Exhibit 99.2
FEDERAL DEPOSIT INSURANCE CORPORATION
550 17th Street NW, Washington, D.C. 20429
FORM 10-K
(MARK ONE)
|X| ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE
ACT OF 1934
FOR THE FISCAL YEAR ENDED DECEMBER 31, 2005
|_| TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES
EXCHANGE ACT OF 1934 (NO FEE REQUIRED)
FOR THE TRANSITION PERIOD FROM __________ TO __________
FDIC CERTIFICATE NUMBER 23266
SAN JOAQUIN BANK
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(Exact name of registrant as specified in its charter)
CALIFORNIA 95-3426405
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(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
1301 - 17TH STREET, BAKERSFIELD, CALIFORNIA 93301
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(Address of principal executive offices) (Zip Code)
(661) 281-0300
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(Registrant's telephone number, including area code)
COMMON STOCK (NO PAR VALUE)
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(Securities registered pursuant to section 12(g) of the Act)
Indicate by check mark if the registrant is a well-known seasoned issuer, as
defined in Rule 405 of the Securities Act. Yes |_| No |X|
Indicate by check mark if the registrant is not required to file reports
pursuant to Section 13 or Section 15(d) of the Act.
Yes |_| No |X|
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes |X| No |_|
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K 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 or any attachment to
this Form 10-K. |_|
Indicate by check mark whether the registrant is a large accelerated filer, an
accelerated filer, or a non-accelerated filer. See definition of "accelerated
filer and large accelerated filer" in Rule 12b-2 of the Exchange Act. (Check
one):
Large accelerated filer |_| Accelerated filer |_| Non-accelerated filer |X|
Indicate by check mark whether the registrant is a shell company (as
defined in Rule 12b-2 of the Exchange Act). Yes |_| No |X|
The aggregate market value of the Common Stock held by non-affiliates of the
registrant as of June 30, 2005, as reported on the OTC Bulletin Board, was
approximately $58,667,243. Shares of Common Stock held by each officer and
director and by each person who owns 5% or more of the outstanding Common Stock
have been excluded, in that such persons may be deemed to be affiliates. This
determination of affiliate status is not necessarily a conclusive determination
for other purposes.
Indicate the number of shares outstanding of each of the issuer's classes of
Common Stock, as of the latest practicable date: 3,472,712 shares outstanding at
February 14, 2006.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the definitive Proxy Statement relating to the registrant's Annual
Meeting of Shareholders, to be held May 16, 2006, are incorporated by reference
in Items 10, 11, 12, 13, and 14 of Part III to the extent described therein.
SAN JOAQUIN BANK
FORM 10-K
FOR THE FISCAL YEAR ENDED DECEMBER 31, 2005
INDEX
PAGE
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PART I
ITEM 1. BUSINESS ........................................................ 2
ITEM 1A. RISK FACTORS .................................................... 10
ITEM 2. PROPERTIES ...................................................... 13
ITEM 3. LEGAL PROCEEDINGS ............................................... 14
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.............. 14
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY, RELATED STOCKHOLDER
MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES................ 15
ITEM 6. SELECTED FINANCIAL DATA.......................................... 17
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATION............................................. 18
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK....... 40
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA...................... 42
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE............................................. 67
ITEM 9A. CONTROLS AND PROCEDURES.......................................... 67
ITEM 9B. OTHER INFORMATION................................................ 67
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT............... 68
ITEM 11. EXECUTIVE COMPENSATION........................................... 68
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT... 68
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS................... 68
ITEM 14. PRINCIPAL ACCOUNTING FEES AND SERVICES........................... 68
PART IV
ITEM 15 EXHIBITS AND FINANCIAL STATEMENT SCHEDULES ...................... 69
This annual report on Form 10-K contains forward-looking statements about San
Joaquin Bank for which it claims the protection of the safe harbor provisions
contained in the Private Securities Litigation Reform Act of 1995, including
statements with regard to descriptions of our plans or objectives for future
operations, products or services, and forecasts of our revenues, earnings or
other measures of economic performance. Forward-looking statements can be
identified by the fact that they do not relate strictly to historical or current
facts. They often include the words "believe," "expect," "anticipate," "intend,"
"plan," "estimate," or words of similar meaning, or future or conditional verbs
such as "will," "would," "should," "could," or "may."
Forward-looking statements, by their nature, are subject to risks and
uncertainties. A number of factors -- many of which are beyond our control --
could cause actual conditions, events or results to differ significantly from
those described in the forward-looking statements and reported results should
not be considered an indication of our future performance. Some of these risk
factors include, among others, certain credit, market, operational and liquidity
risks associated with our business and operations, changes in business and
economic conditions in California and nationally, rising interest rates,
potential acts of terrorism (which are beyond our control), volatility of rate
sensitive deposits and assets, value of real estate collateral securing many of
our loans, accounting estimates and judgments, compliance costs associated with
the company's internal control structure and procedures for financial reporting.
These risk factors are not exhaustive and additional factors that could have an
adverse effect on our business and financial performance are set forth under
"Risk Factors" in Item 1A and elsewhere in this annual report on Form 10-K.
Forward-looking statements speak only as of the date they are made. We do not
undertake to update forward-looking statements to reflect circumstances or
events that occur after the date forward-looking statements are made.
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PART I
ITEM 1. BUSINESS
GENERAL
San Joaquin Bank commenced operations as a California state-chartered Bank in
December 1980 and is the oldest independent community bank headquartered in
Bakersfield, Kern County, California. At December 31, 2005, San Joaquin Bank had
total consolidated assets of $627,014,000, total consolidated deposits of
$575,533,000, total consolidated net loans of $400,397,000, and shareholders'
equity of $39,290,000.
San Joaquin Bank has four banking offices within Kern County, California. The
Main Office is located at 1301 - 17th Street, Bakersfield, California. The
Rosedale Branch located at 3800 Riverlakes Drive, Bakersfield, California, is
owned by the Company, as are the Stockdale Branch located at 4600 California
Avenue and the Administrative Center located at 1000 Truxtun Avenue, both in
Bakersfield, California. The Main Office and the Delano Branch at 1613 Inyo
Street, Delano, are both leased facilities.
In 1987, San Joaquin Bank formed a subsidiary, the Kern Island Company ("KIC"),
to acquire, develop, sell or operate commercial or residential real property
located in the Company's geographic market area. In 1993 San Joaquin Bank formed
a limited partnership, Farmersville Village Grove Associates (a California
limited partnership) ("FVGA"), to acquire and operate low-income housing
projects under the auspices of the Rural Economic and Community Development
Department (formerly Farmers Home Administration), United States Department of
Agriculture. KIC is the 5% general partner and San Joaquin Bank is the 95%
limited partner.
The investment in FVGA is shown on the Company's consolidated financial
statements as "Investment in real estate." This investment consists of a 48-unit
seniors apartment project, located in Farmersville, placeCityTulare County,
StateCalifornia. This project is financed by the Rural Economic and Community
Development Department (formerly Farmers Home Administration), United States
Department of Agriculture ("RECD"). The Company acquired the project by a grant
deed executed in lieu of foreclosure pursuant to a judgment entered December 3,
1991, in Kern County Superior Court. The deed was executed in settlement of a
$400,000 loan owed to the Company. Concurrent with the acquisition, the Company
assumed an $880,000 loan payable to the RECD. The project is operated by FVGA.
The FVGA apartment project generates a positive cash flow, therefore additional
investment in the project by San Joaquin Bank is not required. Because of the
subsidized rent program sponsored by RECD under which this apartment project is
operated, the owner of the project was eligible and did receive a federal tax
credit in the amount of $600,000, which was amortized over a period of 10 years.
Both KIC and FVGA exist solely to own and operate the Farmersville apartment
project. Management does not anticipate any additional cash infusion required by
San Joaquin Bank and the effects of the operation of KIC and FVGA on the Company
are negligible.
Through its network of banking offices, San Joaquin Bank emphasizes
professional, personal banking service directed primarily to small and
medium-sized businesses and professionals. Although San Joaquin Bank's primary
focus is toward the small and medium-sized business and professional market, the
Bank also provides a full range of banking services that are available to
individuals, public entities, and non-profit organizations.
San Joaquin Bank offers a wide range of deposit accounts. These include personal
and business checking and savings accounts, interest-bearing negotiable order of
withdrawal ("Super NOW") accounts, money market accounts, time deposits and
individual retirement accounts.
San Joaquin Bank also provides a full array of lending services, including
commercial, consumer installment, and real estate loans. Commercial loans are
loans to local community businesses and may be unsecured or secured by assets of
the business and/or its principals. Consumer installment loans include loans for
automobiles, home improvements, debt consolidation and other personal needs.
Real estate loans include short-term commercial loans secured by real estate and
construction loans.
San Joaquin Bank originates loans that are guaranteed under the Small Business
Investment Act and in the past has sold SBA loans in the secondary market,
although the Bank currently retains SBA loans in its portfolio.
The Bank also offers a wide range of specialized services designed to attract
and service the needs of commercial customers and account holders. These
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services include ACH origination services, Internet banking for business and
individual customers, safe deposit, MasterCard and Visa merchant deposit
services, messenger pick-up service, cash management sweep accounts, MasterCard
MasterMoney(TM) ATM/Check cards, and Visa and MasterCard credit cards.
San Joaquin Bank is subject to examination by the Federal Deposit Insurance
Corporation ("FDIC") and the California Department of Financial Institutions.
At December 31, 2005, San Joaquin Bank employed 135 persons of whom 21 were Bank
officers, 79 were full-time employees and 35 were part-time employees. San
Joaquin Bank believes that its employee relations are satisfactory.
COMPETITION
The banking and financial services industry in California generally, and in San
Joaquin Bank's market area specifically, is highly competitive. The increasingly
competitive environment is a result primarily of changes in regulation, changes
in technology and product delivery systems, and the accelerating pace of
consolidation among financial services providers. The Bank competes for loans,
deposits, and customers with other commercial banks, savings and loan
associations, securities and brokerage companies, mortgage companies, insurance
companies, finance companies, money market funds, credit unions, and other
non-bank financial service providers. Many of these competitors are much larger
in total assets and capitalization, have greater access to capital markets and
offer a broader range of financial services than San Joaquin Bank.
ECONOMIC CONDITIONS, GOVERNMENT POLICIES, LEGISLATION, AND REGULATION
San Joaquin Bank's profitability, like most financial institutions, is primarily
dependent on interest rate differentials. In general, the difference between the
interest rates paid by San Joaquin Bank on interest-bearing liabilities, such as
deposits and other borrowings, and the interest rates received by San Joaquin
Bank on its interest-earning assets, such as loans extended to its customers and
securities held in its investment portfolio, comprise the major portion of San
Joaquin Bank's earnings. These rates are highly sensitive to many factors that
are beyond the control of San Joaquin Bank, such as inflation, recession and
unemployment. The impact that future changes in domestic and foreign economic
conditions might have on San Joaquin Bank cannot be predicted.
The business of San Joaquin Bank is also influenced by the fiscal policies of
the federal government, the monetary policies of the federal government,
particularly those implemented by the Board of Governors of the Federal Reserve
System (the "Federal Reserve"), and regulatory policies, particularly as
promulgated by the FDIC. The Federal Reserve implements national monetary
policies through the actions of the Federal Open Market Committee ("FOMC"). The
objectives of the FOMC include curbing inflation and combating recession through
its open-market operations in U.S. Government securities, by adjusting the
required level of reserves for depository institutions subject to its reserve
requirements, and by varying the target federal funds rate applicable to funds
purchased and sold between financial institutions on an overnight basis, and
discount rates applicable to borrowings by depository institutions. The actions
of the Federal Reserve in these areas influence the growth of bank loans,
investments, and deposits and also affect interest rates earned on
interest-earning assets and paid on interest-bearing liabilities. The nature and
impact on San Joaquin Bank of any future changes in monetary and fiscal policies
cannot be predicted.
From time to time, legislation, as well as regulations, are enacted which have
the effect of increasing the cost of doing business, limiting or expanding
permissible activities, or affecting the competitive balance between banks and
other financial services providers. Proposals to change the laws and regulations
governing the operations and taxation of banks, bank holding companies, and
other financial institutions and financial services providers are frequently
made in the U.S. Congress, in the state legislatures, and before various
regulatory agencies. This legislation may change banking statutes and the
operating environment of San Joaquin Bank in substantial and unpredictable ways.
If enacted, such legislation could increase or decrease the cost of doing
business, limit or expand permissible activities or affect the competitive
balance among banks, savings associations, credit unions, and other financial
institutions. San Joaquin Bank cannot predict whether any of this potential
legislation will be enacted, and if enacted, the effect that it, or any
implementing regulations, would have on the financial condition or results of
operations of San Joaquin Bank.
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SUPERVISION AND REGULATION
Banks are extensively regulated under both federal and state law. This
regulation is intended primarily for the protection of depositors and the
deposit insurance fund and not for the benefit of shareholders of San Joaquin
Bank. The following is a summary of certain statutes and regulations affecting
the Bank. It is not intended to be an exhaustive description of the statutes and
regulations applicable to the Bank's business. The description of statutory and
regulatory provisions is qualified in its entirety by reference to the
particular statutory or regulatory provisions.
Moreover, major new legislation and other regulatory changes affecting the Bank,
banking, and the financial services industry in general have occurred in the
past and can be expected to occur in the future. The nature, timing and impact
of new and amended laws and regulations cannot be accurately predicted.
REGULATORY ENFORCEMENT AUTHORITY
The enforcement powers available to federal banking regulators include, among
other things, the ability to assess civil money penalties, to issue
cease-and-desist or removal orders and to initiate injunctive actions against
banking organizations and institution-affiliated parties, as defined in the
Federal Deposit Insurance Act ("FDIA"). In general, these enforcement actions
may be initiated for violations of law and regulations and unsafe or unsound
practices. Other actions or inactions may provide the basis for enforcement
action, including misleading or untimely reports filed with regulatory
authorities or noncompliance with consumer protection laws. Under certain
circumstances, federal and state laws require public disclosure and reports of
certain criminal offenses and also final enforcement actions by the federal
banking agencies.
FDIC INSURANCE PREMIUMS
The Bank pays deposit insurance premiums to the FDIC based on an assessment rate
established by the FDIC for Bank Insurance Fund-member institutions. The FDIC
has established a risk-based premium system under which the FDIC classifies
institutions based on their capital ratios and on other relevant information and
generally assesses higher rates on those institutions that tend to pose greater
risks to the federal deposit insurance funds. The FDIA does not require the FDIC
to charge all banks deposit insurance premiums when the ratio of deposit
insurance reserves to insured deposits is maintained above specified levels.
However, because of general economic conditions and recent bank failures, it is
possible that the ratio of deposit insurance reserves to insured deposits could
fall below the minimum ratio that FDIA requires, which would result in the FDIC
setting deposit insurance assessment rates sufficient to increase deposit
insurance reserves to the required ratio. The Bank cannot predict whether the
FDIC will be required to increase deposit insurance assessments above their
current levels.
In February 2006, Congress enacted the Federal Deposit Insurance Reform Act of
2005 (the "FDIR Act"). As a result of the passage of the FDIR Act: (i) the
FDIC's Bank Insurance Fund will be merged with the FDIC's Savings Association
Insurance Fund creating the Deposit Insurance Fund (the "DIF") no later than
July 1, 2006; (ii) the $100,000 per account insurance level will be indexed to
reflect inflation; (iii) deposit insurance coverage for certain retirement
accounts will be increased to $250,000 on April 1, 2006; and (iv) a cap will be
placed on the level of the DIF and dividends will be paid to banks once the
level of the DIF exceeds the specified threshold.
CAPITAL REQUIREMENTS AND PROMPT CORRECTIVE ACTION
The FDIC has risk-based capital adequacy guidelines intended to provide a
measure of capital adequacy that reflects the degree of risk associated with a
bank'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. government securities, to
100% for assets with relatively higher credit risk, such as investment
securities that carry below-investment grade ratings.
The FDIC takes into consideration concentrations of credit risk and risks from
nontraditional activities, as well as an institution's ability to manage those
risks, when determining the adequacy of an institution's capital. This
evaluation is made as a part of the institution's regular safety and soundness
examination. The federal banking agencies also consider interest rate risk (when
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the interest rate sensitivity of an institution's assets does not match the
sensitivity of its liabilities or its off-balance sheet position) in evaluation
of a bank's capital adequacy.
In January 2006, the FDIC, along with three other federal bank regulators,
proposed interagency guidance on credit concentrations entitled, "Concentrations
in Commercial Real Estate Lending, Sound Risk Management Practices." In general,
the proposed guidance, if adopted in its current form, would require banks with
either (a) more than 100% of total capital in loans for construction and land
development, or (b) more than 300% of total capital in loans secured by
commercial real estate to adopt heightened risk management practices. The Bank
currently has more than 100% of total capital in loans for construction and land
development and loans secured by commercial real estate in excess of 300% of
total capital.
The FDIC may increase such minimum requirements for all banks or for specified
banks. Increases in the minimum required ratios could adversely affect the Bank,
including its ability to pay dividends.
The Basel Committee on Banking Supervision, an international organization
comprised of representatives of central banks of the Group of Ten countries,
continues to evaluate certain aspects of the proposed New Basel Capital Accord,
with the goal of implementation by 2007. The New Basel Capital Accord
incorporates three pillars that address (a) minimum capital requirements, (b)
supervisory review, which relates to an institution's capital adequacy and
internal assessment process, and (c) market discipline, through effective
disclosure to encourage safe and sound banking practices. Embodied within these
pillars are aspects of risk assessment that relate to credit risk, interest rate
risk and operational risk, among others, and certain proposed approaches by the
Basel Committee to complete such assessments may be considered complex. It is
possible that under the New Basel Capital Accord large complex institutions that
are capable of implementing sophisticated risk assessment procedures would be
permitted to operate with less capital than other institutions. This could put
banks that do not have such sophisticated risk assessment procedures at a
competitive disadvantage. The Bank continues to monitor the status of the New
Basel Accord.
As discussed above, the FDIC has promulgated regulations and adopted a statement
of policy regarding the capital adequacy of state-chartered banks, which, like
the Bank, are not members of the Federal Reserve System. Moreover, the FDIC has
promulgated regulations to implement the system of prompt corrective action
established by the FDIA. Under the regulations, a bank is given one of the
following ratings based upon its regulatory capital: "well capitalized,"
"adequately capitalized," "undercapitalized," "significantly undercapitalized,"
and "critically undercapitalized."
Immediately upon becoming undercapitalized, an institution becomes subject to
prompt corrective action provisions of the FDIA, including for example, (i)
restricting payment of capital distributions and management fees, (ii) requiring
that the FDIC monitor the condition of the institution and its efforts to
restore its capital, (iii) requiring submission of a capital restoration plan,
(iv) restricting the growth of the institution's assets and (v) requiring prior
approval of certain expansion proposals.
In addition, an institution generally must file a written capital restoration
plan which meets specified requirements with the appropriate FDIC regional
director within 45 days of the date that the institution receives notice or is
deemed to have notice that it is undercapitalized, significantly
undercapitalized or critically undercapitalized. An institution, which is
required to submit a capital restoration plan, must concurrently submit a
performance guaranty by each company that controls the institution. A critically
undercapitalized institution generally is to be placed in conservatorship or
receivership within 90 days unless the FDIC formally determines that forbearance
from such action would better protect the deposit insurance fund.
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The following tables present the regulatory capital requirements to be
classified as well capitalized and the capital ratios for the Bank, at December
31, 2005 and 2004, respectively (note 20).
To Be Categorized
Well Capitalized
For Capital Adequacy Under Prompt Corrective
Actual Purposes Action Provisions
---------------------- -------------------------- ----------------------------
Amount Ratio Amount Ratio Amount Ratio
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As of December 31, 2005
- -----------------------------------------------------------------------------------------------------------------------
Total risk-based capital ratio $51,510,000 10.51% $ 39,208,000 8.00% $49,010,000 10.00%
Tier 1 risk-based capital ratio 39,372,000 8.03% 19,612,000 4.00% 29,419,000 6.00%
Tier 1 leverage ratio 39,372,000 6.44% 24,455,000 4.00% 30,568,000 5.00%
As of December 31, 2004
- -----------------------------------------------------------------------------------------------------------------------
Total risk-based capital ratio $44,122,000 11.50% $ 30,694,000 8.00% $38,367,000 10.00%
Tier 1 risk-based capital ratio 33,306,000 8.68% 15,348,000 4.00% 23,023,000 6.00%
Tier 1 leverage ratio 33,306,000 6.66% 20,004,000 4.00% 25,005,000 5.00%
As of December 31, 2005, the Bank was well capitalized for the above purposes.
The FDIC may revise capital requirements applicable to banking organizations
beyond current levels. As discussed above, changes to the risk-based capital
adequacy framework are currently under consideration. Accordingly, it is
impossible to predict whether higher or different capital requirements will be
imposed and, if so, at what levels and on what schedules. Therefore, there can
be no assurance as to what effect such higher or different requirements may have
on the Bank.
BROKERED DEPOSITS
Section 29 of the FDIA and FDIC regulations generally limit the ability of an
insured depository institution to accept, renew or roll over any brokered
deposit depending on the institution's capital category. These restrictions have
not had a material impact on the operations of the Bank because the Bank
historically has not relied upon brokered deposits as a source of funding.
ACTIVITIES AND INVESTMENTS OF INSURED STATE-CHARTERED BANKS
Section 24 of the FDIA generally limits the activities as principal and equity
investments of FDIC-insured, state-chartered banks to those that are permissible
for national banks. In 1999, the FDIC substantially revised its regulations
implementing Section 24 of the FDIA to ease the ability of FDIC-insured
state-chartered banks to engage in certain activities not permissible for
national banks, and to expedite FDIC review of bank applications and notices to
engage in such activities.
Further, the Gramm-Leach-Bliley Act (the "GLBA") permits national banks and
state banks, to the extent permitted under state law, to engage in certain new
activities which are permissible for subsidiaries of a financial holding
company. In order to form a financial subsidiary, a national bank or state bank
must be well-capitalized, and such banks would be subject to certain capital
deduction, risk management and affiliate transaction rules, among other things.
In addition, the FDIC's final rules governing the establishment of financial
subsidiaries adopt the position that activities that a national bank could only
engage in through a financial subsidiary, such as securities underwriting, only
may be conducted in a financial subsidiary by a state nonmember bank. However,
activities that a national bank could not engage in through a financial
subsidiary, such as real estate development or investment, continue to be
governed by the FDIC's standard activities rules. The final rules provide that a
state bank subsidiary that engages only in activities that the bank could engage
in directly (regardless of the nature of the activities) will not be deemed to
be a financial subsidiary.
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COMMUNITY INVESTMENT AND CONSUMER PROTECTION LAWS
In connection with its retail banking activities, the Bank is subject to a
variety of federal laws designed to protect depositors and borrowers and to
promote lending to various sectors of the economy and population. Included among
these are:
o the Community Reinvestment Act ("CRA");
o the Electronic Funds Transfer Act;
o the Equal Credit Opportunity Act;
o the Expedited Funds Availability Act;
o the Fair Credit Reporting Act;
o the Fair Debt Collection Practices Act;
o the Home Mortgage Disclosure Act;
o the Home Ownership and Protection Act;
o the Real Estate Settlement Procedures Act;
o the Truth in Savings Act; and
o the Truth in Lending Act.
The Bank is subject to rules and regulations implementing such laws which were
promulgated by, among other regulators, the Board of Governors of the Federal
Reserve system, the FDIC, the U.S. Department of Housing and Urban Development
and the Federal Trade Commission.
The CRA requires the FDIC to evaluate the Bank's performance in helping to meet
the credit needs of their entire communities, including low-and-moderate-income
neighborhoods, consistent with their safe and sound banking operations, and to
take this record into consideration when evaluating certain applications. The
CRA does not establish specific lending requirements or programs for financial
institutions, nor does it limit an institution's discretion to develop the type
of products and services that it believes are best suited to its particular
community, consistent with the purposes of the CRA.
Recent amendments to CRA regulations by the FDIC have created a new
classification of "intermediate small bank," which includes banks that have $250
million or more but less than $1 billion in assets. San Joaquin Bank currently
qualifies as an "intermediate small bank" for CRA purposes. The CRA performance
of intermediate small banks is measured using a lending test and a community
development test. An intermediate small bank may elect to be treated as a large
bank for CRA purposes, if it maintains the necessary data.
The FDIC's CRA regulations for large banks are based upon objective criteria of
the performance of institutions under three key assessment tests: (i) a lending
test, to evaluate the institution's record of making loans in its service areas;
(ii) an investment test, to evaluate the institution's record of investing in
community development projects, affordable housing, and programs benefiting low
or moderate income individuals and businesses; and (iii) a service test, to
evaluate the institution's delivery of services through its branches, ATMs, and
other offices. As of the date of its most recent CRA evaluation in September of
2005, the Bank was rated in the highest category for CRA compliance,
"outstanding."
CUSTOMER INFORMATION SECURITY
The FDIC and other bank regulatory agencies have adopted final guidelines for
establishing standards for safeguarding nonpublic personal information about
customers that implement provisions of the GLBA (the "Guidelines"). Among other
things, the Guidelines require each financial institution, under the supervision
and ongoing oversight of its Board of Directors or an appropriate committee
7
thereof, to develop, implement and maintain a comprehensive written information
security program designed to ensure the security and confidentiality of customer
information, to protect against any anticipated threats or hazards to the
security or integrity of such information; and to protect against unauthorized
access to or use of such information that could result in substantial harm or
inconvenience to any customer.
PRIVACY
The GLBA requires financial institutions to implement policies and procedures
regarding the disclosure of nonpublic personal information about consumers to
nonaffiliated third parties. In general, the statute requires the Bank to
explain to consumers its policies and procedures regarding the disclosure of
such nonpublic personal information, and, except as otherwise required by law,
the Bank is prohibited from disclosing such information except as provided in
its policies and procedures.
THE USA PATRIOT ACT
The USA PATRIOT Act of 2001 (the "PATRIOT Act"), designed to deny terrorists and
others the ability to obtain anonymous access to the United States financial
system, has significant implications for depository institutions, broker-dealers
and other businesses involved in the transfer of money. The PATRIOT Act,
together with the implementing regulations of various federal regulatory
agencies, requires financial institutions to implement additional or amend
existing policies and procedures with respect to, among other things, anti-money
laundering compliance; suspicious activities and currency transaction reporting;
and due diligence on customers.
GOVERNMENT POLICIES AND LEGISLATION
The policies of regulatory authorities, including the FDIC, have had a
significant effect on the operating results of commercial banks in the past and
are expected to do so in the future. An important function of the Federal
Reserve System is to regulate aggregate national credit and money supply through
such means as open market dealings in securities, establishment of the discount
rate on member bank borrowings, and changes in reserve requirements against
member bank deposits. Policies of these agencies may be influenced by many
factors, including inflation, unemployment, short-term and long-term changes in
the international trade balance and fiscal policies of the United States
government. Such policies have had, and will continue to have, a significant
effect on the operating results of financial institutions.
The United States Congress has periodically considered and adopted legislation
that has resulted in further deregulation of both banks and other financial
institutions, including mutual funds, securities brokerage firms and investment
banking firms. No assurance can be given as to whether any additional
legislation will be adopted or as to the effect such legislation would have on
the business of the Bank. In addition to the relaxation or elimination of
geographic restrictions on banks and bank holding companies, a number of
regulatory and legislative initiatives have the potential for eliminating many
of the product line barriers presently separating the services offered by
commercial banks from those offered by non-banking institutions.
