source of financial and managerial strength to its
subsidiary banks and may not conduct its operations in an unsafe or unsound
manner. In addition, it is the Federal Reserve Board's policy that in serving
as a source of strength to its subsidiary banks, a bank holding company
should stand ready to use available resources to provide adequate
capital funds to its subsidiary banks during periods of financial stress
or adversity and should maintain the financial flexibility and
capital-raising capacity to obtain additional resources for assisting
its subsidiary banks. A bank holding company's failure to meet its
obligations to serve as a source of strength to its subsidiary banks will
generally be considered by the Federal Reserve Board to be an unsafe and
unsound banking practice or a violation of the Federal Reserve
Board's regulations or both. This doctrine has become known as the "source
of strength" doctrine. Although the United States Court of Appeals for the
Fifth Circuit found the Federal Reserve Board's source of strength doctrine
invalid in 1990, stating that the Federal Reserve Board had no authority to
assert the doctrine under the BHCA, the decision, which is not binding on
federal courts outside the Fifth Circuit, was recently reversed by the
United States Supreme Court on procedural grounds. The validity of
the source of strength doctrine is likely to continue to be the subject of
litigation until definitively resolved by the courts or by Congress.
The Company is also a bank holding company within the meaning of
Section 3700 of the California Financial Code. As such, the Company and its
subsidiaries are subject to examination by, and may be required to file reports
with, the California State Banking Department.
The Bank
The Bank, as a national banking association, is subject to primary
supervision, examination and regulation by the Comptroller. If, as a result of
an examination of a Bank, the Comptroller should determine that the financial
condition, capital resources, asset quality, earnings prospects, management,
liquidity or other aspects of the Bank's operations are unsatisfactory or that
the Bank or its management is violating or has violated any law or regulation,
various remedies are available to the Comptroller. Such remedies include the
power to enjoin "unsafe or unsound practices," to require affirmative action to
correct any conditions resulting from any violation or practice, to issue
an administrative order that can be judicially enforced, to direct and increase
in capital, to restrict the growth of the Bank, to assess civil monetary
penalties, and to remove officers and directors. The FDIC has similar
enforcement authority, in addition to its authority to terminate a Bank's
deposit insurance in the absence of action by the Comptroller and upon a
finding that a Bank is in an unsafe or unsound condition, is engaging in
unsafe or unsound activities, or that its conduct poses a risk to the
deposit insurance fund or make prejudice the interest of its depositors.
The Bank is not currently subject to any such actions by the Comptroller
or the FDIC.
The deposits of the Bank are insured by the FDIC in the manner and to the
extent provided by law. For this protection, the Bank pays a semiannual
statutory assessment. See "Item 1. Business - Supervision and Regulation
Premiums for Deposit Insurance." The Bank is also subject to certain
regulations of the Federal Reserve Board and applicable provisions of
California law, insofar as they do not conflict with or are not
preempted by federal banking law.
Various other requirements and restrictions under the laws of the United
States and the State of California affect the operations of the Bank. Federal
and California statutes and regulations relate to many aspects of the Bank's
operations, including reserves against deposits, interest rates payable on
deposits, loans, investments, mergers and acquisitions, borrowings, dividends,
locations of branch offices, capital requirements and disclosure obligations to
depositors and borrowers.
7
Restrictions on Transfers of Funds to the Company by the Bank
The Company is a legal entity separate and distinct from the Bank. The
Company's ability to pay cash dividends is limited by state law.
There are statutory and regulatory limitations on the amount of dividends
which may be paid to the Company by the Bank. The prior approval of the
Comptroller is required if the total of all dividends declared by a national
bank in any calendar year exceeds the bank's net profits (as defined) for that
year combined with its retained net profits (as defined) for the preceding two
years, less any transfers to surplus.
The Comptroller also has authority to prohibit the Bank from engaging in
activities that, in the Comptroller's opinion, constitute unsafe or unsound
practices in conducting its business. It is possible, depending upon the
financial condition of the bank in question and other factors, that the
Comptroller could assert that the payment of dividends or other payments might,
under some circumstances, be such an unsafe or unsound practice. Further, the
Comptroller and the Federal Reserve Board have established guidelines with
respect to the maintenance of appropriate levels of capital by banks or bank
holding companies under their jurisdiction. Compliance with the standards set
forth in such guidelines and the restrictions that are or may be imposed under
the prompt corrective action provisions of federal law could limit the amount
of dividends which the Bank or the Company may pay. See "Item 1. Business
Supervision and Regulation - Prompt Corrective Regulatory Action and Other
Enforcement Mechanisms" and - "Capital Standards" for a discussion of these
additional restrictions on capital distributions. The Comptroller has approved
the Bank's plan to pay not more than $90,000 in dividends in each calendar
quarter of 1995 to the Company.
At present, substantially all of the Company's revenues, including funds
available for the payment of dividends and other operating expenses, is, and
will continue to be, primarily dividends paid by the Bank. At December 31,
1994, the Bank had no retained earnings available for the payment of cash
dividends but had received the prior approval of the Comptroller to pay certain
dividends as set forth above.
The Bank is subject to certain restrictions imposed by federal law on any
extensions of credit to, or the issuance of a guarantee or letter of credit on
behalf of, the Company or other affiliates, the purchase of or investments in
stock or other securities thereof, the taking of such securities as collateral
for loans and the purchase of assets of the Company or other affiliates. Such
restrictions prevent the Company and such other affiliates from borrowing from
the Bank unless the loans are secured by marketable obligations of designated
amounts. Further, such secured loans and investments by the Bank to or in the
Company or to or in any other affiliate is limited to 10% of the Bank's capital
and surplus (as defined by federal regulations) and such secured loans and
investments are limited, in the aggregate, to 20% of the Bank's capital and
surplus (as defined by federal regulations). California law and National
Banking Law also imposes certain restrictions with respect to transactions
involving the Company and other controlling persons of the Bank. Additional
restrictions on transactions with affiliates may be imposed on the Bank under
the prompt corrective action provisions of federal law. See "Item 1.Business -
Supervision and Regulation -Prompt Corrective Regulatory Action and Other
Enforcement Mechanisms."
Capital Standards
The Federal Reserve Board and the Comptroller have adopted risk-based
minimum capital guidelines intended to provide a measure of capital that
reflects the degree of risk associated with a banking organization's operations
for both transactions reported on the balance sheet as assets and transactions,
such as letters of credit and recourse arrangements, which are recorded as off
balance sheet items. Under these guidelines, nominal dollar amounts of assets
and credit equivalent amounts of off balance sheet items are multiplied by one
of several risk adjustment percentages, which range from 0% for assets with low
credit risk, such as certain U.S. Treasury securities, to 100% for assets with
relatively high credit risk, such as business loans.
A banking organization's risk-based capital ratios are obtained by dividing
its qualifying capital by its total risk adjusted assets. The regulators
measure risk-adjusted assets, which includes off balance sheet items, against
both total qualifying capital (the sum of Tier 1 capital and limited amounts of
Tier 2 capital) and Tier 1 capital. Tier 1 capital consists of common stock,
retained earnings, noncumulative perpetual preferred stock (cumulative
perpetual preferred stock for
8
bank holding companies) and minority interests in certain subsidiaries, less
most intangible assets. Tier 2 capital may consist of a limited amount of the
allowance for possible loan and lease losses, cumulative preferred stock, term
preferred stock, term subordinated debt and certain other instruments with some
characteristics of equity. The inclusion of elements of Tier 2 capital is
subject to certain other requirements and limitations of the federal banking
agencies. The federal banking agencies require a minimum ratio of qualifying
total capital to risk-adjusted assets of 8% and a minimum ratio of Tier 1
capital to risk-adjusted assets of 4%.
In addition to the risked-based guidelines, federal banking regulators
require banking organizations to maintain a minimum amount of Tier 1 capital to
total assets, referred to as the leverage ratio. For a banking organization
rated in the highest of the five categories used by regulators to rate banking
organizations, the minimum leverage ratio of Tier 1 capital to total assets
must be 3%. For all banking organizations not rated in the highest category,
the minimum leverage ratio must be at least 100 to 200 basis points above
the 3% minimum, or 4% to 5%. In addition to these uniform
risk-based capital guidelines and leverage ratios that apply across
the industry, the regulators have the discretion to set individual
minimum capital requirements for specific institutions at rates
significantly above the minimum guidelines and ratios.
The federal banking regulators have issued a proposed rule to take account
of interest rate risk in calculating risk- based capital. The proposed rule
includes a supervisory model for taking account of interest rate risk. Under
that model, institutions would report their assets, liabilities and off balance
sheet positions in time bands based upon their remaining maturities. The
federal banking agencies would then calculate a net risk weighted interest rate
exposure. If that interest rate risk exposure was in excess of a certain
threshold (1% of assets), the institution could be required to hold additional
capital proportionate to that excess risk. Alternatively, the agencies have
proposed making interest rate risk exposure a subjective factor in considering
capital adequacy. Exposures would be measured in terms of the change in the
present value of an institution's assets minus the change in the present value
of its liabilities and off-balance sheet positions for an assumed 100 basis
point parallel shift in market interest rates. However, the federal banking
agencies have proposed to let banks use their own internal measurement of
interest rate risk if it is declared adequate by examiners.
Effective January 17, 1995, the federal banking agencies issued a final
rule relating to capital standards and the risks arising from the concentration
of credit and nontraditional activities. Institutions which have significant
amounts of their assets concentrated in high risk loans or nontraditional
banking activities and who fail to adequately manage these risks, will be
required to set aside capital in excess of the regulatory minimums. The federal
banking agencies have not imposed any quantitative assessment for determining
when these risks are significant, but have identified these issues as important
factors they will review in assessing an individual bank's capital adequacy.
In December 1993, the federal banking agencies issued an interagency policy
statement on the allowance for loan and lease losses which, among other things,
establishes certain benchmark ratios of loan loss reserves to classified
assets. The benchmark set forth by such policy statement is the sum
of (a) assets classified loss; (b) 50 percent of assets classified
doubtful; (c) 15 percent of assets classified substandard; and (d)
estimated credit losses on other assets over the upcoming 12 months.
Federally supervised banks and savings associations are currently required
to report deferred tax assets in accordance with SFAS No. 109. See "Item 1.
Business -- Supervision and Regulation -- Accounting Changes." The federal
banking agencies recently issued final rules governing banks and bank holding
companies, which become effective April 1, 1995, which limit the amount of
deferred tax assets that are allowable in computing an institutions regulatory
capital. The standard has been in effect on an interim basis since March 1993.
Deferred tax assets that can be realized for taxes paid in prior carryback
years and from future reversals of existing taxable temporary differences
are generally not limited. Deferred tax assets that can only be realized
through future taxable earnings are limited for regulatory capital purposes
to the lesser of (i) the amount that can be realized within one year of the
quarter- end report date, or (ii) 10% of Tier 1 Capital. The amount of
any deferred tax in excess of this limit would be excluded from Tier 1
Capital and total assets and regulatory capital calculations.
Future changes in regulations or practices could further reduce the amount
of capital recognized for purposes of capital adequacy. Such a change could
affect the ability of the Bank to grow and could restrict the amount of
profits, if any, available for the payment of dividends.
9
The following table presents the amounts of regulatory capital and the
capital ratios for the Bank, compared to its minimum regulatory capital
requirements as of December 31, 1994.
December
31, 1994
Minimum
Capital
Actual
Amount Ratios Requirement
(in thousands)
Leverage ratio $29,506 10.4 % 4.0%
Tier 1 risk-based ratio 29,506 14.1 4.0
Total risk-based ratio 32,178 15.4 8.0
Prompt Corrective Action and Other Enforcement Mechanisms
Federal law requires each federal banking agency to take prompt corrective
action to resolve the problems of insured depository institutions, including
but not limited to those that fall below one or more prescribed minimum
capital ratios. The law required each federal banking agency to promulgate
regulations defining the following five categories in which an insured
depository institution will be placed, based on the level of its capital
ratios: well capitalized, adequately capitalized, undercapitalized,
significantly undercapitalized and critically undercapitalized.
In September 1992, the federal banking agencies issued uniform final
regulations implementing the prompt corrective action provisions of federal
law. An insured depository institution generally will be classified in the
following categories based on capital measures indicated below:
"Well capitalized" "Adequately capitalized"
Total risk-based capital of 10%; Total risk-based capital of 8%;
Tier 1 risk-based capital of 6%; and Tier 1 risk-based capital of 4%;
Leverage ratio of 5%. and Leverage ratio of 4%.
"Undercapitalized" "Significantly undercapitalized"
Total risk-based capital less than 8%; Total risk-based capital less than
Tier 1 risk-based capital less than 4%; or 6%; Tier 1 risk-based capital
Leverage ratio less than 4%. less than 3%; or Leverage ratio
less than 3%.
"Critically undercapitalized"
Tangible equity to total assets less than 2%.
An institution that, based upon its capital levels, is classified as "well
capitalized," "adequately capitalized" or undercapitalized" may be treated as
though it were in the next lower capital category if the appropriate federal
banking agency, after notice and opportunity for hearing, determines that an
unsafe or unsound condition or an unsafe or unsound practice warrants such
treatment. At each successive lower capital category, an insured depository
institution is subject to more restrictions. The federal banking agencies,
however, may not treat an institution as "critically undercapitalized" unless
its capital ratio actually warrants such treatment. The Bank believes it meets
all of the criteria for "well capitalized".
The law prohibits insured depository institutions from paying management
fees to any controlling persons or, with certain limited exceptions, making
capital distributions if after such transaction the institution would be
undercapitalized. If an insured depository institution is undercapitalized, it
will be closely monitored by the appropriate federal banking agency, subject to
asset growth restrictions and required to obtain prior regulatory approval for
acquisitions, branching and engaging in new lines of business. Any
undercapitalized depository institution must submit an acceptable capital
restoration plan to the appropriate federal banking agency 45 days after
becoming undercapitalized. The appropriate federal banking agency cannot accept
a capital plan unless, among other things, it determines that the plan
(i) specifies the steps the institution will take to become adequately
capitalized, (ii) is based on realistic assumptions and (iii) is likely
10
to succeed in restoring the depository institution's capital. In addition, each
company controlling an undercapitalized depository institution must guarantee
that the institution will comply with the capital plan until the depository
institution has been adequately capitalized on an average basis during each of
four consecutive calendar quarters and must otherwise provide adequate
assurances of performance. The aggregate liability of such guarantee is limited
to the lesser of (a) an amount equal to 5% of the depository institution's
total assets at the time the institution became undercapitalized or (b) the
amount which is necessary to bring the institution into compliance with all
capital standards applicable to such institution as of the time the
institution fails to comply with its capital restoration plan.
Finally, the appropriate federal banking agency may impose any of the
additional restrictions or sanctions that it may impose on significantly
undercapitalized institutions if it determines that such action will
further the purpose of the prompt correction action provisions.
