2
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
[x] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the Quarterly Period Ended September 30, 2002 .
----------------------------------
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES
EXCHANGE ACT OF 1934
Commission File No. 0-25418 .
CENTRAL COAST BANCORP
- -------------------------------------------------------------------------------
(Exact name of registrant as specified in its charter)
California 77-0367061
- ------------------------------------------- -------------
(State or other jurisdiction of (IRS Employer ID Number)
incorporation or organization)
301 Main Street, Salinas, California 93901
- ------------------------------------------- -------
(Address of principal executive offices) (Zip code)
(831) 422-6642
-----------------
(Registrant's telephone number,
including area code)
not applicable
---------------
(Former name, former address and former fiscal year,if changed since last
report.)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or 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 the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date:
No par value Common Stock - 9,014,174 shares outstanding at November 7, 2002.
The Index to Exhibits is located at page 24 Page
1 of 31 Pages
PART 1-FINANCIAL INFORMATION
Item 1.FINANCIAL STATEMENTS:
CENTRAL COAST BANCORP AND SUBSIDIARY
CONSOLIDATED CONDENSED BALANCE SHEETS (Unaudited)
September 30, December 31,
(In thousands, except share data) 2002 2001
---- ----
Assets
Cash and due from banks $ 45,873 $ 55,245
Federal funds sold 1,208 -
-------- --------
Total cash and equivalents 47,081 55,245
Available-for-sale securities at fair value (amortized cost of $110,277
at September 30, 2002 and $137,867 at December 31, 2001) 114,716 137,153
Loans:
Commercial 199,448 199,761
Real estate-construction 85,138 85,314
Real estate-other 408,477 306,622
Consumer 18,480 15,653
Deferred loan fees, net (1,132) (1,050)
-------- --------
Total loans 710,411 606,300
Allowance for loan losses (13,947) (11,753)
-------- --------
Net Loans 696,464 594,547
-------- --------
Premises and equipment, net 2,946 2,962
Accrued interest receivable and other assets 10,108 12,359
-------- --------
Total assets $ 871,315 $ 802,266
======== ========
Liabilities and Shareholders' Equity
Deposits:
Demand, noninterest bearing $ 204,676 $ 231,501
Demand, interest bearing 134,068 105,949
Savings 188,088 122,861
Time 243,767 264,551
-------- -------
Total Deposits 770,599 724,862
Accrued interest payable and other liabilities 23,862 12,068
-------- --------
Total liabilities 794,461 736,930
-------- --------
Commitments and contingencies (Note 2)
Shareholders' Equity:
Preferred stock-no par value; authorized
1,000,000 shares; none outstanding
Common stock - no par value; authorized 25,000,000 shares;
issued and outstanding: 9,014,174 shares at September 30, 2002
and 8,963,780 shares at December 31, 2001 51,271 50,898
Shares held in deferred compensation trust (373,810 at September
30, 2002 and at December 31, 2001), net of deferred obligation - -
Retained earnings 22,986 14,855
Accumulated other comprehensive income (loss) - net of taxes
of $1,842 at September 30, 2002 and $297 at December 31, 2001 2,597 (417)
-------- --------
Total shareholders' equity 76,854 65,336
-------- --------
Total liabilities and shareholders' equity $ 871,315 $ 802,266
======== ========
See Notes to Consolidated Condensed Financial Statements
CENTRAL COAST BANCORP AND SUBSIDIARY
CONSOLIDATED CONDENSED STATEMENTS OF INCOME (Unaudited)
Three Months Ended September 30, Nine Months Ended September 30,
(In thousands, 2002 2001 2002 2001
except per share data) ---- ---- ---- ----
Interest Income
Loans (including fees) $ 11,504 $ 10,916 $ 32,548 $ 32,651
Investment securities 1,443 2,042 4,790 6,367
Other 65 94 212 399
-------- -------- ------- -------
Total interest income 13,012 13,052 37,550 39,417
-------- -------- ------- -------
Interest Expense
Interest on deposits 3,423 4,574 10,352 14,136
Other 113 107 327 293
-------- -------- ------- -------
Total interest expense 3,536 4,681 10,679 14,429
-------- -------- ------- -------
Net Interest Income 9,476 8,371 26,871 24,988
Provision for Loan Losses 925 760 2,048 955
-------- -------- ------- -------
Net Interest Income after
Provision for Loan Losses 8,551 7,611 24,823 24,033
-------- -------- ------- -------
Noninterest Income
Service Charges on Deposits 644 504 1,721 1,407
Other 348 423 1,000 945
-------- -------- ------- -------
Total noninterest revenue 992 927 2,721 2,352
-------- -------- ------- -------
Noninterest Expenses
Salaries and benefits 3,170 2,907 8,965 8,778
Occupancy 549 408 1,429 1,230
Furniture and equipment 469 474 1,330 1,386
Other 1,069 960 3,343 3,071
-------- -------- ------- -------
Total noninterest expenses 5,257 4,749 15,067 14,465
-------- -------- ------- -------
Income Before Provision for Income Taxes 4,286 3,789 12,477 11,920
Provision for Income Taxes 1,438 1,421 4,346 4,470
-------- -------- ------- -------
Net Income $ 2,848 $ 2,368 $ 8,131 $ 7,450
======== ======== ======= =======
Basic Earnings per Share $ 0.32 $ 0.26 $ 0.90 $ 0.82
Diluted Earnings per Share $ 0.30 $ 0.26 $ 0.86 $ 0.78
See Notes to Consolidated Condensed Financial Statements
CENTRAL COAST BANCORP AND SUBSIDIARY
CONSOLIDATED CONDENSED STATEMENTS OF CASH FLOWS (Unaudited)
(In thousands)
Nine months ended September 30, 2002 2001
---- ----
Cash Flows from Operations:
Net income $ 8,131 $ 7,450
Reconciliation of net income to net cash provided
by operating activities:
Provision for loan losses 2,048 955
Net gain on sale of investments (102) (168)
Depreciation 948 1,035
Net loss on sale of fixed assets 17 3
Amortization and accretion 584 440
Gain on sale of other real estate owned (71) -
(Increase) in accrued interest receivable and other assets (678) (785)
(Decrease) in accrued interest payable and other liabilities (471) (1,427)
Increase in deferred loan fees 82 335
--------- ---------
Net cash provided by operations 10,488 7,838
--------- ---------
Cash Flows from Investing Activities:
Proceeds from maturities of available-for-sale securities 113,063 42,468
Purchases of available-for-sale securities (102,477) (108,553)
Proceeds from sale of available-for-sale securities 16,714 78,011
Net increase in loans (104,047) (97,421)
Proceeds from sale of other owned real estate 670 -
Purchases of premises and equipment (949) (392)
--------- ---------
Net cash used in investing activities (77,026) (85,887)
--------- ---------
Cash Flows from Financing Activities:
Net increase in deposit accounts 45,737 35,010
Net increase in long-term borrowings 602
Net increase in short-term borrowings 11,825 16,789
Cash received for stock options exercised 210 113
Cash paid for shares repurchased - (4,093)
--------- ---------
Net cash provided by financing activities 58,374 47,819
--------- ---------
Net (decrease) in cash and equivalents (8,164) (30,230)
Cash and equivalents, beginning of period 55,245 74,492
--------- ---------
Cash and equivalents, end of period $ 47,081 $ 44,262
========= =========
Other Cash Flow Information:
Interest paid $ 11,215 $13,991
Income taxes paid $ 4,697 $ 6,257
See Notes to Consolidated Condensed Financial Statements
CENTRAL COAST BANCORP AND SUBSIDIARY
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
September 30, 2002 (Unaudited)
1. CONSOLIDATED FINANCIAL STATEMENTS
In the opinion of management, the unaudited consolidated condensed financial
statements contain all adjustments (consisting of only normal recurring
adjustments) necessary to present fairly Central Coast Bancorp's (the
"Company's") consolidated financial position at September 30, 2002 and December
31, 2001, the results of operations for the three and nine month periods ended
September 30, 2002 and 2001 and cash flows for the nine month periods ended
September 30, 2002 and 2001.
Certain disclosures normally presented in the notes to the annual consolidated
financial statements prepared in accordance with accounting principles generally
accepted in the United States of America have been omitted. These interim
consolidated condensed financial statements should be read in conjunction with
the consolidated financial statements and notes thereto included in the
Company's 2001 Annual Report to Shareholders. The results of operations for the
three and nine month periods ended September 30, 2002 and 2001 may not
necessarily be indicative of the operating results for the full year.