SARBANES-OXLEY
On July 30, 2002, the President signed into law the Sarbanes-Oxley Act of 2002
("Sarbanes-Oxley"). The stated goals of Sarbanes-Oxley are to increase corporate
responsibility, to provide for enhanced penalties for accounting and auditing
improprieties at publicly traded companies and to protect investors by improving
the accuracy and reliability of corporate disclosures pursuant to the securities
laws.
Sarbanes-Oxley generally applies to all companies, both U.S. and non-U.S., that
file or are required to file periodic reports under the Exchange Act.
Sarbanes-Oxley includes very specific additional disclosure requirements and new
corporate governance rules. These new requirements prompted the Securities and
Exchange Commission (the "SEC") and securities exchanges to adopt extensive
additional disclosure, corporate governance and other related rules and mandated
further studies of certain issues. Sarbanes-Oxley represents significant federal
involvement in matters traditionally left to state regulatory systems, such as
the regulation of the accounting profession, and to state corporate law, such as
the relationship between a board of directors and management and between a board
of directors and its committees.
8
Sarbanes-Oxley addresses, among other matters:
o independent audit committees for reporting companies whose securities
are listed on national exchanges or automated quotation systems (the
"Exchanges") and expanded duties and responsibilities for audit
committees;
o certification of financial statements by the chief executive officer
and the chief financial officer;
o the forfeiture of bonuses or other incentive-based compensation and
profits from the sale of an issuer's securities by directors and
senior officers in the twelve month period following initial
publication of any financial statements that later require
restatement;
o a prohibition on insider trading during pension fund black out
periods;
o disclosure of off-balance sheet transactions;
o a prohibition on personal loans to directors and officers under most
circumstances;
o expedited filing requirements relating to trading by insiders in an
issuer's securities on Form 4;
o disclosure of a code of ethics and filing a Form 8-K for a change or
waiver of such code;
o "real time" filing of periodic reports;
o the formation of the Public Company Accounting Oversight Board
("PCAOB") to oversee public accounting firms and the audit of public
companies that are subject to securities laws;
o auditor independence; and
o various increased criminal penalties for violations of securities
laws.
Given the extensive role of the SEC, the PCAOB and the Exchanges in implementing
rules relating to Sarbanes-Oxley's new requirements and the federalization of
certain elements traditionally within the sphere of state corporate law, the
impact of Sarbanes-Oxley on reporting companies will be significant. Many of the
new rules promulgated by the SEC, PCAOB and Exchanges were implemented during
2004, however, other rules including but not limited to new internal control
evaluation and reporting rules will only begin to be implemented in 2006 and
2007. As a result, it is impossible to predict with any precision how these new
rules, regulations and changes in corporate law and governance will finally
impact public companies including the Bank.
We have implemented procedures to comply with the various requirements provided
in Sarbanes-Oxley and the rules promulgated by the SEC and the FDIC thereunder.
FUTURE LEGISLATION
Various legislation, including proposals to change substantially the laws and
regulations governing the banking industry and the financial institution
regulatory system, is from time to time introduced in Congress, in state
legislatures and before various bank regulatory agencies. This legislation may
change banking statutes and the operating environment of the Bank in substantial
and unpredictable ways. If enacted, this legislation could increase or decrease
the cost of doing business, limit or expand permissible activities or affect the
competitive balance among banks, savings associations, credit unions, and other
financial institutions. The Bank cannot predict whether any of this potential
legislation will be enacted and, if enacted, the effect that it, or any
implementing regulations, would have on the Bank's business, results of
operations or financial condition. It is likely, however, that the current high
level of enforcement and compliance-related activities of federal and state
authorities will continue and potentially increase.
RESTRICTIONS ON DIVIDENDS AND OTHER DISTRIBUTIONS
Under California law, the Bank is prohibited from making distributions to its
shareholders in an amount that exceeds the lesser of its retained earnings and
its net income for the three preceding fiscal years (less any distributions paid
during such time). With the prior approval of the Commissioner of Financial
Institutions of the State of California (the "Commissioner"), a California
chartered bank may make a distribution up to the greater of (a) its retained
earnings; (b) its net income for its last fiscal year; and (c) its net income
for the current fiscal year. If the Commissioner finds that the shareholders'
equity of a bank is not adequate, the Commissioner may order the bank not to
make any distribution to the shareholders of the bank.
The power of the board of directors of an insured depository institution to
declare a cash dividend or other distribution with respect to capital is also
subject to federal statutory and regulatory restrictions that limit the amount
available for such distribution depending upon the earnings, financial condition
and cash needs of the institution, as well as general business conditions.
FDICIA prohibits insured depository institutions from paying management fees to
any controlling persons or, with certain limited exceptions, making capital
9
distributions, including dividends, if after such transaction the institution
would be undercapitalized.
The federal banking agencies also have authority to prohibit depository
institutions from engaging in business practices that are considered unsafe or
unsound, possibly including payment of dividends or other payments under certain
circumstances even if such payments are not expressly prohibited by statute.
CURRENT ACCOUNTING PRONOUNCEMENTS
The Bank has adopted SFAS No. 130, "Reporting Comprehensive Income."
Comprehensive income is equal to net income plus the change in "other
comprehensive income," as defined by SFAS No. 130. This statement requires the
Bank to report income and (loss) from non-owner sources. The component of other
comprehensive income currently applicable to the Bank is the net unrealized
holding gain or loss on available for sale securities and unrealized gains or
loss from changes in fair value of interest rate cap contracts. SFAS No. 130
requires that an entity: (a) classify items of other comprehensive income by
their nature in a financial statement, and (b) report the accumulated balance of
other comprehensive income separately from common stock and retained earnings in
the equity section of the balance sheet.
In December 2002, the Financial Accounting Standards Board issued SFAS 148,
"Accounting for Stock-Based Compensation - Transition and Disclosure." This
statement applies to financial statements for fiscal years ending after December
15, 2002. It is an amendment of SFAS 123, "Accounting for Stock-Based
Compensation," to provide alternative methods of transition for an entity that
voluntarily changes to the fair value method of accounting for stock-based
employee compensation and also amends the disclosure provisions of SFAS 123.
SFAS 123 defines a fair value based method of accounting for employee stock
options or similar equity instruments.
However, both also allow an entity to continue to measure compensation cost for
those plans using the intrinsic value based method of accounting prescribed by
APB Opinion No. 25, Accounting for Stock Issued to Employees. Under the fair
value based method, compensation cost is measured at the grant date based on the
value of the award and is recognized over the service period, which is usually
the vesting period. Under the intrinsic value based method, compensation cost is
the excess, if any, of the quoted market price of the stock at grant date or
other measurement date over the amount an employee must pay to acquire the
stock.
The Bank has elected to continue accounting for stock-based compensation under
APB Opinion No. 25 and disclose pro forma net income and earnings per share, as
if the fair value based method of accounting defined in Statements 123 and 148
had been applied.
SFAS 123 was revised in December 2004 to require that, effective for periods
beginning after June 15, 2005, the Company begin using the fair market value
method for valuing and accounting for stock options. On April 14, 2005, the
Securities and Exchange Commission announced the adoption of a new rule which
delayed the implementation date for the new requirements until the beginning of
the next fiscal year (2006). The Company has decided to apply the new
requirements in 2006 on a prospective basis.
ITEM 1A. RISK FACTORS
CHANGES IN INTEREST RATES MAY ADVERSELY AFFECT OUR PROFITABILITY
Our earnings are impacted by changing interest rates. Changes in interest rates
impact the demand for new loans, the rates received on loans and securities and
the rates paid on deposits and other borrowings. The relationship between the
rates received on earning assets and the rates paid on interest-bearing
liabilities is known as interest rate spread. In general, the wider the spread,
the more San Joaquin Bank earns. Interest rates are highly sensitive to many
factors that are beyond our control, including general economic conditions and
policies of various governmental and regulatory agencies and, in particular, of
the Federal Reserve Board. Changes in monetary policy, including changes in
interest rates, could influence not only the interest we receive on loans and
the amount of interest we pay on deposits and borrowings, but such changes could
also affect our ability to originate loans and obtain deposits. If the interest
rates paid on deposits and other borrowings increase at a faster rate than the
interest rates received on loans and other investments, our earnings could be
adversely affected. Our earnings could also be adversely affected if the
interest rates received on loans and other investments fall more quickly than
the interest rates paid on deposits and other borrowings.
10
IF OUR LOAN QUALITY DECLINES, OUR ALLOWANCE FOR LOAN LOSSES MAY BE INADEQUATE
We maintain an allowance for loan losses, which is a reserve established through
a provision for loan losses charged to expense, that represents management's
estimate of probable losses that have been incurred within the existing
portfolio of loans. The allowance is necessary to reserve for estimated loan
losses and risks inherent in the loan portfolio. The level of the allowance
reflects management's continuing evaluation of credit risks, loan loss
experience, current loan portfolio quality, present economic and regulatory
conditions and unidentified losses inherent in the current loan portfolio. The
determination of the appropriate level of the allowance for loan losses
inherently involves a high degree of subjectivity and requires us to make
significant estimates of current credit risks and future trends, all of which
may undergo material changes. Any increases in the allowance for loan losses
will result in a decrease in net income and may have a material adverse effect
on our financial condition and results of operations.
Our PROFITABILITY DEPENDS SIGNIFICANTLY ON ECONOMIC CONDITIONS IN PLACECENTRAL
CALIFORNIA
Our operations are concentrated in Kern County, California. As a result of this
geographic concentration, the local economic conditions have a significant
impact on the demand for our products and services as well as the ability of our
customers to repay loans, the value of the collateral securing loans and the
stability of our deposit funding sources. A significant decline in general
economic conditions, caused by inflation, recession, acts of terrorism, outbreak
of hostilities or other international or domestic occurrences, unemployment,
drought and other adverse weather conditions, changes in securities markets or
other factors could impact local economic conditions and, in turn, have a
material adverse effect on our financial condition and results of operations.
WE FACE STRONG COMPETITION IN OUR AREA WHICH COULD HURT OUR BUSINESS
The banking and financial services business in our market area is highly
competitive. Such competitors primarily include national, regional, and
community banks within the markets in which we operate. We also face competition
from savings and loans, credit unions and other financial services companies.
Our ability to compete successfully depends on a number of factors, including,
among other things: Personalized service, relationships between our customers
and key managers, rates we offer on our deposit and loan products and product
differentiation. Failure to perform in any of these areas could significantly
weaken the Company's competitive position and in turn, adversely affect our
financial condition.
WE ARE SUBJECT TO EXTENSIVE GOVERNMENT REGULATION AND SUPERVISION
We are subject to extensive federal and state regulation and supervision. These
regulations affect our lending practices, dividend policy and growth. Newly
enacted and changes to existing statutes, regulations or regulatory policies
could subject us to additional costs and/or limit the types of services and
products we may continue to offer or offer in the future. Failure to comply with
laws, regulations or policies could result in sanctions by regulatory agencies,
civil monetary penalties and/or reputation damage, any of which could have a
material adverse effect on our business, financial condition and results of
operations.
IF WE FAIL TO MAINTAIN EFFECTIVE INTERNAL CONTROLS OVER FINANCIAL REPORTING, OR
WE FAIL TO COMPLY IN A TIMELY MANNER WITH SECTION 404 OF THE SARBANES-OXLEY ACT
OF 2002, THE PRICE OF OUR COMMON STOCK MAY BE ADVERSELY AFFECTED.
We are required to establish and maintain appropriate internal controls over
financial reporting. Failure to establish those controls, or any failure of
those controls once established, could adversely impact our disclosures
regarding our business, financial condition or results of operations. Our
management has reviewed the adequacy of our internal controls over financial
reporting, and management believes that our internal controls provide reasonable
assurance that the financial statements are accurate, prepared in accordance
with generally accepted accounting principles and that our assets are adequately
safeguarded. Our independent auditors have not yet conducted a review of our
internal controls over financial reporting, however, we believe there will be
such a review during fiscal year 2007 when the independent auditors review our
compliance with the requirements of Section 404 of the Sarbanes-Oxley Act of
2002. Rules adopted by the SEC pursuant to Section 404 require annual assessment
of a company's internal control over financial reporting, and attestation of its
assessment by the company's independent registered public accountants. The
standards that must be met for management to assess the internal control over
financial reporting as effective are new and complex and require significant
documentation, testing and possible remediation to meet the detailed standards.
Management's assessment of internal controls over financial reporting at any
time may identify weaknesses and conditions that need to be addressed in our
11
internal controls over financial reporting or other matters that may raise
concerns for you. Any actual or perceived weaknesses and conditions that need to
be addressed in our internal controls over financial reporting, disclosure of
management's assessment of our internal controls over financial reporting or
disclosure of our public accounting firm's attestation to or report on
management's assessment of our internal controls over financial reporting may
have an adverse impact on the price of our common stock. For example, if we are
unable to adequately maintain or improve our internal controls over financial
reporting, we may report that our internal controls are ineffective and our
external auditors will not be able to issue an unqualified opinion on the
effectiveness of our internal controls. Ineffective internal controls over
financial reporting could also cause investors to lose confidence in our
reported financial information, which would likely have a negative effect on the
trading price of our securities or could affect our ability to access the
capital markets and which could result in regulatory proceedings against us by,
among others, the Federal Deposit Insurance Corporation and the Securities
Exchange Commission.
WE MIGHT BE UNABLE TO RECRUIT OR RETAIN NECESSARY PERSONNEL, WHICH COULD SLOW
THE DEVELOPMENT AND DEPLOYMENT OF OUR PRODUCTS AND SERVICES.
Our future success and ability to sustain our growth depend upon the continued
service of our executive officers, and other key personnel and upon hiring
additional key personnel. The unexpected loss of services of one or more of our
key personnel could have a material adverse impact on our business because of
their skills, knowledge of our market, years of industry experience and the
difficulty of promptly finding qualified replacement personnel. In addition, if
we are unable to recruit and sustain necessary personnel, the development and
deployment of our products and services would be hindered, and, as a result, our
results of operation would be materially affected.
OUR TECHNOLOGY AND SYSTEMS MAY EXPERIENCE AN INTERRUPTION OR BREACH IN SECURITY
We rely heavily on technology and information systems to conduct our business.
Any failure, interruption or breach in security of these systems could result in
failures or disruptions in our customer relationship management, general ledger,
deposit, loan and other systems. While we have policies and procedures designed
to prevent or limit the effect of the failure, interruption or security breach
of our systems, there can be no assurance that any such failures, interruptions
or security breaches will not occur. The occurrence of any failures,
interruptions or security breaches could damage our reputation, result in a loss
of customer business, subject us to additional regulatory scrutiny, or expose us
to civil litigation and possible financial liability, any of which could have a
material adverse effect on our financial condition and results of operations.
YOUR ABILITY TO SELL YOUR SHARES OF COMMON STOCK AT THE TIMES AND IN THE AMOUNTS
YOU WANT MAY BE LIMITED
Although our common stock is listed for trading on the Over-the-Counter Bulletin
Board, the trading volume in our common stock is less than that of other larger
financial services companies. We are not listed on the Nasdaq or any other
securities exchange. While there are several investment securities
brokers/dealers who make a market in our common stock, there is no active
trading market for our common stock and thus you may not be able to sell the
shares of common stock that you own at the times and in the amounts you would
otherwise like to.
SIGNIFICANT RELIANCE ON LOANS SECURED BY REAL ESTATE MAY INCREASE OUR
VULNERABILITY TO DOWNTURNS IN THE CALIFORNIA REAL ESTATE MARKET AND OTHER
VARIABLES IMPACTING THE VALUE OF REAL ESTATE.
A large portion of our assets consist of loans secured by real estate in
California. At December 31, 2005, approximately 81.46% of our loans were secured
by real estate. Conditions in the California real estate market historically
have influenced the level of non-performing assets. A real estate recession in
the San Joaquin Valley in California and/or Kern County could adversely affect
our results of operations. In addition, California has experienced, on occasion,
significant natural disasters, including earthquakes, fires and flooding. The
occurrence of one or more of such catastrophes could impair the value of the
collateral for our real estate secured loans and adversely affect us. In recent
years, real estate prices in our market area have risen significantly. If real
estate prices were to fall in our market area, the security for many of our real
estate secured loans could be reduced and we could incur significant losses if
borrowers of real estate secured loans default, and the value of our collateral
is insufficient to cover our losses.
12
OUR DIRECTORS AND EXECUTIVE OFFICERS BENEFICIALLY OWN A SIGNIFICANT PORTION OF
OUR OUTSTANDING COMMON STOCK.
As of December 31, 2005, our directors and executive officers together with
their affiliates, beneficially owned approximately 24.9% of our outstanding
voting common stock (not including vested options). As a result, such
shareholders would most likely control the outcome of corporate actions
requiring shareholder approval, including the election of directors and the
approval of significant corporate transactions, such as a merger or sale of all
or substantially all of our assets. We can provide no assurance that the
investment objectives of such shareholders will be the same as our other
shareholders.
ITEM 2. PROPERTIES
The following properties are owned by the Bank and are unencumbered. In the
opinion of Management, all such properties are adequately covered by insurance.
- -----------------------------------------------------------------------------------------------
Use of Square Feet of Land and Date of
Name and Location Facilities Interior Space Building Costs Acquisition
- ----------------- ---------- -------------- -------------- -----------
- -----------------------------------------------------------------------------------------------
Administration Administrative 10,000 $879,000 06/01/1996
1000 Truxtun Ave. Office and
Bakersfield, CA 93301 data center
- -----------------------------------------------------------------------------------------------
Rosedale Branch Office 12,600 $3,562,000 02/01/2002 (land)
3800 Riverlakes Dr. 08/01/2004 (building)
Bakersfield, CA 93312
- -----------------------------------------------------------------------------------------------
Stockdale Branch Office 5,914 $3,317,000 2/27/2004
4600 California Ave.
Bakersfield, CA 93309
- -----------------------------------------------------------------------------------------------
The following facilities are leased by the Bank as of December 31, 2005. In the
opinion of Management, all such properties are adequately covered by insurance.
- -----------------------------------------------------------------------------------------------
Use of Square Feet of Land and Lease
Name and Location Facilities Interior Space Building Costs Expiration Date
- ----------------- ---------- -------------- -------------- ---------------
- -----------------------------------------------------------------------------------------------
Main Office Head Office 6,311 $ 6,829.74 per month* 2/28/2006**
1301-17th St.
Bakersfield, CA 93301
- -----------------------------------------------------------------------------------------------
Delano Office Branch Office 1,690 $1,521.00 per month 9/30/2006
1613 Inyo St.
Delano, CA
- -----------------------------------------------------------------------------------------------
* This rent amount is subject to a periodic cost of living adjustment based upon the producer
price index as published by the U.S. Bureau of Labor Statistics. The next adjustment is due
on March 1, 2013.
** On February 2, 2006, the Bank exercised its option to renew the lease for ten years. The
New lease expires on 2/28/2016 and is subject to an option to renew for one additional
ten-year term.
All of the Bank's existing facilities are considered to be adequate for the
Bank's present and anticipated future use.
13
ITEM 3. LEGAL PROCEEDINGS
There are no material pending legal proceedings to which the Bank or any
subsidiary is a party or of which their property is subject, other than routine,
ordinary, litigation incidental to the business of the Bank or any subsidiary.
None of the ordinary routine litigation in which the Bank or any subsidiary is
involved is expected to have material adverse impact upon the financial position
or results of operations of the Bank or any subsidiary.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
14
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND
ISSUER PURCHASES OF EQUITY SECURITIES
The capital stock of San Joaquin Bank is currently traded on the OTC Bulletin
Board under the symbol "SJQN." The Bank has not filed an application for listing
of its Common Stock on any national stock exchange or market, nor does the
Bank's Management have plans at present to file such an application.
The following table summarizes the range of sales prices of the Bank's common
stock for each quarter during the last two fiscal years as quoted on the OTC
Bulletin Board. The quotations reflect the price that would be received by the
seller without markups, mark-downs or commissions and may not have represented
actual transactions:
High Low
---- ---
2005
----
Fourth Quarter $34.60 $30.80
Third Quarter $31.65 $26.55
Second Quarter $28.90 $26.25
First Quarter $28.00 $26.15
2004
----
Fourth Quarter $27.75 $22.10
Third Quarter $23.00 $21.50
Second Quarter $23.25 $20.05
First Quarter $23.10 $18.50
As of February 14, 2006, there were 735 holders of record of the Bank's common
stock (including holders who may be nominees for an undetermined number of
beneficial owners). This figure may not include some beneficial owners who hold
shares in nominee name.
San Joaquin Bank has paid a cash dividend in each of the last eight years. The
most recent dividend paid was $0.24 per share, payable to shareholders of record
as of February 27, 2006. The following sets forth the cash dividend history of
the Bank.
o A $0.12 per share cash dividend was paid to shareholders of
record as of March 25, 1999.
o A $0.15 per share cash dividend was paid to shareholders of
record as of March 3, 2000.
o A $0.17 per share cash dividend was paid to shareholders of
record as of February 12, 2001.
o A $0.18 per share cash dividend was paid to shareholders of
record as of February 22, 2002.
o A $0.20 per share cash dividend was paid to shareholders of
record as of February 7, 2003.
o A $0.20 per share cash dividend was paid to shareholders of
record as of February 20, 2004.
o A $0.22 per share cash dividend was paid to shareholders of
record as of February 25, 2005.
o A $0.24 per share cash dividend was paid to shareholders of
record as of February 27, 2006.
The Bank expects that comparable cash dividends will be paid in future years.
Under California law, the Bank may declare a cash dividend out of the Bank's net
profits up to the lesser of the Bank's retained earnings or the Bank's net
income for the last three (3) fiscal years (less any distributions made to
shareholders during such period), or, with the prior written approval of the
Commissioner, in an amount not exceeding the greatest of (i) the retained
earnings of the Bank; (ii) the net income of the Bank for its last fiscal year;
or (iii) the net income of the Bank for its current fiscal year. The payment of
any cash dividends by the Bank will depend not only upon the Bank's earnings
during a specified period, but also on the Bank meeting certain regulatory
capital requirements. See "Item 1 - Restrictions on Dividends and Other
Distributions" herein.
15
SECURITIES AUTHORIZED FOR ISSUANCE UNDER EQUITY COMPENSATION PLANS
The following table provides information as of December 31, 2005 about the
Bank's common stock that may be issued upon the exercise of options under the
Bank's 1989 Stock Option Plan or 1999 Stock Incentive Plan that were approved by
our shareholders or that may be issued upon the exercise of options granted
outside of these equity compensation plans.
Number of Securities
Remaining Available
Number of Securities for Future Issuance
to be Issued upon Weighted-average under Equity
Exercise of Exercise Price of Compensation Plans
Outstanding Options, Outstanding Options, (Excluding Securities
Warrants and Rights Warrants and Rights Reflected in Column
Plan Category (#)(a) ($)(b) (a))(#)(c)
- ---------------------------------------------------------------------------------------------------------
Equity compensation plans
Approved by shareholders 436,666(1) $14.09 240,535(2)
Equity compensation plans not
Approved by shareholders - - -
- ---------------------------------------------------------------------------------------------------------
Total 436,666(1) $14.09 240,535(2)
1) Represents options granted under the 1989 Stock Option Plan to purchase 130,916 shares of the
Bank's common stock and options granted under the 1999 Stock Incentive Plan to purchase 305,750
shares of the Bank's common stock.
2) Represents 240,535 shares reserved for issuance under the 1999 Stock Incentive Plan.
ISSUER PURCHASES OF EQUITY SECURITIES
The Bank did not purchase any shares of its common stock during the fourth
quarter of fiscal year 2005.
16
ITEM 6. SELECTED FINANCIAL DATA
The following table presents selected historical financial information,
including share and per share information. The selected financial and other data
as of and for the five years ended December 31, 2005 is derived in part from the
audited Financial Statements of the Bank presented elsewhere in this annual
report on Form 10-K. The selected historical financial data set forth below
should be read in conjunction with, and is qualified in its entirety by, the
historical financial statements of the Bank, including the related notes
included elsewhere herein.
At December 31,
---------------------------------------------------------------
(DATA IN THOUSANDS, EXCEPT PER SHARE DATA) 2005 2004 2003 2002 2001
---------- ---------- ---------- ---------- ----------
Total Assets $ 627,014 $ 496,705 $ 415,501 $ 337,388 $ 300,038
Cash & Due froms banks 24,355 24,082 20,980 19,608 13,152
Federal Funds Sold 1,700 - 31,000 9,300 25,000
Securities available-for-sale 2,428 2,494 - - -
Securities held-to-maturity 167,636 122,912 80,563 56,959 48,253
Total Loans, gross 408,950 326,879 268,620 237,507 202,926
Allowance for loan losses 7,003 5,487 4,819 4,276 3,507
Deferred loan fees 1,550 1,023 845 529 326
Investment in real estate 710 686 745 805 864
Total deposits 575,533 442,976 376,261 304,410 272,313
Federal funds purchased and securities
sold under agreements to repurchase - 8,663 6,380 4,919 3,736
Long-term debt and other borrowings 6,797 6,805 813 820 827
Total shareholders' equity 39,290 33,159 28,209 24,420 21,538
SELECTED STATEMENT OF OPERATIONS DATA: 2005 2004 2003 2002 2001
-------------------------------------- ---------- ---------- ---------- ---------- ----------
Interest income 32,269 22,055 18,112 17,592 18,537
Interest expense 9,046 3,615 2,983 4,091 7,016
Net interest income before
provision for loan losses 23,223 18,440 15,129 13,501 11,521
Provision for loan losses 1,200 1,200 1,470 1,670 1,037
Net interest income after
provision for loan losses 22,023 17,240 13,659 11,831 10,484
Noninterest income 2,711 3,070 2,927 2,866 2,133
Noninterest expense 13,276 11,337 10,261 8,737 7,711
Income before taxes 11,458 8,973 6,325 5,960 4,922
Income tax expense 4,785 3,516 2,138 2,365 2,047
Net income $ 6,673 $ 5,457 $ 4,187 $ 3,595 $ 2,875
SHARE DATA: 2005 2004 2003 2002 2001
---------- ---------- ---------- ---------- ----------
Net income per share (basic) $ 1.95 $ 1.61 $ 1.25 $ 1.10 $ 0.89
Net income per share (diluted) $ 1.83 $ 1.51 $ 1.18 $ 1.06 $ 0.86
Book Value per share (1) $ 13.47 $ 11.39 $ 9.85 $ 8.84 $ 7.68
Cash dividend per share $ 0.24 $ 0.22 $ 0.20 $ 0.18 $ 0.17
Weighted average common shares outstanding 3,421,380 3,387,864 3,339,850 3,280,283 3,245,019
Period end shares outstanding 3,435,896 3,396,134 3,352,151 3,294,291 3,259,224
1) Shareholders' equity and loan loss reserve divided by shares outstanding
17
At December 31,
---------------------------------------------------------------
KEY OPERATING RATIOS: 2005 2004 2003 2002 2001
---------- ---------- ---------- ---------- ----------
PERFORMANCE RATIOS:
Return on Average Equity (1) 18.57% 17.85% 15.92% 15.62% 14.25%
Return on Average Assets (2) 1.19% 1.19% 1.11% 1.12% 1.07%
Net interest spread (3) 3.78% 4.13% 4.17% 4.26% 3.82%
Net interest margin (4) 4.56% 4.49% 4.48% 4.69% 4.82%
Efficiency ratio (5) 51.19% 52.71% 56.83% 53.38% 56.41%
Net loans (6) to total deposits 69.57% 72.32% 69.89% 76.40% 74.40%
Dividend payout ratio (7) 12.31% 13.66% 16.00% 16.67% 19.10%
Average shareholders' equity to
average total assets 6.41% 6.64% 6.98% 7.21% 7.54%
ASSET QUALITY RATIOS:
Nonperforming and restructured loans
to total loans (8) 0.18% 0.63% 0.65% 1.84% 1.00%
Nonperforming and restructured assets
to total loans and OREO (9) 0.35% 0.84% 0.92% 2.17% 1.42%
Net charge-offs to average total loans 0.17% 0.17% 0.20% 0.22% 0.09%
Allowance for loan losses to total loans 1.72% 1.68% 1.79% 1.80% 1.73%
Allowance for loan losses to
nonperforming and restructured loans 963.27% 267.53% 276.48% 97.74% 172.59%
CAPITAL RATIOS:
Tier 1 capital to adjusted total assets 6.44% 6.66% 6.89% 7.28% 7.24%
Tier 1 capital to total risk weighted assets 8.03% 8.68% 8.81% 8.91% 9.14%
Total capital to total risk weighted assets 10.51% 11.50% 10.06% 10.14% 10.39%
1) Net income divided by average shareholders' equity.