An insured depository institution that is significantly undercapitalized,
or is undercapitalized and fails to submit, or in a material respect to
implement, an acceptable capital restoration plan, is subject to additional
restrictions and sanctions. These include, among other things: (i) a forced
sale of voting shares to raise capital or, if grounds exist for appointment of
a receiver or conservator, a forced merger; (ii) restrictions on transactions
with affiliates; (iii) further limitations on interest rates paid on deposits;
(iv) further restrictions on growth or required shrinkage; (v)
modification or termination of specified activities; (vi) replacement
of directors or senior executive officers; (vii) prohibitions on
the receipt of deposits from correspondent institutions; (viii)
restrictions on capital distributions by the holding companies
of such institutions; (ix) required divestiture of subsidiaries
by the institution; or (x) other restrictions as determined by the
appropriate federal banking agency. Although the appropriate federal banking
agency has discretion to determine which of the foregoing restrictions
or sanctions it will seek to impose, it is required to force a sale
of voting shares or merger, impose restrictions on affiliate
transactions and impose restrictions on rates paid on deposits
unless it determines that such actions would not further the
purpose of the prompt corrective action provisions. In addition,
without the prior written approval of the appropriate federal banking
agency, a significantly undercapitalized institution may not pay any bonus to
its senior executive officers or provide compensation to any of them at a rate
that exceeds such officer's average rate of base compensation during the 12
calendar months preceding the month in which the institution became
undercapitalized.
Further restrictions and sanctions are required to be imposed on insured
depository institutions that are critically undercapitalized. For example, a
critically undercapitalized institution generally would be prohibited from
engaging in any material transaction other than in the ordinary course of
business without prior regulatory approval and could not, with certain
exceptions, make any payment of principal or interest on its subordinated debt
beginning 60 days after becoming critically undercapitalized. Most importantly,
however, except under limited circumstances, the appropriate federal banking
agency, not later than 90 days after an insured depository institution becomes
critically undercapitalized, is required to appoint a conservator or receiver
for the institution. The board of directors of an insured depository
institution would not be liable to the institution's shareholders or creditors
for consenting in good faith to the appointment of a receiver or conservator or
to an acquisition or merger as required by the regulator.
In addition to measures taken under the prompt corrective action
provisions, commercial banking organizations may be subject to potential
enforcement actions by the federal regulators for unsafe or unsound practices
in conducting their businesses or for violations of any law, rule, regulation
or any condition imposed in writing by the agency or any written agreement
with the agency. Enforcement actions may include the imposition of a
conservator or receiver, the issuance of a cease and desist order that
can be judicially enforced, the termination of insurance of deposits
(in the case of a depository institution), the imposition of civil
money penalties, the issuance of directives to increase capital, the
issuance of formal and informal agreements, the issuance of removal
and prohibition orders against institution-affiliated parties and the
enforcement of such actions through injunctions or restraining orders
based upon a judicial determination that the agency would be harmed
if such equitable relief was not granted.
Safety and Soundness Standards
On February 2, 1995, the federal banking agencies adopted final safety and
soundness standards for all insured depository institutions. The standards,
which were issued in the form of guidelines rather than regulations,relate to
internal controls, information systems, internal audit systems, loan
underwriting and documentation, compensation and interest rate exposure. In
general, the standards are designed to assist the federal banking agenciesin
identifying and addressing problems at insured depository institutions before
capital becomes impaired. If an institution fails to meet 11
these standards, the appropriate federal banking agency may require the
institution to submit a compliance plan. Failure to submit a compliance plan
may result in enforcement proceedings. Additional standards on earnings and
classified assets are expected to be issued in the near future.
In December 1992, the federal banking agencies issued final regulations
prescribing uniform guidelines for real estate lending. The regulations, which
became effective on March 19, 1993, require insured depository institutions to
adopt written policies establishing standards, consistent with such guidelines,
for extensions of credit secured by real estate. The policies must address loan
portfolio management, underwriting standards and loan to value limits that do
not exceed the supervisory limits prescribed by the regulations.
Appraisals for "real estate related financial transactions" must be
conducted by either state certified or state licensed appraisers for
transactions in excess of certain amounts. State certified appraisers are
required for all transactions with a transaction value of $1,000,000 or more;
for all nonresidential transactions valued at $250,000 or more; and for
"complex" 1-4 family residential properties of $250,000 or more. A state
licensed appraiser is required for all other appraisals. However, appraisals
performed in connection with "federally related transactions" must now comply
with the agencies' appraisal standards. Federally related transactions include
the sale, lease, purchase, investment in, or exchange of, real property or
interests in real property, the financing or refinancing of real property, and
the use of real property or interests in real property as security for a loan
or investment, including mortgage-backed securities.
Premiums for Deposit Insurance
Federal law has established several mechanisms to increase funds to protect
deposits insured by the Bank Insurance Fund ("BIF") administered by the FDIC.
The FDIC is authorized to borrow up to $30 billion from the United States
Treasury; up to 90% of the fair market value of assets of institutions acquired
by the FDIC as receiver from the Federal Financing Bank; and from depository
institutions that are members of the BIF. Any borrowings not repaid by asset
sales are to be repaid through insurance premiums assessed to member
institutions. Such premiums must be sufficient to repay any borrowed funds
within 15 years and provide insurance fund reserves of $1.25 for each $100 of
insured deposits. The result of these provisions is that the assessment rate
on deposits of BIF members could increase in the future. The FDIC
also has authority to impose special assessments against insured deposits.
The FDIC has adopted final regulations implementing a risk-based premium
system required by federal law. Under the regulations, which cover the
assessment periods commencing on and after January 1, 1994, insured depository
institutions are required to pay insurance premiums currently within a range of
23 cents per $100 of deposits to 31 cents per $100 of deposits depending on
their risk classification. On January 31, 1995, the FDIC issued proposed
regulations that would establish a new assessment rate schedule of 4 cents per
$100 of deposits to 31 cents per $100 of deposits applicable to members of BIF.
There can be no assurance that the final regulations will be adopted as
proposed. To determine the risk-based assessment for each institution, the FDIC
will categorize an institution as well capitalized, adequately capitalized or
undercapitalized based on its capital ratios. A well-capitalized institution is
one that has at least a 10% total risk-based capital ratio, a 6% Tier 1 risk-
based capital ratio and a 5% Tier 1 leverage capital ratio. An adequately
capitalized institution will have at least an 8% total risk-based capital
ratio, 4% Tier 1 risk-based capital ratio and a 4% Tier 1 leverage capital
ratio. An ndercapitalized institution will be one that does not meet either
of the above definitions. The FDIC will also assign each institution to
one of three subgroups based upon reviews by the institution's primary
federal or state regulator, statistical analyses of financial statements
and other information relevant to evaluating the risk posed by the
institution.
Interstate Banking and Branching
On September 29, 1994, the President signed into law the Riegel-Neal
Interstate Banking and Branching Efficiency Act of 1994 (the "Interstate Act").
Under the Interstate Act,beginning one year after the date of enactment, a bank
holding company that is adequately capitalized and managed may obtain approval
under the BHCA to acquire an existing bank located in another state without
regard to state law. A bank holding company would not be permitted to make such
an acquisition if, upon consummation,it would control (a) more than 10% of the
total amount of deposits of insured depository institutions in the United
States or (b) 30% or more of the deposits in the state in which the bank is
located. A state may limit the percentage of total deposits that may be held
in that state by any one bank or bank holding company if application of such
limitation does not discriminate against out-of-state banks. An out-of-state
bank holding company may not acquire a state bank in existence for less than
a minimum length of time that may be prescribed by 12
state law except that a state may not impose more than a five year existence
requirement.
The Interstate Act also permits, beginning June 1, 1997,mergers of insured
banks located in different states and conversion of the branches of the
acquired bank into branches of the resulting bank. Each state may
permit such combinations earlier than June 1, 1997, and may adopt
legislation to prohibit interstate mergers after that date in
that state or in other states by that state's banks. The same
concentration limits discussed in the preceding paragraph apply.
The Interstate Act also permits a national or state bank to establish
branches in a state other than its home state if permitted by the laws
of that state, subject to the same requirements and conditions as for
a mergertransaction.
The Interstate Act is likely to increase competition in the Company's
market areas especially from larger financial institutions and their holding
companies. It is difficult to assess the impact such likely increased
competition will have on the Company's operations.
In 1986, California adopted an interstate banking law. The law allows
California banks and bank holding companies to be acquired by banking
organizations in other states on a "reciprocal" basis (i.e., provided the other
state's laws permit California banking organizations to acquire banking
organizations in that state on substantially the same terms and conditions
applicable to banking organizations solely within that state). The law took
effect in two stages. The first stage allowed acquisitions on a "reciprocal"
basis within a region consisting of 11 western states. The second stage, which
became effective January 1, 1991, allows interstate acquisitions on a national
"reciprocal" basis. California has also adopted similar legislation applicable
to savings associations and their holding companies.
Community Reinvestment Act and Fair Lending Developments
The Bank is subject to certain fair lending requirements and reporting
obligations involving home mortgage lending operations and Community
Reinvestment Act ("CRA") activities. The CRA generally requires the federal
banking agencies to evaluate the record of a financial institution in meeting
the credit needs of their local communities, including low and moderate income
neighborhoods. In addition to substantial penalties and corrective measures
that may be required for a violation of certain fair lending laws, the federal
banking agencies may take compliance with such laws and CRA into account when
regulating and supervising other activities. On December 21, 1993, the federal
banking agencies issued a proposal to change the manner in which they measure a
bank's compliance with its CRA obligations, but no final regulation has yet
been approved.
On March 8, 1994, the federal Interagency Task Force on Fair Lending
issued a policy statement on discrimination in lending. The policy statement
describes the three methods that federal agencies will use to prove
discrimination: overt evidence of discrimination, evidence of disparate
treatment and evidence of disparate impact.
Accounting Changes
In February 1992, the Financial Accounting Standards Board ("FASB") issued
SFAS No.109, "Accounting for Income Taxes," which supersedes SFAS No. 96 of the
same title. SFAS No. 109, which became effective for fiscal years beginning
after December 31, 1992, employs an asset and liability approach in accounting
for income taxes payable or refundable at the date of the financial statements
as a result of all events that have been recognized in the financial statements
and as measured by the provisions of enacted tax laws. Adoption by the Company
of SFAS No. 109 did not have a material impact on the Company's results of
operations.
In December 1991, the FASB issued SFAS No. 107, "Disclosures about Fair
Value of Financial Instruments," which is effective for fiscal years ending
after December 15, 1992 (December 15, 1995 in the case of entities with less
than $150 million in total assets). SFAS No. 107 requires financial
intermediaries to disclose, either in the body of their financial statements or
in the accompanying notes, the "fair value" of financial instruments for which
it is "practicable to estimate that value." SFAS No. 107 defines "fair value"
as the amount at which a financial instrument could be exchanged in a current
transaction between willing parties, other than in a forced or liquidation
sale. Quoted market prices, if available, are deemed the best evidence of
the fair value of such instruments. Most deposit and loan instruments
issued by financial intermediaries are subject to SFAS No. 107, and its
effect will be to require financial statement disclosure of the
fair value of most of the assets and liabilities of financial
intermediaries such as the Company and the Bank.
The disclosure required by SFAS No. 107 at December 31, 1994 is presented in
Note 8 to the Company's
13
Consolidated Financial Statements. See "Item 8. FINANCIAL STATEMENTS AND
SUPPLEMENTARY DATA."
In May 1993, the FASB issued SFAS No. 114, "Accounting by Creditors for
Impairment of a Loan". SFAS No. 114 prescribes the recognition criterion for
loan impairment and the measurement methods for certain impaired loans and
loans whose terms are modified in troubled debt restructurings. SFAS No. 114
states that a loan is impaired when it is probable that a creditor will be
unable to collect all principal and interest amounts due according to the
contracted terms of the loan agreement. A creditor is required
to measure impairment by discounting expected future cash flows
at the loan's effective interest rate, or by reference to an observable
market price, or by determining that foreclosure is probable.
SFAS No. 114 also clarifies the existing accounting for in- substance
foreclosures by stating that a collateral-dependent real estate loan
would be reported as real estate owned only if the lender had taken possession
of collateral.
SFAS No. 118 amended SFAS No. 114, to allow a creditor to use existing
methods for recognizing interest income on an impaired loan. To accomplish that
it eliminated the provisions in SFAS No. 114 that described how a creditor
should report income on an impaired loan. SFAS No. 118 did not change the
provisions in SFAS No. 114 that require a creditor to measure impairment based
on the present value of expected future cash flows discounted at the loan's
effective interest rate, or as a practical expedient, at the observable market
price of the loan or the fair value of the collateral if the loan is collateral
dependent. SFAS No. 118 amends the disclosure requirements in SFAS No. 114 to
require information about the recorded investments in certain impaired loans
and about how a creditor recognizes interest income related to those impaired
loans. SFAS No. 114 is effective for financial statements issued for
fiscal years beginning after December 15, 1994. Although earlier application
is encouraged, it is not required. SFAS No. 118 is effective concurrent
with the effective date of SFAS No. 114. The Company has not adopted
SFAS No. 114 for fiscal year 1994, and the Company has not yet determined
the impact of the adoption of thisstatement.
In December 1990, FASB issued SFAS No. 106,"Employers' Accounting for Post-
Retirement Benefits Other Than Pensions" effective for fiscal years beginning
after December 15, 1992. In November 1992, FASB issued Statement of Financial
Standards No. 112, "Employers' Accounting For Post-Employment Benefits,"
effective for fiscal years beginning after December 15, 1993. SFAS No. 106 and
SFAS No. 112 focus primarily on post-retirement health care benefits. The
Company does not provide post-retirement benefits, and SFAS No. 106 and SFAS
No. 112 will have no impact on net income in 1994.
In May 1993, the FASB issued SFAS No. 115 "Accounting For Certain
Investments in Debt and Equity Securities" addressing the accounting and
reporting for investments in equity securities that have readily determinable
fair values and for all investments in debt securities. These investments would
be classified in three categories and accounted for as follows: (i) debt and
equity securities that the entity has the positive intent and ability to hold
to maturity would be classified as "held to maturity" and reported at
amortized cost; (ii) debt and equity securities that are held for current
resale would be classified as trading securities and reported at fair
value, with unrealized gains and losses included in operations; and
(iii) debt and equity securities not classified as either securities
held to maturity or trading securities would be classified as securities
available for sale, and reported at fair value, with unrealized gains and
losses excluded from operations and reported as a separate component
of shareholders' equity. The statement is effective for financial
statements for calendar year 1994, but may be applied to an earlier fiscal
year for which annual financial statements have not been issued.
The Company adopted SFAS No. 115 in 1993. The cumulative effect
of the change in accounting was not material.
Additional Regulatory Matters
The assets of a commercial banking institution consist largely of
interest earning assets, including loans, federal funds sold, time certificates
of deposit, and investment securities. The liabilities of a commercial banking
institution consist of non-interest bearing demand deposits, and interest
bearing liabilities, including time deposits, savings accounts, and other bank
borrowings. The values and yields of these assets and rates paid on these
liabilities are sensitive to changes in prevailing market rates of interest.
