UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-Q (Mark one) (x) Quarterly report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 For the quarterly period ended March 31, 1995, or: ( ) Transition report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 Commission file number: 0-11090 NAPA NATIONAL BANCORP (Exact name of registrant as specified in its charter) California 94-2780134 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification Number) 3263 Claremont Way, Napa, California 94558 (Address of principal executive offices) (Zip Code) Registrant's telephone number, including area code: (707) 257-2440 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 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 As of May 10, 1995, the number of shares outstanding of the registrant's Common Stock, without par value, was 754,500. PART I FINANCIAL INFORMATION Item 1. Financial Statements The following interim consolidated financial statements are unaudited. However, they reflect all adjustments (which included only normal recurring adjustments) which are, in the opinion of management, necessary for a fair presentation of financial position, results of operations, and cash flows for the interim periods presented. Results for the quarter as presented are not necessarily indicative of results to be expected of the year as a whole. 2 NAPA NATIONAL BANCORP AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS (In 000s) March 31, December 31, 1995 1994 (Unaudited) ASSETS Cash and due from banks $ 8,872 $ 5,459 Federal funds sold 11,060 10,760 Time deposits with other financial institutions 4,356 4,357 Investment securities:Treasury Note-Held to maturity 1,218 1,216 Federal Reserve Stock 181 165 Loans, less allowance for loan losses of $1,099 and $1,050 at March 31, 1995 and December 31, 1994 63,131 62,103 Premises, furniture, fixtures and equipment, net 1,739 1,449 Accrued interest receivable 506 432 Other assets 677 536 TOTAL ASSETS $91,740 $86,477 LIABILITIES AND SHAREHOLDERS' EQUITY Deposits: Non-interest-bearing demand $15,357 $18,098 Interest-bearing: Savings 11,559 14,367 Transaction 25,579 24,431 Time certificates 32,225 22,482 Total deposits 84,720 79,378 Accrued interest payable and other liabilities 380 753 TOTAL LIABILITIES 85,100 80,131 SHAREHOLDERS' EQUITY Preferred stock, no par value, 1,000,000 shares authorized; no shares outstanding 0 0 Common stock, no par value, 20,000,000 shares authorized; 754,500 shares issued and outstanding at March 31, 1995 and December 31, 1994 6,915 6,915 Accumulated deficit (275) (569) TOTAL SHAREHOLDERS' EQUITY 6,640 6,346 TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $91,740 $86,477 3 NAPA NATIONAL BANCORP AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF INCOME (Unaudited) (In 000s, except earnings per share data) Quarter Ended March 31, 1995 1994 Interest income: Interest and fees on loans $ 1,696 $ 1,191 Interest on federal funds sold 102 90 Interest on time deposits with other financial institutions 59 20 Interest on investment securities 20 7 Total interest income 1,877 1,308 Interest expense: Interest on deposits 498 382 Total interest expense 498 382 Net interest income 1,379 926 Provision for loan losses 49 33 Net interest income after provision for loan losses 1,330 893 Non-interest income: Service charges on deposit accounts 110 81 Other customer fees and charges 71 64 Mortgage loan origination and service fees 2 24 Total non-interest income 183 169 Non-interest expense: Salaries and employee benefits, net 513 477 Occupancy 91 71 Furniture, fixtures and equipment 110 78 Marketing and business development 25 16 Other 273 220 Total non-interest expense 1,012 862 Income before income taxes 501 200 Income taxes 207 82 Net income $ 294 $ 118 Net income per share $ 0.39 $ 0.16 Weighted average common shares outstanding used to compute net income per share 754,500 754,500 4 NAPA NATIONAL BANCORP AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited) (In 000s) Quarter Ended March 31, 1995 1994 Cash flows from operating activities: Net income $ 294 $ 118 Reconciliation of net incomes to net cash provided by operating activities: Depreciation on premises and equipment 67 68 Amortization of deferred loan fees and discounts/premiums on investment securities (272) (187) Provision for loan losses 49 33 (Increase) in accrued interest receivable (74) 0 (Increase) in other assets, net (141) (81) (Decrease) increase in accrued interest payable and other liabilities (373) 90 NET CASH (USED) PROVIDED BY OPERATING ACTIVITIES (450) 41 Cash flows from investing activities: Loan originations net of collections (807) (1,070) Net decrease (increase) in time deposits with other financial institutions 1 (397) Capital expenditures (357) (20) Purchase of Federal Reserve Stock (16) 0 NET CASH USED IN INVESTING ACTIVITIES (1,179) (1,487) Cash flows from financing activities: Net increases in deposits 5,342 1,856 NET CASH PROVIDED BY FINANCING ACTIVITIES 5,342 1,856 INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS 3,713 410 Cash and cash equivalents at beginning of period 16,219 17,284 Cash and cash equivalents at end of period $19,932 $17,694 (Continued on following page) 5 NAPA NATIONAL BANCORP AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited) (In 