2) Net income divided by average assets.
3) Dollar weighted average interest income yield less dollar weighted average interest expense
rate.
4) Net interest income divided by average interest-earning assets.
5) Noninterest expense as a percentage of the sum of net interest income before provision for
loan losses and noninterest income excluding securities gains and losses.
6) Total gross loans less the allowance for loan losses, deferred fees and related costs.
7) Dividends declared per share as a percentage of net income per share.
8) Nonperforming loans consist of nonaccrual loans, loans past due 90 days or more.
9) Nonperforming assets consist of nonperforming and restructured loans and other real estate
owned (OREO).
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATION
The following discussion addresses information pertaining to the financial
condition and results of operations of San Joaquin Bank and Subsidiaries (the
"Bank") that may not be otherwise apparent from a review of the consolidated
financial statements and related footnotes. It should be read in conjunction
with those statements and notes thereto appearing elsewhere in this annual
report on Form 10-K.
This annual report on Form 10-K contains forward-looking statements about San
Joaquin Bank for which it claims the protection of the safe harbor provisions
contained in the Private Securities Litigation Reform Act of 1995, including
statements with regard to descriptions of our plans or objectives for future
operations, products or services, and forecasts of our revenues, earnings or
other measures of economic performance. Forward-looking statements can be
identified by the fact that they do not relate strictly to historical or current
facts. They often include the words "believe," "expect," "anticipate," "intend,"
"plan," "estimate," or words of similar meaning, or future or conditional verbs
such as "will," "would," "should," "could," or "may."
18
Forward-looking statements, by their nature, are subject to risks and
uncertainties. A number of factors -- many of which are beyond our control --
could cause actual conditions, events or results to differ significantly from
those described in the forward-looking statements and reported results should
not be considered an indication of our future performance. Some of these risk
factors include, among others, certain credit, market, operational and liquidity
risks associated with our business and operations, changes in business and
economic conditions in California and nationally, rising interest rates,
potential acts of terrorism (which are beyond our control), volatility of rate
sensitive deposits and assets, value of real estate collateral securing many of
our loans, accounting estimates and judgments, compliance costs associated with
the company's internal control structure and procedures for financial reporting.
These risk factors are not exhaustive and additional factors that could have an
adverse effect on our business and financial performance are set forth under
"Risk Factors" in Item 1A and elsewhere in this annual report on Form 10-K.
Forward-looking statements speak only as of the date they are made. We do not
undertake to update forward-looking statements to reflect circumstances or
events that occur after the date forward-looking statements are made.
CRITICAL ACCOUNTING POLICIES
GENERAL
Our financial statements are prepared in accordance with accounting principles
generally accepted in the United States of America ("GAAP"). The financial
information contained within our statements is, to a significant extent,
financial information that is based on measures of the financial effects of
transactions and events that have already occurred. We use historical loss
factors, among other factors, in determining the inherent loss that may be
present in our loan portfolio. Actual losses could differ significantly from the
historical and other factors that we use. Estimates, assumptions and judgments
are necessary when assets and liabilities are required to be recorded at fair
value, when a valuation write-down or valuation reserve related to an asset on
our books is required due to a decline in value or when an asset or liability
needs to be recorded contingent on a future event. Other estimates that we use
are related to the expected useful lives of our depreciable assets. In addition,
GAAP itself may change from one previously acceptable method to another method.
ALLOWANCE FOR LOAN LOSSES
The allowance for loan losses is an estimate of the losses that may be sustained
in our loan portfolio. The allowance is based on two basic principles of
accounting: (1) Statement of Financial Accounting Standards ("SFAS") No. 5,
"Accounting for Contingencies," which requires that losses be accrued when they
are probable of occurring and estimable, and (2) SFAS No. 114, "Accounting by
Creditors for Impairment of a Loan," which requires that losses be accrued based
on the differences between the value of collateral, present value of future cash
flows or values that are observable in the secondary market and the loan
balance.
Our allowance for loan losses has three basic components: the formula allowance,
the specific allowance and the unallocated allowance. Each of these components
is determined based upon estimates that can and do change when the actual events
occur. The formula allowance uses historical losses as an indicator of future
losses and, as a result, could differ from the loss incurred in the future.
However, since this history is updated with the most recent loss information,
management believes the errors that might otherwise occur are mitigated. The
specific allowance uses various techniques to arrive at an estimate of the
expected loss. Historical loss information and fair market value of collateral
are used to estimate those losses. The use of these values is inherently
subjective and our actual losses could be greater or less than the estimates.
The unallocated allowance addresses losses that are attributable to various
factors including economic events, industry or geographic sectors whose impact
on the portfolio are believed to be probable, but have yet to be recognized in
either the formula or specific allowances. For further information regarding our
allowance for loan losses, see "Allowance for Loan Losses" discussion later in
this item.
STOCK BASED AWARDS
SFAS 123 was revised in December 2004 to require that, effective for periods
beginning after June 15, 2005, the Company begin using the fair market value
method for valuing and accounting for stock options. On April 14, 2005, the
Securities and Exchange Commission announced the adoption of a new rule which
delayed the implementation date for the new requirements until the beginning of
the next fiscal year (2006). The Company has decided to apply the new
19
requirements in 2006 on a prospective basis. Effective December 31, 2005, the
Board of Directors of the Bank voted to accelerate the vesting of all unvested
options to acquire the Company's common stock that were outstanding at that date
(the "Acceleration"), except that no options to non-employee directors were
affected by the Acceleration. A total of 158,870 shares subject to option were
impacted by the Acceleration. As a result of the acceleration, and based upon
estimated Black-Scholes value calculations, the Company will not be required to
recognize pretax compensation expense related to the accelerated options of
approximately $833,000. Had the Acceleration not occurred, the Company would
have had to recognize this expense over the next five years when the Company
becomes subject to the requirements of SFAS No. 123R, "Share-Based Payment," on
January 1, 2006. Under applicable accounting guidance, the company did not
record a charge related to the Acceleration. As a result of the acceleration,
certain options granted to the Company's Chairman of the Board, Bruce Maclin,
Chief Executive Officer, Bart Hill, and two other highest paid executive
officers (together the "Named Executive Officers") exceeded the $100,000 limit
established by IRS regulation ss.1.422-4. As such, the excess options granted to
the Named Executive Officers must be treated as non-statutory options. All other
terms and conditions of the accelerated options remained unchanged as a result
of the Acceleration. Based upon information available to Management at the date
of this report, management expects that the effect of implementation will be to
increase future annual compensation expense in 2006 by approximately $122,000
and decrease future annual net income by approximately $104,000 after tax.
OVERVIEW
At December 31, 2005, we had total consolidated assets of $627,014,000 (an
increase of 26.23% compared to the $496,705,000 in assets at the end of 2004),
total consolidated deposits of $575,533,000 (an increase of 29.92% over the 2004
level of $442,976,000), total consolidated net loans of $400,397,000 (an
increase 24.98% compared to the $320,369,000 in net loans at year end 2004), and
consolidated shareholders' equity of $39,290,000 (an increase of 18.49% compared
to $33,159,000 at the end of 2004).
We reported record annual net income of $6,673,000 for the year ended December
31, 2005. Net income increased $1,216,000, or 22.28%, over the $5,457,000
reported in 2004, which was an increase of $1,270,000, or 30.33%, from the
$4,187,000 reported in 2003. Diluted earnings per share for the year ended
December 31, 2005 increased 21.19% to $1.83 compared to the $1.51 for 2004,
which was an increase of 27.97% from $1.18 in 2003. For the year ended December
31, 2005, the annualized return on average equity (ROAE) and return on average
assets (ROAA) were 18.57% and 1.19%, respectively, as compared to 17.85% and
1.19%, respectively, for the same period in 2004. We have experienced steady
growth in both loan and deposit volumes while, at the same time, we have
continued to maintain control over our overhead and other fixed expenses, which
has resulted in our record earnings performance. Our growth in deposits stems
from continued local advertising and business promotion activities. There have
been no special promotions or other deposit campaigns utilized during 2005 to
attract new deposits, nor have we relied upon brokered deposits of any kind.
During the three year period from December 31, 2002 to December 31, 2005, the
Bank's total assets, total loans, and total deposits have grown by 85.84%,
72.18%, and 89.07%, respectively.
We ended 2005 with a Tier 1 capital ratio of 6.44%, a Tier 1 capital to risk
weighted asset ratio of 8.03%, and a total capital to risk weighted asset ratio
of 10.51%. At the end of 2004, these ratios were 6.66%, 8.68% and 11.50%,
respectively. We met all the criteria under current regulatory guidelines for a
"well capitalized" bank as of December 31, 2005.
20
The following table provides a summary of the major elements of income and
expense for the three years ended December 31:
Increase (Decrease) Increase (Decrease)
(DATA IN THOUSANDS, EXCEPT PER SHARE DATA) 2005 Amount % Change 2004 Amount % Change 2003
----------------------------- --------------------------- --------
INTEREST INCOME
Loans (including fees) $26,212 $ 6,740 34.61% $19,472 $ 3,449 21.53% $16,023
Investment securities 5,337 3,005 128.86% 2,332 552 31.01% 1,780
Federal funds sold and other
interest-bearing balances 720 469 186.85% 251 (58) -18.77% 309
-------- -------- -------- -------- ------- ------- -------
Total Interest Income 32,269 10,214 46.31% 22,055 3,943 21.77% 18,112
-------- -------- -------- -------- ------- ------- -------
INTEREST EXPENSE
Deposits
8,631 5,355 163.46% 3,276 399 13.87% 2,877
Fed funds purchased and securities
sold under agreements to repurchase 37 (19) -33.93% 56 1 1.82% 55
Long term debt and other borrowings 378 95 33.57% 283 232 454.90% 51
-------- -------- -------- -------- ------- ------- -------
Total Interest Expense 9,046 5,431 150.24% 3,615 632 21.19% 2,983
-------- -------- -------- -------- ------- ------- -------
Net Interest Income 23,223 4,783 25.94% 18,440 3,311 21.89% 15,129
Provision for loan losses 1,200 - 0.00% 1,200 (270) -18.37% 1,470
-------- -------- -------- -------- ------- ------- -------
Net Interest Income After
Loan Loss Provision 22,023 4,783 27.74% 17,240 3,581 26.22% 13,659
-------- -------- -------- -------- ------- ------- -------
NONINTEREST INCOME
Service charges and fees on deposits 887 (97) -9.86% 984 (155) -13.61% 1,139
Other service charges and fees 1,151 137 13.51% 1,014 94 10.22% 920
Net gain on sale of fixed assets 11 (32) -74.42% 43 43 -
Other 662 (367) -35.67% 1,029 161 18.55% 868
-------- -------- -------- -------- ------- ------- -------
Total Noninterest Income 2,711 (359) -11.69% 3,070 143 4.89% 2,927
-------- -------- -------- -------- ------- ------- -------
NONINTEREST EXPENSE
Salaries and employee benefits 7,815 1,017 14.96% 6,798 1,300 23.64% 5,498
Occupancy 895 387 76.18% 508 (61) -10.72% 569
Fumiture and equipment 1,025 263 34.51% 762 98 14.76% 664
Other 3,541 272 8.32% 3,269 (261) -7.39% 3,530
-------- -------- -------- -------- ------- ------- -------
Total Noninterest Expense 13,276 1,939 17.10% 11,337 1,076 10.49% 10,261
-------- -------- -------- -------- ------- ------- -------
Income Before Taxes
11,458 2,485 27.69% 8,973 2,648 41.87% 6,325
Income Taxes 4,785 1,269 36.09% 3,516 1,378 64.45% 2,138
-------- -------- -------- -------- ------- ------- -------
NET INCOME $ 6,673 $ 1,216 22.28% $ 5,457 $1,270 30.33% $ 4,187
======== ======== ======== ======== ======= ======= =======
Basic Earnings per Share $ 1.95 $ 0.34 21.10% $ 1.61 $ 0.36 28.85% $ 1.25
======== ======== ======== ======== ======= ======= =======
Diluted Earnings per Share $ 1.83 $ 0.31 20.81% $ 1.51 $ 0.33 28.25% $ 1.18
======== ======== ======== ======== ======= ======= =======
NET INTEREST INCOME
Net interest income, the difference between interest earned on loans and
investments and interest paid on deposits and other borrowings, is the principal
component of our earnings. The following tables provide a summary of the
components of net interest income and the changes within the components for the
periods indicated. The second and third tables set forth a summary of the
changes in interest income and interest expense due to changes in average asset
and liability balances (volume) and changes in average interest rates (rate) for
the periods indicated.
21
DISTRIBUTION OF ASSETS, LIABILITIES & SHAREHOLDERS' EQUITY, RATES & INTEREST
MARGIN
Twelve Months Ended December 31
(DOLLARS IN THOUSANDS) 2005 2004 2003
------------------------------ ----------------------------- -------------------------------
Avg Avg Avg Avg Avg Avg
Balance Interest Yield Balance Interest Yield Balance Interest Yield
------------------------------ ----------------------------- -------------------------------
ASSETS
Earning assets:
Loans (1)(2)(3) $ 328,132 $ 26,212 7.99% $ 279,812 $ 19,472 6.96% $ 236,927 $ 16,023 6.76%
Taxable investments 156,451 5,268 3.37% 110,109 2,293 2.08% 69,212 1,740 2.51%
Tax-exempt investments 1,183 69 5.83% 1,005 39 3.88% 1,015 40 3.94%
Fed funds sold & int-bearing 23,258 720 3.10% 19,538 251 1.28% 30,510 309 1.01%
------------------------------ ----------------------------- -------------------------------
Total earning assets 509,024 32,269 6.34% 410,464 22,055 5.37% 337,664 18,112 5.36%
------------------------------ ----------------------------- -------------------------------
Cash & due from banks 26,347 23,770 20,374
Other assets 25,571 26,026 18,935
--------- --------- ---------
Total Assets $ 560,942 $ 460,260 $ 376,973
========= ========= =========
LIABILITIES
Interest-bearing liabilities:
NOW & money market $213,249 $5,471 2.57% 168,403 1,522 0.90% $ 154,405 1,270 0.82%
Savings 106,552 2,602 2.44% 86,972 1,377 1.58% 63,816 1,135 1.78%
Time deposits 24,171 558 2.31% 24,268 377 1.55% 25,582 472 1.85%
Other borrowings 8,893 415 4.67% 11,215 339 3.02% 6,451 106 1.64%
------------------------------ ----------------------------- -------------------------------
Total interest-bearing
liabilities 352,865 9,046 2.56% 290,858 3,615 1.24% 250,254 2,983 1.19%
------------------------------ ----------------------------- -------------------------------
Noninterest-bearing deposits 166,573 131,935 97,073
Other liabilities 5,570 6,888 3,343
--------- --------- ---------
Total Liabilities 525,008 429,681 350,670
SHAREHOLDERS' EQUITY
Shareholders' equity 35,934 30,579 26,303
--------- --------- ---------
Total Liabilities &
Shareholders' Equity $ 560,942 $ 460,260 $ 376,973
========= ========= =========
Net Interest Income &
Net Interest Margin (4) $ 23,223 4.56% $ 18,440 4.49% $ 15,129 4.48%
================ ================= ================
1) Loan interest income includes fee income of $1,907,000 $1,536,000, and $895,000 for the years ended December 31, 2005,
2004, and 2003, respectively.
2) Includes the average allowance for loan losses of $6,026,000, $5,524,000, and $5,255,000 and average deferred loan
fees of $1,315,000, $934,000, and $804,000 for the years ended December 31, 2005, 2004, and 2003, respectively.
3) Includes nonperforming and restructured loans of $727,000, $2,051,000, and $1,743,000 for the years ended December 31,
2005, 2004, and 2003, respectively.
4) Net interest margin is computed by dividing net interest income by the total average earning assets.
22
SUMMARY OF CHANGES IN INTEREST INCOME AND EXPENSE
- --------------------------------------------------------------------------------
Twelve Months Ended December 31
(DOLLARS IN THOUSUNDS) 2005 over 2004
- --------------------------------------------------------------------------------
Volume RATE Net Change
- --------------------------------------------------------------------------------
Earning Assets:
Net loans (1)(2) $ 3,363 $ 3,377 $ 6,740
Taxable investments 965 2,010 2,975
Tax-exempt investments (3) 7 23 30
Federal funds sold & other
interest-bearing balances 48 421 469
- --------------------------------------------------------------------------------
Total 4,383 5,831 10,214
- --------------------------------------------------------------------------------
Interest-Bearing Liabilities:
NOW & money market accounts 405 3,544 3,949
Savings deposits 310 915 1,225
Time deposits (2) 183 181
Other borrowings (70) 146 76
- --------------------------------------------------------------------------------
Total 643 4,788 5,431
- --------------------------------------------------------------------------------
Interest Differential $ 3,740 $ 1,043 $ 4,783
================================================================================
- --------------------------------------------------------------------------------
Twelve Months Ended December 31
2004 over 2003
- --------------------------------------------------------------------------------
Volume Rate Net Change
- --------------------------------------------------------------------------------
Earning Assets:
Net loans (1)(2) $ 2,900 $ 549 $ 3,449
Taxable investments 1,028 (475) 553
Tax-exempt investments (3) 0 (1) (1)
Federal funds sold & other
interest-bearing balances (111) 53 (58)
- --------------------------------------------------------------------------------
Total 3,817 126 3,943
- --------------------------------------------------------------------------------
Interest-Bearing Liabilities:
NOW & money market accounts 115 137 252
- --------------------------------------------------------------------------------
Savings deposits 412 (170) 242
- --------------------------------------------------------------------------------
Time deposits (24) (71) (95)
- --------------------------------------------------------------------------------
Other borrowings 78 155 233
- --------------------------------------------------------------------------------
Total 581 51 632
- --------------------------------------------------------------------------------
Interest Differential $ 3,236 $ 75 $ 3,311
================================================================================
1) Loan interest income includes fee income of $1,907,000, $1,536,000, and
$895,000 for the years ended December 31, 2005, 2004, and 2003,
respectively.
2) The average balance of non-performing and restructured loans is not
significant as a percentage of total loans and, as such, has been
included in net loans.
3) The amount of tax-exempt securities that we hold is minimal and the
amount derived from these securities is not significant, therefore there
have been no adjustments made to reflect interest earned on these
securities on a tax-equivalent basis. The effective federal statutory
tax rate was 41.76%, 39.18% and 33.80% for 2005, 2004, and 2003,
respectively.
23
Net interest income, before provision for loan loss, for the year ended December
31, 2005 was $23,223,000, an increase of $4,783,000 (25.94%) compared to
$18,440,000 for the year ended December 31, 2004, which increased $3,311,000
(21.89%) over $15,129,000 for the year ended December 31, 2003.
The net interest margin for the year ended December 31, 2005 was 4.56% compared
to 4.49% for the year ended December 31, 2004, and 4.48% for the year ended
December 31, 2003. The net interest margin in 2005 reflects the effect of the 25
basis point increases in the federal funds rate that occurred in the months of
February, March, May, June, August, September, November and December 2005,
respectively. The net interest margin for 2004 reflects the effect of the 25
basis point increases in interest rates that occurred in each of the months of
June, August, September, November and December 2004. The net interest margin in
the year of 2003 reflects the effect of the 25 basis point decrease in interest
rates that occurred in June 2003. If interest rates remain at current levels, we
would expect the net interest margin to remain about the same during the first
quarter of 2006. In a rising rate environment, the net interest margin is
expected to improve. Conversely, in a declining rate environment the net
interest margin would be expected to decline.
2005 COMPARED TO 2004
Total interest income for the year ended December 31, 2005 was $32,269,000
compared to $22,055,000 for the same period of 2004, an increase of $10,214,000,
or 46.31%. Average loans increased $48,320,000 (17.27%) from $279,812,000 at
December 31, 2004 to $328,132,000 at December 31, 2005, increasing interest
income by $3,363,000 for the year ended December 31, 2005. During that same
year-over-year period, the average yield on loans increased by 103 basis points,
resulting in an increase in interest income on loans of $3,377,000. The combined
effect was an increase of $6,740,000 in interest income earned on average loans
during 2005 compared to 2004. Average taxable investment securities increased
from $110,109,000 at December 31, 2004 to $156,451,000 at December 31, 2005, an
increase of $46,342,000 (42.09%). This increase in taxable investment securities
volume caused interest income to increase by $965,000 during the year of 2005
compared to the year of 2004. The rates of return earned on taxable investment
securities increased by 129 basis points during this year-over-year period,
increasing interest income on taxable investment securities by $2,010,000 during
the year ended December 31, 2005 compared to the year ended December 31, 2004.
These two factors resulted in an increase in interest earned on taxable
investment securities of $2,975,000 in 2005 versus the same period of 2004.
Average federal funds sold and other interest bearing balances increased by
$3,720,000 (19.04%) to $23,258,000 at December 31, 2005 compared to the same
period in 2004. This volume increase resulted in an increase in interest income
of $48,000 on the sale of federal funds during 2005 compared to 2004, while the
increase of 182 basis points in the average yield on federal funds sold caused
an increase in interest income of $421,000 during this time period. The net
result was an increase of $469,000 in interest income on federal funds sold
during 2005 compared to 2005.
Interest expense for the year ended December 31, 2005 was $9,046,000 compared to
$3,615,000 for the same period of 2004, an increase of $5,431,000 (150.24%).
Average NOW and money market deposits increased from $168,403,000 for the year
ended December 31, 2004 to $213,249,000 in 2005, an increase of $44,846,000
(26.63%). This increased volume of interest-bearing deposits resulted in an
increase in interest expense of $405,000 during 2005 compared to 2004, while the
167 basis point increase in average rates during the same period caused interest
expense to increase by $3,544,000. The result was an increase in interest
expense on NOW and money market accounts of $3,949,000 during the year ended
December 31, 2005 compared to 2004. Average savings deposits increased during
2005 to $106,552,000, compared to $86,972,000 in 2004, an increase of
$19,580,000 (22.51%). Because of this increase in volume, interest expense
increased $310,000. During the same period, interest rates increased by 86 basis
points, resulting in an increase of interest expense of $915,000 in 2005
compared to 2004. The net result was an increase of $1,225,000 in interest
expense on average savings deposits during 2005 versus 2004. Time deposits
during the year ended December 31, 2005 decreased to $24,171,000 compared to
$24,268,000 during the year ended December 31, 2004, a reduction of $97,000
(0.40%). This decline in average time deposits caused interest expense to drop
by $2,000 in 2005 compared to 2004, while the 76 basis point increase in
interest rates on time deposits caused interest expense to increase by $183,000
during this same time period. These two factors resulted in an increase in
interest expense on time deposits of $181,000 in 2005 compared to 2004. Average
other borrowings, consisting primarily of securities sold under agreements to
repurchase and a six million dollar subordinated note, decreased during the year
ended December 31, 2005 to $8,893,000 compared to $11,215,000 during the year
ended December 31, 2004, a decrease of $2,322,000 (20.70%). This decrease in
volume caused interest expense to decrease by $70,000 during 2005 compared to
2004, while a 165 basis point increase in interest rates paid on other
borrowings caused interest expense to increase by $146,000 during this same
year-over-year time period. The net result was an increase of $76,000 in
interest expense on other borrowings during 2005 compared to 2004.
24
2004 COMPARED TO 2003
Total interest income for the year ended December 31, 2004 was $22,055,000
compared to $18,112,000 for the same period of 2003, an increase of $3,943,000,
or 21.77%. Average loans increased $42,885,000 (18.10%) from $236,927,000 at
December 31, 2003 to $279,812,000 at December 31, 2004, increasing interest
income by $2,900,000 for the year ended December 31, 2004, and the average yield
on loans during that same year-over-year period increased by 20 basis points,
thereby increasing interest income on loans by $549,000. The combined effect was
an increase of $3,449,000 in interest income earned on average loans during 2004
compared to 2003. Average taxable investment securities increased from
$69,212,000 at December 31, 2003 to $110,212,000 at December 31, 2004, an
increase of $40,897,000 (59.09%). This increase in taxable investment securities
volume caused interest income to increase by $1,028,000 during the year of 2004
compared to the year of 2003. The rates of return earned on taxable investment
securities declined by 43 basis points during this year-over-year period,
reducing interest income on taxable investment securities by $475,000 during the
year ended December 31, 2004 compared to the year ended December 31, 2003. These
two factors resulted in a net increase in interest earned on taxable investment
securities of $553,000 in 2004 versus the same period of 2003. Average federal
funds sold decreased by $10,972,000 (35.96%) to $19,538,000 at December 31, 2004
compared to the same period in 2003. This volume decrease resulted in a decrease
in interest income of $111,000 on the sale of federal funds during 2004 compared
to 2003, while the increase of 27 basis points in the average yield on federal
funds sold caused an increase in interest income of $53,000 during this time
period. The net result was a decrease of $58,000 to interest income on federal
funds sold during 2004 compared to 2003.
Interest expense for the year ended December 31, 2004 was $3,615,000 compared to
$2,983,000 for the same period of 2003, an increase of $632,000, or 21.19%.
Average interest-bearing demand deposits increased from $154,405,000 for the
year ended December 31, 2003 to $168,403,000 in 2004, an increase of $13,998,000
(9.07%). This increased volume of interest-bearing deposits resulted in an
increase in interest expense of $115,000 during 2004 compared to 2003, while the
8 basis point increase in average rates during the same period caused interest
expense to increase by $137,000. The result was an increase in interest expense
on interest-bearing demand deposits of $252,000 during the year ended December
31, 2004 compared to 2003. Average savings deposits increased during 2004 to
$86,972,000, compared to $63,816,000 in 2003, an increase of $23,156,000
(36.29%). Because of this increase in volume, interest expense increased
$412,000, however, interest rates decreased by 20 basis points, resulting in the
decline of interest expense by $170,000 in 2004 compared to 2003. The net result
was an increase of $242,000 in interest expense on average savings deposits
during 2004 versus 2003. Time deposits during the year ended December 31, 2004
decreased to $24,268,000 compared to $25,582,000 during the year ended December
31, 2003, a reduction of $1,314,000 (5.14%). This decline in average time
deposits caused interest expense to drop by $24,000 in 2004 compared to 2003,
and the 30 basis point decline in interest rates on time deposits caused
interest expense to decrease by $71,000 during this same time period. These two
factors resulted in the reduction of interest expense on time deposits by
$95,000 in 2004 compared to 2003. Average other borrowings, consisting primarily
of securities sold under agreements to repurchase and a six million dollar
subordinated note, increased during the year ended December 31, 2004 to
$11,215,000 compared to $6,451,000 during the year ended December 31, 2003, an
increase of $4,764,000 (73.85%). This increase in volume caused interest expense
to increase by $78,000 during 2004 compared to 2003, while a 138 basis point
increase in interest rates paid on other borrowings caused interest expense to
increase by $155,000 during this same year-over-year time period. The net result
was an increase of $233,000 in interest expense on other borrowings during 2004
compared to 2003.