The earnings and growth of the Company are largely dependent on the Company's
ability to increase the amount and net yield of its interest earning assets
which, in turn, depends upon deposit growth and the ability of the Company to
maintain a favorable differential or "spread" between the yield on interest
earning assets and the rate paid on interest bearing deposits and other
interest bearing liabilities. The FRB implements national monetary policies
(for example, to curb inflation and combat recession) by its open market
operations in United States government securities, by adjusting the required
level of reserves for financial institutions subject to its reserve
requirements and by varying the discount rates applicable to borrowing
by banks that are members
14
of the Federal Reserve System. The actions of the FRB in these areas influence
the growth of bank loans, investments, and deposits, and also effect interest
rates charged on loans and deposits. Thus, the earnings and growth of monetary
and fiscal policies of the federal government, and the policies of regulatory
agencies, particularly the FRB. The nature and impact of any future changes in
economic conditions and government policies cannot be predicted.
Supervision, regulation, and examination of the Bank by bank
regulatory agencies are generally intended to protect depositors and are not
intended for the protection of the Company's stockholders.
In November 1993, the Office of the Comptroller of the Currency
released the Bank from its Formal Agreement entered into in June 1992. The
Formal Agreement required the implementation of certain policies and procedures
for the operation of the bank to improve lending operations and management of
the loanportfolio. The Formal Agreement required the Bank to maintain a Tier 1
risk weighted capital ratio of 10.5% and a 6% Tier 1 capital ratio based on
adjusted total assets. The Formal Agreement mandated the adoption of a written
program to essentially reduce criticized assets, maintain adequate loan loss
reserves and improve bank administration, real estate appraisal, asset review
management and liquidity policies, and restricted the payment of dividends.
In November 1993, the Federal Reserve Bank of San Francisco released
the Company from its August 1992, Memorandum of Understanding ("MOU") which
required: 1) a plan to improve the financial condition of CU Bancorp and the
Bank; 2) development of a formal policy regarding the relationship of CU
Bancorp and the Bank, with regard to dividends, intercompany
transactions, tax allocation and management or service fees; 3) a
plan to assure that CU Bancorp has sufficient cash to pay its expenses;
4) ensure that regulatory reporting is accurate and submitted on a
timely basis; 5) prior approval of the Federal Reserve Bank prior
to the payment of dividends; 6) prior approval of the Federal
Reserve Bank prior to CU Bancorp incurring any debt and 7) quarterly
reporting regarding the condition of the Company and steps taken regarding
the Memorandum of Understanding.
The release of both agreements indicates that the Company has complied
with the Formal Agreement and the Memorandum of Understanding, including
improvement of asset and management quality, the development and implementation
of policies and procedures as well as reporting methodologies and the
maintenance of the required capital ratios.
In addition, the Bank is subject to certain restrictions imposed by
federal law on any extensions of credit to affiliates (including parent bank
holding companies), investments of stock or other securities thereof, and the
taking of such securities as capital and surplus for all affiliates.
Transactions with affiliates are only permissible if they are on terms
consistent with safe and sound banking practices, and must be on substantially
identical terms (or not less favorable to the bank) as similar transactions
with non-affiliates. A bank may not purchase a "low quality asset"(as defined
in section 23a(b)(10) of the Federal Reserve Act) from an affiliate.
Other restrictions require that transactions with affiliates be on
substantially the same terms as would be available for non-affiliates and
applies to the transactions already described as well as to a bank's sale of
assets, payment of money, of furnishing of services to an affiliate;
transactions in which an affiliate acts as an agent or broker and transactions
with a third party, if an affiliate is a participant or has a financial
interest in the transaction.
EMPLOYEES
As of December 31, 1994, the Company had two employees, its Chief
Executive Officer and Chief Financial Officer, who received no compensation.
At December 31, 1994, the Bank had 91 full-time employees and 7 part-time
employees. Of these employees, 12 held titles of senior vice president or
above. At December 31, 1994, none of the executive officers of the Bank served
pursuant to written employment agreements. None of the Company's or the Bank's
employees are represented by a labor union. The Company considers its
relationship and the Bank's relationship with each company's
respective employees to be excellent.
15
Item 2. PROPERTIES
The principal offices of the Company are located in a multi-story
office building located at 16030 Ventura Boulevard, Encino, California 91364
for which it pays a monthly rental of $60 thousand. The lease contains a
ceiling on cost on living adjustments of 5% per year. The lease is renewable.
The Bank leases the property in which its West Los Angeles branch and offices
are located for a monthly rent of $ 6 thousand. The Bank also has certain
month to month or short term leases for offices in the South Bay, Camarillo
and the San Gabriel Valley. Management believes that the existing leases
will be renogotiated at termination to provide for additional space
requirements, which are not expected to be material.
From time to time the Bank may acquire real property through
foreclosure. See Management's Discussion and Analysis "Nonperforming Assets"
for further amplification on real property acquired in this manner.
16
Item 3. LEGAL PROCEEDINGS
In the normal course of business the Bank occasionally becomes a party to
litigation. In the opinion of management, based upon consultation with legal
counsel, the Bank believes that pending or threatened litigation involving the
Bank will have no adverse material effect upon its financial condition, or
results of operations.
The Bank is a defendant in multiple lawsuits related to the failure of two
real estate investment companies, Property Mortgage Company, Inc.,
("PMC") and S.L.G.H., Inc. ("SLGH"). The lawsuits, consist of a federal
action by investors in PMC and SLGH (the "Federal Investor Action"),
at least three state court actions by groups of Investors (the
"State Investor Actions"), and an action filed by the Resolution
Agent for the combined and reorganized bankruptcy estate of PMC and
SLGH (the "Neilson" Action). An additional action was filed by an
individual investor and his related pension and profit sharing
plans (the "Individual Investor Action").
Other defendants in these multiple actions and in related actions
include financial institutions, title companies, professionals, business
entities and individuals, including the principals of PMC and SLGH.
The Bank was a depository bank for PMC, SLGH and related companies
and was a lender to certain principals of PMC and SLGH ("Individual Loans").
Plaintiffs allege that PMC/SLGH was or purported to be engaged in the business
of raising money from investors by the sale and issuance of interests in loans
evidenced by promissory notes secured by real property. Plaintiffs allege that
false representations were made, and the investment merely constituted a
"Ponzi" scheme. Other charges relate to the Bank's conduct with regard
to the depository accounts, the lending relationship with the principals
and certain collateral taken , pledged by PMC and SLGH in conjunction with
the Individual Loans. The lawsuits allege inter alia violations of federal
and state securities laws, fraud, negligence, breach of fiduciary
duty, and conversion as well as conspiracy and aiding and abetting
counts with regard to these violations. The Bank denies the allegations
of wrongdoing.
Damages in excess of $100 million have been alleged, and compensatory and
punitive damages have been sought generally against all defendants, although no
specific damages have been prayed for with regard to the Bank, nor has there
been any apportioning of liability among defendants or attributable to the
various claims asserted. A former officer and director of the Bank has also
been named as a defendant. The Bank and the named officer/director have
notified the Bank's insurance carriers of the various lawsuits.
During 1994, the Court granted the Bank's motion for summary judgment in the
Individual Investor Action. An appeal of that Order was filed by the
plaintiffs. The plaintiff in the Individual Investor Action will be a member of
the settling class and in connection with the settlement discussed below, that
appeal will be dismissed.
The Bank has entered into a settlement agreement with the representatives of
the various plaintiffs, which, when consummated, will dismiss all of
the above referenced cases, with prejudice, against the Bank, its officers
and directors, with the exception of the officer/director previously named.
The settlement is subject to appropriate Court approvals, which have
now been received. In connection with the settlement, the Bank will
release its security interest in certain disputed collateral and cash
proceeds thereof, which the Bank received from PMC, SLGH, or the
principals, in connection with the Individual Loans. This collateral
has been a subject of dispute in the Neilson Action, with both the
Bank and the representatives of PMC/SLGH asserting the right to such
collateral. All the Individual Loans have been charged off previously.
The Bank will also make a cash payment to the Plaintiffs in connection
with the settlement. In connection with the settlement the Bank will assign
its rights, if any, under various insurance policies, to the Plaintiffs.
The settlement does not resolve the claims asserted against the
officer/director.
The settlement has been approved by the Federal District Court and the Federal
Bankruptcy Court. While one party to these matters filed an appeal to the
approval by the courts, they have indicated that they will dismiss such appeal,
which would allow the settlement to be effectuated. Based upon advice of
counsel, the Bank believes that the possibility of the settlement not being
finalized is remote. The Bank is still providing a defense to its former
director/officer who continues as a defendant and who retains his rights of
indemnity, if any, against the Bank arising out of his status as a former
employee. At this time the only viable claims which remain against the
former director/employee are claims of negligence in connection with certain
depository relationships with PMC/SLGH. While the Bank's Director and
Officer Liability Insurer has not acknowledged coverage of any potential
judgment or cost of defense, the Insurer is on notice of the action
and has participated in various aspects of the case.
17
Item 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matters were submitted during the fourth quarter of the fiscal year
covered by this report to a vote of security holders, through the solicitation
of proxies or otherwise.
Item 4(A). EXECUTIVE OFFICERS OF THE COMPANY
Set forth below are brief summaries of the background and business
experience of each of the executive officers of the Company and the Bank as of
December 31, 1994:
Name Age Position with Position with Years in Job
the Company the Bank
Stephen G. Carpenter 54 CEO Chairman/CEO 2.5
David I. Rainer 38 President President/Chief 2.5
Operating Officer
Patrick Hartman 45 Chief Financial Senior V.P./Chief 2.2
Officer Financial Officer
Anne Williams 36 Chief Credit Officer 1.5
Set forth below are brief summaries of the background and business experience,
of the executive officers of the Company.
STEPHEN G. CARPENTER joined the Company in 1992 from Security Pacific
National Bank where he was Vice Chairman in charge of middle market lending
from July 1989 to June 1992. Mr. Carpenter was previously employed at Wells
Fargo Bank from July 1980 to July 1989, where he was an Executive Vice
President.
DAVID I. RAINER was appointed Executive Vice president of the Bank in June
1992 and assumed the position of Chief Operating Office in late 1992. From July
1989 to June 1992, Mr. Rainer was employed by Bank of America, where he held
the position of Senior Vice President. From March 1989 to July 1989, Mr. Rainer
was a Senior Vice President at Faucet & Company, where he co-managed a stock
and bond portfolio. From July 1982 to March 1989, Mr. Rainer was employed at
Wells Fargo Bank, where he held the positions of Vice President and Manager.
PATRICK HARTMAN has been employed by the Bank since November, 1992. Prior
to assuming his present 18
positions he was Senior Vice President/ Chief Financial Officer for Cenfed
Bank for a period during 1992. Mr. Hartman held the post of Senior Vice
President/Chief Financial Officer of Community Bank, Pasadena, California,
for thirteen years.
ANNE WILLIAMS joined the Bank in 1992 as Senior Loan Officer. She was
named to the position of Chief Credit Officer in July 1993. Prior to that
time she spent five years at Bank of America/Security Pacific National Bank,
where she was a credit administrator in asset based lending, for middle market
in the Los Angeles area. Ms Williams was trained at Chase Manhattan Bank in
New York, and was a commercial lender at Societe Generale in Los Angeles and
Boston Five Cents Savings Bank where she managed the corporate lending group.
19
PART II
Item 5. MARKET FOR COMPANY'S COMMON STOCK AND RELATED SHAREHOLDER MATTERS
see Management's Discussion and Analysis "Capital"
Holders of Company's Common Stock
As of the close of business on December 31, 1994 there were 424
record holders of the Company's issued and outstanding Common Stock.
Dividends
Under national banking laws the Bank may not pay dividends from its
capital. All dividends must be paid out of net profits then on hand, after
deducting expenses, including losses and bad debts. In addition,the payment of
dividends out of net profits is further limited in that the Bank is prohibited
from declaring a dividend on its shares of common stock until the surplus fund
equals the amount of capital stock, or, if the surplus fund does not equal the
amount of capital stock, until there has been transferred to the surplus fund
not less than one-tenth of the bank's net profits for the preceding half-year
in the case of quarterly or semi-annual dividends, or not less than one-tenth
of its net profits for the preceding two consecutive half-year periods in the
case of annual dividends.
The approval of the Comptroller of the Currency is required if the
total of all dividends declared by the Bank in any calendar year exceeds the
total of its net profits for that year combined with its net profits for the
two preceding years, less any required transfers to surplus or to a fund
for the retirement of any preferred stock. In first quarter 1995, the Bank
received the Comptroller's prior approval for payment of dividends in 1995,
not to exceed $90,000 per quarter.
While the Company has generally followed a policy of retaining
earnings for the purpose of increasing the net worth of the Company in order to
support asset growth. Accordingly, in recent years, the Company had not paid
any cash dividends. However, a $.02 per share dividend was declared in first
quarter 1995. Holders of the Common Stock are entitled to receive dividends as
and when declared by the Board of Directors out of funds legally available
therefor under the laws of the State of California. The Company declared a 20 %
stock dividend in 1989, 5% stock dividends in 1988, 1987, and 1986, a 2 for 1
stock split in 1984 and a 6 for 5 split effected in the form of a stock
dividend in 1985. All per share amounts throughout this Form 10-K are
adjusted to give effect to these share dividends and splits.
20
Item 6. SELECTED FINANCIAL DATA
Selected Financial Data
CU Bancorp and Subsidiary
Amounts in thousands of dollars, except per share data
As of the years ended December 31,
1994 1993 1992 1991 1990
Consolidated Balance Sheet Data
Total securities $ 74,153 $ 88,034 $84,724 $ 59,533 $ 37,755
Net loans 167,175 134,148 193,643 273,126 308,346
Total earning assets 261,328 251,559 281,723 429,480 415,602
Total assets 304,154 279,206 353,923 516,762 485,697
Total deposits 264,181 238,928 318,574 473,125 444,542
Total shareholders' equity 29,744 26,990 24,632 32,598 36,600
Regulatory risk based capital ratio 15.4% 16.71% 12.87% 12.31% 14.15%
Regulatory capital leverage ratio 10.44% 9.16% 6.12% 6.91% 9.25%
Allowance for loan losses to:
Period end total loans 4.25% 4.63% 6.28% 4.33% 1.32%
Nonperforming loans 20,631% 473% 95% 75% 79%
Nonperforming assets 20,631% 283% 95% 59% 79%
Consolidated Operating Results
Net interest income $ 13,881 $ 14,431 $ 20,625 $ 25,681 $ 28,851
Other operating income 5,408 26,423 21,499 10,537 6,936
Provision for loan losses 0 450 17,090 14,267 3,650
Operating expenses 14,735 36,883 37,493 27,843 22,265
Net income (loss) 2,574 2,098 (8,190) (3,637) 5,863
Fully diluted income/(loss) per
common & equivalent share $ .56 $ 0.47 $ (1.90) $ (0.83) $ 1.27
Net interest margin 5.98% 5.86% 6.07% 6.99% 7.61%
Return on average shareholders'
equity 9.12% 8.12% (26.06)% (10.27)% 16.85%
Return on average assets 0.97% 0.69% (1.89)% (0.76)% 1.31%
Cash dividends per common share -- ------ ------- $ 0.150 $ 0.225
21
Item 7.