000s) Quarter Ended March 31, 1995 1994 CASH AND CASH EQUIVALENTS AT MARCH 31 CONSIST OF: Cash and due from banks $ 8,872 $ 5,394 Federal funds sold 11,060 12,300 $19,932 $17,694 SUPPLEMENTAL CASH FLOW INFORMATION: Cash paid for interest $ 442 $ 363 Cash paid for income taxes $ 735 $ 53 (Concluded) 6 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operation The following should be read in conjunction with the unaudited consolidated financial statements presented elsewhere in this Form 10-Q. Since Napa National Bancorp (the Company) is a holding company whose principal asset is, and is expected to be, the capital stock of Napa National Bank (the Bank), the following relates principally to the financial condition and results of operations of the Bank. All dollar amounts are rounded and expressed in thousands except earnings per share data. Summary of Financial Results The Company recorded net income of $294, or $0.39 per share, for the first quarter of 1995, compared to net income of $118, or $0.16 per share, during the first quarter of 1994. The Company's year-to-date 1995 operating results were $176 above the results for the same period in 1994 for the following reasons. Net interest income for the first quarter of 1995 was $453 above the results for the similar period in 1994. Provision for loan losses for the first three months of 1995 was $16 above the same period in 1994. Non-interest income in 1995 was $14 above the results for 1994 due to increases in various service charges. These increases were partially offset by declines in gains from the sale of loans to the Federal Home Loan Mortgage Company ("Freddie Mac"). Non- interest expenses were $150 higher in the first quarter of 1995 over the similar period of 1994. Net Interest Income The Company's primary source of income is the difference between interest income and fees derived from earning assets and interest paid on liabilities incurred for the funding of those assets. This difference is referred to as "net interest income". Net interest income expressed as a percentage of average total earning assets is referred to as the "net interest margin" or "margin". For the first quarter of 1995, net interest income was $453 higher than for the same quarter of 1994. Net interest income increased over 1995, primarily due to an increase in earning assets and additional increases on rates paid on loans and investments. For the first three months of 1995, the loan-to-deposit ratio averaged 84%, while in the same period of 1994, the ratio averaged 77%. For the first quarter of 1995, total average earning assets were approximately $77,715, an increase of $7,050, or 10%, over total average earning assets of $70,665 for the same period in 1994. This increase in average assets in the first quarter of 1995 over that of 1994, contributed significantly to the increase in total interest income between the two periods. Average interest bearing deposits for the first quarter of 1995 were $62,848, an increase of $3,921, or 7%, over 1994 totals. This growth in interest bearing deposits, coupled with general increases on rates paid on deposits, caused interest expense to be higher during the first three months of 1995 over the same period of 1994 by $116. Provision for Loan Losses The provision for loan losses is based upon management's assessment of the amount that is necessary to maintain the allowance for loan losses at an adequate 7 level. As further described in "Allowance for Loan Losses" herein, management takes many factors into consideration when determining the provision. In addition to the factors described in the "Allowance for Loan Losses" section, management also considers loan portfolio growth in establishing the provision. The provision for loan losses was $49, or $16 higher in the first quarter of 1995 over the same period of 1994, an increase of 48%. Net loans totaled $63,131 as of March 31, 1995, an increase of $7,647, or 14%, over the March 31, 1994 total of $55,484. The provision for loan losses increased in the first quarter of 1995 over the 1994 figure primarily due to an increase in outstanding loan balances. Non-Interest Income Non-interest income consists primarily of service charges on deposit accounts, fees charged for other banking services and gain on the sales of loans. Non-interest income increased in the first quarter of 1995 by $14, or 8%, compared to the same period in 1994. During the past twelve months, the Company's number of accounts have grown substantially. This growth has resulted in significant increases in service charges on deposit accounts and other fees and charges. Additionally, during the latter half of 1994, the Bank began offering alternative investment products through the use of a third party vendor. The sale of these products results in commission fee income for the Bank. These increases were partially offset by decreases in gains on the sale of mortgage loans due to the continually rising interest rates experienced throughout 1994 and into the first quarter of 1995. Non-Interest Expense Total non-interest expenses for the first three months of 1995 were $1,012, representing an increase of $150, or 17%, over 1994's total of $862. Salaries and employee benefits increased by $36, or 8%, for the first three