In preparing such financial statements, management is required to make estimates
and assumptions that affect the reported amounts of assets and liabilities as of
the date of the balance sheet and revenues and expenses for the period. Actual
results could differ significantly from those estimates. Material estimates that
are particularly susceptible to significant changes in the near term relate to
the determination of the allowance for loan losses.
Management has determined that since all of the commercial banking products and
services offered by the Company are available in each branch of the Community
Bank of Central California, its bank subsidiary (the "Bank"), all branches are
located within the same economic environment and management does not allocate
resources based on the performance of different lending or transaction
activities, it is appropriate to aggregate the Bank branches and report them as
a single operating segment.
Stock split - On January 28, 2002, the Board of Directors approved a
five-for-four stock split, which was distributed on February 28, 2002, to
shareholders of record as of February 14, 2002. All share and per share data for
the year 2001 have been retroactively adjusted to reflect the stock split.
2. COMMITMENTS AND CONTINGENCIES
In the normal course of business there are outstanding various commitments to
extend credit which are not reflected in the financial statements, including
loan commitments of approximately $198,402,000 and standby letters of credit of
approximately $4,885,000 at September 30, 2002. However, all such commitments
will not necessarily culminate in actual extensions of credit by the Company.
Approximately $39,673,000 of loan commitments outstanding at September 30, 2002
relate to real estate construction loans that are expected to fund within the
next twelve months. The remaining commitments primarily relate to revolving
lines of credit or other commercial loans, and many of these commitments are
expected to expire without being drawn upon. Therefore, the total commitments do
not necessarily represent future cash requirements. Each potential borrower and
the necessary collateral are evaluated on an individual basis. Collateral
varies, but may include real property, bank deposits, debt or equity securities
or business assets.
Stand-by letters of credit are commitments written to guarantee the performance
of a customer to a third party. These guarantees are issued primarily relating
to contract performance or purchases of inventory by commercial customers and
are typically short-term in nature. Credit risk is similar to that involved in
extending loan commitments to customers and accordingly, evaluation and
collateral requirements similar to those for loan commitments are used.
Virtually all such commitments are collateralized.
3. EARNINGS PER SHARE
Basic earnings per share is computed by dividing net income by the weighted
average common shares outstanding for the period. Diluted earnings per share
reflects the potential dilution that could occur if options or other contracts
to issue common stock were exercised and converted into common stock.
There was no difference in the numerator used in the calculation of basic
earnings per share and diluted earnings per share. The denominator used in the
calculation of basic earnings per share and diluted earnings per share for three
and nine month periods ended September 30 is reconciled as follows:
Three Months Ended Nine Months Ended
September 30, September 30,
In thousands (expect per share data) 2002 2001 2002 2001
---- ---- ---- ----
Basic Earnings Per Share
- ------------------------
Net income $ 2,848 $ 2,368 $ 8,131 $ 7,450
Weighted average common shares outstanding 9,013 9,015 8,998 9,074
------- ------- ------- -------
Basic earnings per share $ 0.32 $ 0.26 $ 0.90 $ 0.82
======= ======= ======= =======
Diluted Earnings Per Share
- --------------------------
Net income $ 2,848 $ 2,368 $ 8,131 $ 7,450
Weighted average common shares outstanding 9,013 9,015 8,998 9,074
Dilutive effect of outstanding options 419 435 423 416
------- ------- ------- -------
Weighted average common shares outstanding -Diluted 9,432 9,450 9,421 9,490
------- ------- ------- -------
Diluted earnings per share $ 0.30 $ 0.26 $ 0.86 $ 0.78
======= ======= ======= =======
4. COMPREHENSIVE INCOME
Three Months Ended Nine Months Ended
September 30, September 30,
(In thousands) 2002 2001 2002 2001
---- ---- ---- ----
Net income $ 2,848 $ 2,368 $ 8,131 $ 7,450
Other comprehensive income - Net unrealized
gain on available-for-sale securities 1,533 1,453 3,074 2,387
Reclassification adjustment for gains included in income - (165) (102) (168)
Taxes on reclassification adjustment - 68 42 69
------- ------- ------- --------
Total comprehensive income $ 4,381 $ 3,724 $ 11,145 $ 9,738
======= ======= ======= ========
5. STOCK REPURCHASE PLAN
The Board of Directors has authorized a stock repurchase program under which
repurchases will be made from time to time by the Company in the open market, or
in block purchases, or in privately negotiated transactions, in compliance with
Securities and Exchange Commission rules. The Company has not repurchased any
shares in 2002. As of September 30, 2002, there were approximately 279,900
shares remaining under the program for repurchase by the Company.
6. RECENT ACCOUNTING PRONOUNCEMENTS
In June 2002, the FASB issued SFAS 146, "Accounting for Costs Associated with
Exit or Disposal Activities," which addresses accounting for restructuring and
similar costs. SFAS 146 supersedes previous accounting guidance, principally
Emerging Issues Task Force Issue No. 94-3. The Company will adopt the provisions
of SFAS 146 for restructuring activities initiated after December 31, 2002. SFAS
146 requires that the liability for costs associated with an exit or disposal
activity be recognized when the liability is incurred. Under Issue 94-3, a
liability for an exit cost was recognized at the date of the Company's
commitment to an exit plan. SFAS 146 also establishes that the liability should
initially be measured and recorded at fair value. Accordingly, SFAS 146 may
affect the timing of recognizing future restructuring costs as well as the
amounts recognized.
Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
---------------------------------------
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
In addition to the historical information contained herein, this report on Form
10-Q contains certain forward-looking statements that are subject to risks and
uncertainties that could cause actual results to differ materially from those
projected. Changes to such risks and uncertainties, which could impact future
financial performance, include, among others, (1) competitive pressures in the
banking industry; (2) changes in the interest rate environment; (3) general
economic conditions, nationally, regionally and in operating market areas,
including a decline in real estate values in the Company's market areas; (4) the
effects of terrorism, including the events of September 11, 2001 and thereafter;
(5) changes in the regulatory environment; (6) changes in accounting principles
and procedures; (7) changes in business conditions and inflation; (8) changes in
securities markets; (9) data processing compliance problems; (10) the California
energy problems; (11) variances in the actual versus projected growth in assets;
(12) return on assets; (13) loan losses; (14) expenses; (15) rates charged on
loans and earned on securities investments; (16) rates paid on deposits; and
(17) fee and other noninterest income earned, as well as other factors. This
entire report should be read to put such forward-looking statements in context.
To gain a more complete understanding of the uncertainties and risks involved in
the Company's business this report should be read in conjunction with Central
Coast Bancorp's annual report on Form 10-K for the year ended December 31, 2001.
Critical Accounting Policies
- ----------------------------
General
Central Coast Bancorp's financial statements are prepared in accordance with
accounting principles generally accepted in the United States of America
("GAAP"). The financial information contained within our 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 as one factor in determining the inherent loss that may
be present in our loan portfolio. Actual losses could differ significantly from
the historical factors that we use. 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. Although the
economics of our transactions would be the same, the timing of events that would
impact our transactions could change.
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 Accountings 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 an historical loss view 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,
the errors that might otherwise occur are mitigated. The specific allowance uses
various techniques to arrive at an estimate of 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 captures
losses that are attributable to various factors including economic events,
industry or geographic sectors whose impact on the portfolio have occurred, 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
The Company accounts for its stock based awards using the intrinsic value method
in accordance with Accounting Principles Board ("APB") Opinion No. 25 and
related interpretations. Since the Company's stock option plans provide for the
issuance of options at a price of no less than the fair market value at the date
of the grant, no compensation expense has been recognized in the financial
statements.
Business Organization
- ---------------------
Central Coast Bancorp (the "Company") is a California corporation organized in
1994, and is the parent company for Community Bank of Central California, a
state-chartered bank, headquartered in Salinas, California (the "Bank"). Its
investment in the Bank comprises the major business activity of the Company.
Upon prior notification to the "Board of Governors" of the Federal Reserve
System, the Company is authorized to engage in a variety of activities, which
are deemed closely related to the business of banking. The Company is engaged in
certain lending activities related to the purchase of certain tax advantaged
loans from the Bank.