Management Discussion and Analysis
Overview
The Bank's strong performance in 1994 has been the result of the continuation
of the strategy that was developed over two years ago. Continued
emphasis on growing as a middle market bank committed to a discipline of
credit quality and cost control has resulted in solid earnings and growth
for the year.
The Bank's seasoned commercial lenders generated new loan commitments of $121
million in 1994, 20% more than the $101 million in commitments generated in
1993. Two consecutive years of significant new business development have
demonstrated the Bank's ability to meet the needs of middle market companies
for relationship-based services. This positive growth trend is expected to
continue into 1995 and be a significant contributor to improved profit
performance in the coming years.
The Company earned $2.6 million, or $.56 per share, in 1994, compared to $2.1
million, or $0.47 per share, in 1993. The 1994 earnings included profitable
performance by the Bank and a gain on the sale of the mortgage servicing rights
retained by the Bank when its mortgage origination network was sold in 1993.
The Bank's asset quality ratios continue to be exceptionally strong. At
December 31, 1994, nonperforming assets were $ 36 thousand, down $ 2.3 million,
or 98 %, from the prior year. At December 31, 1994, the Bank did not have any
real estate acquired through foreclosure.
The Bank's allowance for loan losses as a percent of both nonperforming loans
and nonperforming assets at the end of 1994 was 20,631%, compared to 1993
levels of 473% and 283%, respectively. The allowance for loan losses as a
percentage of nonperforming loans and assets has increased as both
nonperforming categories were reduced. During 1994, the Bank enjoyed a
net recovery as recoveries exceeded chargeoffs. Net recoveries
further increase the allowance and its coverage of the nonperforming
loans and assets.
Capital ratios are strong , substantially exceeding levels required to be
in the "well capitalized" category established by bank regulators.
The Total Risk-Based Capital Ratio was 15.40%, the Tier 1 Risk-Based
Capital Ratio was 14.12%, and the Leverage Ratio was 10.44% at
December 31, 1994.
The successful results in 1993 and 1994 concerning asset quality, regulatory
relations, growth of middle market lending and strategic focus make expansion
and growth possible. Two new loan production offices were opened in January
1994. These offices have allowed expanded market penetration and commercial
portfolio diversification. These offices have since been converted to branches.
On April 1, 1994, the Bank acquired the deposits of the Encino branch of
Mechanics National Bank from the FDIC, to expand and improve deposit mix. In
October 1994, another loan production office was opened in Camarillo,California
to be the Ventura County regional center. The Bank has received authorization
to convert the Camarillo office to a branch,and expects to make that conversion
in 1995.
Balance Sheet Analysis
Loan Portfolio Composition and Credit Risk
Significant improvements in loan portfolio composition and credit quality are
the result of management's commitment to middle market commercial lending and a
strong credit culture. The credit standards established over two years ago have
allowed creation of a high quality commercial loan portfolio and nearly
eliminated non performing assets. Real estate concentrations established before
that time have been reduced to the point that they are no longer
concentrations.
The Bank's focus on middle market lending, in its infancy at year-end 1992,
gained momentum in 1993 and further accelerated in 1994. Total loans increased
over $33.9 million from December 31, 1993 to December 31, 1994. Offsetting
this, the remaining Held for Sale mortgages of $10.4 million at December 31,
1993 were sold in the first quarter of 1994. Excluding this planned
liquidation, loans increased by $44 million, or 34%, for the year ended
December 31, 1994.
22
Table 1 Loan Portfolio December 31,
Composition
Amounts in thousands of dollars
1994 1993 1992 1991 1990
Commercial & Industrial Loans $169,413 97% $120,513 86% $118,575 57% $163,472 57% $187,031 60%
Real Estate Loans:
Held for Sale 0 10,426 40,167 40,350 24,156
Mortgages 4,773 3% 8,496 6% 40,311 20% 52,259 18% 81,593 26%
Construction 416 1,226 2,392 14,368 2,743
Other Loans 0 0 1,184 3,044 3,175
Loans 174,602 140,661 202,629 273,493 298,698
Term federal funds sold 0 0 4,000 12,000 15,000
Total loans net of unearned fees $174,602 100% $140,661 100% $206,629 100% $285,493 100% $313,698 100%
At December 31, 1994, the Bank had loans totaling $169 million maturing
within one year, $3 million maturing after one but within five years, and
$3 million maturing after five years. The loans due after one year
totaling $6 million all had predetermined interest rates.
Historically, the Bank's real estate loans held for sale were secured by
single family residences originated by the Mortgage Banking Operation.
These loans were sold to investors through firm commitments, generally in
less than 90 days, and presented almost no credit risk. The sale of the
mortgage origination operation eliminated this loan concentration. The
remainder of real estate loans are generally collateralized by a first or
second trust deed position.
Lending efforts have been directed away from commercial real estate, as
well as construction and multifamily lending. The Bank is now focused on
business lending to middle market customers. Current credit policy in
general now permits commercial real estate lending only as part of a
complete commercial banking relationship with a middle market customer.
Existing commercial real estate loans, 14% of the loan portfolio, or $25
million at year end 1994, compared to $27 million at year-end 1993, are
secured by first or second liens on office buildings and other structures.
The loans are secured by real estate that had appraisals in excess of loan
amounts at origination.
Monitoring and controlling the Bank's allowance for loan losses is a
continuous process. All loans are assigned a risk grade, as defined by
credit policies, at origination and are monitored to identify changing
circumstances that could modify their inherent risks. These
classifications are one of the criteria analyzed in determining the
adequacy of the allowance for loan losses.
23
The amount and composition of the allowance for loan losses is as follows:
Table 2 Allocation of Allowance for Loan Losses
Amounts in thousands of dollars
December 31,
Amounts in thousands of 1994 1993 1992 1991 1990
dollars
Commercial & Industrial Loans $7,096 $ 5,699 $ 11,597 $ 11,147 $ 3,986
Real estate loans - Held for 0 67 368 90 60
Sale
Real estate loans - Mortgages 0 225 249 28 21
Real estate loans - 0 10 62 100 37
Construction
Other loans 0 0 19 0 0
Loans 7,096 6,001 12,295 11,365 4,104
Unfunded commitments and
letters of credit 331 512 691 1,002 24
Total Allowance for loan $7,427 $ 6,513 $ 12,986 $ 12,367 $ 4,128
losses
Adequacy of the allowance is determined using management's estimates of
potential portfolio and individual loan. Included in the criteria used to
evaluate credit risk are, wherever appropriate, the borrower's cash flow,
financial condition, management capabilities, and collateral valuations, as
well as industry conditions. A portion of the allowance is established to
address the risk inherent in general loan categories, historic loss
experience, portfolio trends, economic conditions, and other factors. Based
on this assessment a provision for loan losses may be charged against
earnings to maintain the adequacy of the allowance. The allocation of the
allowance based upon the risks by type of loans (as shown in Table 2),
implies a degree of precision that is not possible when using judgment.
While the systematic approach used does consider a variety of segmentations
of the portfolio, management considers the allowance a general reserve
available to address risks throughout the entire loan portfolio.
24
Activity in the allowance, classified by type of loan, is as follows:
Table 3 Analysis of the Changes in the Allowance for Loan Losses
Amounts in thousands of dollars
For the
years ended
December
31,
1994 1993 1992 1991 1990
Balance at January 1 $6,513 $12,986 $12,367 $4,128 $3,158
Loans charged off:
Real estate secured loans 486 3,266 4,425 1,220 1,858
Commercial loans secured and unsecured 820 6,582 12,562 5,422 640
Loans to individuals, installment and
other loans 107 901 813 258 321
Total charge offs 1,413 10,749 17,800 6,900 2,819
Recoveries of loans previously charged off:
Real estate secured loans 586 393 249 15 42
Commercial loans secured and unsecured 1,735 3,189 1,001 819 97
Loans to individuals, installment and other
loans 6 244 79 38 ---
Total recoveries of loans previously
charged off 2,327 3,826 1,329 872 139
Net charge offs (914) 6,923 16,471 6,028 2,680
Provision for loan losses 0 450 17,090 14,267 3,650
Balance at December 31 $7,427 $6,513 $12,986 $12,367 $4,128
Net loan charge offs (recoveries) as a
percentage of average gross loans outstanding
during the year ended
December 31 (0.61)% 3.49% 6.70% 2.36% 0.98%
25
The Bank's policy concerning nonperforming loans is more conservative than
is generally required. It defines nonperforming assets as all loans ninety
days or more delinquent, loans classified nonaccrual, and foreclosed, or in
substance foreclosed real estate. Nonaccrual loans are those whose
interest accrual has been discontinued because the loan has become ninety
days or more past due or there exists reasonable doubt as to the full and
timely collection of principal or interest. When a loan is placed on
nonaccrual status, all interest previously accrued but uncollected is
reversed against operating results. Subsequent payments on nonaccrual loans
are treated as principal reductions. At December 31, 1994, nonperforming
loans amounted to $36 thousand, down 97% from $1.4 million at December 31,
1993.
Table 4: Nonperforming
Assets
Amounts in thousands of dollars
December 31,
1994 1993 1992 1991 1990
Loans not performing (1) $ 36 $ 378 $8,978 $14,955 $4,000
insubstance foreclosures 0 1,000 4,652 1,512 1,224
Total nonperforming loans 36 1,378 13,630 16,467 5,224
Other real estate owned 0 920 0 4,564 0
Total nonperforming assets $ 36 $2,298 $13,630 $21,031 $5,224
Allowance for loan losses as
a percent of:
Nonperforming loans 20,631% 473% 95% 75%
Nonperforming asse 20,631 283 95 59 79
Nonperforming assets as a
percent of total assets 0 0.8 3.8 4.2 1.1
Nonperforming loans as a
percent of total loans 0 1.0 6.6 5.8 1.8
Note 1:
Loans not performing
Performing as $ 36 $ 9 $2,895 $4,783
agreed
Partial performance 0 369 1,075 1,531
Not performing 0 0 5,008 8,641
$ 36 $378 $8,978 $14,955
Nonaccrual:
Loans $ 36 $378 $7,728 $11,357 $1,486
Troubled debt 0 0 1,250 1,326 818
restructurings
Past due ninety or
more days (a):
Loans 0 0 0 2,272 1,696
(a) Past due with respect to principal and/or interest and
continuing to accrue interest.
Securities
The securities portfolio at December 31, 1994, totaled $74 million,
compared to $88 million at year-end 1993. The securities are all classified
as a Held to Maturity portfolio. This portfolio is recorded at amortized
cost. It is the Bank's intention to hold these securities to their
individual maturity dates. There was no Available for Sale portfolio at
year-end 1994 and 1993.
There have been no realized gains or losses on securities in during 1994.
Gains of $77 thousand were realized during 1993. At December 31, 1994,
there were unrealized gains of $ 9 thousand and losses of $ 2.7 million
in the securities portfolio.
Additional information concerning securities is provided in the footnotes
to the accompanying financial statements.
Other Real Estate Owned
At December 31, 1994, there was no Other Real Estate Owned on the Bank's
balance sheet, compared with $920 thousand at December 31, 1993. The
carrying values of these properties are at fair value less estimated
selling costs, which is determined using recent appraisal values adjusted,
if necessary, for other market conditions. Loan balances in
26
excess of fair value are charged to the allowance for loan losses when the
loan is reclassified to other real estate. Subsequent declines in fair
value are charged against an allowance for real estate owned losses created
by charging a provision to other operating expenses.
During 1994, the bank sold properties held as Other Real Estate Owned,
realizing gains of $585 thousand. There were no comparable sales in 1993.
Expenses related to Other Real Estate Owned were $ 22 thousand in the
year ended December 31, 1994. This compares to $ 234 thousand at December
31, 1993.
Deposit Concentration
Due to its historic focus on real estate related activities, the Bank has
developed a concentration of deposit accounts from title insurance and
escrow companies. These deposits are generally noninterest bearing
transaction accounts that contribute to the Bank's interest margin.
Noninterest expense related to these deposits is included in other
operating expense. The Bank monitors the profitability of these accounts
through an account analysis procedure.
The Bank offers products and services allowing title insurance and escrow
customers to operate with increased efficiency. A substantial portion of
the services, provided through third party vendors, are automated data
processing and accounting for trust balances maintained on deposit at the
Bank. These and other banking related services, such as messenger and
deposit courier services, will be limited or charged back to the customer
if the deposit relationship profitability does not meet the Bank's
experience.
Noninterest bearing deposits represent nearly the entire title and escrow
relationship. These balances have been reduced substantially as the Bank
focused on middle market business loans. The balance at December 31, 1994,
was $44 million, compared to $58 million at December 31, 1993. Costs
relative to servicing the above relationships are the significant portion
of the Bank's customer data processing and messenger and courier costs.
There have been no significant changes in these costs during 1994.
Table 5 Real Estate Escrow and Title Average balance
Insurance Company Deposits Year ended 12 months ended
Amounts in thousands of dollars December 31,1994 December 31,1994
Percent of Percent of Percent of
Total Class Total Percent of
Amount Deposits Amount Deposits class
1994 Balances
Noninterest bearing demand deposits $44,382 16.8% 39.6% $ 44,670 19.2% 41.0%
Interest-bearing demand & savings deposits 1,263 .5% .8% 1,501 .6% 1.2%
Total deposit concentration $45,645 17.3% 40.4% $ 46,171 19.8%
1993 Balances $58,943 25% $ 70,238 26%
The Bank had $36 million in certificates of deposit larger than $100
thousand dollars at December 31, 1994. The maturity distribution of these
deposits is relatively short term, with $27 million maturing within 3
months and the balance maturing within 12 months.
Liquidity and Interest Rate Sensitivity
The objective of liquidity management is to ensure the Bank's ability to
meet cash requirements. The liquidity position is managed giving
consideration to both on and off-balance sheet sources and demands for
funds.
Sources of liquidity include cash and cash equivalents (net of Federal
Reserve requirements to maintain reserves against deposit liabilities),
securities eligible for pledging to secure borrowings from dealers pursuant
to repurchase agreements, loan repayments, deposits, and borrowings from a
$20 million overnight federal funds line available from a correspondent
bank. Potential significant liquidity requirements are withdrawals from
noninterest bearing demand deposits and funding under commitments to loan
customers.
During 1993, the Bank maintained a $20 million line of credit with a major
purchaser of the mortgage loans originated by the mortgage origination
operation. This warehouse line was terminated in conjunction with the sale
of that operation.