PROVISION FOR LOAN LOSSES
We made a $1,200,000 addition to the allowance for loan losses in the year ended
December 31, 2005 compared to a $1,200,000 addition in the year ended December
31, 2004, which was a decrease of 18.37% compared to the addition of $1,470,000
to the allowance for loan losses in the year ended December 31, 2003. The
provision for loan losses is based upon in-depth analysis, in which Management
considers many factors, including, the rate of loan growth, changes in the level
of past due, nonperforming and classified assets, changing portfolio mix,
overall credit loss experience, recommendations of regulatory authorities, and
prevailing local and national economic conditions to establish the required
level of the allowance for loan losses. Based upon information known to
Management at the date of this report, Management believes that these additions
to the total allowance for loan losses allow the Company to maintain an adequate
reserve to absorb losses inherent in the loan portfolio. The ratios of the
allowance for loan losses to nonperforming and restructured loans were 963.27%
at December 31, 2005, 267.53% at December 31, 2004, and 276.48% at December 31,
2003. The ratio of the allowance for loan losses to total loans was 1.72% at
December 31, 2005, 1.68% at December 31, 2004, and 1.79% at December 31, 2003.
25
NONINTEREST INCOME
COMPONENTS OF NONINTEREST INCOME
(DOLLARS IN THOUSANDS) 2005 2004
- ---------------------------------------------------------------------------
Service charges on deposit accounts $ 887 $ 984
Other service charges and fees 1,151 1,014
Net gain on sale of premises and equipment 11 43
Other 662 1,029
- ---------------------------------------------------------------------------
Total Noninterest Income $ 2,711 $ 3,070
===========================================================================
Noninterest income consists primarily of service charges on deposit accounts and
fees for miscellaneous services. Noninterest income totaled $2,711,000 for the
year ended December 31, 2005, a decrease of $359,000 (11.69%) from $3,070,000
for the year ended December 31, 2004, which increased $143,000 (4.89%) from
$2,927,000 in 2003. Service charges on deposit accounts decreased $97,000 during
the year of 2005 compared to the year of 2004. During the year of 2004, service
charges decreased $155,000 compared to 2003. The decrease in service charges and
fees over the two years was the result of customers maintaining higher balances
in their accounts thereby offsetting service charges and fees that would be
charged against those accounts. Other service charges and fees increased
$137,000 during the year of 2005 compared to the year of 2004. During the year
of 2004, other service charges and fees increased $94,000 compared to 2003.
Other noninterest and miscellaneous income were down $367,000 during the year of
2005 compared to the year of 2004, which was up $161,000 compared to 2003. In
2004, the Bank was reimbursed by the Superfund Redevelopment Program for costs
incurred in association with the clean up of soil contamination of real property
that was held as collateral by the bank, which resulted in higher other
noninterest income in the first nine months of 2004, as compared to the same
period in 2005. The Bank has no significant exposure to environmental cleanup
costs related to this property.
NONINTEREST EXPENSE
COMPONENTS OF NONINTEREST EXPENSE
(DOLLARS IN THOUSANDS) 2005 2004 2003
- --------------------------------------------------------------------------------
Salaries and employee benefits $ 7,815 $ 6,798 $ 5,498
Occupancy 895 508 569
Funiture and equipment 1,025 762 664
Promotion 667 473 518
Travel, meals and lodging 165 192 169
Professional services 934 719 810
Office supplies and expenses 665 528 462
Regulatory assessments 113 90 116
Insurance 317 329 246
Director related expenses 189 253 268
Other 491 685 941
- --------------------------------------------------------------------------------
Total $ 13,276 $ 11,337 $ 10,261
================================================================================
Noninterest expense was $13,276,000 in 2005, an increase of $1,939,000, or
17.10% from $11,337,000 in 2004, which increased $1,076,000, or 10.49%, from
$10,261,000 in 2003. Salary and employee benefits increased $1,017,000 (14.96%)
in 2005 due to normal salary increases, increases in group medical insurance
premiums and workers' compensation premiums, and the addition of new staff as
compared to the prior year. In 2004, salary and employee benefits increased
$1,300,000 (23.64%) due to normal salary increases, increases in group medical
insurance premiums and workers' compensation premiums as compared to the prior
year, and as a result of hiring additional personnel for our Rosedale branch.
While the Rosedale Branch did not officially open until August 25, 2004, some
new employees were hired in July 2004 for training purposes, and others were not
hired until August. Consequently, a full year's expense of the new personnel at
Rosedale was not reflected until 2005. Occupancy and fixed asset expense
increased by $650,000 (51.18%) during the year of 2005 compared to the year of
2004, which decreased $37,000 (3.00%) compared to the year of 2003. These
variances were due to normal fluctuations in janitorial expense, utilities
expenses and other occupancy-related expenses, as well as additional occupancy
26
expenses for the new Rosedale branch. All other expenses for the year ended
December 31, 2005 totaled $3,541,000, an increase of $272,000 (8.32%) compared
to $3,269,000 for the year of 2004, which was a decrease of $261,000 (7.39%)
compared to 2003. The increases in other noninterest expense over the last three
years was primarily due to increases in advertising and marketing expense, and
increases in professional services which includes audit fees and legal fees. The
efficiency ratio for the year ended December 31, 2005 was 51.19% compared to
52.71% for the year ended December 31, 2004 and 56.83% for the year ended
December 31, 2003.
PROVISION FOR INCOME TAXES
During the year of 2005, we recorded income tax expense of $4,785,000 compared
to $3,516,000 during the year of 2004, and $2,138,000 during the year of 2003.
The effective tax rate for the year ended December 31, 2005 was 41.76% compared
to 39.18% for same period in 2004 and 33.80% in 2003. The effective tax rate was
lower in 2003 due to a deferred tax adjustment being made. A deferred tax
liability is created as a result of timing differences when certain income and
expense items are recognized for income tax reporting purposes. The deferred tax
adjustment was based upon a review by our external auditors which determined
that we had previously over-accrued our deferred tax liability. Also, in 2003,
the Bank received a federal low income housing tax credit as a result of
operations of Farmersville Village Grove Associates, a California limited
partnership in which the Bank is the 95% limited Partner and Kern Island
Company, a subsidiary of the Bank, is the 5% general partner. This tax credit
was fully utilized in 2003, resulting in a lower effective tax rate in 2003
compared to 2004 and 2005.
SECURITIES
The Bank maintains an investment portfolio consisting of U.S. Treasury, U.S.
Government agencies and corporations, and other securities. Investment
securities are held in safekeeping by an independent custodian. The objective of
our investment portfolio is to maintain a prudent yield and provide collateral
to pledge for deposits of public funds and other borrowing facilities. For more
information on investment securities, see notes 1 and 2 to the consolidated
financial statements. The following table shows the distribution of the Bank's
investment portfolio:
DISTRIBUTION OF SECURITIES IN THE BANK'S INVESTMENT PORTFOLIO
(DOLLARS IN THOUSANDS) At December 31
-----------------------------------
Held to Maturity 2005 2004 2003
---- ---- ----
U.S. Treasury securities $ 29,016 $ 51,576 $ 15,015
Securities of U.S. government
agencies and corporations 74,587 42,560 64,504
Other securities 64,033 28,776 1,044
---------- --------- ---------
Total $ 167,636 $ 122,912 $ 80,563
========== ========= =========
Fair Value $ 164,959 $ 122,360 $ 80,685
========== ========= =========
(DOLLARS IN THOUSANDS) At December 31
-----------------------------------
Available for Sale (carrying amount) 2005 2004 2003
---- ---- ----
U.S. Treasury securities $ - $ - $ -
Securities of U.S. government agencies
and corporations - - -
Other securities 2,428 2,494 -
--------- --------- --------
Total $ 2,428 $ 2,494 $ -
========= ========= ========
27
MATURITY DISTRIBUTION AND AVERAGE YIELD ON SECURITIES
(DOLLARS IN THOUSANDS) After One After Five
Within One but Within but Within After Ten
Held-to-Maturity Year Five Years Ten Years Years Other
------------ ------------ ------------ --------- -------
U.S. Treasury securities $ 21,999 $ 7,017 $ - $ - $ -
Weighted average yield 2.03% 2.47%
Securities of U.S. government
agencies and corporations 4,006 64,856 5,631 94 -
Weighted average yield 1.80% 4.18% 4.90% 5.32%
Other securities - 1,473 3,534 59,026 -
Weighted average yield 3.57% 3.87% 4.30%
--------- --------- -------- --------- -------
Total $ 26,005 $ 73,346 $ 9,165 $ 59,120 $ -
========= ========= ======== ========== =======
Weighted average yield 1.99% 4.00% 4.50% 4.31%
========= ========= ======== ========== =======
(DOLLARS IN THOUSANDS) After One After Five
Within One but Within but Within After Ten
Available-for-Sale Year Five Years Ten Years Years Other
------------ ------------ ------------ --------- -------
U.S. Treasury securities $ - $ - $ - $ - $ -
Weighted average yield
Securities of U.S.
government agencies and
corporations - - - - -
Weighted average yield
Other securities 2,428
Weighted average yield - - - - 4.73%
-------------- --------------- --------------- ---------------- ---------------
Total $ - $ - $ - $ - $ 2,428
============== =============== =============== ================ ==============
Weighted average yield 4.73%
============== =============== =============== ================ ==============
At December 31, 2005, held-to-maturity securities had a fair value of
$164,959,000 with an amortized cost basis of $167,636,000. On an amortized cost
basis, held-to-maturity investments increased $44,724,000 from the December 31,
2004 balance of $122,912,000, which had increased $42,349,000 from the December
31, 2003 balance of $80,563,000. The change in held-to-maturity investments was
primarily due to maturities of U.S. Treasury securities (down $22,560,000),
purchases of U.S. Government Agency securities (up $32,027,000) and purchases of
other securities, which consist primarily of mortgage backed securities (up
$35,257,000) in 2005. The unrealized pretax loss on held-to-maturity securities
at December 31, 2005 was $2,677,000, as compared to a loss of $552,000 at
December 31, 2004, an increase of $2,125,000. This increase in the unrealized
holding loss on held-to-maturity securities was caused by the general increase
in short-term interest rates. As a general rule, the market price of fixed rate
investment securities will decline as interest rates rise, which is precisely
what happened. Inasmuch as these investment securities are classified as
held-to-maturity, we expect to hold all such securities until they reach their
respective maturity dates and, therefore, we do not anticipate recognizing any
losses on these securities. The Bank had $2,428,000 in securities classified as
available-for-sale at December 31, 2005. Available-for-sale securities are held
at fair value which included an unrealized loss of $72,000.
28
LOANS
The following table summarizes the composition of the Bank's loan portfolio at
December 31 for the years indicated:
LOAN PORTFOLIO DISTRIBUTION
2005 2004 2003 2002 2001
(DOLLARS IN THOUSANDS) --------- ---------- ---------- --------- ----------
Commercial and industrial loans $ 55,895 $ 61,593 $ 67,855 $ 63,247 $ 59,021
Real estate loans - - - - -
Construction and land development 100,115 78,903 50,003 24,445 23,084
Secured by residential properties 13,468 11,194 7,198 9,181 7,202
Secured by farmland 47,665 44,757 33,873 37,358 3,261
Secured by commercial properties 171,873 114,143 91,724 87,370 67,082
Installment loans 1,719 2,018 3,479 3,406 2,478
Loans to finance agricultural production 18,211 13,549 12,970 12,433 40,166
All other loans 4 722 1,518 67 632
--------- ---------- --------- --------- ----------
408,950 326,879 268,620 237,507 202,926
Less: Allowance for possible loan losses 7,003 5,487 4,819 4,276 3,507
Less: Deferred loan fees 1,550 1,023 845 529 326
--------- ---------- --------- --------- ----------
Net Loans $400,397 $320,369 $262,956 $232,702 $199,093
========= ========== ========= ========= ==========
[OBJECT OMITTED]][GRAPHIC OMITTED]
The ending balance for net loans at December 31, 2004 was $400,397,000, an
increase of $80,028,000 (24.98%) from the year-end 2004 balance of $320,369,000,
which was an increase of $57,413,000 (21.83%) from the 2003 year-end balance of
$262,956,000.
For 2005 compared to 2004, the most significant percentage changes in the Bank's
loan portfolio were as follows: commercial and industrial loans have decreased
$5,698,000 from $61,593,000 at December 31, 2004 to $55,895,000 at December 31,
2005 (9.25%); construction loans have increased $21,212,000 from $78,903,000 at
December 31, 2004 to $100,115,000 at December 31, 2005 (26.88%); real estate
loans secured by residential properties have increased $2,274,000 from
$11,194,000 at December 31, 2004 to $13,468,000 at December 31, 2005 (20.31%);
loans secured by farmland have increased $2,908,000 from $44,757,000 at December
31, 2004 to $47,665,000 at December 31, 2005 (6.50%); real estate loans secured
by commercial properties have increased $57,730,000 from $114,143,000 at
December 31, 2004 to $171,873,000 at December 31, 2005 (50.58%); and, loans to
finance agricultural production increased $4,662,000 from $13,549,000 at
December 31, 2004 to $18,211,000 at December 31, 2005 (34.41%). All other
categories of loans have remained fairly stable compared to the December 31,
2004 balances.
For 2004 compared to 2003, the most significant percentage changes in the Bank's
loan portfolio were as follows: commercial and industrial loans have decreased
$6,262,000 from $67,855,000 at December 31, 2003 to $61,593,000 at December 31,
2004 (9.23%); construction loans have increased $28,900,000 from $50,003,000 at
December 31, 2003 to $78,903,000 at December 31, 2004 (57.80%); real estate
loans secured by residential properties have increased $3,996,000 from
$7,198,000 at December 31, 2003 to $11,194,000 at December 31, 2004 (55.52%);
loans secured by farmland have increased $10,884,000 from $33,873,000 at
December 31, 2003 to $44,757,000 at December 31, 2004 (32.13%); and, real estate
loans secured by commercial and professional office properties have increased
$22,419,000 from $91,724,000 at December 31, 2003 to $114,143,000 at December
31, 2004 (24.44%). All other categories of loans have remained fairly stable
compared to the December 31, 2003 balances.
Real estate loans have continued to be a major factor in the ongoing growth of
the loan portfolio and Bank earnings, and current economic projections
considered by management for Kern County and the greater Bakersfield area
indicate that loan demand for Kern County and the greater Bakersfield area will
remain fairly constant over the next few quarters. The Bank had $333,121,000 in
real estate loans at December 31, 2005 as compared to $248,997,000 at December
31, 2004. For more information on loans, see Note 3 to the consolidated
financial statements. Rising interest rates could have a negative impact on the
size of the Bank's construction loan portfolio as increased rates typically
restrain construction activity in Kern County.
29
The following table summarizes the maturity distribution and interest rate
sensitivity of commercial, real estate construction loans, and agriculture loans
at December 31, 2005:
LOAN MATURITY DISTRIBUTION
(dollars in thousands) Within One One to Five After Five
Year Years Years
- --------------------------------------------------------------------------------
Real estate construction loans $ 87,475 $ 11,260 $ 1,380
Loans to finance agricultural production 11,636 6,301 274
Commercial loans 29,874 21,545 4,476
- --------------------------------------------------------------------------------
Total $ 128,985 $ 39,106 $ 6,130
- --------------------------------------------------------------------------------
LOANS DUE AFTER ONE YEAR WITH PREDETERMINED INTEREST RATES AND WITH FLOATING OR
ADJUSTABLE RATES
(dollars in thousands)
- ----------------------------------------------------------
Real estate construction loans
with fixed interest rates $ -
with variable interest rates 12,640
Loans to finance agriculture production
with fixed interest rates -
with variable interest rates 6,575
Commercial and industrial loans
with fixed interest rates -
with variable interest rates 26,021
--------------
Total Fixed Rate Loans $ -
==============
Total Variable Rate Loans $ 45,236
==============
Total $ 45,236
==============
COMMITMENTS AND LETTERS OF CREDIT
Loan commitments are agreements to lend to a customer provided that there is no
violation of any condition established in the agreement. Commitments generally
have fixed expiration dates or other termination clauses. Since many of the
commitments are expected to expire without being drawn upon, the total
commitment amounts do not necessarily represent future funding requirements.
Loan commitments are subject to the Bank's normal credit policies and collateral
requirements. Standby letters of credit commit the Bank to make payments on
behalf of customers when certain specified future events occur. Standby letters
of credit are subject to the Bank's normal credit policies and collateral
requirements. Commercial lines of credit are lines of credit that are available
to customers but have not been funded. The following table sets forth the Bank's
commitments and letters of credit at the dates indicated:
(dollars in thousands) 2005 2004 2003 2002 2001
------------ ------------ ------------ ------------ ------------
Commitments to extend credit $224,027 $160,185 $146,654 $ 91,920 $ 59,867
Standby letters of credit $ 8,676 $ 7,129 $ 4,922 $ 4,889 $ 180
CREDIT QUALITY
We assess and manage credit risk on an ongoing basis through a formal credit
review program and approval policies, internal monitoring and formal lending
policies. We believe our ability to identify and assess risk and return
characteristics of our loan portfolio are critical for profitability and growth.
We emphasize credit quality in the loan approval process, active credit
administration and regular monitoring. With this in mind, we have designed and
implemented a comprehensive loan review and grading system that functions to
monitor and assess the credit risk inherent in the loan portfolio.
30
Ultimately, the credit quality of our loans may be influenced by underlying
trends in the national and local economic and business cycles. Our business is
mostly concentrated in Kern County, California. Our economy is diversified
between agriculture, oil, light industry, and warehousing and distribution. As a
result, we lend money to individuals and companies dependent upon these
industries.
We have significant extensions of credit and commitments to extend credit which
are secured by real estate, totaling approximately $426,398,000 at December 31,
2005. Although we believe this real estate concentration has no more than the
normal risk of collectibility, a substantial decline in the economy in general,
or a decline in real estate values in our primary market area in particular,
could have an adverse impact on the collectibility of these loans. The ultimate
recovery of these loans is generally dependent on the successful operation, sale
or refinancing of the real estate. We monitor the effects of current and
expected market conditions and other factors on the collectibility of real
estate loans. When, in our judgment, these loans are impaired, an appropriate
provision for losses is recorded. The more significant assumptions we consider
involve estimates of the following: lease, absorption and sale rates; real
estate values and rates of return; operating expenses; inflation; and
sufficiency of collateral independent of the real estate including, in most
instances, personal guarantees. Notwithstanding the foregoing, abnormally high
rates of impairment due to general or local economic conditions could adversely
affect our future prospects and results of operations.
In extending credit and commitments to borrowers, we generally require
collateral and/or guarantees as security. The repayment of such loans is
expected to come from cash flow and from proceeds from the sale of selected
assets of the borrowers. Our requirement for collateral and/or guarantees is
determined on a case-by-case basis in connection with our evaluation of the
creditworthiness of the borrower. Collateral held varies but may include
accounts receivable, inventory, property, plant and equipment, income-producing
properties, residences and other real property. We secure our collateral by
perfecting our interest in business assets, obtaining deeds of trust, or
outright possession among other means. Loan losses from lending transactions
related to real estate and agriculture compare favorably with our loan losses on
our loan portfolio as a whole.
We believe that our lending policies and underwriting standards will tend to
mitigate losses in an economic downturn; however, there is no assurance that
losses will not occur under such circumstances. Our loan policies and
underwriting standards include, but are not limited to, the following: 1)
maintaining a thorough understanding of our service area and limiting
investments outside of this area, 2) maintaining an understanding of borrowers'
knowledge and capacity in their fields of expertise, 3) basing real estate
construction loan approval not only on salability of the project, but also on
the borrowers' capacity to support the project financially in the event it does
not sell within the original projected time period, and 4) maintaining
conforming and prudent loan to value and loan to cost ratios based on
independent outside appraisals and ongoing inspection and analysis of our
construction lending activities. In addition, we strive to diversify the risk
inherent in the construction portfolio by avoiding concentrations to individual
borrowers and on any one project.
CLASSIFIED LOANS
We have established a system of evaluation of all loans in our loan portfolio.
Based upon the evaluation performed, each loan is assigned a risk rating. This
risk rating system quantifies the risk we believe we have assumed when entering
into a credit transaction. The system rates the strength of the borrower and the
facility or transaction, which provides a tool for risk management and early
problem loan recognition.
For each new credit approval, credit review, credit extension or renewal or
modification of existing facilities, the approving officers assign risk ratings
utilizing an eight point rating scale. The rating assigned by the officers must
then be justified in writing in the Credit Memorandum that accompanies each loan
or credit facility. The risk ratings are a measure of credit risk based on the
historical, current and anticipated financial characteristics of the borrower in
the current risk environment. We assign risk ratings on a scale of 1 to 8, with
1 being the highest quality rating and 8 being the lowest quality rating. Loans
rated an 8 are charged off.
The primary accountability for risk rating management resides with the account
officer. The Credit Review Department is responsible for confirming the risk
rating after reviewing all the credit factors independently of the account
officer. The rating assigned to a credit is the one determined to be appropriate
by the Credit Review Department.
The loans we consider "classified" are those that have a credit risk rating of 6
through 8. These are the loans and other credit facilities that we consider to
be of the greatest risk to us and, therefore, they receive the highest level of
attention by our account officers and senior credit management officers.
31
A loan that is classified may be either a "performing" or "nonperforming" loan.
A performing loan is one wherein the borrower is making all payments as required
by the loan agreements and can include "impaired" loans. A nonperforming loan is
one wherein the borrower is not paying as agreed and/or is not meeting specific
other performance requirements that were agreed to in the loan documentation. We
include all non-accrual loans, restructured loans, and loans 90 days or more
past due and still accruing within the classified loan category.
The following table summarizes the Bank's classified loans for the periods
indicated:
2005 2004
------------ ------------
(dollars in thousands)
Classified Loans $ 4,676 $ 4,962
OREO 710 686
----------- -----------
Total $ 5,386 $ 5,648
----------- -----------
The loans and other credit facilities considered classified are also allocated a
specific amount in the allowance for loan losses, as further explained in the
"Allowance for Loan Losses" section herein. As of December 31, 2005, other than
for classified loans disclosed in the above table and impaired loans discussed
elsewhere in this report, management was not aware of any other loans as to
which management had serious doubts as to the ability of the borrowers to comply
with the present repayment terms.
NONACCRUAL, PAST DUE, RESTRUCTURED LOANS AND OTHER REAL ESTATE OWNED (OREO)
We generally place loans on nonaccrual status when they become 90 days past due
as to principal or interest, unless the loan is well secured and in the process
of collection. When a loan is placed on nonaccrual status, the accrued and
unpaid interest receivable is reversed and the loan is accounted for on the cash
or cost recovery method thereafter, until qualifying for return to accrual
status. Generally, a loan may be returned to accrual status when all delinquent
interest and principal become current in accordance with the terms of the loan
agreement and remaining principal is considered collectible or when the loan is
both well secured and in the process of collection. Loans or portions thereof
are charged off when, in Management's opinion, collection appears unlikely. The
following table sets forth nonaccrual loans, loans past due 90 days or more and
still accruing, restructured loans performing in compliance with modified terms
and OREO at December 31, 2005, 2004, 2003, 2002,and 2001:
(data in thousands, except percentages) 2005 2004 2003 2002 2001
-------- -------- -------- -------- --------
Past due 90 days or more and still accruing
Commercial $ - $ 2 $ - $ - $ 47
Real Estate - - - 83 196
Consumer and other - - - 13 16
Nonaccrual:
Commercial - - 169 1,040 119
Real Estate 727 2,049 1,535 2,777 1,608
Consumer and other - - - 22 3
Restructured (in compliance with modified
terms) - - 39 440 43
---------- --------- ---------- ---------- ------------
Total nonperforming and restructured loans 727 2,051 1,743 4,375 2,032
Other real estate owned 710 686 745 805 864
---------- --------- ---------- ---------- ------------
Total nonperforming and restructured assets $ 1,437 $ 2,737 $ 2,488 $ 5,180 $ 2,896
========== ========= ========== ========= ============
Allowance for loan losses as a percentage of
nonperforming and restructured loans 963.27% 267.53% 276.48% 97.74% 172.59%
Nonperforming and restructured loans to total loans 0.18% 0.63% 0.65% 1.84% 1.00%
Allowance for loan losses to nonperforming and
restructured assets 487.33% 200.47% 193.69% 82.55% 121.10%
Nonperforming and restructured assets total assets 0.23% 0.55% 0.60% 1.54% 0.97%
32
Nonperforming loans and restructured loans decreased $1,324,000 from the
December 31, 2004 balance, which increased $308,000 from the December 31, 2003
balance. The majority of the decrease in nonperforming and restructured loans in
2005 compared to 2004 was caused by a decrease in nonaccrual loans. During 2005,
the Bank closely monitored and actively pursued the collection of all loans
classified as nonperforming. At December 31, 2005, nonperforming and
restructured loans were 0.18% of total loans compared to 0.63% at December 31,
2004 and 0.65% at December 31, 2003. The ratio of nonperforming and restructured
assets to total assets was 0.23% at December 31, 2005 compared to 0.55% at
December 31, 2004 and 0.60% at December 31, 2003.
Under generally accepted accounting principles, a loan is considered impaired
when, based on current information and events, it is probable that we may be
unable to collect all amounts due according to the contractual terms of the loan
agreement. Impaired loans are measured 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 loan's observable market price or the fair value of
the collateral if the loan is collateral-dependent. Under some circumstances, a
loan which is deemed impaired may still perform in accordance with its
contractual terms. Loans that are considered impaired are generally not placed
on nonaccrual status unless the loan becomes 90 days or more past due.
Generally, it is the bank's policy, that when a loan is nonaccrual, payments are
applied against the principal balance of the loan until such time as full
collection of the principal balance is expected. The amount of gross interest
income that would have been recorded for nonaccrual loans for the year ended
December 31, 2005, if all such loans had been current in accordance with their
original terms, was $23,000.
The amount of interest income that was recognized on nonaccrual loans from all
cash payments, including those related to interest owed from prior years, made
during the year ended December 31, 2005, totaled $0. Total cash payments
received during the year which were applied against the book balance of
nonaccrual loans outstanding at December 31, 2005, totaled approximately
$84,000.