The Bank offers a full range of commercial banking services, including a diverse
range of traditional banking products and services to individuals, merchants,
small and medium-sized businesses, professionals and agribusiness enterprises.
Its principal markets are located in the counties of Monterey, San Benito, Santa
Clara and Santa Cruz, which are in the central coast area of California.
Overview
- --------
For the third quarter of 2002, Central Coast Bancorp reported diluted earnings
per share of $0.30 versus $0.26 reported in the year earlier period. Net income
for the quarter ended September 30, 2002 was a record $2,848,000 as compared to
$2,368,000 reported for the same period of 2001. The annualized return on equity
("ROE") and return on assets ("ROA") for the third quarter 2002 were 15.14% and
1.29% as compared to 14.70% and 1.25% for the same period in 2001.
Net income for the nine months ended September 30, 2002 and 2001 was $8,131,000
and $7,450,000 with diluted earnings per share of $0.86 and $0.78, respectively.
For the first nine months of 2002, annualized ROE was 15.33% and ROA was 1.28%
as compared to 16.10% and 1.40% for the same period in 2001.
During the third quarter of 2002, the Company continued to experience strong
growth in loans as loans increased $35,375,000 (5.2%) from the June 30, 2002
balance to total $710,411,000 at September 30, 2002. Loans have increased
$104,111,000 (17.2%) in the first nine months of 2002. However, growth in total
assets slowed significantly in the quarter. The Company ended the quarter with
total assets of $871,315,000, an increase of $366,000 from the June 30, 2002
balance and a $69,049,000 (8.6%) increase from year-end 2001. While the Company
experienced unusually high deposit growth in the first half of 2002, there was a
net outflow in deposits of $15,516,000 (-2.0%) during the third quarter. Most of
the deposit change was related to reductions in demand and interest-bearing
demand accounts reflecting seasonal business operations. Even with the third
quarter decline, total deposits have increased $45,737,000 (6.3%) from year-end
2001 to a total of $770,599,000 at September 30, 2002. On a year-over-year
basis, the Company's focus on internal growth has generated an increase in
assets of $108,501,000 (14.2%); an increase in loans of $140,032,000 (24.6%);
and an increase in deposits of $102,379,000 (15.3%).
Central Coast Bancorp ended the third quarter of 2002 with a Tier 1 capital
ratio of 9.8% and a total risk-based capital ratio of 11.0% versus 10.2% and
11.4%, respectively, at the end of the third quarter of 2001.
As previously reported, the Bank opened its eleventh branch in Gilroy,
California, in April of this year. As of September 30, this new branch had loans
totaling $17,440,000 and deposits of $7,941,000. Management is pleased with the
acceptance the Bank has received in Gilroy. The Bank has received regulatory
approval to open a branch in downtown Monterey. At this time, the Monterey
branch opening is planned for mid-December of 2002. Both of these branch
expansions represent a continuation of our strategic plan to expand the Bank's
footprint within and on the fringes of our existing market area.
Within the Management's Discussion and Analysis, interest income, net interest
income, net interest margin and the efficiency ratio are presented on a fully
taxable equivalent basis ("FTE"). These items have been adjusted to give effect
to $280,000 and $281,000 in taxable equivalent interest income on tax-free
investments for the three- month periods ending September 30, 2002 and 2001 and
$841,000 and $821,000 for the nine month periods ending September 30, 2002.
The following table provides a summary of the major elements of income and
expense for the periods indicated.
Condensed Comparative Income Statement
Percentage Percentage
Three Months Ended Change Nine Months Ended Change
September 30, Increase September 30, Increase
(In thousands, except percentages) 2002 2001 (Decrease) 2002 2001 (Decrease)
---- ---- ---------- ---- ---- ----------
Interest Income (1) $13,292 $13,333 0% $38,391 $40,238 -5%
Interest Expense 3,536 4,681 -24% 10,679 14,429 -26%
------ ------ ------ ------ ------ ------
Net interest income 9,756 8,652 13% 27,712 25,809 7%
Provision for Loan Losses 925 760 22% 2,048 955 114%
------ ------ ------ ------ ------ ------
Net interest income after
provision for loan losses 8,831 7,892 12% 25,664 24,854 3%
Noninterest Income 992 927 7% 2,721 2,352 16%
Noninterest Expense 5,257 4,749 11% 15,067 14,465 4%
------ ------ ------ ------ ------ ------
Income before income taxes 4,566 4,070 12% 13,318 12,741 5%
Income Taxes 1,438 1,421 1% 4,346 4,470 -3%
Tax Equivalent Adjustment 280 281 0% 841 821 2%
------ ------ ------- ------ ------ ------
Net income $ 2,848 $ 2,368 20% $ 8,131 $ 7,450 9%
======= ======= ======= ======= ======= =======
1) Interest on tax-free securities is reported on tax equivalent basis.
Net interest income / net interest margin
- -----------------------------------------
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 the Bank's earnings. Net interest margin is net interest income
expressed as a percentage of average earning assets. The first two following
tables provide a summary of the components of net interest income and the
changes within the components for the periods indicated. The third table sets
forth a summary of the changes in interest income and interest expense from
changes in average asset and liability balances (volume) and changes in average
interest rates for the periods indicated.
Three Months Ended September 30,
(Taxable Equivalent Basis) 2002 2001
Avg. Avg. Avg. Avg.
(In thousands, except percentages) Balance Interest Yield Balance Interest Yield
------- -------- ----- ------- -------- -----
Assets:
Earning Assets
Loans (1) (2) $ 677,338 $11,504 6.74% $ 531,538 $10,917 8.15%
Taxable investments 71,894 884 4.88% 100,899 1,479 5.82%
Tax-exempt securities (tax equiv. basis) 49,177 839 6.77% 49,683 843 6.73%
Federal funds sold 14,313 65 1.80% 9,324 94 4.00%
--------- ------- ------- --------- ------- -------
Total Earning Assets 812,722 $13,292 6.49% 691,444 $13,333 7.65%
------- ------- ------- -------
Cash & due from banks 47,493 43,140
Other assets 13,886 14,998
--------- ---------
$ 874,101 $ 749,582
========= =========
Liabilities & Shareholders' Equity:
Interest bearing liabilities:
Demand deposits $ 135,066 $ 370 1.09% $ 100,466 $ 314 1.24%
Savings 202,332 1,089 2.14% 140,387 1,080 3.05%
Time deposits 245,556 1,964 3.17% 251,315 3,180 5.02%
Other borrowings 8,215 113 5.46% 8,415 107 5.04%
--------- ------- ------- --------- ------- -------
Total interest bearing liabilities 591,169 3,536 2.37% 500,583 4,681 3.71%
------- ------- ------- -------
Demand deposits 202,159 177,727
Other Liabilities 6,184 7,546
--------- ---------
Total Liabilities 799,512 685,856
Shareholders' Equity 74,589 63,726
--------- ---------
$ 874,101 $ 749,582
========= =========
Net interest income & margin (3) $ 9,756 4.76% $ 8,652 4.96%
======= ======= ========= =======
- ---------------------------------------------------------------------------------------------------------------------------------
1 Loan interest income includes fee income of $429,000 and $346,000 for the three month periods
ended September 30, 2002 and 2001, respectively.
2 Includes the average allowance for loan losses of $13,356,000 and $9,668,000 and average deferred
loan fees of $1,173,000 and $1,027,000 for the three months ended September 30, 2002 and 2001, respectively.
3 Net interest margin is computed by dividing net interest income by the total average earning assets.
Nine Months Ended September 30,
(Taxable Equivalent Basis) 2002 2001
Avg. Avg. Avg. Avg.