From time to time the Bank may experience liquidity shortfalls ranging from
one to several days. In these instances, the Bank will either purchase
federal funds, and/or sell securities under repurchase agreements. These
actions are intended
27
to bridge mismatches between funding sources and
requirements, and are designed to maintain the minimum required balances.
The Bank had no Federal Funds purchased or borrowings under repurchase
agreements during 1994.
The Bank's historical portfolio of large certificates of deposit (those of
$100 thousand or more) at December 31, 1994 was 14% of total deposits,
compared to 8.1% at December 31, 1993. The funding source has
traditionally been used to manage liquidity needs.
During 1994, loan growth for the bank outpaced growth of deposits from the
banks commercial customers. The Bank funded this growth, combined with the
Bank's reduced concentration in title and escrow deposits, in part with
certificates of deposit from customers from outside the Bank's normal
service area. These out of area deposits are generally certificates of
deposit of $90,000 or greater, that are priced competitively with similar
certificates from other financial institutions throughout the country. At
December 31, 1994, the Bank had approximately $55 million of these out of
area deposits.
28
Table 6 Interest Rate Maturities of Earning Assets and Funding
Liabilities at December 31, 1994
Amounts in thousands of dollars
Amounts Maturing or
Repricing in
More Than More Than More Than
3 Months But 6 Months But 9 Months But
Less Than Less Than Less Than Less than 12 Months
Amounts in thousands of dollars 3 Months 6 Months 9 12 Months & Over
Months
Earning Assets
Gross Loans (1) $162,531 $ 1,172 $ 1,271 $ 121 $9,506
Investments 6,000 3,001 4,975 4,983 55,194
Federal funds sold & other 20,000 ------ ------- ------ ------
Total earning assets 188,531 4,173 6,246 5,104 64,700
Interest bearing deposits:
Demand 54,694 0 0 0 0
Savings 13,202 0 0 0 0
Time certificates of deposit:
Under $100 30,731 8,879 1,530 6,600 96
$100 or more 26,859 5,616 1,335 2,500 105
Non interest bearing demand deposits 34,560 ------ ------ ------ -------
Total interest bearing liabilities 160,046 14,495 2,865 9,100 201
Interest rate sensitivity gap 28,485 (10,322) 3,381 (3,996) 64,499
Cumulative interest rate sensitivity gap 28,485 18,163 21,544 17,548 82,047
Off balance sheet financial instruments 0 0 0 0 0
Net cumulative gap $28,485 $18,163 $21,544 $17,548 $82,047
Adjusted cumulative ratio of rate sensitive
assets to rate sensitive liabilities 1.18% 1.11% 1.12% 1.09% 1.40%
(1) Ratios greater than 1.0 indicate a net asset sensitive position.
Ratios less than 1.0 indicate a liability sensitive position. A ratio of
1.0 indicates risk neutral position.
29
Assets and liabilities shown on Table 6 are categorized based on
contractual maturity dates. Maturities for those accounts without
contractual maturities are estimated based on the Bank's experience with
these customers. Noninterest bearing deposits of title and escrow
companies, having no contractual maturity dates, are considered subject to
more volatility than similar deposits from commercial customers. The net
cumulative gap position shown in the table above indicates that the Bank
does not have a significant exposure to interest rate fluctuations during
the next twelve months.
Capital
Total shareholders' equity was $30 million at December 31, 1994, compared
to $27 million at year-end 1993. The increase was due to earnings, plus the
exercise of stock options. The Bank is guided by statutory capital
requirements, which are measured with three ratios, two of which are
sensitive to the risk inherent in various assets and which consider off-
balance sheet activities in assessing capital adequacy. During 1994 and
1993. the Bank's capital levels exceeded the "well-capitalized" standards,
the highest classification established by bank regulators.
Table 7 Capital Ratios
Regulatory Standards
Dec 31 Dec 31 Well -
1994 1993 Capitalized Minimum
Total Risk Based Capital 15.40% 16.7% 10.00% 8.00%
Tier 1 Risk Based Capital 14.12 15.4 6.00 4.00
Leveraged Capital 10.44 9.2 5.00 3.00
No dividends have been paid in 1994 or 1993. In February, 1995, the Bank
declared a dividend of $.02 per share for the fourth quarter of 1994,
payable March 13, 1995 to shareholders of record February 20, 1995.
The common stock of the Bank is listed and traded on the National
Association of Securities Dealers Automated System (NASDAQ) National Market
Systems where it trades under the symbol CUBN.
Table 8 Stock Prices - Unaudited
1994 1993
High Low High Low
First Quarter $7.50 $6.50 $6.25 $3.38
Second Quarter 7.00 5.75 7.00 4.75
Third Quarter 7.50 6.00 6.25 5.00
Fourth Quarter 8.00 6.75 7.25 5.75
Earnings by Line of Business
Prior to the sale of the mortgage origination network in November, 1993,
the Bank operated a commercial bank and a mortgage bank as two distinct
business segments. In 1994, real estate lending is generally only done as
part of a commercial banking relationship. For 1994, therefore, the Bank
consists of only a single segment, the commercial banking operation.
Tables 9 shows the pre-tax operating contributions.
30
Table 9 Pre-tax operating contribution by line of business (i)
Amounts in thousands of dollars
1993 1992
1994 Commercial Mortgage
Consolidated Consolid- Banking Banking Consolid- Commercial Mortgage
ated ated Banking Banking
Net interest income $13,881 $14,431 $13,844 $587 $20,625 $18,888 $1,737
Provisions for loan losses 0 450 200 250 17,090 15,843 1,247
Risk adjusted net interest income 13,881 13,981 13,644 337 3,535 3,045 490
Noninterest revenue 2,836 24,940 1,032 23,908 21,499 1,865 19,634
Total revenues 16,717 38,921 14,676 24,245 25,034 4,910 20,124
Salaries and related benefits 6,335 11,020 6,151 4,869 12,647 7,998 4,649
Other operating expenses 7,800 25,416 7,738 17,678 24,846 12,910 11,936
Total operating expenses 14,135 36,436 13,889 22,547 37,493 20,908 16,585
Operating Income 2,582 2,485 787 1,698 (12,459) (15,998) 3,539
Gain on sale of mortgage
origination operation 1,483
Gain on sale of mortgage
servicing portfolio 2,572
Restructuring charge (600)
Reserve for branch relocation (447)
Income before taxes $4,554 $3,521 $787 $1,698 $(12,459) $(15,998) $3,539
(i) Inter-divisional transactions for 1993 have been eliminated at the
division level.
The Bank is committed to the expansion of its market penetration of the
commercial bank including the creation of loan production offices,
establishment of a Small Business Administration ("SBA") loan production
group, and development of an international trade services group.
Branches have been established in three strategic locations in Southern
California. In January 1994, two branches were established to serve the San
Gabriel Valley area and the South Bay area. The offices are staffed with
seasoned commercial lenders whose primary focus is business development.
Such offices are cost effective approaches to business development and
allow the Bank access to wider market exposure. While these offices are
primarily staffed with existing personnel, when appropriate, key people
with specific market knowledge and experience have been hired. In October
1994, the Bank opened a loan production office in Camarillo, California as
its regional center for Ventura County. The Camarillo office is expected
to be converted to a Branch in the coming year.
The Bank established, in the fourth quarter of 1993, a group of lenders to
focus on the production of commercial loans that can be participated with
the SBA. These loans are subject to the same credit quality policies and
procedures as all commercial loan production. Fees generated from the sale
of the guaranteed portion of the loans will be an important new source of
noninterest income.
Another new product was added late in 1993, with the creation of an
international trade services group. Many of the Bank's existing commercial
customers and prospects are involved in import and/or export. This product
line includes letters of credit, foreign exchange, and foreign collections,
and is another important element in the total banking relationship offered
to our business customers.
Net Interest Income and Interest Rate Risk
Net interest income is the difference between interest and fees earned on
earning assets and interest paid on funding liabilities. Net interest
income for 1994 was $13.9 million, compared to $14.4 million in 1993
and $20.6 million in 1992. The change is primarily attributable to lower
levels of average loans and deposits in 1994 being offset by favorable rate
variations. The change in 1993 compared with 1992 was primarily
attributable to changes in volume. As a result of efforts to deal with
credit quality issues and refocus the Bank on middle market business
customers, loans outside target markets have been motivated to leave the
Bank. Initially this has an adverse affect on net interest margin but
subsequent growth of the middle market loan portfolio replaces these assets
and provides a more reliable and valuable source of interest margin.
31
Table 10 Analysis of Changes in Net Interest Income (1) (Amounts in thousands of
dollars)
Amounts in thousands of dollars
Increases(Decreases)
Year ended December 31, Year ended December 31,
1994 compared to 1993 1993 compared to 1992
Increases(Decreases) Volume Rate Total Volume Rate Total
Interest Income
Loans, net $(4,466) $2,016 $(2,450) $(3,871) $(1,210) $(5,081)
Investments 1,149 175 1,324 (1,623) (549) (2,172)
Federal Funds Sold 213 252 465 (326) (118) (444)
Total interest income (3,104) 2,443 (661) (5,820) (1,877) (7,697)
Interest Expense
Interest bearing deposits:
Demand 182 (114) 68 (196) (492) (688)
Savings (80) 97 17 (138) (99) (237)
Time Certificates of deposit:
Under $100 (179) 195 16 522 (50) 472
$100 or more (177) 166 (11) (478) (193) (671)
Federal funds purchased / Repos (40) (40) (80) (40) (23) (63)
Other borrowings (135) 19 (116) (123) (193) (316)
Total interest expense (429) 323 (106) (453) (1,050) (1,503)
Net interest income $(2,675) $2,120 $ (555) $(5,367) $ (827) $(6,194)
(1) The change in interest income or interest expense that is attributable
to both change in average balance and average rate has been allocated to
the changes due to (i) average balance and (ii) average rate in proportion
to the relationship of the absolute amounts of the changes in each.
Yields on earning assets were approximately 7.8% in 1994, compared to a
7.6% yield for 1993 and 7.8% 1992. The higher average yield on earning
assets in 1994 is largely due to the higher yields on loans as the prime
rate began to rise in 1994. Through October 8, 1993, net interest income
continued to benefit from an interest rate swap agreement, discussed below.
Rates on interest bearing deposits resulted in an average cost of funds of
3.0 % in 1994, compared to 2.9% for 1993 and 3.4% for 1992.
Shrinkage in the Bank's earning asset and funding liability portfolios
contributed to the reduction in net interest income. Average loans during
1994 decreased $ 47 million from $189 million in 1993. Average loans in
1992 were $ 233 million. These decreases resulted from the sale of the
held for sale mortgage loans, discussed below, and management's efforts to
improve the quality of the loan portfolio and redirect production to middle
market commercial loans. Earning assets averaged $231.9 million in 1994,
down from $ 246.5 million in 1993, and $339 million in 1992.
32
Table 11 Average Balance Sheets and Analysis of Net Interest Income
Amounts in thousands of dollars
1994 1993 1992
Interest Interest Interest Yield or
Balance Income or Yield or Income or Yield or Income or Rate
Expense Rate Balance Expense Rate Balance Expense
Interest Earning Assets
Loans, Net (1 $141,878 $14,036 9.89% $188,967 $16,487 8.72% $233,203 $ 21,568 9.25 %
Investments (2) 66,891 2,947 4.41 37,534 1,558 4.15 76,161 3,667 4.81
Certificates of Deposit
in other banks 1,010 58 5.74 4,102 123 3.00 3,135 186 5.93
Federal Funds Sold 22,100 918 4.15 15,927 454 2.85 26,862 898 3.34
Total Earning Asset 231,879 17,959 7.74 246,530 18,622 7.55 339,361 26,319 7.76
Non Earning Assets
Cash & Due From Banks 29,559 41,243 74,999
Other Assets 7,351 15,645 18,613
Total Assets $268,789 $303,418 $432,973
Interest Bearing Liabilities
Demand $ 71,821 1,730 2.41 $64,179 1,594 2.48 $ 70,702 2,282 3.23
Savings 9,893 255 2.58 12,741 315 2.47 17,787 552 3.10
Time Certificates of Deposits
Less Than $100 22,144 997 4.50 26,577 979 3.68 12,529 507 4.05
More Than $100 19,713 773 3.92 24,737 784 3.17 39,085 1,455 3.72
Federal Funds Purchased
/ Repos 0 0 0 2,712 79 2.91 4,011 142 3.54
Total Interest Bearing
Liabilities 123,571 3,755 3.04 130,946 3,751 2.86 144,114 4,938 3.43
Non Interest Bearing
Deposits 109,004 0 0 137,485 0 0 244,543 0 0
Total Deposits 232,575 3,755 1.61 268,431 3,751 1.40 388,657 4,938 1.27
Other Borrowings 4,909 323 6.58 6,964 440 6.32 8,644 756 8.75
Total Funding Liabilities 237,484 4,078 1.72 275,395 4,191 1.52 397,301 5,694 1.43
Other Liabilities 3,264 2,175 4,328
Shareholders' Equity 28,006 25,848 31,344
Total Liabilities and Shareholders'
Equity $268,754 $303,418 $432,973
Net Interest Income $13,881 5.99% 14,431 5.85 % $ 20,625 6.08 %
Shareholders' Equity to Total
Assets 10.42% 8.52 % 7.24 %
(1) Non- accrual loans are included in average loan balances, and loan fees
earned have been included in interest income
on loans.
(2) Tax exempt securities do not materially affect reported yields.
Expressing net interest income as a percent of average earning assets is
referred to as margin. Margin was 5.99% for 1994 compared to 5.85% for
1993 and 6.08% for 1992. The Bank's margin is strong because it has funded
itself with a significant amount of noninterest bearing deposits. The
higher margin in 1994 is largely due to the benefits of rising interest
rates, largely offset by the maturing of the interest rate swap discussed
below.
Through October 8, 1993, the Bank continued to benefit from an interest
rate swap agreement entered into October 8, 1991, which had a notional
value of $100 million. Under this arrangement, the Bank received a fixed
rate of 8.18% and paid interest at prime rate, which was 6.0% during 1993.
The income earned from the interest rate swap agreement was $0 in 1994,
compared to $1.7 million in 1993 and $1.9 million in 1992.
33
Other Operating Income
The majority of other operating income was earned as the Mortgage Banking
Operation originated and sold mortgage loans. The trends and composition of
other operating income are shown in the following table.