ALLOWANCE FOR LOAN LOSSES
The following table summarizes the Bank's loan loss experience for the periods
indicated:
LOAN LOSS ALLOWANCE, CHARGE OFFS & RECOVERIES
(data in thousands, except percentages) 2005 2004 2003 2002 2001
----------- ----------- ---------- ----------- -----------
Beginning Balance $ 5,487 $ 4,819 $ 4,276 $ 3,507 $ 2,655
Provision Charged To Expense 1,200 1,200 1,470 1,670 1,037
Loans Charged Off:
Commercial Loans (51) (20) (538) (343) (175)
Real Estate Loans
Construction - - - - -
Secured by Residential Properties - - (7) - -
Secured by Commercial Properties (800) (798) - - -
Installment Loans (9) (1) (28) (166) (27)
Recoveries:
Commercial Loans 81 76 35 16 16
Real Estate Loans 188 250 - - -
Installment Loans 29 9 12 19 1
---------- ---------- ---------- ---------- ----------
Net Charge-offs (562) (484) (526) (474) (185)
Reclassification from (to) reserve for off-balance sheet risks 878 (48) (401) (427) -
---------- ---------- ---------- ---------- ----------
Ending Balance $ 7,003 $ 5,487 $ 4,819 $ 4,276 $ 3,507
========== ========== ========== ========== ==========
Ending Loan Portfolio $ 408,950 $ 326,879 $ 268,620 $ 237,507 $ 202,926
========== ========== ========== ========== ==========
Allowance for loss as a percentage of ending loan portfolio 1.71% 1.68% 1.79% 1.80% 1.73%
33
ALLOCATION FOR THE ALLOWANCE FOR LOAN LOSSES
We maintain an allowance for loan losses to absorb losses inherent in the loan
portfolio. The allowance is based on our regular assessments of the probable
losses inherent in the loan portfolio and to a lesser extent, unused commitments
to provide financing. Determining the adequacy of the allowance is a matter of
judgment, which reflects consideration of all significant factors that affect
the collectibility of the portfolio as of the evaluation date. Our methodology
for measuring the appropriate level of the allowance relies on several key
elements, which include the formula allowance, specific allowances for
identified problem loans and the unallocated reserve. The unallocated allowance
contains amounts that are based on our evaluation of existing conditions that
are not directly measured in the determination of the formula and specific
allowances.
The formula allowance is calculated by applying loss factors to outstanding
loans and certain unused commitments, in each case based on the internal risk
grade of such loans and commitments. Changes in risk grades of both performing
and nonperforming loans affect the amount of the formula allowance. Loss factors
are based on our historical loss experience and may be adjusted for other
factors that, in our judgment, affect the collectibility of the portfolio as of
the evaluation date. At December 31, 2005, the formula allowance was $3,866,000
compared to $2,966,000 at December 31, 2004 and $3,328,000 at December 31, 2003.
The increase in the formula allowance was primarily a result of an increase in
the volume of the loan portfolio.
In addition to the formula allowance calculated by the application of the loss
factors to the standard loan categories, specific allowances may also be
calculated. Quarterly, all significant classified loans are analyzed
individually based on the source and adequacy of repayment and specific type of
collateral, and an assessment is made of the adequacy of the formula reserve
relative to the individual loan. A specific allocation either higher or lower
than the formula reserve will be calculated by Management based upon the
higher/lower-than-normal probability of loss and the adequacy of the collateral.
At December 31, 2005 the specific allowance was $1,412,000 on a classified loan
base of $4,676,000, compared to a specific allowance of $1,165,000 on a
classified loan base of $4,962,000 at December 31, 2004, $416,000 on a
classified loan base of $3,682,000 at December 31, 2003, $2,020,000 on a
classified loan base of $15,157,000 at December 31, 2002, and $1,502,000 on a
classified loan Base of $12,176,000 at December 31, 2001.
At December 31, 2005, there was $1,724,000 in the allowance for loan losses that
was unallocated compared to $1,172,000 that was unallocated at December 31,
2004, $822,000 that was unallocated as of December 31, 2003, and $0 that was
unallocated as of December 31, 2002, and December 31, 2001. In the opinion of
Management, and based upon an evaluation of potential losses inherent in the
loan portfolio, it was necessary to establish additional unallocated allowance
amounts above the amounts allocated using the formula and specific allowance
methods, based upon Management's evaluation of the following factors:
o The current national and local economic and business conditions,
trends and developments, including the condition of various market
segments within our lending area;
o Changes in lending policies and procedures, including underwriting
standards and collection, charge-off, and recovery practices;
o Changes in the nature, mix, concentrations and volume of the loan
portfolio;
o The effect of other external factors such as legal and regulatory
requirements on the level of estimated credit losses in our current
portfolio.
There can be no assurance that the adverse impact of any of these conditions on
us will not be in excess of the combined allowance for loan losses as determined
by us at December 31, 2005 and set forth in the preceding paragraph.
The allowance for loan losses includes $878,000 reclassified from the reserve
for off-balance sheet items. The Bank evaluates the reserve for off-balance
sheet items in accordance with SFAS No. 5, "Accounting for Contingencies." Under
SFAS No. 5, off-balance sheet items include unfunded commitments and standby
letters of credit. At December 31, 2004, the bank had reserved $878,000 for
probable losses relating to off-balance sheet items. In 2005, it was determined
that the potential for losses relating to off-balance sheet items was remote.
Therefore, the balance of $878,000 previously classified as reserve for
34
off-balance sheet items was reclassified to the allowance for loan losses.
Further discussion of SFAS No. 5 is included in note 1 under the caption
"Allowance for possible loan losses and liability for off-balance sheet
exposure."
The allowance for loan losses totaled $7,003,000 or 1.71% of total loans at
December 31, 2005 compared to $5,487,000 or 1.68% of total loans at December 31,
2004, $4,819,000 or 1.79% of total loans at December 31, 2003, $4,276,000 or
1.80% of total loans at December 31, 2002, and $3,507,000 or 1.73% of total
loans at December 31, 2001. At these dates, the allowance represented 963.27%,
267.53%, 276.48%, 97.74%, and 172.59% of nonperforming and restructured loans,
respectively.
It is the Bank's policy to maintain the allowance for loan losses at a level
adequate for risks inherent in the loan portfolio. Based on information
currently available to analyze loan loss potential, including economic factors,
overall credit quality, historical delinquency and history of actual charge-offs
as of December 31, 2005, we believe that the allowance for loan losses is
adequate. However, no prediction of the ultimate level of loans charged off in
future years can be made with any certainty.
IMPAIRED LOANS
At December 31, 2005, the recorded investment in loans that were considered
impaired under SFAS No. 114 was $0. At December 31, 2004, the recorded
investment in loans considered impaired was $1,754,000 of which $1,754,000 was
included in nonaccrual loans and $0 was included in restructured loans and $0 in
other loans identified as impaired. Impaired loans had valuation allowances
totaling $0 and $184,000 as of December 31, 2005 and December 31, 2004,
respectively. Between December 31, 2004 and December 31, 2005, total impaired
loans decreased by $1,754,000. Other than the impaired loans and classified
loans, we are not aware of any other potential problem loans which were accruing
and current at December 31, 2005, where serious doubt exists as to the ability
of the borrower to comply with the present repayment terms. In this report, the
terms "impaired" and "classified" will not necessarily be used to describe the
same loans. "Impaired" loans are those loans that meet the definition outlined
in SFAS No. 114. "Classified" loans generally refer to those loans that have a
credit risk rating of 6 through 8, as further discussed in the section "Credit
Quality" above.
The following table summarizes the Bank's impaired loans for the periods
indicated:
2005 2004
(dollars in thousands)
Impaired Loans $ - $ 1,754
Specific reserves $ - $ 184
LIQUIDITY
Liquidity management refers to our ability to provide funds on an ongoing basis
to meet fluctuations in deposit levels as well as the credit needs and
requirements of its clients. Both assets and liabilities contribute to our
liquidity position. Federal funds lines, short-term investments and securities,
and loan repayments contribute to liquidity, along with deposit increases, while
loan funding and deposit withdrawals decrease liquidity. We assess the
likelihood of projected funding requirements by reviewing historical funding
patterns, current and forecasted economic conditions and individual customer
funding needs.
Our sources of liquidity consist of overnight funds sold to correspondent banks,
and unpledged marketable investments. On December 31, 2005, consolidated liquid
assets totaled $150,422,000, or 23.99% of total assets compared to $143,852,000
or 29.0% of total assets on December 31, 2004. In addition to liquid assets, we
maintain short-term lines of credit with correspondent banks. At December 31,
2005, the Bank had three unused lines of credit with three different banks. The
credit lines total $15,000,000 and have variable interest rates based on the
individual lending bank's daily federal fund rates, and are due on demand. These
are uncommitted lines under which availability is subject to federal fund
balances of the issuing banks. Additionally we have borrowing capacity with the
Federal Home Loan Bank in the amount of $18,066,000. We serve primarily a
business and professional customer base and, as such, our deposit base is
susceptible to economic fluctuations. Accordingly, we strive to maintain a
balanced position of liquid assets to volatile and cyclical deposits.
35
CAPITAL RESOURCES
The current and projected capital position of the Company and the impact of
capital plans and long-term strategies are reviewed regularly by management. The
Company's capital position represents the level of capital available to support
continued operations and expansion.
The Company's primary capital resource is shareholders' equity which was
$39,290,000 at December 31, 2005 compared to $33,159,000 at December 31, 2004.
The change is the result of the year's earnings, the increase in other
comprehensive income or loss, the payout of a cash dividend to shareholders in
February 2005, and issuance of stock in connection with employee stock option
plans. At December 31, 2005, the Bank's Tier 1 leverage ratio, Tier 1 risk-based
capital ratio, and Total risk based capital ratio were 6.44%, 8.03%, and 10.51%,
respectively. Bank Management can employ various means to manage the Bank's
capital ratios including controlling asset growth and dividend payouts and
raising additional capital. Management believes it has the ability to maintain
adequate capital to support operations and continued expansion.
CONTRACTUAL OBLIGATIONS
Long-term debt consists of the following at December 31:
2005 2004
---------- -----------
Mortgage note payable, 9% stated rate - matures 2030 $ 797,000 $ 805,000
Subordinated Note, 3 month LIBOR + 2.7% floating rate - due 2019 6,000,000 6,000,000
------------ ------------
Total Long-Term Debt $ 6,797,000 $ 6,805,000
============ ============
The mortgage note payable is secured by a 48-unit seniors apartment project (see
Note 9) and is payable in monthly installments of $2,300 including interest at a
stated rate of 9%. The loan matures in 2030. The note is classified as a Rural
Rental Housing (RRH) loan issued pursuant to the Housing Act of 1949. Under the
RRH program, the borrower pays interest at a rate lower than the stated rate.
The Subordinated Note, which was issued pursuant to a Purchase Agreement dated
April 5, 2004 by and between the Company and NBC Capital Markets Group, Inc.,
matures in 2019. The Company may redeem the Subordinated Note, at par, on or
after April 23, 2009, subject to compliance with California and federal banking
regulations. The Subordinated Note resets quarterly and bears interest at a rate
equal to the three-month LIBOR index plus a margin of 2.70%.
Estimated future maturities of long-term debt at December 31, 2005 are as
follows:
Years Ending
December 31
- -----------
2006 $ 9,000
2007 10,000
2008 11,000
2009 12,000
2010 13,000
Thereafter 6,742,000
--------------
$ 6,797,000
==============
The bank also has lease obligations. These contractual obligations are discussed
in Item 2 above.
36
FINANCIAL RATIOS
The following table shows key financial ratios for the periods indicated:
2005 2004 2003
-------- -------- ---------
Return on Average Total Assets 1.19% 1.19% 1.11%
Return on Average Shareholders' Equity 18.57% 17.85% 15.92%
Average Shareholders' Equity to Average Total Assets 6.41% 6.64% 6.98%
Net interest Margin 4.56% 4.49% 4.48%
Efficiency Ratio 51.19% 52.71% 56.83%
Dividend Payout ratio 12.31% 13.66% 16.00%
DEPOSIT CATEGORIES
The Bank primarily attracts deposits from local businesses and professionals.
Although San Joaquin Bank's primary focus is toward the small and medium-sized
business and professional market, the Bank also provides a full range of banking
services that are available to individuals, public entities, and non-profit
organizations.
37
The following table summarizes the Bank's average balances of deposits and the
rates paid for the periods indicated:
DEPOSIT DISTRIBUTION AND AVERAGE RATES PAID
2005
--------------------------------------------------
Percent of
Interest Bearing Deposits: Avg Balance Total Deposits Interest Avg Rate
-------------------------------------------------------------------------------------
Now and Money Market $ 213,249 41.77% $ 5,471 2.57%
Savings 106,552 20.87% 2,602 2.44%
Time Deposits 24,171 4.73% 558 2.31%
Total Interest Bearing Deposits 343,972 67.37% 8,631 2.51%
-------------------------------------------------------------------------------------
Noninterest Bearing Demand Deposits 166,573 32.63%
-------------------------------------------------------------------------------------
Total $ 510,545 100.00% $ 8,631 1.69%
-------------------------------------------------------------------------------------
2004
--------------------------------------------------
Percent of
Interest Bearing Deposits: Avg Balance Total Deposits Interest Avg Rate
-------------------------------------------------------------------------------------
Now and Money Market $ 168,403 32.98% $ 1,522 0.90%
Savings 86,972 17.04% 1,377 1.58%
Time Deposits 24,268 4.75% 377 1.55%
Total Interest Bearing Deposits 279,643 54.77% 3,276 1.17%
-------------------------------------------------------------------------------------
Noninterest Bearing Demand Deposits 131,935 25.84%
-------------------------------------------------------------------------------------
Total $ 411,578 80.62% $ 3,276 0.80%
-------------------------------------------------------------------------------------
2003
--------------------------------------------------
Percent of
Interest Bearing Deposits: Avg Balance Total Deposits Interest Avg Rate
-------------------------------------------------------------------------------------
Now and Money Market $ 154,405 30.24% $ 1,270 0.82%
Savings 63,816 12.50% 1,135 1.78%
Time Deposits 25,582 5.01% 472 1.85%
Total Interest Bearing Deposits 243,803 47.75% 2,877 1.18%
--------------------------------------------------------------------------------------
Noninterest Bearing Demand Deposits 97,073 19.01%
--------------------------------------------------------------------------------------
Total $ 340,876 66.77% $ 2,877 0.84%
--------------------------------------------------------------------------------------
38
MATURITY DISTRIBUTION OF TIME DEPOSITS IN AMOUNTS OF $100,000 OR MORE
The following table summarizes time remaining to maturity of time deposits and
IRAs of $100,000 or more:
Time deposits of $100,000 or more with a remaining maturity of.
(dollars in thousands)
Three months or less
$ 10,558
Over three months through six months 4,658
Over six months through one year 2,979
Over one year 2,014
----------
Total $ 20,209
----------
SHORT TERM BORROWINGS
The following table sets forth the short-term borrowings of the Bank for the
periods indicated:
(dollars in thousands) 2005 2004 2003
-------------------------------------------------------------------------
Repurchase agreements
Balance at end of period $ - $ 6,663 $ 6,380
Maximum Balance 6,796 7,452 7,913
Average Balance 2,042 6,741 6,424
Interest 35 55 55
Average rate for the year 1.72% 0.82% 0.86%
Average rate at period end 0.00% 0.83% 0.86%
OFF-BALANCE SHEET ITEMS
We have certain ongoing commitments under operating leases. These commitments do
not significantly impact operating results. As of December 31, 2005 and December
31, 2004, commitments to extend credit and standby letters of credit were the
only financial instruments with off-balance sheet risk, except for the interest
rate cap contracts described herein.
We entered into two interest rate cap contracts with a third party to manage the
risk that changes in interest rates will affect the amount of future income over
our fixed-rate loans. The interest rate cap contracts qualify as derivative
financial instruments. Under an interest rate cap contract, we agree to pay an
initial fixed amount at the beginning of the contract in exchange for quarterly
payments from the third party when the three-month LIBOR rate exceeds a certain
fixed level.
At December 31, 2005, we had interest rate cap contracts on $14,000,000 notional
amount of indebtedness. Interest rate cap contracts with notional amounts of
$7,000,000 and $7,000,000 have cap rates of 6.50%, and 6.00%, respectively.
These two outstanding contracts will mature on June 2, 2008. The net gain or
loss on the ineffective portion of these interest rate cap contracts was not
material for the years ended December 31, 2005 and 2004.
The interest rate cap contracts are considered to be a hedge against changes in
the amount of future cash flows associated with our interest income for our
fixed-rate loans. Accordingly, the interest rate cap contracts are recorded at
fair value in our consolidated balance sheet and the related unrealized gains or
losses on these contracts are recorded in shareholders' equity as a component of
other comprehensive income. These deferred gains and losses are amortized as an
adjustment to interest expense over the same period in which the related
interest payments being hedged are recognized in income. However, to the extent
that any of these contracts are not considered to be perfectly effective in
offsetting the change in the value of the interest payments being hedged, any
changes in fair value relating to the ineffective portion of these contracts are
immediately recognized in income. The net effect of this accounting on our
operating results is that potential loss in interest income on the portion of
fixed-rate loans being hedged is generally recorded based on a fixed interest
rate.
39
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The goal for managing our assets and liabilities is to maximize shareholder
value and earnings while maintaining a high quality balance sheet without
exposing ourselves to undue interest rate risk. Our Board of Directors has
overall responsibility for our interest rate risk management policies. We have
an Asset/Liability Management Committee (ALCO), which establishes and monitors
guidelines to control the sensitivity of earnings to changes in interest rates.
The company does not engage in trading activities to manage interest rate risk,
however, the Board of Directors has approved, and the Company currently uses,
derivatives to manage interest rate risk. These derivatives are discussed in
Item 7 under the caption "Off-Balance Sheet Items" and in note 11 to the
consolidated financial statements. Interest rate risk is the most significant
market risks affecting the Bank. Management does not believe the Company faces
other significant market risks such as foreign currency exchange risks,
commodity risks, or equity price risks.
ASSET AND LIABILITY MANAGEMENT
Activities involved in asset/liability management include but are not limited to
lending, accepting and placing deposits, investing in securities and issuing
debt. Interest rate risk is the primary market risk associated with
asset/liability management. Sensitivity of earnings to interest rate changes
arises when yields on assets change in a different time period or in a different
amount from that of interest costs on liabilities. To mitigate interest rate
risk, the structure of the balance sheet is managed with the goal that movements
of interest rates on assets and liabilities are correlated and contribute to
earnings even in periods of volatile interest rates. The asset/liability
management policy sets limits on the acceptable amount of variance in net
income, net interest income and market value of equity.
The following table summarizes the interest rate sensitivity gaps inherent in
the Bank's asset and liability portfolios at December 31, 2005:
Dec 2005- Apr 2006- Jan 2007- Jan 2009- Jan2011
(dollars in thousands) Mar 2006 Dec 2006 Dec 2008 Dec 2010 Dec 2015 Total
- ----------------------------------------------------------------------------------------------------------------------
Interest Earning Assets:
Interest-bearing deposits in banks $ 390 $ - $ - $ - $ - $ 390
Federal funds sold 1,700 - - - - 1,700
Investment securities 26,322 11,698 79,702 26,341 20,365 164,428
Loans 259,529 73,801 19,153 11,811 32,879 397,173
- ----------------------------------------------------------------------------------------------------------------------
Total Interest Earning Assets $ 287,941 $ 85,499 $ 98,855 $ 38,152 $ 53,244 $ 563,691
- ----------------------------------------------------------------------------------------------------------------------
Interest Bearing Liabilities:
NOW and money market $ 262,578 - $ - $ - $ - $ 262,578
Savings deposits 99,604 - - - - 99,604
Time deposits 14,237 9,644 3,204 - - 27,085
Other 6,000 - - - - 6,000
- ----------------------------------------------------------------------------------------------------------------------
Total Interest Bearing Liabilities $ 382,419 9,644 3,204 - - $ 395,267
- ----------------------------------------------------------------------------------------------------------------------
Interest Rate Gap $ (94,478) $ 75,855 $ 95,651 $ 38,152 $ 53,244
Cumulative Interest Rate Gap $ (94,478) $ (18,623) $ 77,028 $ 115,180 $ 168,424
Cumulative Gap to Total Assets -15.07% -2.97% 12.28% 18.37% 26.86%
The market values of assets or liabilities on which the interest rate is fixed
will increase or decrease with changes in market interest rates. If San Joaquin
Bank invests funds in a fixed rate long-term security and then interest rates
rise, the security is worth less than a comparable security just issued because
of the lower yield on the original fixed rate security. If the lower yielding
security had to be sold, San Joaquin Bank would have to recognize a loss.
Correspondingly, if interest rates decline after a fixed rate security is
purchased, its value increases. Therefore, while the value of the fixed rate
investment changes regardless of which direction interest rates move, the
adverse exposure to "market risk" is primarily due to rising interest rates.
This exposure is lessened by managing the amount of fixed rate assets and by
keeping maturities relatively short. However, this strategy must be balanced
against the need for adequate interest income because variable rate and shorter
fixed rate securities generally earn less interest than longer term fixed rate
securities.
40
There is market risk relating to San Joaquin Bank's fixed rate or term
liabilities as well as its assets. For liabilities, the adverse exposure to
market risk is to lower rates because San Joaquin Bank must continue to pay the
higher rate until the end of the term.
Simulation of earnings is the primary tool used to measure the sensitivity of
earnings to interest rate changes. Using computer modeling techniques, we are
able to estimate the potential impact of changing interest rates on earnings. A
balance sheet forecast is prepared using inputs of actual loan, securities and
interest bearing liabilities (i.e., deposits and borrowings) positions as the
beginning base. The forecast balance sheet is processed against multiple
interest rate scenarios. The scenarios include a 100, 200, and 300 basis point
rising rate forecast, a flat rate forecast and a 100, 200, and 300 basis point
falling rate forecast which take place within a one year time frame. The latest
simulation forecast using December 31, 2005 balances and measuring against a
flat rate environment, calculated that in a one-year horizon an increase in
interest rates of 300 basis points would result in an increase of $366,000
(1.24%) in net interest income. Conversely, a 300 basis point decrease would
result in a decrease of $178,000 (0.61%) in net interest income. The basic
structure of the balance sheet has not changed significantly from the last
simulation run.
The following tables show the estimated impact to net interest income for an
instantaneous shift in various interest rates for the periods indicated (the
dollar change in net interest income represents the estimated change in net
interest income for the next 12 months as compared to a flat rate environment):
(dollars in thousands) 2005 2004
--------- ---------
Change in Interest Rates
+ 300 basis points $ 366 $ 84
+ 200 basis points 305 24
+ 100 basis points 138 (50)
- 100 basis points (220) (542)
- 200 basis points (474) (934)
- 300 basis points (178) (1,112)
The simulations of earnings do not incorporate any management actions which
might moderate the negative consequences of interest rate deviations. Therefore,
in Management's view, they do not reflect likely actual results, but serve as
conservative estimates of interest rate risk. Our risk profile has not changed
materially from that at year-end 2005.
San Joaquin Bank has adequate capital to absorb any potential losses as
described above as a result of a decrease in interest rates. Periods of more
than one year are not estimated because it is believed that steps can be taken
to mitigate the adverse effects of such interest rate changes.
REPRICING RISK
One component, among others, of interest rate risk arises from the fact that
when interest rates change, the changes do not occur equally for the rates of
interest earned and paid because of differences in contractual terms of the
assets and liabilities held. San Joaquin Bank has a large portion of its loan
portfolio tied to the prime interest rate. If the prime rate is lowered because
of general market conditions, e.g., other money-center banks are lowering their
lending rates, these loans will be repriced. If San Joaquin Bank were at the
same time to have a large portion of its deposits in long-term fixed rate
certificates, net interest income would decrease immediately. Interest earned on
loans would decline while interest expense would remain at higher levels for a
period of time because of the higher rate still being paid on deposits.
A decrease in net interest income could also occur with rising interest rates if
San Joaquin Bank had a large portfolio of fixed rate loans and securities funded
by deposit accounts on which the rate is steadily rising. This exposure to
"repricing risk" is managed by matching the maturities and repricing
opportunities of assets and liabilities. This is done by varying the terms and
conditions of the products that are offered to depositors and borrowers. For
example, if many depositors want longer-term certificates while most borrowers
are requesting loans with floating interest rates, San Joaquin Bank will adjust
the interest rates on the certificates and loans to try to match up demand. San
Joaquin Bank can then partially fill in mismatches by purchasing securities with
the appropriate maturity or repricing characteristics.
41
BASIS RISK
Another component of interest rate risk arises from the fact that interest rates
rarely change in a parallel or equal manner. The interest rates associated with
the various assets and liabilities differ in how often they change, the extent
to which they change, and whether they change sooner or later than other
interest rates. For example, while the repricing of a specific asset and a
specific liability may fall in the same period of a gap report, the interest
rate on the asset may rise 100 basis points, while market conditions dictate
that the liability increases only 50 basis points. While evenly matched in the
gap report, San Joaquin Bank would experience an increase in net interest
income. This exposure to "basis risk" is the type of interest risk least able to
be managed, but is also the least dramatic. Avoiding concentration in only a few
types of assets or liabilities is the best insurance that the average interest
received and paid will move in tandem, because the wider diversification means
that many different rates, each with their own volatility characteristics, will
come into play. San Joaquin Bank has made an effort to minimize concentrations
in certain types of assets and liabilities.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
INDEX TO FINANCIAL STATEMENTS
Page
----
Balance Sheet............................................................ 43
Statement of Income...................................................... 44
Statement of Changes in Shareholders' Equity............................. 45
Statement of Cash Flows.................................................. 46
Notes to Consolidated Financial Statements............................... 47
Report of Independent Registered Public Accounting Firm.................. 65
Management's Letter of Financial responsibility.......................... 66
42
CONSOLIDATED BALANCE SHEET
December 31
-----------------------------------
2005 2004
- ------------------------------------------------------------------------------------------------------
ASSETS
Cash and due from banks $ 24,355,000 $ 24,082,000
Interest-bearing deposits in banks 390,000 327,000
Federal funds sold 1,700,000 -
-------------- --------------------
Total cash and cash equivalents 26,445,000 24,409,000
Investment securities (Note 2):
Held to maturity (market value of $164,959,000 and $122,360,000
as of December 31, 2005 and 2004, respectively) 167,636,000 122,912,000
Available for sale 2,428,000 2,494,000
------------- -------------------
Total Investment Securities 170,064,000 125,406,000
Loans, net of unearned income 407,400,000 325,856,000
Allowance for loan losses 7,003,000 5,487,000
------------- -------------------
Net Loans (Note 3) 400,397,000 320,369,000
Premises and equipment (Note 4) 7,677,000 7,752,000
Investment in real estate (Note 5) 710,000 686,000
Interest receivable and other assets 21,721,000 18,083,000
------------- -------------------
TOTAL ASSETS $ 627,014,000 $ 496,705,000
============= ===================
- ------------------------------------------------------------------------------------------------------
LIABILITIES
Deposits:
Noninterest-bearing demand deposits $ 186,266,000 $ 150,770,000
NOW 25,163,000 24,680,000
Money market 237,415,000 153,458,000
Savings 99,604,000 92,619,000
Time deposits and IRAs of $100.000 or more (Note 7) 20,209,000 14,616,000
Other time deposits and IRAs (Note 7) 6,876,000 6,833,000
------------- -------------------
Total Deposits 575,533,000 442,976,000
Federal funds purchased and securities sold under agreements
to repurchase (Note 8) _ 8,663,000
Accrued interest payable and other liabilities 5,394,000 5,102,000
Long-term debt and other borrowings (Note 9) 6,797,000 6,805,000
------------- -------------------
Total Liabilities 587,724,000 463,546,000
------------- -------------------
SHAREHOLDERS' EQUITY
Common stock, no par value - 10,000,000 shares authorized;
3,435,896 and 3,396,134 issued and outstanding
at December 31, 2005 and 2004, respectively 9,970,000 9,784,000
Retained earnings 29,445,000 23,527,000
Accumulated other comprehensive income (loss) (Note 15) (125,000) (152,000)
------------- -------------------
Total Shareholders' Equity 39,290,000 33,159,000
------------- -------------------
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $ 627,014,000 $ 496,705,000
============= ===================
- -------------------------------------------------------------------------------------------------------
The accompanying notes are an integral part of these consolidated financial statements.