(In thousands, except percentages) Balance Interest Yield Balance Interest Yield
------- -------- ----- ------- -------- -----
Assets:
Earning Assets
Loans (1) (2) $ 637,234 $ 32,548 6.83% $ 492,797 $ 32,651 8.86%
Taxable investments 81,988 3,109 5.07% 101,842 4,726 6.20%
Tax-exempt securities (tax equiv. basis) 49,310 2,522 6.84% 48,367 2,462 6.80%
Federal funds sold 16,532 212 1.71% 11,254 399 4.74%
--------- --------- ------- --------- --------- -------
Total Earning Assets 785,064 $ 38,391 6.54% 654,260 $ 40,238 8.22%
--------- ------- --------- -------
Cash & due from banks 47,484 42,439
Other assets 14,293 15,267
--------- ---------
$ 846,841 $ 711,966
========= =========
Liabilities & Shareholders' Equity:
Interest bearing liabilities:
Demand deposits $ 127,624 $ 1,003 1.05% $ 95,876 $ 974 1.36%
Savings 171,690 2,764 2.15% 128,364 3,150 3.28%
Time deposits 264,102 6,585 3.33% 243,402 10,013 5.50%
Other borrowings 7,278 327 6.01% 6,911 292 5.65%
--------- --------- ------- -------- --------- -------
Total interest bearing liabilities 570,694 10,679 2.50% 474,553 14,429 4.07%
--------- ------- --------- -------
Demand deposits 199,185 168,309
Other Liabilities 6,060 7,181
--------- ---------
Total Liabilities 775,939 650,043
Shareholders' Equity 70,902 61,923
--------- ---------
$ 846,841 $ 711,966
========= =========
Net interest income & margin (3) $ 27,712 4.72% $ 25,809 5.27%
========= ======= ========= =======
- ----------------------------------------------------------------------------------------------------------------------------------
1 Loan interest income includes fee income of $1,230,000 and $1,025,000 for the nine month
periods ended September 30, 2002 and 2001, respectively
2 Includes the average allowance for loan losses of $12,538,000 and $9,513,000 and average deferred
loan fees of $1,143,000 and $957,000 for the nine months ended September 30, 2002 and 2001, respectively.
3 Net interest margin is computed by dividing net interest income by the total average earning assets.
Volume/Rate Analysis
(in thousands)
Three Months Ended September 30, 2002 over 2001
Increase (decrease) due to change in:
Net
Volume Rate (4) Change
------ -------- ------
Interest-earning assets:
Net Loans (1)(2) $ 2,995 $ (2,408) $ 587
Taxable investment securities (425) (170) (595)
Tax exempt investment securities (3) (9) 5 (4)
Federal funds sold 50 (79) (29)
-------- -------- --------
Total 2,611 (2,652) (41)
-------- -------- --------
Interest-bearing liabilities:
Demand deposits 108 (52) 56
Savings deposits 476 (467) 9
Time deposits (73) (1,143) (1,216)
Other borrowings (3) 9 6
-------- -------- --------
Total 508 (1,653) (1,145)
-------- -------- --------
Interest differential $ 2,103 $ (999) $ 1,104
======== ======== ========
Nine Months Ended September 30, 2002 over 2001
Increase (decrease) due to change in:
Net
Volume Rate (4) Change
------ -------- ------
Interest-earning assets:
Net Loans (1)(2) $ 9,572 $(9,675) $ (103)
Taxable investment securities (921) (696) (1,617)
Tax exempt investment securities (3) 48 12 60
Federal funds sold 187 (374) (187)
------- ------- -------
Total 8,886 (10,733) (1,847)
------- ------- -------
Interest-bearing liabilities:
Demand deposits 323 (294) 29
Savings deposits 1,063 (1,449) (386)
Time deposits 852 (4,280) (3,428)
Other borrowings 16 19 35
------- ------- -------
Total 2,254 (6,004) (3,750)
------- ------- -------
Interest differential $ 6,632 $(4,729) $ 1,903
======= ======= =======
(1) The average balance of non-accruing loans is not significant as a percentage of total loans and, as such,
has been included in net loans.
(2) Loan fees of $429,000 and $326,000 for the quarters ended September 30, 2002 and 2001, and loan
fees of $1,230,000 and $1,025,000 for the nine months ended September 30, 2002 and 2001, respectively have been
included in the interest income computation.
(3) Includes taxable-equivalent adjustments that relate to income on certain securities that are exempt from
federal income taxes. The effective federal statutory tax rate was 35% for 2002 and 2001.
(4) The rate / volume variance has been included in the rate variance.
The continuing growth in loans coupled with lower rates on interest-bearing
liabilities resulted in the Bank achieving record net interest income for the
third quarter of 2002. Net interest income was $9,756,000, which was an increase
of $1,104,000 (12.8%) over the third quarter of 2001. The interest income
component had a decrease of $41,000 (0.3%) on a quarter-over-quarter basis as
the growth in earning assets has almost overcome the affect of the interest rate
decreases in 2001, which reduced the overall yield on earning assets by 116
basis points compared to the third quarter of 2001. Average loan balances were
$145,800,000 (27.4%) higher in the third quarter of 2002 versus the same quarter
in the previous year. This volume difference added $2,995,000 to interest
income. However, the average yield earned on loans in the third quarter of 2002
was 6.74%, a decrease of 141 basis points from the yield earned in the third
quarter of 2001. The lower loan yield decreased interest income by $2,408,000.
The average balance of taxable investment securities in the third quarter of
2002 decreased $29,005,000 (28.7%) from the third quarter of 2001. Funds from
principal payments and maturing securities were deployed into the loan
portfolio. Average balances for Federal funds sold for these two periods
increased $4,989,000 to $14,313,000. Interest income for these investing
activities decreased $628,000 on a period over-period-basis.
Interest expense decreased $1,145,000 (24.5%) as the average rate paid on
interest-bearing liabilities declined 134 basis points to 2.37% for the third
quarter of 2002 as compared to 3.71% in the year earlier period. This decrease
in rates reduced interest expense by $1,653,000. Average balances of
interest-bearing liabilities in the third quarter of 2002 increased by
$90,586,000 (18.1%) over the prior year period. These higher balances added
$508,000 to interest expense.
The net interest margin for the third quarter of 2002 was 4.76% as compared to
4.96% in the year earlier period. The net interest margin in the third quarter
of 2002 remained consistent with the 4.77% achieved in the second quarter of
2002. The consistency in net interest margin on a quarter-over-quarter basis is
an indicator that, without further changes in the interest rates by the Federal
Reserve Board, the Bank's net interest margin should remain stable. In a rising
rate environment the net interest margin is expected to improve, as the Bank's
variable rate assets are expected to reprice more quickly than the
interest-bearing liabilities. Conversely, in a declining rate environment the
net interest margin would come under downward pressure.
For the nine-month period ended September 30, 2002, net interest income
increased $1,903,000 (7.4%) over the first nine months of 2001. The interest
income component decreased $1,847,000 to $38,391,000. Average balances of
earning assets were $130,804,000 (20.0%) higher in the first nine months of 2002
than the same period in 2001. The average balance of loans was $144,437,000
higher, which contributed $9,572,000 to interest income. The average yield
received on loans in the first nine months of 2002 was 203 basis points lower
than the 8.86% received in the year earlier period. The lower yield on loans
decreased interest income by $9,675,000. The average balance of taxable
investment securities was $19,854,000 (19.5%) lower in the first nine months of
2002 than in the year earlier period. As securities matured the proceeds were
utilized to fund the continued loan growth. The lower balances in taxable
investments decreased interest income $921,000 and lower yields on these
investment securities decreased interest income an additional $696,000. The
changes in the tax-exempt investment securities and Federal funds sold decreased
interest income by an additional $127,000.
Interest expense for the nine month period ending September 30, 2002 decreased
$3,750,000 (26.0%) from the first nine months of 2001. Average interest bearing
deposit balances in the first nine months of 2002 were $95,774,000 (20.5%)
higher than in the year earlier period. These volume increases added $2,238,000
to interest expense. For the first nine months of 2002, average rates paid on
interest bearing liabilities was 2.50%, a decline of 157 basis points from the
rates paid in the first nine months of 2001. The lower rates resulted in a
$6,004,000 decrease in interest expense in the first nine months of 2002 from
the prior year period.
The impact of the above changes in volumes and rates for earning assets and
interest bearing liabilities for the first nine months of 2002 resulted in a
decrease in the net interest margin of 55 basis points to 4.72% from 5.27% in
the year earlier period.
Provision for Loan Losses
- -------------------------
The Bank provided $925,000 for loan losses in the third quarter of 2002 as
compared to $760,000 in the third quarter of 2001. For the nine month period
ended September 30, 2002, the Bank provided $2,048,000 compared to $955,000 in
the year earlier period. The provision for loan losses recorded is based on
factors which consider the loan growth, changes in the level of nonperforming
and classified assets, changing portfolio mix and prevailing local and national
economic conditions to establish the required level of estimated loan loss
reserves. At September 30, 2002, the ratio of the allowance for loan losses to
total loans was 1.96% as compared to 1.93% at June 30, 2002, 1.94% at December
31, 2001 and 1.79% at September 30, 2001. (See the "Credit Risk" and "Allowance
for Loan Losses" sections for additional discussion).