Table 12 Other operating income
Amounts in thousands of dollars
1992
1994 1993
Commercial Mortgage
Commercial Mortgage Consolidate Banking Banking Consolidated
Consolidated Banking Banking
Processing fees $1,143 $1,143 $1,137 $1,137
Capitalization of
excess servicing
rights 207 207 821 821
Fees on loans
sold $15 1,182 1,182 3,336 3,336
Premium on sales
of mortgage loans (8) 18,022 18,022 11,346 11,346
Service income 980 2,129 2,129 1,812 1,812
Documentation
fees 99 104 826 930 $111 914 1,025
Other service
fees and charges 1,165 851 399 1,250 904 363 1,267
Gain on sale of
mortgage
origination
operation 1,483
Gain on sale of
mortgage
servicing 2,572
Gain on Sale of
Reo 585
Securities&other
nonoperating
gains 755 755
Total $ 5.408 $ 1,032 $ 25,391 $ 26,423 $ 1,770 $ 19,729 $ 21,499
34
The Mortgage Banking Operation earned fee income on loans originated and
gains as loans were sold to permanent investors. Loans for which servicing
was retained were conventional mortgages under approximately $200 thousand
which were sold to the Federal National Mortgage Association, the Federal
Home Loan Mortgage Corporation, and other institutional investors. Excess
servicing rights were capitalized, and related gains recognized, based on
the present value of the servicing cash flows discounted over a period of
seven years. When loan prepayments occurred within this period, the
remaining capitalized cost associated with the loan was written off.
The servicing rights were retained by the bank following sale of the
mortgage origination operation. The Bank entered into an agreement with the
Federal National Mortgage Association and the Federal Home Loan Mortgage
Corporation to dispose of any remaining portion of this portfolio by the
end of 1994 because, with the sale of the mortgage origination operation,
the Bank is no longer a qualified seller/servicer of such loans. During
1994, the bank sold the retained servicing rights realizing a gain of
$2,572 .
Operating Expense
The Bank restructured its branch operations functions in 1994, re-
engineering its entire work flow and information handling activities. This
resulted in a one time charge of $600 thousand for severance pay and other
expenses associated with the changes to the operating policies and
procedures. Operating expense for the commercial bank excluding this charge
was $14.1 million in 1994, compared to $13.9 million in 1993 and $20.9
million in 1992. Operating expenses for the consolidated Bank have
declined in 1994, primarily due to the sale of the mortgage origination
operation at the end of 1993.
Expenses for the Mortgage Banking Division increased by $6.0 million to
$22.5 million in 1993, compared to $16.6 million in 1992. Selling expense
was $12.2 million in 1993, up from $8.1 million in 1992. These expenses
are affected by interest rate fluctuations. Premium on sales of mortgage
loans included in other operating income is directly related to these
expenses and subject to the same factors and conditions. The premium on
sales of mortgage loans was $18.0 million in 1993, up from $11.3 million in
1992.
Provision for Loan Losses
The Bank made no provision for loan losses in 1994 compared with compared
to $450 thousand during 1993 and over $17 million in 1992. No loan loss
provision was deemed necessary for 1994 due to the declining levels of
nonperforming assets, net recoveries received for the year, and the strong
reserve position. The reduction in provision in 1993 was made possible by
the significant reduction of nonperforming assets during 1993. The
relationship between the level and trend of the allowance for loan losses
and nonperforming assets, combined with the results of the ongoing review
of credit quality, determine the level of provisions.
Legal and Regulatory Matters
In June 1992, the Bank entered into an agreement with the Office of the
Comptroller of the Currency, the Bank's primary federal regulator, which
required the implementation of certain policies and procedures for the
operation of the bank to improve lending operations and management of the
loan portfolio. In November 1993, after completion of its annual
examination, the OCC released the Bank from the Formal Agreement.
Following this, the Federal Reserve Bank of San Francisco ("Fed") notified
the Company on November 29, 1993, that the Memorandum of Understanding,
which it has signed, was terminated because the requirements of the
agreement were satisfied.
35
8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA Page
1. Report of Independent Public Accountants dated
January 17, 1995; 37
2. Consolidated Statements of Financial Condition as
of December 31, 1994 and 1993; 38
3. Consolidated Statements of Income for the Years
Ended December 31, 1994, 1993 and 1992; 39
4. Consolidated Statements of Changes in
Shareholders' Equity for the Years
Ended December 31, 1994, 1993, and 1992; 40
5. Consolidated Statements of Cash Flows
for the Years Ended December 31,
1994, 1993 and 1992; 41
6. Notes to Consolidated Financial Statements--
December 31, 1994. 42
36
:
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To the Shareholders and the Board of Directors of CU Bancorp and
Subsidiary:
We have audited the accompanying consolidated statements of financial
conditions of CU Bancorp and Subsidiary (the Company) as of December 31,
1994 and 1993, and the related consolidated statements of income, changes
in shareholders' equity and cash flows for each of the three years in the
period ended December 31, 1994. These financial statements are the
responsibility of the Company's management. Our responsibility is to
express an opinion on these financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to
obtain reasonable assurance about whether the financial statements are free
of material misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles
used and significant estimates made by management, as well as evaluating
the overall financial statement presentation. We believe that our audits
provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the financial position of CU
Bancorp and Subsidiary as of December 31, 1994 and 1993, and the results of
their operations and their cash flows for each of the three years in the
period ended December 31, 1994, in conformity with generally accepted
accounting principles.
Arthur Andersen LLP
Los Angeles, California
January 17, 1995
37
Consolidated
Statements of Financial Condition
CU Bancorp and Subsidiary
December 31,
Amounts in thousands of dollars, except share data 1994 1993
Assets
Cash and due from banks $35,397 $18,440
Federal funds sold 20,000 28,000
Total cash and cash equivalents 55,397 46,440
Time deposits with other financial institutions 0 1,377
Investment securities (Market value of $71,423 and
$87,889 in 1994 and 1993, respectively) 74,153 88,034
Loans, (Net of allowance for loan losses of $7,427
and $6,513 at December 31, 1994 and 1993,
respectively) 167,175 134,148
Premises and equipment, net 996 924
Other real estate owned, net 0 920
Accrued interest receivable and other assets 6,433 7,363
Total Assets $304,154 $279,206
Liabilities and Shareholders' equity
Deposits:
Demand deposits $112,034 $125,665
Savings deposits 67,896 66,214
Time deposits under $100 47,836 27,753
Time deposits of $100 or more 36,415 19,296
Total deposits 264,181 238,928
Accrued interest payable and other liabilities 10,229 13,288
Total liabilities 274,410 252,216
Commitments and contingencies
Shareholders' equity:
Preferred stock, no par value:
Authorized -- 10,000,000 shares
No shares issued or outstanding in 1994 or
1993 --- ---
Common stock, no par value:
Authorized - 20,000,000 shares
Issued and outstanding - 4,467,318 in 1994,
and 4,424,306 in 1993 26,430 26,250
Retained earnings 3,314 740
Total Shareholders' equity 29,744 26,990
$304,154 $279,206
The accompanying notes are an integral part of these
consolidated statements.
38
Consolidated Statements of Income CU Bancorp and Subsidiary
For the Year Ended
Amounts in thousands of dollars,
except per share data December 31,
1994 1993 1992
Revenue from earning assets:
Interest and fees on loans $14,036 $14,761 $19,641
Benefits of interest rate hedge transactions 0 1,726 1,927
Interest on taxable investment securities 2,947 1,525 3,624
Interest on tax exempt securities 19 33 43
Interest on time deposits with other
financial institutions 39 123 186
Interest on federal funds sold 918 454 898
Total revenue from earning assets 17,959 18,622 26,319
Cost of funds:
Interest on savings deposits 1,985 1,909 2,834
Interest on time deposits under $100 997 979 507
Interest on time deposits of $100 or more 773 784 1,455
Interest on federal funds purchased & securities
sold under agreements to repurchase 0 79 142
Interest on other borrowings 323 440 756
Total cost of funds 4,078 4,191 5,694
Net revenue from earning assets before
provision for loan losses 13,881 14,431 20,625
Provision for loan losses 0 450 17,090
Net revenue from earning assets 13,881 13,981 3,535
Other operating revenue:
Capitalization of excess servicing rights 0 207 821
Servicing income - mortgage loans sold 980 2,129 1,812
Service charges and other fees 1,121 955 1,015
Fees on loans sold 15 1,182 3,336
Premium on sales of mortgage loans (8) 18,022 11,346
Other fees and charges - mortgage 143 2,368 2,414
Gain on sale of mortgage servicing portfolio 2,572 0 0
Gain on sale of mortgage origination operation 0 1483 0
Gain on sale of other real estate owned 585
Gain on sale of investment securities (before taxes
of $11 and $250, 0 28 617
in 1993 and 1992)
Gain on sale of securities held for sale
(before taxes of $20 and 0 49 138
$56 in 1993 and 1992, respectively)
Total other operating revenue 5,408 26,423 21,499
Other operating expenses:
Salaries and related benefits 6,335 11,020 12,647
Selling expenses - mortgage loans 333 12,193 8,088
Restructuring Charge 600
Other operating expenses 7,467 13,670 16,758
Total operating expenses 14,735 36,883 37,493
Income (loss) before provision for (benefit from)
income taxes 4,554 3,521 (12,459)
Provision for (benefit from) income taxes 1,980 1,423 (4,269)
Net income (loss) $2,574 $2,098 $(8,190)
Earnings (loss)per share $0.56 $ 0.47 $(1.90)
The accompanying notes are an integral part of these consolidated
financial statements.
39
Consolidated Statements of Changes in Shareholders' Equity CU Bancorp and Subsidiary
Common Stock
Amounts in thousands of dollars Retained
except share data Number of Amount Earnings Total
Shares
Balance at December 31, 1991 4,283,531 25,766 6,832 32,598
Exercise of stock options 83,319 224 ---- 224
Net loss for the year --- ---- (8,190) (8,190)
Balance at December 31, 1992 4,366,850 $25,990 $(1,358) $24,632
Exercise of stock options 57,456 260 ---- 260
Net income for the year --- ---- 2,098 2,098
Balance at December 31, 1993 4,424,306 $26,250 $740 $26,990
Exercise of stock options 1,000 5 0 5
Exercise of director warrants 42,012 175 0 175
Net Income for the year - --- 2,574 2,574
Balance at December 31, 1994 $4,467,318 $26,430 $3,314 $29,744
The accompanying notes are an integral part of these
consolidated statements
40
Consolidated Statement of Cash Flows CU Bancorp and Subsidiary
Amounts in thousands of dollars For the years ended December
31,
Increase(decrease) in cash and cash equivalents 1994 1993 1992
Cash flows from operating activities
Net income/(loss) $2,574 $2,098 $(8,190)
Adjustments to reconcile net income/(loss)to net cash provided by
operating activities:
Provision for depreciation and amortization 459 821 772
Amortization of real estate mortgage servicing rights 15 983 1,504
Provision for losses on loans and other real estate owned 0 450 17,090
Benefit of deferred taxes (1,180) 1,510 (2,854)
Gain on sale of investment securities, net 0 (77) (755)
Increase/(decrease) in other assets 3,781 2,628 2,452
Increase/(decrease) in other liabilities (3,035) 2,582 (160)
(Increase)/decrease in accrued interest receivable (766) 494 742
Increase/(decrease) in deferred loan fees 160 48 (12)
Capitalization of excess mortgage servicing rights 0 (207) (821)
Increase/(decrease) in accrued interest payable (24) (11) (161)
Net amortization of (discount)/premium on investment securities 972 48 34
Accrued benefits from interest rate hedge transactions 0 485 (343)
Total adjustments 382 9,754 17,488
Net cash provided by operating activities 2,956 11,852 9,298
Cash flows from investing activities
Proceeds from investment securities sold or matured 52,882 78,545 93,986
Purchase of investment securities (39,973) (81,826) (118,740)
Net decrease in time deposits with other financial institutions 1,377 1,979 2,143
Net (increase)/decrease in loans (33,187) 58,997 67,886
Purchases of premises and equipment, net (531) 290 (919)
Net cash provided by investing activities (19,432) 57,985 44,356
Cash flows from financing activities
Net increase/(decrease) in demand and savings deposits (11,949) (81,848) (141,077)
Net increase/(decrease) in time certificates of deposit 37,202 2,202 (13,473)
Proceeds from exercise of stock options and director warrants 180 260 224
Cancellation of warrants previously issued --- -- --
Cash dividend paid --- -- --
Net cash provided (used) by financing activities 25,433 (79,386) (154,326)
Net increase (decrease) in cash and cash equivalents 8,957 (9,549) (100,672)
Cash and cash equivalents at beginning of year 46,440 55,989 156,661
Cash and cash equivalents at end of year $55,397 $46,440 $55,989
Supplemental disclosure of cash flow information
Cash paid during the year:
Interest $4,102 $4,179 $5,525
Taxes 2,201 -- 836
Supplemental disclosure of noncash investing activities:
Loans transferred to OREO 700 1,503 2,577
The accompanying notes are an integral part of these consolidated
statements
41
Notes to Consolidated Financial Statements
CU Bancorp and Subsidiary
December 31, 1994
(Amounts in thousands unless otherwise specified)
1. Summary of significant accounting policies -
CU Bancorp, a bank holding company (the Company), is a California
corporation. The accounting and reporting policies of the Company and its
subsidiary conform with generally accepted accounting principles and
general practice within the banking industry. The following comments
describe the more significant of those policies.
(a) Principles of consolidation -
The accompanying consolidated financial statements include the accounts of
the Company and its wholly-owned subsidiary, California United Bank N.A.
(the Bank). All significant transactions and accounts between the Company
and the Bank have been eliminated in the consolidated financial statements.
(b) Investment portfolio -
The Bank's investment portfolio is separated into two groups, Investment
Securities and Securities Available For Sale. Securities are segregated in
accordance with management's intention regarding their retention.
Accounting for each group of securities follows the requirements of SFAS
115 "Accounting for Certain Investments in Debt and Equity Securities".
The adoption of SFAS 15 in 1993 had no material impact on the financial
position or results of operations of the Bank.
The Bank has the intent and ability to hold Investment Securities until
maturity. Securities in this classification are carried at cost, adjusted
for amortization of premiums and accretion of discounts on a straight-line
basis. This approach approximates the effective interest method. Gains and
losses recognized on the sale of Investment Securities are based upon the
adjusted cost and determined using the specific identification method.
Securities Available For Sale are those where management has the
willingness to sell under certain conditions. This category of securities
is carried at current market value with unrealized gains or losses
recognized as a tax affected adjustment to capital in the statements of
financial condition and in the statements of shareholders' equity.
(c) Loans --
Loans are carried at face amount, less payments collected, allowance for
loan losses, and unamortized deferred fees. Interest on loans is accrued
monthly on a simple interest basis. The general policy of the Bank is to
discontinue the accrual of interest and transfer loans to non-accrual (cash
basis) status where reasonable doubt exists with respect to the timely
collectibility of such interest. Payments on non-accrual loans are
accounted for using a cost recovery method. No interest income on non-
accural loans.
Loan origination fees and commitment fees, offset by certain direct loan
origination costs, are deferred and recognized over the contractual life of
the loan as a yield adjustment.