43
CONSOLIDATED STATEMENT OF INCOME
Years Ended December 31
--------------------------------------------------
2005 2004 2003
- -----------------------------------------------------------------------------------------------------------
INTEREST INCOME
Loans (including fees) $ 26,212,000 $ 19,472,000 $ 16,023,000
Investment securities 5,337,000 2,332,000 1,780,000
Fed funds sold and other interest-bearing balances 720,000 251,000 309,000
-------------- -------------- ---------------
Total Interest Income 32,269,000 22,055,000 18,112,000
-------------- -------------- ---------------
INTEREST EXPENSE
Deposits 8,631,000 3,276,000 2,877,000
Fed funds purchased and securities sold under
agreements to repurchase 37,000 56,000 55,000
Long term debt and other borrowings 378,000 283,000 51,000
-------------- -------------- ---------------
Total Interest Expense 9,046,000 3,615,000 2,983,000
-------------- -------------- ---------------
Net Interest Income 23,223,000 18,440,000 15,129,000
Provision for loan losses (Note 3) 1,200,000 1,200,000 1,470,000
-------------- -------------- ---------------
Net Interest Income After Loan Loss Provision 22,023,000 17,240,000 13,659,000
-------------- -------------- ---------------
NONINTEREST INCOME
Service charges and fees on deposits 887,000 984,000 1,139,000
Other service charges and fees 1,151,000 1,014,000 920,000
Net gain on sale of fixed assets 11,000 43,000
Other 662,000 1,029,000 868,000
-------------- -------------- ---------------
Total Noninterest Income 2,711,000 3,070,000 2,927,000
-------------- -------------- ---------------
NOMNTEREST EXPENSE
Salaries and employee benefits 7,815,000 6,798,000 5,498,000
Occupancy 895,000 508,000 569,000
Furniture and equipment 1,025,000 762,000 664,000
Other (Note 13) 3,541,000 3,269,000 3,530,000
-------------- -------------- ---------------
Total Noninterest Expense 13,276,000 11,337,000 10,261,000
-------------- -------------- ---------------
Income Before Taxes 11,458,000 8,973,000 6,325,000
Income Taxes (Note 14) 4,785,000 3,516,000 2,138,000
-------------- -------------- ---------------
NET INCOME $ 6,673,000 $ 5,457,000 $ 4,187,000
============== ============== ===============
Basic Earnings per Share (Note 16) $ 1.95 $ 1.61 $ 1.25
============== ============== ===============
Diluted Earnings per Share (Note 16) $ 1.83 $ 1.51 $ 1.18
============== ============== ===============
The accompanying notes are an integral part of these consolidated financial statements.
44
CONSOLIDATED STATEMENT OF CHANGES IN SHAREHOLDERS' EQUITY
Other
Common Stock Comprehensive Retained
Shares Amount Income (Loss) Earnings Total
- -------------------------------------------------------------------------------------------------------------
Balance, December 31, 2002 3,294,291 $ 9,340,000 $ (146,000) $ 15,226,000 $ 24,420,000
Net income - - - 4,187,000 4,187,000
Stock options exercised 57,860 257,000 - - 257,000
Other comprehensive income,
net of tax - - 12,000 - 12,000
Cash dividends (667,000) (667,000)
- ---------------------------------- --------- --------- ------------- ------------- -------------
Balance, December 31, 2003 3,352,151 9,597,000 (134,000) 18,746,000 28,209,000
Net income - - - 5,457,000 5,457,000
Stock options exercised 43,983 187,000 - - 187,000
Other comprehensive income,
net of tax - - (18,000) - (18,000)
Cash dividends - - - (676,000) (676,000)
- ------------------------------------ ---------- --------- --------------- ------------ ------------
Balance, December 31, 2004 3,396,134 9,784,000 (152,000) 23,527,000 33,159,000
Net income - - - 6,673,000 6,673,000
Stock options exercised 39,762 186,000 - - 186,000
Other comprehensive income,
net of tax - - 27,000 - 27,000
Cash dividends - - - (755,000) (755,000)
- ------------------------------------ ---------- ---------- -------------- ------------ ---------
Balance December 31, 2005 3,435,896 $ 9,970,000 $ (125,000) $ 29,445,000 $ 39,290,000
==================================== ========== =========== ============== ============ ============
The accompanying notes are an integral part of these consolidated financial statements.
45
CONSOLIDATED STATEMENT OF CASH FLOWS
Years Ended December 31
----------------------------------------------
2005 2004 2003
- -----------------------------------------------------------------------------------------------------------
Cash Flows From Operating Activities:
Net Income $ 6,673,000 $ 5,457,000 $ 4,187,000
Adjustments to reconcile net income
to net cash provided by operating activities:
Provision for possible loan losses 1,200,000 1,200,000 1,470,000
Depreciation and amortization 939,000 627,000 595,000
Gain on sale of assets (11,000) (43,000) -
Deferred income taxes 549,000 417,000 1,023,000
Amortization of investment securities' premiums
and discounts 167,000 381,000 514,000
Increase in interest receivable and other assets (4,123,000) (916,000) (1,951,000)
Increase in accrued interest payable and other liabilities 1,170,000 1,274,000 1,015,000
------------- ------------- ---------------
Total adjustments (109,000) 2,940,000 2,666,000
------------- ------------- ---------------
Net Cash Provided by Operating Activities 6,564,000 8,397,000 6,853,000
------------- ------------- ---------------
Cash Flows From Investing Activities:
Proceeds from maturing and called investment securities 62,065,000 62,028,000 35,876,000
Purchases of investment securities (106,927,000) (109,139,000) (59,855,000)
Net increase in loans made to customers (82,106,000) (58,353,000) (31,724,000)
Net additions to premises and equipment (877,000) (5,289,000) (928,000)
------------- ------------- --------------
Net Cash Applied to Investing Activities (127,845,000) (110,753,000) (56,631,000)
------------- ------------- --------------
Cash Flows From Financing Activities:
Net increase in demand deposits and savings accounts 126,921,000 69,294,000 74,643,000
Net increase (decrease) in certificates of deposit 5,636,000 (2,579,000) (2,791,000)
Payments on long term debt and other borrowings (8,000) (7,000) (7,000)
Proceeds from long term debt and other borrowings - 6,000,000 -
Net increase (decrease) in fed funds purchased and
securities sold under agreements to repurchase (8,663,000) 2,282,000 1,462,000
Cash dividends paid (755,000) (676,000) (667,000)
Proceeds from issuance of common stock 186,000 187,000 257,000
------------- ------------- --------------
Net Cash Provided by Financing Activities 123,317,000 74,501,000 72,897,000
------------- ------------- --------------
Net Increase (Decrease) in Cash and Cash Equivalents 2,036,000 (27,855,000) 23,119,000
Cash and cash equivalents, at beginning of period 24,409,000 52,264,000 29,145,000
------------- ------------- --------------
Cash and Cash Equivalents, at End of Period $ 26,445,000 $ 24,409,000 $ 52,264,000
============= ============= ==============
Supplemental disclosures of cash flow information
Cash paid during the period for:
Interest $ 8,485,000 $ 3,648,000 $ 3,649,000
============= ============= ==============
Income taxes $ 5,622,000 $ 3,918,000 $ 3,919,000
============= ============= ==============
The accompanying notes are an integral part of these consolidated financial statements. 46
46
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 - THE COMPANY AND ITS SIGNIFICANT ACCOUNTING POLICIES
NATURE OF OPERATIONS
San Joaquin Bank (the "Company") is a California state-chartered bank which
commenced operations in December 1980. The Company has four operating branches,
three located in Bakersfield, California, and one in Delano, California. Its
deposit accounts are insured by the Federal Deposit Insurance Corporation
("FDIC"). The majority of the Company's business activity is with customers
located within the County of Kern, California. In 1987, the Company formed a
subsidiary, Kern Island Company, to acquire, develop, sell or operate commercial
or residential real property located in the Company's market area. In 1993, the
Company formed a limited partnership, Farmersville Village Grove Associates (a
California limited partnership), to acquire and operate low-income housing
projects under the auspices of the Rural Economic and Community Development
Department (formerly Farmers Home Administration), United States Department of
Agriculture. Kern Island Company is the 5% general partner and San Joaquin Bank
is the 95% limited partner (See Notes 5 and 9).
The following is a summary of the Company's significant accounting policies.
The accounting and reporting policies of San Joaquin Bank and its wholly owned
subsidiary, Kern Island Company, conform to accounting principles generally
accepted in the United States of America and general practice in banking
industry.
USE OF ESTIMATES
The preparation of financial statements in conformity with accounting principles
generally accepted in the United States of America requires management to make
estimates and assumptions that affect the reported amounts of assets and
liabilities and disclosure of contingent assets and liabilities at the date of
the financial statements and the reported amounts of revenues and expenses
during the reporting period. Actual results could differ from those estimates.
Material estimates that are particularly susceptible to significant change
relate to the determination of the allowance for losses on loans and the
valuation of real estate acquired in connection with foreclosures or in
satisfaction of loans. In connection with the determination of the allowances
for losses on loans and foreclosed real estate, management obtains independent
appraisals for significant properties
While management uses available information to recognize losses on loans and
foreclosed real estate, future additions to the allowances may be necessary
based on changes in local economic conditions. In addition, regulatory agencies,
as an integral part of their examination process, periodically review the Bank's
allowances for losses on loans and foreclosed real estate. Such agencies may
require the Bank to recognize additions to the allowances based on their
judgments about information available to them at the time of their examination.
BASIS OF CONSOLIDATION
The consolidated financial statements include the accounts of the Company and
its wholly owned subsidiary, with all material intercompany accounts and
transactions eliminated.
CASH AND DUE FROM BANKS
Cash and due from banks include cash on hand and balances with the Federal
Reserve Bank and other banks. The Company is required by federal regulations to
maintain certain minimum average balances with the Federal Reserve, based
primarily on the Company's average daily deposit balances. At December 31, 2005,
the Company had required balances and compensating balances with the Federal
Reserve of $21,218,000. Cash balances held in banks are insured up to $100,000
by the FDIC. At December 31, 2005, cash balances in excess of FDIC insurance
amounted to $743,000.
47
INVESTMENT SECURITIES
The Company classifies its qualifying investments as trading, available for sale
or held to maturity, in accordance with Financial Accounting Standards Board
("FASB") Statement of Financial Accounting Standard ("SFAS") No. 115,
"Accounting for Certain Investments in Debt and Equity Securities." Management
has reviewed the securities portfolio and classified securities as either held
to maturity or available for sale. The Company's policy of classifying
investments as held to maturity is based upon its ability and management's
intent to hold such securities to maturity. Securities expected to be held to
maturity are carried at amortized historical cost. All other securities are
classified as available for sale and are carried at fair value. Fair value is
determined based upon quoted market prices. Unrealized gains and losses on
securities available for sale are included in shareholders' equity on an
after-tax basis. Gains and losses on dispositions of investment securities are
included in noninterest income and are determined using the specific
identification method. At December 31, 2005, the Bank had securities that were
classified as held to maturity and as available for sale in the amount of
$167,636,000 and $2,428,000, respectively.
LOANS
Loans are stated at the principal amount outstanding, net of deferred and
unearned income and the allowance for possible loan losses. Interest on loans is
accrued monthly on a simple interest basis.
In general, loans are placed on a non-accrual basis when there is significant
doubt as to collectibility of interest or principal, or when interest or
principal becomes 90 days past due unless the loan is secured and in the process
of collection. Interest accrued but uncollected is reversed when a loan is
placed on a non-accrual basis. Loans are restored to an accrual basis only when
payments are current and the borrower has demonstrated an ability and an intent
to perform in accordance with the terms of the loan agreement. Foreclosed assets
to be held and used are treated the same way they would be had the assets been
acquired in a manner other than through foreclosure. These assets are
periodically reviewed for impairment if conditions indicate that the carrying
amount of the asset may not be recoverable.
The bank defers both non-refundable loan fees and direct origination costs of
loans. The deferred fees and costs are amortized into income over the expected
lives of the related loans.
ALLOWANCE FOR POSSIBLE LOAN LOSSES AND LIABILITY FOR OFF-BALANCE SHEET EXPOSURE
SFAS No. 114, "Accounting by Creditors for Impairment of a Loan", as amended,
and SFAS No. 5, "Accounting for Contingencies", are the primary sources of
guidance on accounting for loan losses and liability for off-balance sheet
exposure. The allowance for loan losses is maintained at a level which, in
management's judgment, is adequate to absorb potential losses inherent in the
loan portfolio. The amount of the allowance is based on management's evaluation
of the collectibility of the loan portfolio, including the nature of the
portfolio, credit concentrations, trends in historical loss experience, specific
impaired loans, and economic conditions. A loan is considered impaired if it is
probable that the lender will be unable to collect all amounts due under the
contractual terms of the loan agreement. Impaired loans are measured 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 loan's observable
market price or the fair value of the collateral if the loan is collateral
dependent. Allowances for impaired loans are generally determined based on
collateral values or the present value of estimated cash flows. The allowance is
increased by a provision for loan losses, which is charged to expense, and
reduced by charge-offs, net of recoveries. Changes in the allowance relating to
impaired loans are charged or credited to the provision for loan losses.
Management believes that the allowance for possible loan losses is adequate.
While management uses available information to recognize losses on loans, future
additions to the allowance may be necessary based on changes in economic
conditions. In addition, regulatory agencies, as an integral part of their
examination process, review the allowance for possible loan losses. These
agencies may require additions to the allowance based on their judgment about
information available at the time of their examination.
Management also evaluates the liability for off-balance sheet exposure from
unfunded commitments and standby letters of credit in accordance with SFAS No.
5. SFAS No. 5 states that if a loss contingency exists, the likelihood that the
future event or events will confirm the loss or impairment of an asset can range
48
from remote to probable. Recognition of a liability is required only if a loss
is probable and can reasonably be estimated. The liability for unfunded
commitments standby letters of credit is presented as part of other liabilities
in the balance sheet. The liability for unfunded commitments and standby letters
of credit was $0 and $878,000 at December 31, 2005 and 2004, respectively.
PREMISES AND EQUIPMENT
Premises and equipment are stated at cost, less accumulated depreciation and
amortization. Depreciation and amortization are computed on a straight-line
basis over the estimated useful lives of the assets which range from 25 years
for buildings, 5 to 20 years for leasehold improvements and 3 to 10 years for
furniture and equipment. Maintenance and repairs are charged to operating
expenses and betterments are capitalized.
LEASES
The Company leases two of its branch offices. Leases are accounted for as
capital leases or operating leases based upon the requirements of GAAP.
Specifically, when the terms of the lease indicate that the company is leasing
the building for most of its useful economic life or the sum of the lease
payments represents most of the fair value of the building, the transaction is
accounted for as a capital lease wherein the building is recognized as an asset
of the Company and the net present value of the contracted lease payments is
recognized as a long-term liability.
OTHER REAL ESTATE OWNED
Other real estate owned consisting of properties acquired as a result of
foreclosure of loans or loans considered in-substance foreclosures where the
Bank is in the process of foreclosing are carried at the lower of the loan
balance or appraised value net of estimated selling costs. Foreclosed assets to
be held and used are treated the same way they would be had the assets been
acquired in a manner other than through foreclosure. These assets are
periodically reviewed for impairment if conditions indicate that the carrying
amount of the asset may not be recoverable.
INCOME TAXES
There are two components of income tax expense: current and deferred. Current
income tax expense approximates taxes to be paid or refunded for the applicable
period. Balance sheet amounts of deferred tax assets and liabilities are
recognized for the expected tax consequences of temporary differences between
the tax basis of assets and liabilities and their reported net amounts. Deferred
tax assets and liabilities are reflected at currently enacted income tax rates
applicable to the period in which the deferred tax assets or liabilities are
expected to be realized or settled. As changes in tax laws or rates are enacted,
deferred tax assets and liabilities are adjusted through the provision for
income taxes. The provision for income taxes is based on pretax financial
accounting income.
DERIVATIVE FINANCIAL INSTRUMENTS
SFAS No. 133, "Accounting for Derivative Instruments and Hedging Activities", as
amended, provides guidance on accounting for derivative instruments. A
derivative is typically defined as an instrument whose value is "derived" from
an underlying instrument, index or rate, such as a future, forward, swap, or
option contract, or other financial instrument with similar characteristics. A
derivative contract generally represents future commitments to exchange interest
payment streams or currencies based on the contract or notional amount or to
purchase or sell other financial instruments at specified terms on a specified
date.
The Company enters into interest rate cap contracts, which qualify as derivative
financial instruments for non-trading purposes as an end user to hedge the
interest rate exposure of existing assets and liabilities. Interest rate caps
are agreements where, for a fee, the purchaser obtains the right to receive
interest payments when a variable interest rate moves above or below a specified
cap rate. Such instruments are primarily linked to long-term debt, short-term
borrowings and pools of similar residential mortgages. Interest rate cap
contracts are accounted for on an accrual basis with revenue or expenses
recognized as adjustments to income or expense on the underlying linked assets
or liabilities. These contracts are recorded at fair market value and the
related unrealized gains or losses on these contracts are deferred as a
component of other comprehensive income recorded in shareholders' equity.
Interest rate cap contracts generally are not terminated. When terminations do
occur, gain or losses are recorded as adjustments to the carrying value of the
underlying assets or liabilities and recognized as income or expense over either
49
the remaining expected lives of such underlying assets or liabilities or the
remaining life of the instrument. In circumstances where the underlying assets
or liabilities are sold, any remaining carrying value adjustments and the
cumulative change in value of any open positions are recognized immediately as a
component of the gain or loss on disposition of such underlying assets or
liabilities. If an interest rate cap contract is considered to be no longer
effective, any deferred gain or loss on the contract is recognized immediately
in income (see Note 6 for this presentation).
COMMON STOCK
The Company has authorized 10,000,000 shares of common stock. Each share
entitles the holder to one vote. There are no dividend or liquidation
preferences, participation rights, call prices or dates, conversion prices or
rates, sinking fund requirements, or unusual voting rights associated with these
shares. All pertinent rights and privileges of stock options granted are
explained in Note 12. The Company has also authorized 5,000,000 shares of
preferred stock. However, no preferred stock has been issued and outstanding at
December 31, 2005 and 2004.
COMPREHENSIVE INCOME (LOSS)
The Company has adopted SFAS No. 130, "Reporting Comprehensive Income."
Comprehensive income is equal to net income plus the change in "other
comprehensive income," as defined by SFAS No. 130. This statement requires the
Company to report income and (loss) from non-owner sources. The only components
of other comprehensive income currently applicable to the Company is the net
unrealized gain or loss on interest rate cap contracts and the net unrealized
gain or loss on available for sale investment securities. FASB Statement No. 130
requires that an entity: (a) classify items of other comprehensive income by
their nature in a financial statement, and (b) report the accumulated balance of
other comprehensive income separately from common stock and retained earnings in
the equity section of the balance sheet.
EARNINGS PER SHARE
In February 1997, the FASB issued SFAS No. 128, "Earnings per Share", which was
adopted by the Company for the year ended December 31, 1997. SFAS No. 128
replaces the presentation of primary earnings per share with a presentation of
basic earnings per share based upon the weighted average number of common shares
for the period. It also requires dual presentation of basic and diluted earnings
per share for companies with complex capital structures (see Note 16 for this
presentation).
STOCK-BASED COMPENSATION
In December 2002, the FASB issued SFAS No. 148, "Accounting for Stock-Based
Compensation - Transition and Disclosure." This statement applies to financial
statements for fiscal years ending after December 15, 2002. It is an amendment
of SFAS No. 123, "Accounting for Stock-Based Compensation," to provide
alternative methods of transition for an entity that voluntarily changes to the
fair value method of accounting for stock-based employee compensation and also
amends the disclosure provisions of SFAS No. 123. SFAS No. 123 defines a fair
value based method of accounting for employee stock options or similar equity
instruments.
However, both also allow an entity to continue to measure compensation cost for
those plans using the intrinsic value based method of accounting prescribed by
APB Opinion No. 25, Accounting for Stock Issued to Employees. Under the fair
value based method, compensation cost is measured at the grant date based on the
value of the award and is recognized over the service period, which is usually
the vesting period. Under the intrinsic value based method, compensation cost is
the excess, if any, of the quoted market price of the stock at grant date or
other measurement date over the amount an employee must pay to acquire the
stock.
The Bank has elected to continue accounting for stock-based compensation under
APB Opinion No. 25 and disclose pro forma net income and earnings per share, as
if the fair value based method of accounting defined in SFAS No. 123 and 148 had
been applied.
At December 31, 2005, the Company has two remaining stock-based compensation
plans which are described in Note 12. Also described at Note 12 is another plan
that was eliminated during 1997. Prior to 2004, the Company applied APB Opinion
25 and related Interpretations in accounting for its plans. Accordingly, no
compensation cost has been recognized for its fixed stock option plans. Had
compensation cost for the Company's three stock-based compensation plans been
determined based on the fair value at the grant dates for awards under those
plans consistent with the method of SFAS No. 123 and 148, the Company 's net
50
income and earnings per share would have been reduced to the pro forma amounts
indicated below:
Years Ended December 31
2005 2004 2003
--------------- ------------- ----------------
Net Income, as reported $ 6,673,000 $5,457,000 $ 4,187,000
Add: Stock-based employee compensation
expense included in reported net income
net of related tax effects - - -
Deduct: Total stock-based employee
compensation expense determined under
fair value method for all awards, net of
related tax effects (1,153,000) (150,000) (143,000)
--------------- --------------- ----------------
Pro Forma Net Income $ 5,520,000 $ 5,307,000 $ 4,044,000
=============== ================ ================
Earnings per Share:
Basic-- as reported $ 1.95 $ 1.61 $ 1.25
Basic -- pro forma $ 1.61 $ 1.57 $ 1.21
Diluted-- as reported $ 1.83 $ 1.51 $ 1.18
Diluted -- pro forma $ 1.51 $ 1.47 $ 1.15
SFAS No. 123 was revised in December 2004 to require that, effective for periods
beginning after June 15, 2005, the Company begin using the fair market value
method for valuing and accounting for stock options. On April 14, 2005, the
Securities and Exchange Commission announced the adoption of a new rule which
delayed the implementation date for the new requirements until the beginning of
the next fiscal year (2006). The Company expects to apply the new requirements
in 2006 on a prospective basis.
RECLASSIFICATIONS
Certain prior period amounts have been reclassified for comparative purposes to
conform with the presentation in the current year financial statements.
NOTE 2 - INVESTMENT SECURITIES
---------------------
At December 31, 2005, the investment securities portfolio was comprised of
securities classified by the Bank as held to maturity (approximately 99%) and as
available for sale (the remaining 1%), in accordance with SFAS No. 115. The Bank
has the ability and intent to hold the 99% of the securities in its investment
portfolio to maturity. Therefore, the resulting investment securities classified
as held to maturity are being carried at amortized cost. The Bank also invested
in securities that have no stated maturity. As a result, these securities were
classified as available for sale securities. The available for sale securities
are carried at fair value at December 31, 2005.
51
The amortized cost and estimated market value of total investment securities at
December 31 are as follows:
2005
----------------------------------------------------------------------------
Gross Gross
Amortized Unrealized Unrealized Market
Cost Gains Losses Value
----------------------------------------------------------------------------
U.S. Treasury securities $ 29,016,000 $ - $ 215,000 $ 28,801,000
Securities of U.S. government
agencies and corporations 74,587,000 - 926,000 73,661,000
Other securities 64,033,000 - 1,536,000 62,497,000
------------ ------------ --------- -------------
Total Held to Maturity Securities 167,636,000 - 2,677,000 164,959,000
2,500,000 - 72,000 2,428,000
Total Available Sale Securities ------------ ------------ --------- -------------
Total Securities $170,136,000 $ - 2,749,000 $ 167,387,000
============ ============ ========= =============
2004
----------------------------------------------------------------------------
Gross Gross
Amortized Unrealized Unrealized Market
Cost Gains Losses Value
----------------------------------------------------------------------------
U.S. Treasury securities $ 51,576,000 $ - $ 368,000 $ 51,208,000
Securities of U.S. government
agencies and corporations 42,560,000 - 159,000 $ 42,401,000
Other securities 28,776,000 - 25,000 $ 28,751,000
---------- ----------- --------- ------------
Total Held to Maturity Securities 122,912,000 - 552,000 122,360,000
Total Available for Sale Securities 2,500,000 - 6,000 2,494,000
---------- ----------- --------- ------------
Total Securities $ 125,412,000 $ - $ 558,000 $ 124,854,000
============= ========== ========= =============
As of December 31, 2005 and 2004, securities carried at $15,029,000 and
$8,996,000, respectively, are pledged to secure public and other deposits of
$8,407,000 and $4,062,000, respectively, as required by law.
The book value and market value of securities at December 31, 2005, by
contractual maturity, are shown below. Expected maturities will differ from
contractual maturities because issuers may have the right to call or prepay
obligations with or without call or prepayment penalties.
Amortized Market
Cost Value
------------ -------------
Due in one year or less(*) $ 26,005,000 $ 27,881,000
Due after one year through five years(*) 73,346,000 70,378,000
Due after five years through ten years(*) 9,165,000 9,018,000
Due after ten years(*) 59,120,000 57,682,000
------------- -------------
$167,636,000 $ 164,959,000
============= =============
(*) Included in these categories is the Bank's investment in Small Business
Administration Guaranteed Loan Pool Certificates with a book value of
$1,298,000 and $1,591,000 and market value of $1,301,000 and $1,590,000 at
December 31, 2005 and 2004, respectively. These certificates can be sold
without penalty prior to maturity at the fair market value on the date of
disposal.
52
NOTE 3 - LOANS AND ALLOWANCE FOR POSSIBLE LOAN LOSSES
--------------------------------------------
Loans by major category consist of the following as of December 31:
2005 2004
------------ ------------
Commercial and industrial loans $ 55,895,000 $ 61,593,000
Real estate loans 333,121,000 248,997,000
Installment loans 1,719,000 2,018,000
Loans to finance agricultural production 18,211,000 13,549,000
All other loans 4,000 722,000
------------ ------------
408,950,000 326,879,000
Less: Allowance for possible loan losses 7,003,000 5,487,000
Less: Deferred loan fees 1,550,000 1,023,000
------------ ------------
Net Loans $400,397,000 $320,369,000
=========== ============
Changes in the allowance for possible loan losses are as follows:
Years Ended December 31 2005
2005 2004
------------ -------------
Beginning Balance 5,487,000 4,819,000
Provision charged to expense 1,200,000 1,200,000
Loans charged off (860,000) (819,000)
Recoveries 298,000 335,000
Reclassification from (to) allowance for off-balance sheet risks (*) 878,000 (48,000)
------------ ------------
Ending Balance $7,003,000 $5,487,000
============ ============
(*) Allowance for off-balance sheet risks is presented as part of the accrued
interest and other liabilities in the balance sheet.
At December 31, 2005 and 2004, the Bank had loans amounting to approximately
$4,676,000 and $4,962,000, respectively, that were specifically classified as
loans that when based on current information and events, it is possible that the
bank will be unable to collect all amounts due according to the contractual
terms of the loan agreement. Of these loans, $1,664,000 and $2,653,000,
respectively, are secured by real estate, and $196,000 and $513,000,
respectively, are SBA loans guaranteed by the U.S. Government.