Noninterest Income
- ------------------
Noninterest income consists primarily of service charges on deposit accounts and
fees for miscellaneous services. Noninterest income totaled $992,000 in the
third quarter of 2002, which was up $65,000 (7.0%) over the same period in 2001.
Service charges on deposit accounts increased $139,000 (27.6%) due to volume
increases and certain fee increases. Commissions on mortgage brokerage services
increased $11,000 (15.0%) as mortgage originations and refinance activity
increased from the levels in the third quarter of 2001. In the third quarter of
2002, the Bank realized a gain of $71,000 and recovered $7,000 in expenses on
the sale of its only OREO property and no gains on the sale of investment
securities. In the third quarter of 2001, the Bank had no gains on sales of OREO
and had realized gains of $165,000 on the sale of investment securities.
For the first nine months of 2002, noninterest income was $2,721,000 compared to
$2,352,000 in the same period last year. Service charges on deposits were up
$314,000 (22.3%) due to higher volumes and the effect of certain fee increases.
Other fees were $55,000 (5.8%) higher in the first nine months of 2002. The
higher fees on other services were offset in part by an $18,000 decline in
mortgage brokerage fees as the activity levels in the first half of 2002 were
lower than in the previous year. The Company realized net gains totaling
$102,000 on the sale of investment securities in the first nine months of 2002
as compared to $168,000 in the same period of 2001. Also as mentioned in the
previous paragraph, the Bank realized a $71,000 gain on the sale of OREO
property in 2002.
Noninterest Expense
- -------------------
As compared to the third quarter of 2001, noninterest expenses increased
$508,000 (10.7%) to a total of $5,257,000 in the third quarter of 2002. Salary
and employee benefits increased $263,000 (9.0%) because of additional staffing
for the new Gilroy branch, opened in April 2002, internal growth, and normal
salary increases. On a quarter-over-quarter basis, occupancy expenses were
higher by $141,000 (34.5%). Costs related to the new Gilroy branch, expansion of
the Hollister branch and enhanced branch security services were the main
contributors to the increase. Furniture and equipment expenses decreased
slightly. Other expenses for the third quarter of 2002 totaled $1,069,000, which
was an increase of $109,000 (11.4%) from the prior year quarter. Increased costs
were due to higher volumes and the new Gilroy branch. The efficiency ratio for
the third quarter of 2002 improved to 48.9% from 49.6% for the third quarter of
2001.
Noninterest expenses for the nine-month period ending September 30, 2002 were
$15,067,000 versus $14,465,000 for the same period in 2001. Salary and benefit
expenses were $8,965,000 in 2002 versus $8,778,000 in the first nine months of
2001. The $187,000 year-to-date increase was net of a $260,000 one-time
reduction to employee health care, which was recorded in the first quarter of
2002. The higher costs in 2002 were due to the new Gilroy branch, internal
growth and normal salary increases. Occupancy expenses for the first nine months
of 2002 increased $199,000 (16.2%) to $1,429,000 as compared to the year earlier
period. Most of the increase was due to the new Gilroy branch and the Hollister
branch expansion. Other expenses increased $272,000 (8.9%). Approximately half
of the increase was due to certain other operational losses with the balance due
to higher business volumes. The efficiency ratio for the first nine months of
2002 improved to 49.5% as compared to 51.4% for the same period of 2001.
Provision for Income Taxes
- --------------------------
The effective tax rates, considering state and federal taxes, and tax exempt
income, for the third quarter and first nine months of 2002 were 33.6% and 34.8%
as compared to 37.5% for both the periods in 2001. In the third quarter of 2002,
the Company reduced its estimated year-to-date tax provision from 35.5% to
35.0%. Also, in the third quarter of 2002, California changed its tax law
regarding the way banks account for bad debt reserves. This change reduced the
year-to-date California tax provision by $21,000 and the rate by 0.2%. Overall,
the estimated tax rates in 2002 are lower as tax exempt loans and investment
securities represent a higher percentage of income.
Securities
- ----------
At September 30, 2002, available-for-sale securities had a market value of
$114,716,000 with an amortized cost basis of $110,277,000. On an amortized cost
basis, the investment portfolio decreased by $5,068,000 from the balance at June
30, 2002 and $27,590,000 from the balance at December 31, 2001. Funds from the
sale of securities and principal payments received on mortgage backed securities
have been used in support of the Company's loan growth. The unrealized gain of
$4,439,000 at September 30, 2002 represented an increase of $2,621,000 from the
unrealized gain of $1,818,000 at June 30, 2002 and an increase of $5,153,000
from the unrealized loss of $714,000 at December 31, 2001. The unrealized gain
was the result of the continuing downward shift in the mid to long term rates in
the yield curve in the third quarter of 2002.
Loans
- -----
The ending loan balance at September 30, 2002 was $710,411,000, which was an
increase of $104,111,000 (17.2%) from the year-end 2001 balance and $140,032,000
(24.6%) from the September 30, 2001 balance. All categories of loans have
increased compared to the September 30, 2001 balances. The most significant
dollar growth in loans has been in the real estate - other category, up
$102,616,000 over the prior year balance. All sectors of the commercial real
estate market in Monterey County remain relatively strong. Vacancy rates are
currently low and economic projections for the remainder of 2002anticipate
continued low vacancy rates due to a lack of appropriately zoned land, available
water and slow growth political pressure. Within its primary market area, the
Bank has diversified its risk both as to property type and location. See "Credit
Risk" below for a discussion regarding real estate risk.
Credit Risk
- -----------
The Bank assesses and manages credit risk on an ongoing basis through stringent
credit review and approval policies, extensive internal monitoring and
established formal lending policies. Additionally, the Bank contracts with an
outside loan review consultant to periodically examine new loans and to review
the existing loan portfolio. Management believes its ability to identify and
assess risk and return characteristics of the Company's loan portfolio is
critical for profitability and growth. Management strives to continue the
historically low level of loan losses by continuing its emphasis on credit
quality in the loan approval process, active credit administration and regular
monitoring. With this in mind, management has designed and implemented a
comprehensive loan review and grading system that functions to continually
assess the credit risk inherent in the loan portfolio.
Ultimately, the credit quality of the Bank's loans may be influenced by
underlying trends in the national and local economic and business cycles. The
Bank's business is mostly concentrated in Monterey County. The County's economy
is highly dependent on the agricultural and tourism industries. The agricultural
industry is also a major driver of the economies of San Benito County and the
southern portions of Santa Cruz and Santa Clara Counties, which represent the
additional market areas for the Bank. As a result, the Bank lends money to
individuals and companies dependent upon the agricultural and tourism
industries.
The Company has significant extensions of credit and commitments to extend
credit which are secured by real estate, totaling approximately $562 million at
September 30, 2002. Although management believes 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 the Bank's primary
market areas 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. The Bank
monitors the effects of current and expected market conditions and other factors
on the collectibility of real estate loans. When, in management's judgment,
these loans are impaired, an appropriate provision for losses is recorded. The
more significant assumptions management considers 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 the Company's future
prospects and results of operations.
In extending credit and commitments to borrowers, the Bank generally requires
collateral and/or guarantees as security. The repayment of such loans is
expected to come from cash flow or from proceeds from the sale of selected
assets of the borrowers. The Bank's requirement for collateral and/or guarantees
is determined on a case-by-case basis in connection with management's 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. The Bank secures its collateral
by perfecting its 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 the Bank's loan
losses on its loan portfolio as a whole.
Management believes that its 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. The Bank's loan policies
and underwriting standards include, but are not limited to, the following: 1)
maintaining a thorough understanding of the Bank's service area and limiting
investments outside of this area, 2) maintaining a thorough understanding of
borrowers' knowledge and capacity in their field 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 by the Bank's
construction lending officers. In addition, the Bank strives to diversify the
risk inherent in the construction portfolio by avoiding concentrations to
individual borrowers and on any one project.