The allowance for loan losses is maintained at a level considered adequate
to provide for losses that can reasonably be anticipated. Management
considers current economic conditions, historical loan loss experience, and
other factors in determining the adequacy of the allowance. The allowance
is based on estimates and ultimate losses may differ from current
estimates. These estimates are reviewed periodically and as adjustments
become necessary, they are charged to earnings in the period in which they
become known. The allowance is increased by provisions charged to operating
expenses, increased for recoveries of loans previously charged-off, and
reduced by charge-offs.
In May 1993, the Financial Accounting Standards Board (FASB) issued
Statement of Financial Accounting Standards (SFAS) No. 114, "Accounting by
Creditors for Impairment of a Loan." SFAS 114 addresses the accounting by
creditors for impairment of certain loans, as well as troubled debt
restructurings. It is applicable to all homogeneous loans that are
42
collectively evaluated for impairment, and may impact how the Bank is
currently reporting the loans and the loan loss reserves. This statement is
effective for financial statements issued for fiscal years beginning after
December 15, 1994. Management plans to adopt SFAS 114 in the first quarter
of 1995. Management does not expect that adoption of this statement will
have a material impact on the financial position or results of operations
of the Bank.
(d) Mortgage Banking Division --
The bank's real estate Mortgage Banking Division became operational in
1988. The mortgage origination operation was sold November 10, 1993. The
Bank carried the first trust deed loans generated and held for sale by
this Operation at the lower of aggregate cost or market. As of December 31,
1993, cost approximated market value. All loan inventory held for sale by
this division had been sold prior to the end of 1994.
During 1993, and 1992, the Bank capitalized $207, and $821, respectively,
in connection with the right to service real estate mortgage loans
originated in that Operation. This excess servicing asset, included in
other assets, was initially capitalized at its discounted present value and
amortized over a period of five to seven years. When prepayments of loans
serviced occur, any remaining servicing asset associated with the loan was
charged to operations in the year of occurrence. Amortization for 1994,
1993, and 1992, was $15 , $983, and $1,504 respectively.
(e) Premises and equipment --
Premises and equipment are carried at cost, less accumulated depreciation
and amortization. Depreciation is computed on the straight-line method over
the estimated useful life of the asset. Amortization is computed on the
straight-line method over the useful life of leasehold improvements or the
remaining term of the lease, whichever is shorter.
(f) Other real estate owned --
Other real estate owned, acquired through direct foreclosure or deed in
lieu of foreclosure, is recorded at the lower of the loan balance or
estimated fair market value. When a property is acquired, any excess of the
loan balance over the estimated fair market value is charged to the
allowance for loan losses. Subsequently, the assets are recorded at the
lower of the new cost basis at foreclosure or fair market value less
estimated selling expenses. Subsequent write-downs, if any, are included in
other operating expenses in the period in which they become known. Gains or
losses on sales are recorded in conformity with standards which apply to
accounting for sales of real estate. Other real estate owned, net of
reserves, amounted to $0 at December 31, 1994, and $920 at December 31,
1993.
In substance foreclosures ("ISF") are included in the loan category and are
carried at the lower of cost or estimated net realizable value. When a
property is classified ISF, any excess of the loan balance over market or
the estimated net realizable value is charged to the allowance for loan
losses. Expenses related to these assets are included in other operating
expenses in the period in which they are incurred. In substance
foreclosures were $0 at December 31, 1994, and $1.0 million at December 31,
1993.
(g) Interest Rate Derivatives --
Amounts receivable or payable under derivative financial instruments used
to manage interest rate risks arising from the Bank's financial assets and
financial liabilities are recognized as interest income or expense unless
the instrument qualifies for hedge accounting. Gains and losses on
qualifying hedges of existing assets or liabilities are included in the
carrying amounts of those assets or liabilities and are ultimately
recognized in income as part of those carrying amounts. Gains and losses
on early terminations of derivatives are included in the carrying amount of
the related loans or debt and amortized as yield adjustments over the
remaining terms of the loans or debt.
Fees received in connection with loan commitments are deferred in other
liabilities until the loan is advanced and are then recognized over the
term of the loan as an adjustment of the yield. Fees on commitments that
expire unused are recognized in fees and commission revenue at expiration.
Fees received for guarantees are recognized as fee revenue over the term of
the guarantees.
(h) Income taxes --
As discussed in Note 8, effective January 1, 1993, the Bank adopted the
Statement of Financial Accounting Standards No. 109 (SFAS No. 109),
"Accounting for Income Taxes." Under SFAS No. 109, deferred tax assets or
liabilities are computed based on the difference between the financial
statement and income tax basis of assets and liabilities using the enacted
marginal tax rate. Deferred income tax expenses or credits are based on
the changes in the asset or liability from period to period. Prior to
January 1, 1993, the deferred income tax expenses or credits were recorded
to reflect
43
the tax consequences of timing differences between the recording
of income and expenses for financial reporting purposes and for purposes of
filing federal income tax returns at income tax rates in effect when the
difference arose.
(i) Earnings per share (amounts in whole numbers) --
Earnings per share are computed based on the weighted average number of
shares and common stock equivalents outstanding during each year (4,593,103
in 1994, 4,489,861 in 1993, and 4,317,913 in 1992), retroactively restated
for stock dividends and stock splits. Common stock equivalents include the
number of shares issuable on the exercise of outstanding options and
warrants reduced by the number of shares that could have been purchased
with the proceeds from the exercise of the options and warrants plus any
tax benefits, based on the average price of common stock.
(j) Statement of cash flows--
The Company presents its cash flows using the indirect method and reports
certain cash receipts and payments arising from customer loans and
deposits, and deposits placed with other financial institutions on a net
basis. For purposes of reporting cash flows, cash and cash equivalents
include cash and due from banks and federal funds sold. Generally, federal
funds are sold for one-day periods.
(k) Post-retirement benefits--
The Company provides no post-retirement benefits. Accordingly, the
accounting prescribed by Statement of Financial Accounting Standards No.
106 "Accounting for Post-Retirement Benefits" has no effect on the
Company's consolidated financial statements.
(l) Reclassifications --
Certain amounts have been reclassified in the prior years to conform to
classifications followed in 1994.
44
2. Average Federal Reserve balances --
The average cash reserve balances required to be maintained at the Federal
Reserve Bank were approximately $6.0 million and $8.7 million for the years
ended December 31, 1994 and 1993, respectively.
3. Investment portfolio --
A summary of the investment portfolio at December 31, 1994 and 1993, is as
follows:
Gross Gross
Book Unrealized Unrealized Market
Value Gains Losses Value
1994
U.S. Treasury securities $67,140 --- $(2,535) $64,605
U.S. Government agency securities 105 --- --- 105
State and municipal bonds 750 9 --- 759
Mortgage-backed securities 5,725 --- (204) 5,521
Federal Reserve Bank stock 433 --- --- 433
Total investment portfolio $74,153 $9 $(2,739) $71,423
1993
U.S. Treasury securities $57,822 $80 $ (259) $57,643
U.S. Government agency securities 29,029 --- --- 29,029
State and municipal bonds 750 34 --- 784
Mortgage-backed securities --- --- --- ---
Federal Reserve Bank stock 433 --- --- 433
Total investment portfolio $88,034 $114 $(259) $87,889
Investments with a book value of $29,200 and $27,093 were pledged as of
December 31, 1994 and 1993, respectively, to secure court deposits and for
other purposes as required or permitted by law. Included in interest on
investments in 1994, 1993, and 1992, is $19, $33, and $43, respectively, of
interest from tax-exempt securities.
Actual maturities may differ from contractual maturities because issuers
may have the right to call or prepay obligations with or without call or
prepayment penalties.
45
The book and market value of Investment securities as of December 31, 1994,
by maturity, are shown below.
Book Market
Value Yield Value
Due in one year or less $ 18,973 4.4% $ 18,752
Due after one through five years 48,272 5.2 45,958
Due after five years 1,183 7.1 1,192
Mortgage-backed securities 5,725 6.9 5,521
$ 74,153 $ 71,423
At December 31, 1994 and 1993, there were no Securities Available For Sale.
Proceeds from the sales and maturities of debt securities during 1994,
1993, and 1992 were $ 54,259, $78,545, and $93,986, respectively. Gains of
$0, $77, and $755 were realized on those transactions. There were no
realized losses on sales in 1994, 1993, and 1992.
4. Loans --
The loan portfolio, net of unamortized deferred fees of $652 at December
31, 1994, and $492 at December 31, 1993, consisted of the following:
December 31,
1994 1993
Commercial and industrial loans $169,413 $120,513
Real estate loans -- held for sale 0 10,426
Real estate loans -- mortgages 4,773 8,496
Real estate loans -- construction 416 1,226
Gross Loans 174,602 140,661
Less - Allowance for loan losses (7,427) (6,513)
Net loans $167,17 $134,148
Total non-performing loans were $36 and $1,378 at December 31, 1994 and
1993, respectively. This includes in substance foreclosures of $ 0 and
$1,000, at December 31, 1994 and 1993, respectively. Interest income,
which would have been recognized had non-accrual loans and insubstance
foreclosures been current, amounted to $6, $469, and $780, in 1994, 1993,
and 1992, respectively. No interest income has been reported on non-
accrual loans for the years 1994, 1993, or 1992.
An analysis of the activity in the allowance for loan losses is as follows:
1994 1993 1992
Balance, beginning of period $ 6,513 $ 12,986 $ 12,367
Loans charged off (1,413) (10,749) (17,800)
Recoveries on loans previously charged off 2,327 3,826 1,329
Provision for loan losses 0 450 17,090
Balance, end of period $ 7,427 $ 6,513 $ 12,986
46
5. Loans to related parties --
There were no loans to directors and their affiliates for the years ended
1994 and 1993.
6. Premises and equipment --
Book value of premises and equipment is as following.
December 31,
1994 1993
Furniture, fixtures and equipment $3,796 $3,382
Leasehold improvements 690 608
Cost 4,486 3,990
Less - accumulated depreciation and amortization 3,490 3,066
Net Book Value $ 996 $ 924
The Bank leases facilities under renewable operating leases. Rental expense
for premises included in occupancy expenses were $741 in 1994, $1,133 in
1993, and $1,011 in 1992. As of December 31, 1993, the approximate future
lease payable under the lease commitments is as follows:
Year ended December 31, --
1995 $830
1996 737
1997 720
1998 720
1999 720
2000 180
Thereafter 0
$3,907
47
7. Disclosures about Fair Value of Financial Instruments
Financial instruments are defined as cash, evidence of an ownership
interest in an entity or a contract that both imposes contractual
obligations and rights to exchange cash, and/or other financial instruments
on the parties to the transaction.
For cash and cash equivalents, investments, floating rate loans and
deposits with no contractual maturity date, the carrying value is
considered a reasonable estimate of fair value. Where active and liquid
markets exist, fair value indications per individual trading unit can be
obtained. A modeling tool which calculated discounted cash flows was used
to estimate fair value for other financial instruments. The model used
discount rates that included current market rates adjusted for approximated
credit risk, operating costs and interest rate risk inherent in the
instruments. The net book value and fair value of financial instruments as
of December 31, 1994, and 1993, were as follows:
December 31, 1994
December 31, 1993
Book Value, Estimated Book Value, Estimated
Net Fair Value Net Fair Value
Cash & Due From Banks $ 35,397 $35,397 $18,440 $18,440
Federal Funds Sold 20,000 20,000 28,000 28,000
Securities 74,153 71,423 88,034 87,887
Loans 167,175 175,023 134,148 143,402
Deposit Liabilities 264,181 264,181 238,928 238,928
Other Borrowed Money 3,794 3,794 6,698 6,698
Off Balance Sheet Items ---- --- ---- ----
Core Deposit Intangible ---- 22,527 ---- 10,200
Estimations of fair value of financial instruments are subject to
significant estimate because active and liquid markets do not exist for a
majority of them. The estimates pertain to financial conditions, risk
characteristics, expected future losses, and market interest levels, among
other factors, and if changed could have a significant impact on them. The
resulting presentations of estimated fair value is not necessarily
indicative of the value realizable in an actual exchange of financial
instruments.
8. Income taxes -
The Bank changed its method of accounting for income taxes on January 1,
1993, and adopted Statement of Financial Accounting Standards No. 109 (SFAS
No. 109), "Accounting for Income Taxes." SFAS No. 109 requires an asset
and liability approach for financial accounting and reporting for income
taxes, and changes the criteria for the recognition and measurement of
deferred tax assets and liabilities, including net operating loss
carryforwards.
48
The effect on the Bank of adopting SFAS No. 109 was the recognition of a
deferred tax asset, which was offset by deferred tax liabilities and a
valuation allowance, with no resulting change in net assets to the
financial position of the Bank. As of December 31, 1994 and 1993, the
temporary differences which give rise to a significant portion of deferred
tax assets and liabilities are as follows:
December 31, December 31,
1994 1993
Allowance for loan losses $ 3,348 $2,742
Deferred loan fees 294 221
Depreciation 196 83
Other expense accruals 1,631 646
State loss carryforward 0 395
Amortization of mortgage servicing asset 0 0
State tax expense (353) (428)
Other (1) 4
Valuation allowance (1,404) (1,132)
Net deferred tax asset $ 3,711 $2,531
The provisions (benefits) for income taxes consisted of the following:
1994 1993 1992
Current -
Federal $ 2876 $(89) $(1,415)
State 284 2 --
3,160 (87) (1,415)
Deferred -
Federal (1,404) 1,268 (2,750)
State 224 242 (104)
(1,180) 1,510 (2,854)
$1,980 $1,423 $(4,269)
49
The provisions (benefits) for income taxes varied from the Federal
statutory rate of 34% for 1993, 1992, and 1991, for the following reasons:
1992
1994 1993
Amount Rate Amount Rate Amount Rate
Provisions (benefit) for income at
statutory rate $1,548 34.0% $1,198 34.0 % $(4,236) (34.0)%
Interest on state and municipal bonds
and other tax exempt
transactions (25) (.5%) (25) (.7) % (15) (0.1) %
State franchise taxes, net of federal
income tax benefit 335 7.3% 256 7.3 % (103) (0.9) %
Other, net 122 2.7% (6) (0.2) % 85 (0.7) %
$1,980 43.5% $1,423 40.4 % $(4,269) (34.3) %
At December 31, 1993, the Company had a California Franchise Tax
carryforward of $1.9 million, with the entire operating loss carryforward
being utilized in 1994.
9. Shareholders' Equity -
The Company has three employee stock option plans. The plans authorize
the issuance of up to 400,075, 350,000, and 180,000 shares of common
stock, and expire in 1993, 1995, and 2003, respectively. Options are
granted at a price not less than the fair market value of the stock at
the date of grant. Options under these plans expire up to ten years
after the date of grant. The options granted under the 1983 plan are
incentive stock options, as defined in the Internal Revenue Code. The
options granted under the 1985 plan can be either incentive stock
options or non-qualified options. There is a $100,000 limitation on the
value of the stock covered by incentive stock options which may be
granted or become exercisable in any calendar year. Any options in
excess of this amount must be non-qualified options.