There are no commitments to lend additional funds to the borrowers of impaired
or non-accrual loans at December 31, 2005.
Loans serviced for others, totaling approximately $21,511,000 and $13,330,000 at
December 31, 2005 and 2004, respectively, are not included in the accompanying
financial statements.
Most of the Bank's business is with customers located within the County of Kern,
California. The following are specific areas of concentration of credit risk
within the bank:
53
REAL ESTATE
The Bank makes real estate loans for both development and long-term financing.
The Bank's real estate loan portfolio was as follows at December 31:
2005 2004
------------- -------------
Construction and land development $ 100,115,000 $ 78,903,000
Secured by residential properties 13,468,000 $11,194,000
Secured by farmland 47,665,000 44,757,000
Secured by commercial properties 171,873,000 114,143,000
------------- -------------
$ 333,121,000 $ 248,997,000
============= =============
OTHER INDUSTRIES
The Bank makes loans to customers involved in various types of industries. The
following are concentrations of credit risk by major industry groups at December
31:
2005 2004
------------- --------------
Construction $ 99,976,000 $ 67,962,000
Agriculture 65,826,000 58,266,000
Church program 64,167,000 24,287,000
Commercial real estate 108,274,000 79,383,000
-------------- --------------
$ 338,243,000 $ 229,898,000
============== ==============
NOTE 4 - PREMISES AND EOUIPMENT
----------------------
Premises and equipment at December 31 are summarized as follows:
2005 2004
----------- ------------
Cost:
Land $ 909,000 $ 909,000
Building 5,428,000 5,428,000
Leasehold improvements - building 823,000 1,089,000
Furniture and equipment 4,062,000 4,817,000
Construction in process 217,000 -
---------- ------------
Total Cost 1,439,000 12,243,000
Less: Accumulated depreciation and amortization 3,762,000 4,491,000
Total Premesis and Equipment ---------- ------------
$7,677,000 $ 7,752,000
========== ============
Depreciation and amortization expense for premises and equipment amounted to
$879,000 and $580,000 in 2005 and 2004, respectively.
Two of the Company's branch office locations are subject to non-cancelable
operating lease agreements expiring at dates through the year 2006 with renewal
option periods extending through 2026. At December 31, 2005, minimum rental
commitments for non-cancelable operating leases are as follows:
Year Ending Minimum
December 3l Payments
- ----------- --------
2006 $ 27,000
--------
Total Minimum Payments $ 27,000
========
54
Minimum payments do not include rental payments that would be due if the Company
were to renew the leases when they expire in 2006. Management expects to renew
both leases when they expire in 2006. Rent expense for the years ended December
31, 2005 and 2004 amounted to $139,000 and $142,000, respectively.
NOTE 5 - INVESTMENT IN REAL ESTATE
-------------------------
The investment in other real estate owned consists of a 48-unit seniors
apartment project located in placeCityFarmersville, StateCalifornia. This
project is financed by the Rural Economic and Community Development Department
(formerly Farmers Home Administration), United States Department of Agriculture
(RECD). The Company acquired the project by a grant deed executed in lieu of
foreclosure pursuant to a judgment entered December 3, 1991, in Kern County
Superior Court. The deed was executed in settlement of a $400,000 loan owed to
the Company. Concurrent with the acquisition, the Company assumed an $880,000
loan payable to the RECD (see Note 9). The project is operated by Farmersville
Village Grove Associates, a California limited partnership, in which San Joaquin
Bank is the 95% limited partner and its wholly-owned subsidiary, Kern Island
Company, is the 5% general partner.
The investment in other real estate owned was originally recorded at the
outstanding loan amount in addition to the balance of the note payable assumed
by the Company as noted above, and consists of the following at December 31:
2005 2004
---------- ------------
Cost:
Building & improvements $1,430,000 $ 1,346,000
Land 49,000 49,000
---------- -----------
Total Cost 1,479,000 1,395,000
Less: Accumulated depreciation 769,000 709,000
---------- -----------
Total Investment in Real Estate $ 710,000 $ 686,000
========== ===========
Depreciation expense for the investment in real estate was $60,000 and $60,000
for the years ended December 31, 2005 and 2004. The carrying value is not
considered to be impaired. The Company accounts for this property as a
foreclosed asset to be held and used, as the Company applied for and was granted
an exemption by the FDIC from the regulatory requirement to divest of real
estate owned within specified time periods.
NOTE 6 - INTEREST RATE CAP CONTRACTS
---------------------------
San Joaquin Bank entered into interest rate cap contracts with a third party to
manage the risk that changes in interest rates will affect the amount of its
future income over the Bank's fixed-rate loans. The interest rate cap contracts
qualify as derivative financial instruments. Under an interest rate cap
contract, the Bank agrees to pay an initial fixed amount at the beginning of the
contract in exchange for quarterly payments from the third party when the
three-month LIBOR rate exceeds a certain fixed level.
The interest rate cap contracts are considered to be a hedge against changes in
the amount of future cash flows associated with the Bank's interest income for
the Bank's fixed-rate loans. Accordingly, the interest rate cap contracts are
recorded at fair value in the Bank's consolidated balance sheet and the related
unrealized gains or losses on these contracts are recorded in shareholders'
equity as a component of other comprehensive income. The cost of the interest
rate cap contract is being amortized as an adjustment to interest expense over
the same period in which the related interest payment being hedged are
recognized in income. However, to the extent that any of these contracts are not
considered to be perfectly effective in offsetting the change in the value of
the interest payments being hedged, any changes in fair value relating to the
ineffective portion of these contracts are immediately recognized in income.
At December 31, 2005, the Bank had interest rate cap contracts on $14 million
notional amount of indebtedness. The notional amount of $14 million will mature
on June 2, 2008. The net gain or loss on the ineffective portion of these
interest rate cap contracts was not material for the year ended December 31,
2005 and 2004.
55
NOTE 7 - MATURITIES OF CERTIFICATES OF DEPOSIT
At December 31, 2005, the scheduled maturities of certificates of deposit are as
follows:
2006 $ 23,882,000
2007 2,695,000
2008 508,000
--------------
$ 27,085,000
==============
NOTE 8 - FEDERAL FUNDS PURCHASED AND SECURITIES SOLD UNDER AGREEMENTS TO
---------------------------------------------------------------
REPURCHASE
----------
The Bank has lines of credit with other banks to meet short-term borrowing
needs. These borrowing would be in the form of federal funds purchased. At
December 31, 2005, the Bank had no outstanding federal funds purchased. Unused
credit lines totaled $15,000,000. Rates are based on the individual lending
bank's daily federal fund rates. These are uncommitted lines under which
availability is subject to the issuing banks.
Securities sold under agreements to repurchase generally mature within one day
from the transaction date. The Bank agrees to sell certain U.S. Treasury and
U.S. Agency securities, which are owned by the Bank, to customers of the Bank on
an overnight basis, subject to master repurchase agreements executed in advance
by the Bank and its customers. U.S. Treasury and U.S. Agency securities sold
under agreements to repurchase are delivered to a third-party correspondent bank
where they are held in a separate account, segregated from the Bank's other
investment securities held at the same correspondent bank. The Bank agrees,
under the terms of the master repurchase agreements, to repurchase all
securities sold under this program on the maturity date of the repurchase
agreement.
Information concerning securities sold under agreements to repurchase is
summarized as follows:
2005
----------------
Average balance during the year $ 2,042,000
Average interest rate during the year 1.72%
Maximum balance during the year $ 6,796,000
Securities underlying the agreements at year-end:
Carrying value -
Estimated fair value -
2004
----------------
Average balance during the year $ 6,741,000
Average interest rate during the year 0.82%
Maximum balance during the year $ 7,452,000
Securities underlying the agreements at year-end:
Carrying value $ 9,023,000
Estimated fair value $ 8,998,000
56
NOTE 9 - LONG-TERM DEBT AND OTHER BORROWINGS
-----------------------------------
Long-term debt consists of the following at December 31:
2005 2004
------------ -----------
Mortgage note payable, 9% stated rate - matures 2030 $ 797,000 $ 805,000
Subordinated Note, 3 month LIBOR + 2.7% floating rate - due 2019 6,000,000 6,000,000
------------ -----------
Total Long-Term Debt $ 6,797,000 $ 6,805,000
============ ===========
The mortgage note payable is secured by a 48-unit seniors apartment project (see
Note 5) and is payable in monthly installments of $2,300 including interest at a
stated rate of 9%. The loan matures in 2030. The note is classified as a Rural
Rental Housing (RRH) loan issued pursuant to the Housing Act of 1949. Under the
RRH program, the borrower pays interest at a rate lower than the stated rate.
Estimated future maturities of long-term debt at December 31, 2005 are as
follows:
Years Ending
December 31
2006 $ 9,000
2007 10,000
2008 11,000
2009 12,000
2010 13,000
Thereafter 6,742,000
-------------
$ 6,797,000
=============
The subordinated note is a capital security that qualifies as Tier 2 capital
pursuant to capital adequacy guidelines promulgated by the FDIC. The
subordinated note matures in 2019. The Company may redeem the Subordinated Note,
at par, on or after April 23, 2009, subject to compliance with California and
federal banking regulations. The Subordinated Note resets quarterly and bears
interest at a rate equal to the three-month LIBOR index plus a margin of 2.70%.
The Bank has borrowing capacity, both short and long-term, with the Federal Home
Loan Bank of San Francisco in the amount of $18,066,000 to supplement other
funding sources as the need arises. At December 31, 2005, there were no balances
outstanding under these credit lines.
NOTE 10 - CONTINGENCIES
-------------
In the normal course of business, the Company occasionally becomes party to
litigation. In the opinion of management, based upon advice of legal counsel,
pending or threatened litigation involving the bank will not have a material
adverse effect upon its financial condition or results of operations.
NOTE 11 - FINANCIAL INSTRUMENTS WITH OFF-BALANCE SHEET RISK
-------------------------------------------------
The balance sheet does not reflect various commitments relating to financial
instruments with off-balance sheet risk which are used in the normal course of
business. These instruments include commitments to extend credit and standby
letters of credit. Management does not anticipate that the settlement of these
financial instruments will have a material adverse effect on the bank's
financial position.
These financial instruments carry various degrees of credit 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.
57
The contractual amounts of commitments to extend credit and standby 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.
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 receives a fee for providing
a commitment. The bank evaluates each customer's creditworthiness on a
case-by-case basis. The amount of collateral obtained, if deemed necessary by
the bank upon the extension of credit, is based on management's evaluation.
Collateral held varies but may include accounts receivable, inventory, property,
equipment and real estate.
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 market.
The following is a summary of various financial instruments with off-balance
sheet risk at December 31:
2005 2004
--------------- -----------
Commitments to extend credit $ 224,027,000 $160,185,000
Standby letters of credit $ 8,676,000 $ 7,129,000
NOTE 12 - STOCK OPTIONS AND PROFIT BONUS PLAN
-----------------------------------
FIXED STOCK OPTION PLANS
Options on shares of the Company's common stock have been granted to certain key
employees under a 1980 fixed option plan, rescinded and re-drawn in 1984. The
1980 plan expired December 31, 1990, and all remaining granted options were
exercised in February of 1997. Accordingly, no options are available for grant
and no options exist to be exercised at December 31, 2005 under the 1980 plan.
On May 1, 1989, the Company's shareholders approved a new fixed option plan.
Under the 1989 fixed option plan, the Company may grant options to its officers
and employees for up to 463,000 (as adjusted for stock splits and stock
dividends declared through December 31, 1998) shares of common stock. Under this
plan, the exercise price of each option equals the market price of the Company's
stock on the date of grant and each option is exercisable in specified
increments up to 10 years from the date of grant. The 1989 plan terminated on
May 1, 1999. Accordingly, no new options can be granted under the 1989 plan.
On June 4, 1999, the Company's shareholders approved to grant options under a
new plan, to its officers and employees. The 1999 Plan's term is for ten years
to vest at twenty percent per year and to be at a price determined by a weighted
average mean between the bid and ask prices of the Company stock for thirty days
preceding the option grant date.
Effective December 31, 2005, the Board of Directors (the "Board") of San Joaquin
Bank (the "Company") voted to accelerate the vesting of all unvested options to
acquire the Company's common stock that were outstanding at that date (the
"Acceleration"), except that no options to non-employee directors were affected
by the Acceleration. A total of 158,870 shares subject to option were impacted
by the Acceleration. As a result of the acceleration, and based upon estimated
Black-Scholes value calculations, the Company will not be required to recognize
pretax compensation expense related to the accelerated options of approximately
$833,000. Had the Acceleration not occurred, the Company would have had to
recognize this expense over the next five years when the Company becomes subject
to the requirements of Financial Accounting Standards Board Statement No. 123R,
"Share-Based Payment," on January 1, 2006. Under applicable accounting guidance,
the company does not expect to record a charge related to the Acceleration. As a
result of the acceleration, certain options granted to the Company's Chairman of
the Board, Bruce Maclin, Chief Executive Officer, Bart Hill, and two other
highest paid executive officers (together the "Named Executive Officers")
exceeded the $100,000 limit established by IRS regulation ss.1.422-4. As such,
the excesS options granted to the Named Executive Officers must be treated as
non-statutory options. All other terms and conditions of the accelerated options
remained unchanged as a result of the Acceleration.
58
The fair value of each option grant is estimated on the date of grant using the
Black-Scholes American option-pricing model with the following weighted-average
assumptions used for grant in 2005 and 2004, respectively: dividend yield of
0.88% for 2005 plan, 1.07% for 2004; approximate expected volatility of 29.05%
and 34.69%, risk-free interest rates of 3.99% and 3.81%; and expected lives of
7.91 and 7.86 years for 2005 and 2004, respectively.
A summary of the status of the Company's two fixed stock option plans as
adjusted for stock splits and stock dividends declared, as of December 31, 2005
and 2004, and changes during the years ending on those dates is presented below:
2005 2004
-------------------------- -----------------------------
Weighted-Average Weighted-Average
Shares Exercise Price Shares Exercise Price
------ -------------- ------ --------------
Fixed Options:
Outstanding at beginning of year 420,078 $ 11.36 408,561 $ 9.03
Granted 59,350 27.10 60,000 26.18
Exercised (39,762) 4.67 (43,983) 4.26
Expired (3,000) 14.80 (4,500) 12.84
-------- --------- -------- ----------
Outstanding at Year-End 436,666 $ 14.09 420,078 $ 11.36
======= ========= ======= ==========
Options exercisable at year-end 417,866 273,948
Weighted-average fair value of
options granted during the year $ 8.89 $ 8.83
The following table summarizes information about fixed stock options outstanding
at December 31, 2005:
Options Outstanding Options Exercisable
------------------------------------------------- -------------------------------
Range of Number Remaining Weighted- Number Weighted-
Weighted-Average Outstanding at Contractual Average Outstanding at Average
Exercise Prices 12/31/2005 Life (years) Exercise Price 12/31/2005 Exercise Price
--------------- ---------- ------------ -------------- ---------- --------------
$5.76-8.49 107,986 2.36 $ 7.40 106,986 $ 7.40
8.50-12.74 164,830 4.47 10.73 162,430 10.74
12.75 - 18.99 45,800 2.77 14.67 42,200 14.60
19.00 - 26.49 97,050 8.07 23.80 92,250 23.95
$26.50 - 31.00 21,000 6.99 28.65 14,000 29.48
-------------- ------- ---- ------- ------- -------
436,666 4.69 $ 14.09 417,866 $ 13.82
======= ==== ======= ======= =======
NOTE 13 - OTHER EXPENSES
--------------
Other expenses are summarized as follows for the years ended December 31:
2005 2004 2003
----------- ----------- -----------
Promotion $ 667,000 $ 473,000 $ 518,000
Travel, meals and lodging 165,000 192,000 169,000
Professional services 934,000 719,000 810,000
Office supplies and expenses 665,000 528,000 462,000
Regulatory assessments 113,000 90,000 116,000
Insurance 317,000 329,000 246,000
Director related expenses 189,000 253,000 268,000
Other 491,000 685,000 941,000
----------- ----------- -----------
Total $ 3,541,000 $ 3,269,000 $ 3,530,000
=========== =========== ===========
59
For the year ended December 31, 2005, total advertising expense was $281,000 as
compared to $207,000 in 2004 and $246,000 in 2003.
NOTE 14 - INCOME TAXES
------------
The provision for income taxes consists of the following:
2005 2004 2003
---- ---- ----
Current:
Federal $ 3,935,000 $ 2,887,000 $ 2,366,000
State 1,399,000 1,046,000 795,000
------------ ------------- ---------
5,334,000 3,933,000 3,161,000
------------ ------------- ---------
Deferred:
Federal (433,000) (96,000) (546,000)
State (116,000) (321,000) (477,000)
------------- -------------- -----------
(549,000) (417,000) (1,023,000)
------------- -------------- -----------
Total Provision For Income Taxes $ 4,785,000 $ 3,516,000 $ 2,138,000
============ ============== ==============
The components of the net deferred tax asset (included in other assets) were as
follows:
2005 2004
----
Deferred Tax Assets:
Allowance for loan losses $ 2,161,000 $ 2,364,000
Accumulated depreciation 62,000 (18,000)
Salary continuation accrual 1,667,000 1,142,000
Unrealized loss on interest rate cap contract 96,000 65,000
Other 106,000 10,000
-------------- ---------------
Net Deferred Tax Assets $ 4,092,000 $ 3,563,000
============== ===============
The applicable rate for current and future years is based on the average rate as
compared to the effective tax rate for the current period. The Company believes
that no valuation allowance is necessary due to the adequacy of future taxable
income from reversals of temporary differences and taxable income exclusive of
temporary differences.
A reconciliation of the Company's provision for income taxes and the amount
computed by applying the U.S. statutory federal income tax rate of 35% at
December 31, 2005 and 2004, respectively, to pretax income is as follows:
2005 2004 2003
-------------- --------------- --------------
Tax computed at 35%, respectively $ 4,010,000 $ 3,140,000 $ 2,214,000
Increases (decreases) in taxes resulting from:
Tax credits (50,000)
State taxes, net of federal income tax benefit 834,000 471,000 207,000
Other, net (59,000) (95,000) (233,000)
-------------- --------------- --------------
Total Provision For Income Taxes $ 4,785,000 $ 3,516,000 $ 2,138,000
============== =============== ==============
Effective Tax Rate 41.76% 39.18% 33.80%
=============== ================ ===============
In 1994, the California Tax Credit Allocation Committee (TCAC), in its role as
administrator of the Federal and California low income housing tax credit
program, granted approval to the Company for Federal low income housing tax
credits in the amount of approximately $50,000 annually for each of the ten
following years. Use of these credits was contingent on the Company performing
certain capital improvements to a 48-unit senior apartment project owned by the
Company. The Company completed the capital improvements during 1994 (see Note
5). As such, the Company began utilizing the credits beginning in 1994. The
credits expired in 2004.
60
NOTE 15 - OTHER COMPREHENSIVE INCOME (LOSS)
---------------------------------
The other comprehensive income (loss) at December 31, 2005 and 2004 were
presented as follows:
2005 2004
------------- -----------
Net unrealized holding gain (loss) arising during the period, before tax $ 44,000 $ (30,000)
Less: deferred tax benefit (liability) (17,000) 12,000
---------- -----------
Unrealized Holding Income (Loss), Net of Tax 27,000 (18,000)
Accumulated unrealized holding income (loss),
net of tax - beginning of the year (152,000) (134,000)
============ ==========
Accumulated Unrealized Holding Income (Loss), Net
of Tax - end of period $ (125,000) $ (152,000)
------------ -----------
NOTE 16 - BASIC AND DILUTED EARNINGS PER SHARE
Basic and diluted earnings per share are calculated as follows:
Years Ended December 31
2005 2004
---------- ---------
Basic Earnings per Share:
Net income $ 6,673,000 $ 5,457,000
Weighted average common shares outstanding 3,421,000 3,388,000
----------- --------------
Basic Earnings per Share $ 1.95 1.61
=========== ==============
Diluted Earnings per Share:
Net income $6,673,000 $ 5,457,000
Weighted average common shares outstanding 3,421,000 3,388,000
Dilutive effect of outstanding options 229,000 218,000
----------- -------------
Weighted average common shares outstanding - diluted 3,650,000 3,606,000
----------- -------------
Diluted Earnings per Share $ 1.83 $ 1.51
=========== =============
Earnings per share are based on the weighted average number of shares
outstanding during the year.
NOTE 17 - DISCLOSURES ABOUT FAIR VALUE OF FINANCIAL INSTRUMENTS
-----------------------------------------------------
In accordance with SFAS No. 107, "Disclosures about Fair Value of Financial
Instruments," the estimated fair values of financial instruments are disclosed
as of December 31, 2005 and 2004. SFAS No. 107 defines fair value as the amount
at which the instrument could be exchanged in a current transaction between
willing parties, other than in a forced sale or liquidation.
Fair value estimates were based on existing on-balance sheet financial
instruments without attempting to estimate the value of anticipated future
business and the value of assets and liabilities that are not considered
financial instruments. Where possible, the Bank has utilized quoted market
prices to estimate fair value. Since quoted market prices were not available for
a significant portion of the financial instruments, the fair values were
approximated using discounted cash flow techniques.
Fair value estimates are made at a specific point in time, based on judgments
regarding future expected loss experience, current economic conditions, risk
conditions, risk characteristics of various financial instruments and other
factors. These estimates do not reflect any premium or discount that could
61
result from offering for sale at one time the Bank's entire holdings of a
particular financial instrument. These estimates are subjective in nature and
involve uncertainties and matters of significant judgment and therefore cannot
be determined with precision. Changes in assumptions could significantly affect
the estimates. Because no active market exists for a significant portion of the
financial instruments presented below and the inherent imprecision involved in
the estimation process, management does not believe the information presented
reflects the amounts that would be received if the Bank's assets and liabilities
were sold nor does it represent the fair value of the Bank as an entity. This
information is presented solely for compliance with SFAS No. 107 and is subject
to change over time based on a variety of factors.
The following presents the carrying value and estimated fair value of the
various classes of on-balance sheet financial instruments held by the Bank at
December 31, 2005 and 2004:
December 31, 2005 December 31, 2004
-------------------------------------------------------
Carrying Estimated Carrying Estimated
Value Fair Value Value Fair Value
----- ---------- ----- ----------
Assets
------
Cash and cash equivalents $ 26,445,000 $ 26,445,000 $ 24,409,000 $ 24,409,000
Investment Securities 170,064,000 167,388,000 125,406,000 124,854,000
Loans, net 400,397,000 404,638,000 320,369,000 319,586,000
Liabilities
-----------
Noninterest-bearing deposits 186,266,000 186,266,000 150,770,000 150,770,000
Interest-bearing transaction and savings accounts 362,182,000 360,555,000 270,757,000 269,425,000
Time deposits 27,085,000 27,083,000 21,449,000 21,492,000
---------- ---------- ---------- ----------
Total deposits 575,533,000 573,904,000 442,976,000 441,687,000
Federal funds purchased and securities sold under
agreements to repurchase - - 8,663,000 14,663,000
Other borrowed funds 6,797,000 6,313,000 6,805,000 6,383,000
The following methods and assumptions were used to estimate the fair value of
each class of financial instruments. These assumptions were based on subjective
estimates of market conditions and perceived risks of the financial instruments
at a certain point in time.
SHORT-TERM FINANCIAL INSTRUMENTS
Financial instruments with maturities within 90 days of the balance sheet date
are valued at the carrying amounts included in the balance sheet. This approach
applies to cash and cash equivalents.
INVESTMENT SECURITIES
The carrying amounts for securities maturing within 90 days of the financial
statement date are assumed to approximate fair value provided they do not
present unanticipated credit concerns. The fair value of longer term investments
and mortgage-backed securities was estimated based on bid prices published in
financial newspapers or bid quotations received from securities dealers.
LOANS
Fair values were estimated for portfolios of loans with similar financial
characteristics. Loans were segregated by type such as commercial, real estate,
credit card and other consumer. Each loan category was further segmented into
fixed and adjustable rate interest terms and by performing and non-performing
categories.
The fair values of loans were determined based on discounted cash flow modeling
techniques. The discount rate used was based on quoted market rates for loans
where there is an active secondary market. The discount rate for all other loans
was based on the current offer rates for loans made to borrowers with similar
credit risks and remaining maturities.
62
Fair value for significant nonperforming loans was based on the carrying value
adjusted for anticipated credit loss risk, estimated time for resolution,
valuation of the underlying collateral and other related resolution costs.
DEPOSIT LIABILITIES
The fair value of deposits with no stated maturity, such as non-interest bearing
demand deposits, savings and money market accounts, is equal to the amount
payable on demand. The fair value of certificates of deposit is based on the
discounted value of contractual cash flows. The discount rate was estimated
using the rates currently offered for deposits of similar remaining maturities.
The fair value estimated does not include the benefit that results from the
low-cost funding provided by the deposit liabilities compared to the cost of
borrowing funds in the market.
FEDERAL FUNDS PURCHASED AND SECURITIES SOLD UNDER AGREEMENTS TO REPURCHASE
The fair value of the Bank's securities sold under agreements to repurchase is
assumed to approximate fair value.
OTHER BORROWED FUNDS
The fair value of the Bank's other borrowed funds and long-term debt was
estimated by discounting contractual cash flows using discount rates based on
current rate offered for debt of the same remaining maturity.
NOTE 18 - RELATIONSHIPS WITH RELATED PARTIES
As part of its normal banking activities, the Company has extended credit to and
received deposits from certain members of its Board of Directors and management
and companies in which directors have an interest. These related parties had
deposits at the Bank approximating $9,083,000 and $5,955,000; and $6,640,000 and
$3,905,000 in outstanding loans at December 31, 2005 and 2004, respectively. In
the opinion of management, all such extensions of credit and deposit
relationships are on terms similar to transactions with non-affiliated parties
and involve only normal credit risk with no undue exposure. Each loan has been
approved by the Loan Committee of the Board of Directors. During 2005, loan
disbursements to related parties amounted to $12,965,000 and repayments from
such related parties amounted to $13,183,000.
NOTE 19 - RETIREMENT PLAN
401(k) PROFIT SHARING
The Company has a profit sharing plan covering substantially all employees.
Under this plan, employees may contribute a percentage of their compensation up
to the maximum allowable by law. The employer contributes 50% of the employees'
contributions not to exceed 2.5% of the participating employees' compensation.
Total employer contributions to the plan for the years ended December 31, 2005
and 2004 were $85,000 and $75,000, respectively. In 2005, the Company also
contributed a $51,000 discretionary special contribution for non-officer
employees.
DEFERRED COMPENSATION PLAN
During 1997, the Company implemented a Director Deferred Compensation Plan
(DCP). This is a non-qualified plan for eligible directors.
SALARY CONTINUATION PLAN
During 1997, the Company implemented a Salary Continuation Plan (SCP). This is a
non-qualified plan in which the company agrees to pay key executives additional
63
benefits in the future, usually at retirement, in return for satisfactory
performance by the executive. The SCP is an unfunded plan and is designed to
recover its costs through the use of a cash value life insurance policy of each
participant.
As of December 31, 2005 and 2004, approximately $3,637,000 and $2,492,000,
respectively, had been accrued in conjunction with these agreements.
In order to fund the DCP and SCP plans, the Bank purchased life insurance
policies in which it is owner and beneficiary. Aggregate cash surrender values
of these policies approximate $10,179,000 and $9,872,000 at December 31, 2005
and 2004, respectively.