Nonaccrual, Past Due, Restructured Loans and Other Real Estate Owned (OREO)
- ---------------------------------------------------------------------------
Management generally places loans on nonaccrual status when they become 90 days
past due, 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 are charged off when, in the
opinion of management, collection appears unlikely. The following table sets
forth nonaccrual loans, loans past due 90 days or more, restructured loans
performing in compliance with modified terms and OREO at September 30, 2002 and
December 31, 2001:
(In thousands, except percentages) September 30, December 31,
2002 2001
---- ----
Past due 90 days or more and still accruing :
Commercial $ - $ 68
Real estate - -
Consumer and other - 12
---------- ----------
- 80
---------- ----------
Nonaccrual:
Commercial 646 702
Real estate 460 592
Consumer and other - -
---------- ----------
1,106 1,294
---------- ----------
Restructured (in compliance with
modified terms)- Commercial 940 955
---------- ----------
Total nonperforming and restructured assets 2,046 2,329
---------- ----------
Other real estate owned - -
---------- ----------
Total nonperforming assets $ 2,046 $ 2,329
========== ==========
Allowance for loan losses as a percentage of
nonperforming and restructured loans 682% 505%
Nonperforming and restructured loans to total loans 0.29% 0.38%
Allowance for loan losses to nonperforming assets 682% 505%
Nonperforming assets to total assets 0.23% 0.29%
Nonperforming and restructured loans increased $205,000 from the June 30, 2002
balance but decreased $283,000 from the December 31, 2001 balance. During the
third quarter of 2002, the Bank sold its only OREO property, which was acquired
in the second quarter and had a carrying value of $592,000. As a result, total
nonperforming assets decreased $387,000 from the June 30, 2002 balance. At
September 30, 2002, nonperforming and restructured loans were 0.29% of total
loans, which was up from 0.27% at June 30, 2002 and down from 0.38% at December
31, 2001. The ratio of nonperforming assets to total assets was 0.23% at
September 30, 2002, 0.28% at June 30 and 0.29% at December 31, 2001.
A loan is impaired when, based on current information and events, it is probable
that the Company will 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.
At September 30, 2002, the recorded investment in loans that are considered
impaired under SFAS No. 114 was $2,200,000. The total impaired loans include
$1,106,000 of nonaccrual loans and $940,000 of restructured loans. Impaired
loans had valuation allowances totaling $849,000. At December 31, 2001, the
recorded investment in loans considered impaired was $2,418,000, of which
$1,294,000 was included in nonaccrual loans and $955,000 was included in
restructured loans. The impaired loans at December 31, 2001 had valuation
allowances totaling $536,000. Management is not aware of any potential problem
loans, other than the impaired loans disclosed above, which were accruing and
current at June 30, 2002, where serious doubt exists as to the ability of the
borrower to comply with the present repayment terms.
Allowance for Loan Losses
- -------------------------
The Bank maintains an allowance for loan losses to absorb losses inherent in the
loan portfolio. The allowance is based on our regular assessments of the
probable estimated 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 careful 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 management's
evaluation of 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 significant
factors that, in management's judgment, affect the collectibility of the
portfolio as of the evaluation date. At September 30, 2002, the formula
allowance was $10,217,000 compared to $9,099,000 at June 30, 2002 and $9,043,000
at December 31, 2001. The increase in the formula allowance during the third
quarter was primarily a result of loan growth, changes in the internal grades of
certain loans resulting in greater formula allowances and the reclassification
of one large credit from a lower specific allowance level.
In addition to the formula allowance calculated by the application of the loss
factors to the standard loan categories, certain specific allowances may also be
calculated. Quarterly, all significant classified and criticized 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 higher or lower
than the formula reserve will be calculated based on the probability of loss
and/or a collateral shortfall. At September 30, 2002, the specific allowance was
$2,000,000 on a loan base of $29,842,000 compared to a specific allowance of
$2,102,000 on a loan base of $33,466,000 at June 30, 2002 and a specific
allowance of $1,678,000 on a loan base of $18,922,000 at December 31, 2001.
The unallocated allowance contains amounts that are based on management's
evaluation of conditions that are not directly measured in the determination of
the formula and specific allowances. The evaluation of the inherent loss with
respect to these conditions is subject to a higher degree of uncertainty because
they are not identified with specific problem loans or portfolio segments. At
September 30, 2002, the unallocated allowance was $1,730,000 compared to
$1,811,000 at June 30, 2002 and $1,032,000 at December 31, 2001. The conditions
evaluated in connection with the unallocated allowance include the following at
the balance sheet date:
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 competition and legal and
regulatory requirements on the level of estimated credit losses in the Bank's
current portfolio.
There can be no assurance that the adverse impact of any of these conditions on
the Bank will not be in excess of the unallocated allowance as determined by
management at September 30, 2002 and set forth in the preceding paragraph.
The allowance for loan losses totaled $13,947,000 or 1.96% of total loans at
September 30, 2002 compared to $13,012,000 or 1.93% at June 30, 2002,
$11,753,000 or 1.94% at December 31, 2001 and $10,224,000 or 1.79% of total
loans at September 30, 2001. At these dates, the allowance represented 682%,
707%, 505% and 675% of nonperforming loans.
It is the policy of management 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 a history of actual
charge-offs, management believes that the loan loss provision and allowance are
adequate. However, no prediction of the ultimate level of loans charged off in
future periods can be made with any certainty.
The following table summarizes activity in the allowance for loan losses for the
periods indicated:
Three months ended Nine months ended
September 30, September 30,
(In thousands, except percentages) 2002 2001 2002 2001
---- ---- ---- ----
Beginning balance $ 13,012 $ 9,509 $ 11,753 $ 9,371
Provision charged to expense 925 760 2,048 955
Loans charged off (2) (62) (98) (166)
Recoveries 12 17 244 64
---------- ---------- ---------- ----------
Ending balance $ 13,947 $ 10,224 $ 13,947 $ 10,224
========== ========== ========== ==========
Ending loan portfolio $ 710,411 $ 570,379
========== ==========
Allowance for loan losses as percentage of ending loan portfolio 1.96% 1.79%
Liquidity
- ---------
Liquidity management refers to the Company's 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 the
Company's 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. The
Bank assesses the likelihood of projected funding requirements by reviewing
historical funding patterns, current and forecasted economic conditions and
individual client funding needs. Commitments to fund loans and outstanding
standby letters of credit at September 30, 2002 were approximately $198,402,000
and $4,885,000, respectively. Such loans relate primarily to revolving lines of
credit and other commercial loans, and to real estate construction loans.
The Company's sources of liquidity consist of overnight funds sold to
correspondent banks, unpledged marketable investments, loans pledged to the
Federal Home Loan Bank of San Francisco ("FHLB-SF") and sellable SBA loans. On
September 30, 2002, consolidated liquid assets totaled $125.2 million or 14.4%
of total assets as compared to $110.0 million or 13.7% of total consolidated
assets on December 31, 2001. In addition to liquid assets, the Bank maintains
short-term lines of credit with correspondent banks. At September 30, 2002, the
Bank had $68,175,000 available under these credit lines. Informal agreements are
also in place with various other banks to purchase participations in loans, if
necessary. The Company serves primarily a business and professional customer
base and, as such, its deposit base is susceptible to economic fluctuations.
Accordingly, management strives to maintain a balanced position of liquid assets
to volatile and cyclical deposits.
Capital Resources
- -----------------
The Company's total shareholders' equity was $76,854,000 at September 30, 2002
compared to $65,336,000 at December 31, 2001.
The Company and the Bank are subject to regulations issued by the Board of
Governors and the FDIC which require maintenance of a certain level of capital.
Under the regulations, capital requirements are based upon the composition of an
institution's asset base and the risk factors assigned to those assets. The
guidelines characterize an institution's capital as being "Tier 1" capital
(defined to be principally shareholders' equity less intangible assets) and
"Tier 2" capital (defined to be principally the allowance for loan losses,
limited to one and one-fourth percent of gross risk weighted assets). The
guidelines require the Company and the Bank to maintain a risk-based capital
target ratio of 8%, one-half or more of which should be in the form of Tier 1
capital.