In 1987, a special stock option plan was approved that is limited to
directors of the Company and provides for the issuance of 120,960 shares
of common stock. The plan expires in 1997. Options granted under the
plan are non-qualified stock options. Each of the directors of the
Company, at the time the special stock option plan was approved,
received stock options to purchase 15,120 shares at $5.78 per share,
which was in excess of the then prevailing market price. Options expire
10 years after the date of grant. There are no remaining options
available for grant under the 1987 special stock plan.
In 1994, a non-employee director stock option plan was approved that
provides for the issuance of 200,000 shares of common stock. The plan
expires in 2004. Options granted under the plan are non-qualified stock
options. During 1994, options were granted to purchase 27,500 shares at
$6.25 per share, which was equal to the market price at the date of grant.
Options expire 10 years from the date of grant.
50
The following information is presented concerning the stock option plans
as of December 31, 1994:
Shares Range of Number of
Subject to Exercise Shares
Option Prices Exercisable
Plan Expiring May 10, 1993
Non-qualified stock options 49,030 $5.00 19,612
Plan Expiring October 22, 1995
Non-qualified stock options 248,440 $4.75 -$15.21 79,956
Plan Expiring December 17, 2003
Non-qualified stock options 258,000 $6.63 0
Special Stock Option:
Non-qualified stock options 45,360 $5.78 45,360
Plan Expiring April 27, 2004
Non-qualified stock options 27,500 6.25 0
During 1994, no incentive stock options under the 1983 plan were
exercised and 1,000 non-qualified stock options under the 1985 plan were
exercised at $4.75 per share.
In 1984, certain members of the Board of Directors were granted warrants
to purchase up to 360,067 shares of common stock at $4.17 per share,
primarily for guaranteeing a capital note issued by the Company. These
warrants became exercisable when the capital note was paid off in 1987,
therefore all outstanding warrants are currently exercisable. During
1994 warrants for 57,012 shares were exercised. In 1994, warrants to
purchase 7,500 shares of common stock at the fair market value at date
of grant of $7.00 per share were issued to the former chairman of the
board.
The stock options and warrants have been retroactively adjusted to
reflect stock splits and stock dividends.
10. Financial instruments with off-balance sheet risk and commitments and
contingencies --
The consolidated statements of financial condition do not reflect
various commitments relating to financial instruments which are used in
the normal course of business. Management does not anticipate that the
settlement of these financial instruments will have a material adverse
effect on the Bank's financial position. These instruments include
commitments to extend credit, standby and commercial letters of credit,
and interest rate floor and swap agreements.
These financial instruments carry various degrees of credit and market
risk. Credit risk is defined as the possibility that a loss may occur
from the failure of another party to perform according to the terms of
the contract. Market risk is the possibility that future changes in
market prices may make a financial instrument less valuable.
The Bank primarily grants commercial and real estate loan commitments
with variable rates of interest and maturities of one year or less to
customers in the greater Los Angeles area. The contractual amounts of
commitments to extend credit and standby and commercial letters of
credit represent the amount of credit risk. Since many of the
commitments and letters of credit are expected to expire without being
drawn, the contractual amounts do not necessarily represent future cash
requirements. For interest rate floor and swap agreements, the notional
amounts do not represent exposure to credit loss.
Commitments to extend credit are legally binding loan commitments with
set expiration dates. They are intended to be disbursed, subject to
certain conditions, upon request of the borrower. The Bank evaluates the
creditworthiness of each customer. The amount of collateral obtained, if
deemed necessary by the Bank upon the extension of credit, is based upon
management's evaluation. Collateral held varies, but may include
securities, accounts receivable, inventory, personal property,
equipment, and income-producing commercial or residential property.
Standby letters of credit are provided to customers to guarantee their
performance, generally in the production of goods and services or under
contractual commitments in the financial markets. Standby letters of
credit generally have terms of up to one year.
51
Commercial letters of credit are issued to customers to facilitate
foreign and domestic trade transactions. They represent a substitution
of the Bank's credit for the customer's credit. Such letters of credit
are generally short term in nature and are collateralized by the
merchandise covered by the transaction. At December 31, 1994 and 1993
there were $1.5 million and $.5million outstanding, respectively.
These amounts reduce the availability under the applicable customer's
loan facility.
Interest rate swaps and floors may be created to hedge certain assets
and liabilities of the Bank. These transactions involve either an
exchange of fixed or floating rate payment obligations on an underlying
notional amount. In the case of a rate floor, there is a guaranteed
payment of a rate differential on a notional amount, should a specific
market rate fall below a specific agreed upon level. Credit risk related
to interest rate swaps is limited to the interest receivable from the
counterparty less the interest owed that party or, in the case of rate
floors, to interest receivable on the differential between the specific
rate contracted in the floor agreement and actual rates in effect at
various settlement dates. Market risk fluctuates with interest rates.
52
The following is a summary of various financial instruments with off-
balance sheet risk at December 31,1994 and 1993:
December 31,
Amounts in millions of dollars 1994 1993
Standby letters of credit $ 7 $ 3
Undisbursed loans 69 48
Interest rate floor agreements 0 1
Interest rate swap agreements* 0 0
*Notional amounts
In response to continued economic declines and anticipating interest
rate declines, the Bank entered into an interest rate swap agreement
effective October 8, 1991, for $100 million. Terms of this agreement
were that the Bank would receive a fixed rate of 8.18% over two years in
exchange for paying the average prime rate. Accrued benefits from this
transaction amounted to $1,726 and $1,927 in 1993, and 1992,
respectively, and are included in interest income. At December 31, 1992,
the market value of this instrument was $ 1.7 million, net of accrued
interest. Amounts due the Bank or counterparty were settled quarterly.
This agreement expired on October 8, 1993.
In the normal course of business, the Company occasionally becomes a
party to litigation. See footnote 13.
11. Other operating expenses --
Other operating expenses included the following:
1994 1993 1992
Promotional expenses $264 $393 $494
Data processing for customers 737 920 3,030
Director and advisory fees 107 146 233
Legal fees 455 1,370 1,065
Messenger services 408 583 746
Other data processing fees 301 455 468
Regulatory assessments 568 946 1,011
Expenses for other real estate owned 22 234 2,737
Amortization of mortgage servicing rights 15 983 1,504
Occupancy expense 966 1,333 1,447
Reserve for branch relocation 58 447 ------
Other 3,566 5,860 4,023
Total operating expenses $7,467 $13,670 $16,758
53
12. Condensed financial information of CU Bancorp --
At December 31, 1994 and 1993, the condensed unconsolidated balance sheets
of the Company are as follows:
December 31,
1994 1993
Balance Sheets
Cash $ 426 $ 343
Prepaid expenses 0 0
Investment in California United Bank N.A. 29,507 26,720
Total assets $29,933 $ 27,063
Other liabilities $ 189 $ 73
Shareholders' equity 29,744 26,990
Total liabilities and shareholders' equity $29,933 $ 27,063
For the years ended December 31, 1994, 1993, and 1992, the condensed
unconsolidated statements of income of the Company are as follows:
December 31,
1994 1993 1992
Statements of Income
Equity in earnings/(loss) of the Bank $2,785 $ 2,265 $(7,986)
Operating expenses 221 167 204
Interest Income 9 0 0
Net income/(loss) $2,573 $ 2,098 $(8,190)
Under National banking law, the Bank is limited in its ability to declare
dividends to the Company to the total of its net income for the year,
combined with its retained net income for the preceding two years less any
required transfers to surplus. The effect of this law is to preclude the
bank from declaring any dividends at December 31, 1994 and 1993 Dividends
paid by the Bank during 1991 amounted to $920. No dividends were declared
in 1994 or 1993, consistent with the Bank's supervisory agreements.
13. Legal Matters
In the normal course of business the Bank occasionally becomes a party to
litigation. In the opinion of management, based upon consultation with
legal counsel, the Bank believes that pending or threatened litigation
involving the Bank will have no adverse material effect upon its financial
condition, or results of operations.
The Bank is a defendant in multiple lawsuits related to the failure of two
real estate investment companies, Property Mortgage Company, Inc., ("PMC")
and S.L.G.H., Inc. ("SLGH"). The lawsuits, consist of a federal action by
investors in PMC and SLGH (the "Federal Investor Action"), at least three
state court actions by groups of Investors (the "State Investor Actions"),
and an action filed by the Resolution Agent for the combined and
reorganized bankruptcy estate of PMC and SLGH (the "Neilson" Action). An
additional action was filed by an individual investor and his related
pension and profit sharing plans (the "Individual Investor Action").
54
Other defendants in these multiple actions and in related actions include
financial institutions, title companies, professionals, business entities
and individuals, including the principals of PMC and SLGH. The Bank was a
depository bank for PMC, SLGH and related companies and was a lender to
certain principals of PMC and SLGH ("Individual Loans").
Plaintiffs allege that PMC/SLGH was or purported to be engaged in the
business of raising money from investors by the sale and issuance of
interests in loans evidenced by promissory notes secured by real property.
Plaintiffs allege that false representations were made, and the investment
merely constituted a "Ponzi" scheme. Other charges relate to the Bank's
conduct with regard to the depository accounts, the lending relationship
with the principals and certain collateral taken , pledged by PMC and SLGH
in conjunction with the Individual Loans. The lawsuits allege inter alia
violations of federal and state securities laws, fraud, negligence, breach
of fiduciary duty, and conversion as well as conspiracy and aiding and
abetting counts with regard to these violations. The Bank denies the
allegations of wrongdoing.
Damages in excess of $100 million have been alleged, and compensatory and
punitive damages have been sought generally against all defendants,
although no specific damages have been prayed for with regard to the Bank,
nor has there been any apportioning of liability among defendants or
attributable to the various claims asserted. A former officer and director
of the Bank has also been named as a defendant. The Bank and the named
officer/director have notified the Bank's insurance carriers of the various
lawsuits.
During 1994, the Court granted the Bank's motion for summary judgment in
the Individual Investor Action. An appeal of that Order was filed by the
plaintiffs. The plaintiff in the Individual Investor Action will be a member
of the settling class and in connection with the settlement discussed below
that appeal will be dismissed.
The Bank has entered into a settlement agreement with the representatives
of the various plaintiffs, which, when consummated, will dismiss all of
the above referenced cases, with prejudice, against the Bank, its officers
and directors, with the exception of the officer/director previously named.
The settlement is subject to the appropriate court approvals which have now
been received. In connection with the settlement, the Bank will release its
securityinterest in certain disputed collateral and cash proceeds thereof,
which the Bank received from PMC, SLGH, or the principals, in connection with
the Individual Loans. This collateral has been a subject of dispute in the
Neilson Action, with both the Bank and the representatives of PMC/SLGH
asserting the right to such collateral. All the Individual Loans have
been chargedoff, previously. The Bank will also make a cash payment to
the Plaintiffs in connection with the settlement. In connection with the
settlement the Bank will assign its rights, if any, under various insurance
policies, to the Plaintiffs. The settlement does not resolve the claims
asserted against the officer/director.
The settlement has been approved by the Federal District Court and the
Federal Bankruptcy Court. While one party to these matters filed an appeal
to the approval by the courts, they have indicated that they will dismiss
such appeal, which would allow the settlement to be effectuated. Based
upon advice of counsel, the Bank believes that the possibility of the
settlement not being finalized is remote. The Bank is still providing a
defense to its former director/officer who retains his rights of indemnity,
if any, agiant the Bank arising out of his status as a former employee.
At this time, the only viable claims which remain against the former
director/employee are claims of negligence in connection with certain
depository relationships with PMC/SLGH. While the Bank's Director and
Officer Liability Insurer has not acknowledged coverage of any potential
judgment or cost of defense, the Insurer is on notice of the action and has
participated in various aspects of the case.
14. Regulatory Matters
On November 2, 1993, the Office of the Comptroller of the Currency ("OCC"),
after completion of their annual examination of the Bank, terminated the
Formal Agreement entered into in June, 1992. In December 1993, the Fed
terminated the Memo of Understanding entered into in August, 1992. The
Formal Agreement had been entered into in June 1992 and required the
implementation of certain policies and procedures for the operation of the
Bank to improve lending operations and management of the loan portfolio.
The Memorandum of Understanding was executed in August 1992.
55
Item 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON
ACCOUNTING AND FINANCIAL DISCLOSURES
None.
56
PART III
Item 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE COMPANY
Except as hereinafter noted, the information concerning directors
and executive officers of the Company will be filed pursuant to Regulation
14A within 120 days after the end of the last fiscal year. For information
concerning the executive officers of the Company, see Item 4 (A) "EXECUTIVE
OFFICERS OF THE COMPANY".
Item 11. EXECUTIVE COMPENSATION
Information concerning executive compensation will be filed
pursuant to Regulation 14A within 120 days after the end of the last fiscal
year.
Item 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
Information concerning security ownership of certain beneficial
owners and management will be filed pursuant to Regulation 14A within 120
days after the end of the fiscal year.
Item 13. CERTAIN RELATIONSHIPS AND RELATED MATTERS
Information concerning certain relationships and related matters
will be filed pursuant to Regulation 14A within 120 days after the end of
the fiscal year.
PART IV
Item 14. EXHIBITS, FINANCIAL STATEMENTS, SCHEDULES, AND REPORTS ON
FORM 8-K
Page
10. Material Contracts Page
10.1 CU Bancorp 1994 Non-Employee Director Stock Option Plan 61
10.2 CU Bancorp 1993 Non Employee Director Stock Agreement 67
10.3 Mortgage Servicing Purchase Agreement 72
21. Subsidiaries of Registrant 81
57
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.
Date: March 28, 1995 C U BANCORP
STEPHEN G. CARPENTER
By
Stephen G. Carpenter
President and Chief
Executive Officer
PATRICK HARTMAN
By
Patrick Hartman
Chief Financial Officer
58
Pursuant to the requirements of the Securities Exchange Act of 1934,
this report has been signed below by the following persons on behalf of the
Registrant and in the capacities and on the dates indicated.
Signature Title Date
KENNETH BERNSTEIN Director March 28, 1995
_________________
Kenneth Bernstein
STEPHEN G. CARPENTER Director, March 28, 1995
President/
Chief Executive
Stephen G. Carpenter Officer
RICHARD CLOSE
Director March 28, 1995
Richard H. Close Secretary
PAUL W. GLASS
Director March 28,1995
Paul W. Glass
M. DAVID NATHANSON
Director March 28, 1995
M. David Nathanson
RONALD S. PARKER Director March 28, 1995
____________________
Ronald S. Parker
DAVID I. RAINER
___________________ Director March 28, 1995
David I. Rainer
Supplemental Information to be Furnished with Reports Filed Pursuant to
Section 15 (d) of the Act by Registrant Which Have Not Registered
Securities Pursuant to Section 12 of the Act.
The proxy statement with respect to the annual meeting of the
shareholders shall be furnished to shareholder subsequent to the filing of
this Form 10-K and shall also be furnished to the Securities and Exchange
Commission.
59