NOTE 20 - REGULATORY MATTERS
------------------
The Bank is subject to various regulatory capital requirements administered by
the federal and state banking agencies. Failure to meet minimum capital
requirements can initiate certain mandatory, and possibly additional
discretionary, actions by regulators that, if undertaken, could have a direct
material effect on the Bank's financial statements. Under capital adequacy
guidelines and the regulatory framework for prompt corrective action, the Bank
must meet specific capital guidelines that involve quantitative measures of the
Bank's assets, liabilities, and certain off-balance-sheet items as calculated
under regulatory accounting practices. The Bank's capital amounts and
classification are also subject to qualitative judgments by the regulators about
components, risk weightings, and other factors.
Quantitative measures established by regulations to ensure capital adequacy
require the Bank to maintain minimum amounts and ratios (set forth in the table
below) of total and Tier 1 capital (as defined in the regulations) to
risk-weighted assets (as defined), and of Tier 1 capital (as defined) to average
assets (as defined). Management believes, as of December 31, 2005, that the Bank
meets all capital adequacy requirements to which it is subject.
As of June 30, 2005, the most recent notification from the FDIC categorized the
Bank as well-capitalized under the regulatory framework for prompt corrective
action (there are no conditions or events since that notification that
management believes have changed the Bank's category). To be categorized as
well-capitalized, the Bank must maintain minimum ratios as set forth in the
table below. The following table also sets forth the Bank's actual capital
amounts and ratios (dollar amounts in thousands):
To Be Categorized
For Capital Adequacy Well Capitalized
Actual Purposes Under Prompt Corrective
Action Provisions
---------------------------- -------------------------- ---------------------------
Amount Ratio Amount Ratio Amount Ratio
- --------------------------------------------------------------------------------------------------------------
As of December 31, 2005
- --------------------------------------------------------------------------------------------------------------
Total risk-based capital ratio $51,510,000 10.51% $ 39,208,000 8.00% $ 49,010,000 10.00%
Tier 1 risk-based capital ratio 39,372,000 8.03% 19,612,000 4.00% 29,419,000 6.00%
Tier 1 leverage ratio 39,372,000 6.44% 24,455,000 4.00% 30,568,000 5.00%
As of December 31, 2004
- --------------------------------------------------------------------------------------------------------------------
Total risk-based capital ratio $$44,122,000 11.50% $ 30,694,000 8.00% $ 38,367,000 10.00%
Tier 1 risk-based capital ratio 33,306,000 8.68% 15,348,000 4.00% 23,023,000 6.00%
Tier 1 leverage ratio 33,306,000 6.66% 20,004,000 4.00% 25,005,000 5.00%
------------------------------------------------------------------------------------------------------------------
On April 5, 2004, the Bank issued a $6,000,000 floating rate subordinated note
in a private placement (see Note 9). The Subordinated Note is a capital security
that qualifies as Tier 2 capital pursuant to capital adequacy guidelines
promulgated by the FDIC. The Subordinated Note positively impacted the Company's
total capital to risk weighted asset ratio for the period ended December 31,
2005 and 2004.
64
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Board of Directors and
Shareholders of San Joaquin Bank
We have audited the consolidated balance sheet of San Joaquin Bank and its
subsidiary as of December 31, 2005 and 2004, and the related consolidated
statements of income, changes in shareholders' equity, and cash flows for
each of the years in the three year period ended December 31, 2005. These
consolidated financial statements are the responsibility of the Company's
management. Our responsibility is to express an opinion on these
consolidated financial statements based on our audits.
We conducted our audits in accordance with auditing standards of the Public
Company Accounting Oversight Board (United States). Those standards require
that we plan and perform the audits 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 San
Joaquin Bank and its subsidiary as of December 31, 2005 and 2004, and the
results of their operations and their cash flows for each of the years in
the three year period ended December 31, 2005 in conformity with accounting
principles generally accepted in the United States of America.
/s/ BUSTER H. ARMSTRONG
-----------------------
BROWN ARMSTRONG PAULDEN
McCOWN STARBUCK & KEETER
ACCOUNTANCY CORPORATION
Bakersfield, California
February 3, 2006
65
MANAGEMENT'S LETTER OF FINANCIAL RESPONSIBILITY
To Our Shareholders:
The Management of San Joaquin Bank is responsible for the preparation,
integrity, reliability and consistency of the information contained in this
annual report. The consolidated financial statements, which necessarily include
amounts based on judgments and estimates, were prepared in conformity with
generally accepted accounting principles and prevailing practices in the banking
industry. All other financial information appearing throughout this annual
report is presented in a manner consistent with the consolidated financial
statements.
Management has established and maintains a system of internal controls that
provides reasonable assurance that the underlying financial records are reliable
for preparing the consolidated financial statements, and that assets are
safeguarded from unauthorized use or loss. This system includes extensive
written policies and operating procedures and a comprehensive internal audit
function, and is supported by the careful selection and training of staff, an
organizational structure providing for division of responsibility, and a Code of
Ethics covering standards of personal and business conduct.
Management believes that, as of December 31, 2005, the Corporation's internal
control environment is adequate to provide reasonable assurance as to the
integrity and reliability of the consolidated financial statements and related
financial information contained in the annual report. However, there are limits
inherent in all systems of internal accounting control and Management recognizes
that errors or irregularities may occur. Based on the recognition that the costs
of such systems should not exceed the benefits to be derived, Management
believes the Bank's system provides an appropriate cost/benefit balance.
The system of internal controls is under the general oversight of the Board of
Directors acting through its Audit Committee, which is comprised entirely of
outside directors. The Audit Committee monitors the effectiveness of and
compliance with internal controls through a continuous program of internal
audit. This is accomplished through periodic meetings with Management, internal
auditors and independent auditors to assure that each is carrying out their
responsibilities.
The Corporation's consolidated financial statements have been audited by Brown,
Armstrong, Paulden, McCown, Starbuck & Keeter Accountancy Corporation,
independent certified public auditors elected by the shareholders. All financial
records and related data, as well as the minutes of shareholders and directors
meetings, have been made available to them. Management believes that all
representations made to the independent auditors during their audit were valid
and appropriate.
/s/ BART HILL
-------------
Bart Hill
DIRECTOR, PRESIDENT AND CHIEF EXECUTIVE OFFICER
/s/ STEPHEN M. ANNIS
--------------------
Stephen M. Annis
EXECUTIVE VICE PRESIDENT AND CHIEF FINANCIAL OFFICER
66
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
None.
ITEM 9A. CONTROLS AND PROCEDURES
EVALUATION OF DISCLOSURE CONTROLS AND PROCEDURES
The term "disclosure controls and procedures" as defined in Rule 13a-15(e) of
the Securities Exchange Act of 1934, as amended, (the "Exchange Act") refers to
the controls and procedures of a company that are designed to ensure that
information required to be disclosed by a company in the reports that it files
pursuant to Regulation 13A of the Exchange Act is recorded, processed,
summarized and reported within required time periods. As of December 31, 2005
(the "Evaluation Date"), we carried out an evaluation under the supervision and
with the participation of our Chief Executive Officer and Chief Financial
Officer of the effectiveness of our disclosure controls and procedures. Based on
that evaluation, our Chief Executive Officer and Chief Financial Officer have
concluded that, as of the Evaluation Date, such controls and procedures were
effective in ensuring that required information will be disclosed on a timely
basis in our periodic reports filed with the FDIC under the Exchange Act.
CHANGES IN INTERNAL CONTROLS
The evaluation did not identify any change in our internal control over
financial reporting that occurred during the quarter ended December 31, 2005
that has materially affected, or is reasonably likely to materially affect, our
internal control over financial reporting.
ITEM 9B. OTHER INFORMATION
None.
67
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
The information required by this item will appear in the Bank's definitive proxy
statement under the captions "Nominees to the Board of Directors," "Executive
Officers," "Section 16 Compliance" and "Audit Committee" for the annual Meeting
of shareholders (the "2006 Proxy Statement"). Such information either shall be
(i) deemed to be incorporated herein by reference from that portion of the 2006
Proxy Statement, if filed with the FDIC not later than 120 days after the end of
the Bank's most recently completed fiscal year, or (ii) included as an amendment
to this report filed with the FDIC on Form 10-K/A not later than the end of such
120 day period.
The Bank has adopted a Code of Ethics that applies to the Bank's executive
officer, principal financial officer, principal accounting officer and
controller, and persons performing similar functions. The Bank will provide to
any person without charge, upon request, a copy of this Code of Ethics. If you
would like to receive a copy, you can notify us by sending a written request to:
San Joaquin Bank
Corporate Secretary
1301 17th Street
Bakersfield, California 93301
ITEM 11. EXECUTIVE COMPENSATION
The information required by this item will appear in the 2006 Proxy Statement
under the caption "Executive Compensation", and such information either shall be
(i) deemed to be incorporated herein by reference from that portion of the 2006
Proxy Statement, if filed with the FDIC not later than 120 days after the end of
the Bank's most recently completed fiscal year, or (ii) included as an amendment
to this report filed with the FDIC on Form 10-K/A not later than the end of such
120 day period.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND
RELATED STOCKHOLDER MATTERS
The information required by this item will appear in the 2006 Proxy Statement
under the caption "Security Ownership of Directors and Management", and such
information either shall be (i) deemed to be incorporated herein by reference
from that portion of the 2006 Proxy Statement, if filed with the FDIC not later
than 120 days after the end of the Bank's most recently completed fiscal year,
or (ii) included as an amendment to this report filed with the FDIC on Form
10-K/A not later than the end of such 120 day period.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The information required by this item will appear in the 2006 Proxy Statement
under the caption "Bank Transactions With Directors and Management", and such
information either shall be (i) deemed to be incorporated herein by reference
from that portion of the 2006 Proxy Statement, if filed with the FDIC not later
than 120 days after the end of the Bank's most recently completed fiscal year,
or (ii) included as an amendment to this report filed with the FDIC on Form
10-K/A not later than the end of such 120 day period.
ITEM 14. PRINCIPAL ACCOUNTING FEES AND SERVICES
The information required by this item will appear in the 2006 Proxy Statement
under the caption "Audit Fees", and such information either shall be (i) deemed
to be incorporated herein by reference from that portion of the 2006 Proxy
Statement, if filed with the FDIC not later than 120 days after the end of the
Bank's most recently completed fiscal year, or (ii) included as an amendment to
this report filed with the FDIC on Form 10-K/A not later than the end of such
120 day period.
68
PART IV
ITEM 15. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES
(a) The following documents are filed as part of this Annual Report on Form
10-K:
1. FINANCIAL STATEMENTS. See index to financial statements on Page 40.
2. Financial Statement Schedules. All financial statement schedules as
required by Item 8 and Item 15(d) of Form 10-K have been omitted because
the information requested is either not applicable or has been included in
the consolidated financial statements or notes thereto.
3. Exhibits. The exhibits listed under Item 15(b hereof are filed or furnished
with, or incorporated by reference into, this Annual Report on Form 10-K.
(b) Exhibits. The following exhibits are filed or furnished as a part of, or
incorporated by reference into, this report on Form 10-K:
EXHIBIT DESCRIPTION OF EXHIBIT
- ------- ----------------------
NUMBER
3.1 Articles of Incorporation of the Registrant dated January 3, 1980.
(Incorporated by reference from Exhibit 3.1 filed with the
Registrant's registration statement on Form 10 filed on April 30,
2003)
3.1(a) First Amendment to Articles of Incorporation of the Registrant dated
April 30, 1982. (Incorporated by reference from Exhibit 3.1(a) filed
with the Registrant's registration statement on Form 10 filed on April
30, 2003)
3.1(b) Second Amendment to Articles of Incorporation of the Registrant dated
May 24, 1989. (Incorporated by reference from Exhibit 3.1(b) filed
with the Registrant's registration statement on Form 10 filed on April
30, 2003)
3.1(c) Third Amendment to Articles of Incorporation of the Registrant dated
March 28, 1997 (incorporated by reference from Exhibit 3.1(c) filed
with the Registrant's registration statement on Form 10 filed on April
30, 2003)
3.1(d) Fourth Amendment to Articles of Incorporation of the Registrant dated
May 1, 1998. (Incorporated by reference from Exhibit 3.1(d) filed with
the Registrant's registration statement on Form 10 filed on April 30,
2003)
3.1(e) Fifth Amendment to Articles of Incorporation of the Registrant dated
July 16, 1999. (Incorporated by reference from Exhibit 3.1(e) filed
with the Registrant's registration statement on Form 10 filed on April
30, 2003)
3.2 Bylaws of the Registrant dated January 3, 1980. (Incorporated by
reference from exhibit 3.2 filed with Registrant's registration
statement on Form 10 filed on April, 30, 2003)
3.2(a) First Amendment of Bylaws of the Registrant dated July 28, 1989.
(Incorporated by reference from Exhibit 3.2(a) filed with the
Registrant's registration statement on Form 10 filed on April 31,
2003)
69
EXHIBIT DESCRIPTION OF EXHIBIT
- ------- ----------------------
NUMBER
- ------
3.2(b) Second Amendment of Bylaws of the Registrant dated January 16, 1990.
(Incorporated by reference from Exhibit 3.2(b) filed with the
Registrant's registration statement on Form 10 filed on April 31,
2003)
3.2(c) Third Amendment of Bylaws of the Registrant dated May 10, 1995.
(Incorporated by reference from Exhibit 3.2(c) filed with the
Registrant's registration statement on Form 10 filed on April 31,
2003)
3.2(d) Fourth Amendment of Bylaws of the Registrant dated February 22, 1999.
(Incorporated by reference from Exhibit 3.2(d) filed with the
Registrant's registration statement on Form 10 filed on April 31,
2003)
3.2(e) Fifth Amendment of Bylaws of the Registrant dated June 18, 2002.
(Incorporated by reference from Exhibit 3.2(e) filed with the
Registrant's registration statement on Form 10 filed on April 31,
2003)
4.1 Specimen Common Stock Certificate of the Registrant.
10.1* Amended and Restated 1989 Stock Option Plan of the Registrant.
(Incorporated by reference from Exhibit 10.1 filed with the
Registrant's registration Statement on Form 10 filed on April 30,
2003)
10.2* 1999 Stock Incentive Plan of the Registrant. (Incorporated by
reference from Exhibit 10.2 filed with the Registrant's registration
Statement on Form 10 filed on April 30, 2003)
10.3* Form of Incentive Stock Option Agreement pursuant to 1999 Stock
Incentive Plan of the Registrant. (Incorporated by reference from
Exhibit 10 filed with Registrant's Form 8-K filed on March 15, 2005)
10.4* Amended and Restated Executive Salary Continuation Agreement dated
June 18, 2004 between the Registrant and Bruce Maclin. (Incorporated
by reference from Exhibit 10.4 filed with the Registrant's Annual
Report on Form 10-K filed on March 25, 2005)
10.5* Amended and Restated Executive Salary Continuation Agreement dated
June 18, 2004 between the Registrant and Bart Hill. (Incorporated by
reference from Exhibit 10.5 filed with the Registrant's Annual Report
on Form 10-K filed on March 25, 2005)
10.6* Amended and Restated Executive Salary Continuation Agreement dated
June 13, 2003 between the Registrant and Stephen Annis. (Incorporated
by reference from Exhibit 10.5 filed with the Registrant's Annual
Report on Form 10-K filed on March 29, 2004)
10.7* Amended and Restated Executive Salary Continuation Agreement dated
June 13, 2003 between the Registrant and John W. Ivy. (Incorporated by
reference from Exhibit 10.6 filed with the Registrant's Annual Report
on Form 10-K filed on March 29, 2004)
10.8* Change in Control Agreement dated January 28, 1999 between the
Registrant and Bruce Maclin. (Incorporated by reference from Exhibit
10.7 filed with the Registrant's registration statement on Form 10
Filed on April 30, 2003)
10.8(a)* First Amendment to Change in Control Agreement dated June 7, 2001
between the Registrant and Bruce Maclin. (Incorporated by reference
from Exhibit 10.7(a) filed with the Registrant's registration
statement on Form 10 Filed on April 30, 2003)
70
EXHIBIT DESCRIPTION OF EXHIBIT
- ------- ----------------------
NUMBER
- ------
10.8(b)* Second Amendment to Change in Control Agreement dated April 30, 2003
between the Registrant and Bruce Maclin. (Incorporated by reference
from Exhibit 10.7(b) filed with the Registrant's Annual Report on Form
10-K filed on March 29, 2004)
10.9* Change in Control Agreement dated January 28, 1999 between the
Registrant and Bart Hill. (Incorporated by reference from Exhibit 10.8
filed with the Registrant's registration statement on Form 10 Filed on
April 30, 2003)
10.9(a)* First Amendment to Change in Control Agreement dated June 7, 2001
between the Registrant and Bart Hill. (Incorporated by reference from
Exhibit 10.8(a) filed with the Registrant's registration statement on
Form 10 Filed on April 30, 2003)
10.9(b)* Second Amendment to Change in Control Agreement dated April 30, 2003
between the Registrant and Bart Hill. (Incorporated by reference from
Exhibit 10.8(b) filed with the Registrant's Annual Report on Form 10-K
filed on March 29, 2004)
10.10* Change in Control Agreement dated January 7, 2001 between the
Registrant and Stephen Annis. (Incorporated by reference from Exhibit
10.8 filed with the Registrant's registration statement on Form 10
Filed on April 30, 2003)
10.10(a)* First Amendment to Change in Control Agreement dated April 30, 2003
between the Registrant and Stephen Annis. (Incorporated by reference
from Exhibit 10.9(a) filed with the Registrant's Annual Report on Form
10-K filed on March 29, 2004)
10.11* Change in Control Agreement dated January 7, 2001 between the
Registrant and John W. Ivy. (Incorporated by reference from Exhibit
10.8 filed with the Registrant's registration statement on Form 10
Filed on April 30, 2003)
10.11(a)* First Amendment to Change in Control Agreement dated April 30, 2003
between the Registrant and John W. Ivy. (Incorporated by reference
from Exhibit 10.10(a) filed with the Registrant's Annual Report on
Form 10-K filed on March 29, 2004)
10.12* Deferred Fee Agreement dated October 9, 1996 between the Registrant
and Louis Barbich. (Incorporated by reference from Exhibit 10.11 filed
with the Registrant's registration statement on Form 10 filed on April
30, 2003)
10.13 Agreement dated October 22, 2005 between the Registrant and
Continental Stock Transfer and Trust Company regarding the appointment
of Continental Stock Tranfer and Trust Company as the Registrant's
transfer agent.
10.14* Resolution of the Board of Directors increasing the applicable limit
on annual benefits payable to Bruce Maclin and Bart Hill pursuant to
their Amended and Restated Executive Salary Continuation Agreements
dated June 18, 2004. (Incorporated by reference from Exhibit 10.14
filed with the Registrant's Annual Report on Form 10-K filed on March
25, 2005)
10.15 Statement relating to the payment of club dues for Executive Officers.
(Incorporated by reference from Exhibit 10.15 filed with the
Registrant's Annual Report on Form 10-K filed on March 25, 2005)
21.1 List of Registrant's Subsidiaries. (Incorporated by reference from
Exhibit 21.1 filed with Registrant's registration statement on Form 10
filed on April 30, 2003)
24.1 Power of Attorney (included on signature page).
71
EXHIBIT DESCRIPTION OF EXHIBIT
- ------- ----------------------
NUMBER
- ------
31.1 Certification of Chief Executive Officer pursuant to Rule 13a - 14(a)
(17CFR 240.13a-14(a)) and Rule 15d-14(a), as adopted pursuant to
Section 302 of the Sarbanes-Oxley Act of 2002.
31.2 Certification of Chief Financial Officer pursuant to Rule 13a - 14(a)
(17CFR 240.13a-14(a)) and Rule 15d-14(a), as adopted pursuant to
Section 302 of the Sarbanes-Oxley Act of 2002.
32 Certification of Chief Executive Officer and Chief Financial Officer
pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906
of the Sarbanes-Oxley Act of 2002.
- --------------
* Management contract, compensatory plan, or arrangement.
72
SIGNATURES
Pursuant to the requirements of sections 13 or 15(d) 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.
March 21, 2006 SAN JOAQUIN BANK
By: /s/ BART HILL
Chief Executive Officer,
President and Director
POWER OF ATTORNEY
KNOW ALL PERSONS BY THESE PRESENTS, that each person whose signature appears
below constitutes and appoints Bruce Maclin and Bart Hill, and each of them as
his true and lawful attorneys-in-fact and agents, with full power of
substitution and resubstitution, for him and in his name, place and stead, in
any and all capacities, to sign any and all amendments to this Annual Report on
Form 10-K, and to file the same, with all exhibits thereto, and other documents
in connection therewith, with the Federal Deposit Insurance Corporation and any
other regulatory authority, granting unto said attorneys-in-fact and agents, and
each of them, full power and authority to do and perform each and every act and
thing requisite and necessary to be done in connection therewith, as fully to
all intents and purposes as he or she might or could do in person, hereby
ratifying and confirming all that said attorneys-in-fact and agents, or either
of them, or their, his substitute or substitutes, may lawfully do or cause to be
done by virtue hereof.
Pursuant to the requirements of the Securities Exchange Act of 1934, as amended,
this Annual Report on Form 10-K has been signed below by the following persons
in the capacities and on the dates indicated:
SIGNATURE TITLE DATE
--------- ----- ----
/s/ BRUCE MACLIN Chairman of the Board March 21, 2006
----------------
Bruce Maclin
Chief Executive Officer, President
/s/ BART HILL and Director (Principal Executive
------------- Officer) March 21, 2006
Bart Hill
Chief Financial Officer and Chief
/s/ STEPHEN M. ANNIS Accounting Officer (Principal March 21, 2006
-------------------- financial and accounting officer)
Stephen M. Annis
/s/ DONALD S. ANDREWS Director March 21, 2006
---------------------
Donald S. Andrews
/s/ MELVIN D. ATKINSON Director March 21, 2006
----------------------
Melvin D. Atkinson
/s/ LOUIS J. BARBICH Director March 21, 2006
--------------------
Louis J. Barbich
/s/ ELVIN G. BERCHTOLD Director March 21, 2006
----------------------
Elvin G. Berchtold
/s/ ROGERS BRANDON Director March 21, 2006
------------------
Rogers Brandon
/s/ JERRY CHICCA Director March 21, 2006
----------------
Jerry Chicca
/s/ ROBERT B. MONTGOMERY Director March 21, 2006
------------------------
Robert B. Montgomery
/s/ VIRGINIA F. MOORHOUSE Director March 21, 2006
-------------------------
Virginia F. Moorhouse
73
EXHIBIT 31.1
CERTIFICATION UNDER SECTION 302 OF THE SARBANES-OXLEY ACT OF 2002
I, Bart Hill, certify that:
1. I have reviewed this annual report on Form 10-K of San Joaquin Bank;
2. Based on my knowledge, this annual report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to
make the statements made, in light of the circumstances under which such
statements were made, not misleading with respect to the period covered by
this report;
3. Based on my knowledge, the financial statements, and other financial
information included in this annual report, fairly present in all material
respects the financial condition, results of operations and cash flows of
the Registrant as of, and for, the periods presented in this report;
4. The Registrant's other certifying officer(s) and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined
in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the Registrant and have:
(a) Designed such disclosure controls and procedures, or caused such
disclosure controls and procedures to be designed under our
supervision, to ensure that material information relating to the
Registrant, including its consolidated subsidiaries, is made known to
us by others within those entities, particularly during the period in
which this report is being prepared;
(b) Evaluated the effectiveness of the Registrant's disclosure controls
and procedures and presented in this report our conclusions about the
effectiveness of the disclosure controls and procedures, as of the end
of the period covered by this report based on such evaluation; and
(c) Disclosed in this report any change in the Registrant's internal
control over financial reporting that occurred during the Registrant's
most recent fiscal quarter (the Registrant's fourth fiscal quarter in
the case of an annual report) that has materially affected, or is
reasonably likely to materially affect, the Registrant's internal
control over financial reporting.
5. The Registrant's other certifying officer(s) and I have disclosed, based on
our most recent evaluation of internal control over financial reporting, to
the Registrant's auditors and the audit committee of the Registrant's board
of directors (or persons performing the equivalent functions):
(a) All significant deficiencies and material weaknesses in the design or
operation of internal controls over financial reporting which are
reasonably likely to adversely affect the Registrant's ability to
record, process, summarize and report financial information; and
(b) Any fraud, whether or not material, that involves management or other
employees who have a significant role in the Registrant's internal
control over financial reporting.
Date: March 21, 2006
/s/ BART HILL
- -------------
Bart Hill
Chief Executive Officer
EXHIBIT 31.2
CERTIFICATION UNDER SECTION 302 OF THE SARBANES-OXLEY ACT OF 2002
I, Stephen M. Annis, certify that:
1. I have reviewed this annual report on Form 10-K of San Joaquin Bank;
2. Based on my knowledge, this annual report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to
make the statements made, in light of the circumstances under which such
statements were made, not misleading with respect to the period covered by
this report;
3. Based on my knowledge, the financial statements, and other financial
information included in this report, fairly present in all material
respects the financial condition, results of operations and cash flows of
the Registrant as of, and for, the periods presented in this report;
4. The Registrant's other certifying officer(s) and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined
in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the Registrant and have:
(a) Designed such disclosure controls and procedures, or caused such
disclosure controls and procedures to be designed under our
supervision, to ensure that material information relating to the
Registrant, including its consolidated subsidiaries, is made known to
us by others within those entities, particularly during the period in
which this report is being prepared;
(b) Evaluated the effectiveness of the Registrant's disclosure controls
and procedures and presented in this report our conclusions about the
effectiveness of the disclosure controls and procedures, as of the end
of the period covered by this report based on such evaluation; and
(c) Disclosed in this report any change in the Registrant's internal
control over financial reporting that occurred during the Registrant's
most recent fiscal quarter (the Registrant's fourth fiscal quarter in
the case of an annual report) that has materially affected, or is
reasonably likely to materially affect, the Registrant's internal
control over financial reporting.
5. The Registrant's other certifying officer(s) and I have disclosed, based on
our most recent evaluation of internal control over financial reporting, to
the Registrant's auditors and the audit committee of the Registrant's board
of directors (or persons performing the equivalent functions):
(a) All significant deficiencies and material weaknesses in the design or
operation of internal control over financial reporting which are
reasonably likely to adversely affect the Registrant's ability to
record, process, summarize and report financial information; and
(b) Any fraud, whether or not material, that involves management or other
employees who have a significant role in the Registrant's internal
control over financial reporting.
Date: March 21, 2006
/S/ STEPHEN M. ANNIS
- --------------------
Stephen M. Annis
Chief Financial Officer
EXHIBIT 32
CERTIFICATION PURSUANT TO
18 U.S.C. SECTION 1350
AS ADOPTED PURSUANT TO
SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002
In connection with the annual report of San Joaquin Bank (the "Company") on Form
10-K for the year ended December 31, 2005, as filed with the Federal Deposit
Insurance Corporation, each of the undersigned, in the capacities and on the
date indicated below, hereby certifies, pursuant to 18 U.S.C. Section 1350, as
adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, that:
(1) The report fully complies with the requirements of Section 13(a) or
15(d) of the Securities Exchange Act of 1934;
(2) The information contained in the report fairly presents, in all
material respects, the financial condition and results of operations of the
Company.
/s/ BART HILL
- -------------
Bart Hill
Chief Executive Officer
(Principal Executive Officer)
March 21, 2006
/s/ STEPHEN M. ANNIS
- --------------------
Stephen M. Annis
Chief Financial Officer
(Principal Financial and Accounting Officer)
March 21, 2006