The following table shows the Company's and the Bank's actual capital amounts
and ratios at September 30, 2002 and December 31, 2001 as well as the minimum
capital ratios for capital adequacy under the regulatory framework:
To Be Categorized
Well Capitalized Under
For Capital Prompt Corrective
Actual: Adequacy Purposes: Action Provisions:
Amount Ratio Amount Ratio Amount Ratio
------ ----- ------ ----- ------ -----
Company
- ------
As of September 30, 2002
- ------------------------
Total Capital (to Risk Weighted Assets): $83,425,000 11.0% $60,638,000 8.0% N/A
Tier 1 Capital (to Risk Weighted Assets): 73,895,000 9.8% 30,319,000 4.0% N/A
Tier 1 Capital (to Average Assets): 73,895,000 8.5% 34,899,000 4.0% N/A
As of December 31, 2001:
- ------------------------
Total Capital (to Risk Weighted Assets): 73,518,000 11.1% 52,971,000 8.0% N/A
Tier 1 Capital (to Risk Weighted Assets): 65,198,000 9.9% 26,486,000 4.0% N/A
Tier 1 Capital (to Average Assets): 65,198,000 8.4% 30,896,000 4.0% N/A
Bank
- ----
As of September 30, 2002
- ------------------------
Total Capital (to Risk Weighted Assets): $76,599,000 10.2% $60,091,000 8.0% $75,113,000 10.0%
Tier 1 Capital (to Risk Weighted Assets): 67,154,000 8.9% 30,045,000 4.0% 45,068,000 6.0%
Tier 1 Capital (to Average Assets): 67,154,000 7.8% 34,639,000 4.0% 43,299,000 5.0%
As of December 31, 2001:
- ------------------------
Total Capital (to Risk Weighted Assets): 65,318,000 10.0% 52,202,000 8.0% 65,252,000 10.0%
Tier 1 Capital (to Risk Weighted Assets): 57,117,000 8.8% 26,101,000 4.0% 39,151,000 6.0%
Tier 1 Capital (to Average Assets): 57,117,000 7.5% 30,470,000 4.0% 38,088,000 5.0%
The Board of Directors stated internal guidelines are that both the Company and
Bank will maintain a total risk-weighted capital ratio equal to or greater than
10.0%. During the past two years of high growth, the Company and the Bank have
both met this capital ratio requirement at the quarterly reporting periods. As
we move forward with our branch expansion plans, we intend to manage the
Company's growth so that capital generated from earnings will support the growth
and build capital to a targeted total risk-weighted capital ratio in excess of
11.0% for both the Bank and the Company.
Item 3. MARKET RISK MANAGEMENT
Overview
- --------
The goal for managing the assets and liabilities of the Bank is to maximize
shareholder value and earnings while maintaining a high quality balance sheet
without exposing the Bank to undue interest rate risk. The Board of Directors
has overall responsibility for the Company's interest rate risk management
policies. The Bank has an Asset and Liability Management Committee (ALCO), which
establishes and monitors guidelines to control the sensitivity of earnings to
changes in interest rates.
Asset/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
interest margin and market value of equity under changing interest environments.
The Bank uses simulation models to forecast earnings, net interest margin and
market value of equity.
Simulation of earnings is the primary tool used to measure the sensitivity of
earnings to interest rate changes. Using computer modeling techniques, the
Company is 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/borrowings) positions
as the beginning base. The forecast balance sheet is processed against three
interest rate scenarios. The scenarios include a 200 basis point rising rate
forecast, a flat rate forecast and a 200 basis point falling rate forecast which
take place within a one year time frame. The net interest income is measured
during the first year of the rate changes and in the year following the rate
changes. The latest simulation forecast using May 31, 2002 balances and
measuring against a flat rate environment, calculated that in a one-year horizon
an increase in interest rates of 200 basis points would result in an increase of
$3,393,000 in net interest income. Conversely, a 200 basis point decrease would
result in a decrease of $3,522,000 in net interest income. The basic structure
of the balance sheet has not changed significantly from the last simulation run.
The simulations of earnings do not incorporate any management actions, which
might moderate the negative consequences of interest rate deviations. Therefore,
they do not reflect likely actual results, but serve as conservative estimates
of interest rate risk. The risk profile of the Bank has not changed materially
from that at year-end 2001.
Other Matters
- -------------
Terrorist Acts
The terrorist actions on September 11, 2001 and thereafter have had significant
adverse effects upon the United States economy. Whether the terrorist activities
in the future and the actions of the United States and its allies in combating
terrorism on a worldwide basis will adversely impact the Company and the extent
of such impact is uncertain. However, such events have had and may continue to
have an adverse effect on the economy in the Company's market areas. Such
continued economic deterioration could adversely affect the Company's future
results of operations by, among other matters, reducing the demand for loans and
other products and services offered by the Company, increasing nonperforming
loans and the amounts reserved for loan losses, and causing a decline in the
Company's stock price.
Off-Balance Sheet Items
The Company has certain ongoing commitments under operating leases. These
commitments do not significantly impact operating results. As of September 30,
2002 and December 31, 2001, commitments to extend credit and letters of credit
were the only financial instruments with off-balance sheet risk (See footnote 2
in the financial statements). The Company has not entered into any contracts for
financial derivative instruments such as futures, swaps, options or similar
instruments.
Certain financial institutions have elected to use special purpose vehicles
("SPV") to dispose of problem assets. A SPV is typically a subsidiary company
with an asset and liability structure and legal status that makes it obligations
secure even if the parent corporation goes bankrupt. Under the circumstances,
these financial institutions may exclude the problem assets from their reported
impaired and non-performing assets. The Company does not use SPV or other
structures to dispose of problem assets.
Sarbanes-Oxley Act
- ------------------
President George W. Bush signed the Sarbanes-Oxley Act of 2002 (the "Act") on
July 30, 2002, which responds to recent issues in corporate governance and
accountability. Among other matters, key provisions of the Act provide for:
o Expanded oversight of the accounting profession by creating a new
independent public company oversight board to be monitored by the SEC.
o Revised rules on auditor independence to restrict the nature of non-audit
services provided to audit clients and to require such services to be
pre-approved by the audit committee.
o Improved corporate responsibility through mandatory listing standards
relating to audit committees, certifications of periodic reports by the
CEO and CFO and making issuer interference with an audit a crime.
o Enhanced financial disclosures, including periodic reviews for largest
issuers and real time disclosure of material company information.
o Enhanced criminal penalties for a broad array of white collar crimes and
increases in the statute of limitations for securities fraud lawsuits.
The effect of the Act upon corporations is uncertain; however, it is likely that
compliance costs may increase as corporations modify procedures if required to
conform to the provisions of the Act. The Company does not currently anticipate
that compliance with the Act will have a material effect upon its financial
position or results of its operations or its cash flows.
Item 4. CONTROLS AND PROCEDURES
Evaluation of Disclosure Controls and Procedures
- ------------------------------------------------
Based upon an evaluation made within 90 days prior to the date of this report,
the Company's Chief Executive Officer and Chief Financial Officer have concluded
that the Company's disclosure controls and procedures (as defined in Exchange
Act Rule 13a--14(c)) are adequate and effective in timely alerting them to
material information relating to the Company required to be included in the
Company's filings with the SEC under the Securities Exchange Act of 1934.
Changes in Internal Controls
- ----------------------------
There were no significant changes in the Company's internal controls or in other
factors that could significantly affect internal controls subsequent to the date
of their evaluation.
PART II - OTHER INFORMATION
Item 1. Legal proceedings.
None.
Item 2. Changes in securities.
None.
Item 3. Defaults upon senior securities.
None.
Item 4. Submission of matters to a vote of security holders.
None.
Item 5. Other information.
None.
Item 6. Exhibits and reports on Form 8-K.
(a) Exhibits
(2.1)Agreement and Plan of Reorganization and Merger by and between
Central Coast Bancorp, CCB Merger Company and Cypress Coast Bank
dated as of December 5, 1995, incorporated by reference from
Exhibit 99.1 to Form 8-K, filed with the Commission on December
7, 1995.
(3.1)Articles of Incorporation, as amended, incorporated by reference
from Exhibit 10.18 to the Registrant's 2001 Annual Report on
Form 10-K filed with the Commission on March 26, 2002.
(3.2)Bylaws, as amended, incorporated by reference from Exhibit 3.2
to Form 10-Q, filed with the Commission on August 13, 2001.
(4.1)Specimen form of Central Coast Bancorp stock certificate,
incorporated by reference from the Registrant's 1994 Annual
Report on Form 10-K filed with the Commission on March 31, 1995.
(10.1)Lease agreement dated December 12, 1994, related to 301 Main
Street, Salinas, California incorporated by reference from the
Registrant's 1994 Annual Report on Form 10-K filed with the
Commission on March 31, 1995.
(10.2)King City Branch Lease incorporated by reference from Exhibit
10.3 to Registration Statement on Form S-4, No. 33-76972, filed
with the Commission on March 28, 1994.
(10.3)Amendment to King City Branch Lease, incorporated by reference
from Exhibit 10.4 to Registration Statement on Form S-4, No.
33-76972, filed with the Commission on March 28, 1994.
*(10.4) 1982 Stock Option Plan, as amended, incorporated by reference
from Exhibit 4.2 to Registration Statement on Form S-8, No.
33-89948, filed with the Commission on March 3, 1995.
*(10.5) Form of Nonstatutory Stock Option Agreement under the 1982
Stock Option Plan incorporated by reference from Exhibit 4.6 to
Registration Statement on Form S-8, No. 33-89948, filed with the
Commission on March 3, 1995.
*(10.6)Form of Incentive Stock Option Agreement under the 1982 Stock
Option Plan incorporated by reference from Exhibit 4.7 to
Registration Statement on Form S-8, No. 33-89948, filed with the
Commission on March 3, 1995.
*(10.7)1994 Stock Option Plan, as amended and restated, incorporated
by reference from Exhibit 9.9 to Registration Statement on Form
S-8, No. 33-89948, filed with the Commission on November 15,
1996.
*(10.8)Form of Nonstatutory Stock Option Agreement under the 1994
Stock Option Plan incorporated by reference from Exhibit 4.3 to
Registration Statement on Form S-8, No. 33-89948, filed with
Commission on March 3, 1995.
*(10.9)Form of Incentive Stock Option Agreement under the 1994 Stock
Option Plan incorporated by reference from Exhibit 4.4 to
Registration Statement on Form S-8, No. 33-89948, filed with the
Commission on March 3, 1995.
*(10.10)Form of Director Nonstatutory Stock Option Agreement under the
1994 Stock Option Plan incorporated by reference from Exhibit
4.5 to Registration Statement on Form S-8, No. 33-89948, filed
with the Commission on March 3, 1995.
*(10.11) Form of Bank of Salinas Indemnification Agreement for directors and executive officers
incorporated by reference from Exhibit 10.9 to Amendment No. 1
to Registration Statement on Form S-4, No. 33-76972, filed
with the Commission on April 15, 1994.
*(10.12)401(k) Pension and Profit Sharing Plan Summary Plan Description incorporated by
reference from Exhibit 10.8 to Registration Statement on Form
S-4, No. 33-76972, filed with the Commission on March 28, 1994.
*(10.13)Form of Executive Employment Agreement incorporated by
reference from Exhibit 10.13 to the Company's 1996 Annual Report
on Form 10-K filed with the Commission on March 31, 1997.
*(10.14)Form of Executive Salary Continuation Agreement incorporated by
reference from Exhibit 10.14 to the Company's 1996 Annual Report
on Form 10-K filed with the Commission on March 31, 1997.
*(10.15)Form of Indemnification Agreement incorporated by reference
from Exhibit D to the Proxy Statement filed with the Commission
on September 3, 1996, in connection with Registrant's 1996
Annual Shareholders' Meeting held on September 23, 1996.
(10.16)Purchase and Assumption Agreement for the Acquisition of Wells
Fargo Bank Branches incorporated by reference from Exhibit 10.17
to the Registrant's 1996 Annual Report on Form 10-K filed with
the Commission on March 31, 1997.
(10.17) Lease agreement dated November 27, 2001 related to 491 Tres
Pinos Road, Hollister, California incorporated by reference from
Exhibit 10.17 to the Registrant's 2001 Annual Report on Form
10-K filed with the Commission on March 26, 2002.
(10.18) Lease agreement dated February 11, 2002, related to 761 First
Street, Gilroy, California incorporated by reference from
Exhibit 10.18 to the Registrant's 2001 Annual Report on Form
10-K filed with the Commission on March 26, 2002.
(10.19) Lease agreement dated July 16, 2002, related to 439 Alvarado
Street, Monterey, California incorporated by reference from
Exhibit 10.19 to the Registrant's Quarterly Report on Form 10-Q
filed with the Commission on August 12, 2002.
(21.1)The Registrant's only subsidiary is its wholly owned subsidiary,
Community Bank of Central California.
(99.1)Certification of Chief Executive Officer and Chief Financial
Officer pursuant to the Sarbanes-Oxley Act of 2002
*Denotes management contracts, compensatory plans or
arrangements.
(b) Reports on Form 8-K.
None
SIGNATURES
- -------------------------------------------------------------------------------
Pursuant to the requirements of the Securities and Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.
November 7, 2002 CENTRAL COAST BANCORP
By: /s/NICK VENTIMIGLIA
----------------------------------
Nick Ventimiglia
Chief Executive Officer
By: /s/ROBERT M. STANBERRY
----------------------------------
Robert M. Stanberry
(Chief Financial Officer, Principal
Financial and Accounting Officer)
Certification Under Section 302 of the
Sarbanes-Oxley Act of 2002
Regarding the Quarterly Report on Form 10-Q
For the Quarter Ended September 30, 2002
I, Nick Ventimiglia, certify that:
1. I have reviewed this quarterly report on Form 10-Q of Central Coast Bancorp;
2. Based on my knowledge, this quarterly 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 quarterly
report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly 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 quarterly report;
4. The registrant's other certifying officer and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have: a)
designed such disclosure controls and procedures 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 quarterly report is being prepared; b) evaluated the
effectiveness of the registrant's disclosure controls and procedures as of a
date within 90 days prior to the filing date of this quarterly report (the
"Evaluation Date"); and c) presented in this quarterly report our conclusions
about the effectiveness of the disclosure controls and procedures based on our
evaluation as of the Evaluation Date;
5. The registrant's other certifying officer and I have
disclosed, based on our most recent evaluation, to the registrant's auditors and
the audit committee of registrant's board of directors (or persons performing
the equivalent function): a) all significant deficiencies in the design or
operation of internal controls which could adversely affect the registrant's
ability to record, process, summarize and report financial data and have
identified for the registrant's auditors any material weaknesses in internal
controls; and b) any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrant's internal
controls; and
6. The registrant's other certifying officer and I have indicated
in this quarterly report whether or not there were significant changes in
internal controls or in other factors that could significantly affect internal
controls subsequent to the date of our most recent evaluation, including any
corrective actions with regard to significant deficiencies and material
weaknesses.
Date: November 7, 2002
/s/ NICK VENTIMIGLIA
--------------------
Nick Ventimiglia
Chief Executive Officer
Certification Under Section 302 of the
Sarbanes-Oxley Act of 2002
Regarding the Quarterly Report on Form 10-Q
For the Quarter Ended September 30, 2002
I, Robert M. Stanberry, certify that:
1. I have reviewed this quarterly report on Form 10-Q of Central Coast Bancorp;
2. Based on my knowledge, this quarterly 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 quarterly
report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly 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 quarterly report;
4. The registrant's other certifying officer and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have: a)
designed such disclosure controls and procedures 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 quarterly report is being prepared; b) evaluated the
effectiveness of the registrant's disclosure controls and procedures as of a
date within 90 days prior to the filing date of this quarterly report (the
"Evaluation Date"); and c) presented in this quarterly report our conclusions
about the effectiveness of the disclosure controls and procedures based on our
evaluation as of the Evaluation Date;
5. The registrant's other certifying officer and I have
disclosed, based on our most recent evaluation, to the registrant's auditors and
the audit committee of registrant's board of directors (or persons performing
the equivalent function): a) all significant deficiencies in the design or
operation of internal controls which could adversely affect the registrant's
ability to record, process, summarize and report financial data and have
identified for the registrant's auditors any material weaknesses in internal
controls; and b) any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrant's internal
controls; and
6. The registrant's other certifying officer and I have indicated
in this quarterly report whether or not there were significant changes in
internal controls or in other factors that could significantly affect internal
controls subsequent to the date of our most recent evaluation, including any
corrective actions with regard to significant deficiencies and material
weaknesses.
Date: November 7, 2002
/s/ ROBERT M. STANBERRY
-----------------------
Robert M. Stanberry
Senior Vice President
Chief Financial Officer
EXHIBIT INDEX
Exhibit Sequential
Number Description Page Number
99.1 Certification of Chief Executive Officer 31
and Chief Financial Officer pursuant to
Section 906 of the Sarbanes-Oxley Act of 2002