months of 1995 over the same period in 1994. This increase is attributed to the addition of approximately three full time equivalent employees during the previous twelve months. This staff increase was a strategic move by management in order to take advantage of unique marketing opportunities taking place in the Company's service area and the overall growth in the Bank in general. In November 1994, the Bank entered into a five year noncancellable operating lease for a new facility in Downtown Napa. The Bank began leasehold improvements early in 1995 and rent payments during the later half of the first quarter. The Bank plans to relocate its existing Downtown Napa branch, primary lending services and headquarters into this facility during 1995. During the leasehold improvement stage on this new facility, the Bank continued to operate from the existing Downtown Napa branch. Occupancy and furniture, fixtures and equipment expenses increased in 1995 over 1994 totals by $52, or 35%. This increase in costs was attributed primarily to the Bank's new branch/headquarters tenant improvements, and the continuous costs of supporting its other four locations. During April, the Bank closed its original banking office located at 1500 Third Street, Napa, California and re-opened at 903 Main Street, Napa, California. Management estimates moving the Bank's head quarters during the end of the second quarter. After relocation of the head quarters from 3263 Claremont Way, Napa, California, this facility will be remodeled to accommodate the Bank's customer service and EDP departments. These departments are slated to move in the third quarter. After this move, the Bank will vacate the leased space which previously housed the Customer Service Center. 8 The Company increased its marketing and business development costs by $9, or 56%, during the first three months of 1995 over the same period of 1994. This increase was the result of a very high profile and focused marketing plan for 1995. Other non-interest expenses increased by $53, or 24%, during 1995 over the first quarter of 1994. A significant portion of this increase is attributable to the fact that the Company has grown 16% in total assets during the previous twelve months. Additionally, the Company approved a new director compensation plan effective January 1, 1995. Director and other professional fees attributed to approximately half of the increase in expenses during the prior twelve months. Income Taxes Income tax expense was approximately 41% of pre-tax income for the three months ending March 31, 1995 and 1994. Loans Loans totalled $64,230 at March 31, 1995, an increase of $1,077, or 2%, over December 31, 1994's balance of $63,153, and an increase of $7,804, or 14%, over March 31, 1994's balance of $56,426. The increase in the Company's loan portfolio over the last twelve months, in management's opinion, resulted from new loan generation by the Bank's loan officers, a concentrated marketing plan, and current changes in the Company's service area. As of March 31, 1995, nonperforming loans were $1,005, as compared to $962, at December 31, 1994. Nonperforming loans at March 31, 1994 were $700. Accruing loans past due 90 days or more were $0 at both March 31, 1995 and December 31, 1994. During the beginning of 1995, and again in March, the Napa Valley was subjected to severe weather conditions that resulted in some areas of the Valley flooding from high rain fall levels. Most of the flooding resulted in areas near the Napa River or in dormant fields. The results of these storms have not yet been fully ascertained however, management does not believe that it will have a direct or material effect on either its existing loan portfolio or the future growth in loans and deposits. On January 1, 1995, the Company adopted SFAS No. 114, "Accounting by Creditors for Impairment of a Loan" and SFAS No. 118, "Accounting by Creditors for Impairment of a Loan - Income Recognition and Disclosure." These statements address the accounting and reporting by creditors for impairment of certain loans. A loan is impaired when, based upon current information and events, it is probable that a creditor will be unable to collect all amounts due according to the contractual terms of the loan agreement. These statements are applicable to all loans, uncollaterialized as well as collateralized, except large groups of smaller-balance homogeneous loans that are collectively evaluated for impairment such as residential mortgage and consumer installment loans. Impairment is measured based on the present value of expected future cash flows discounted at the loan's effective interest rate, except that as a practical expedient, the Company measures impairment based on a loan's observable market price or the fair value of the collateral if the loan is collateral dependent. Loans are measured for impairment as part of the Company's normal internal asset review process. Interest income is recognized on impaired loans in a manner similar to that of all loans. It is the Company's policy to place loans that are delinquent 90 9 days or more as to principal or interest on a nonaccrual of interest basis unless secured and in the process of collection, and to reverse from current income accrued but uncollected interest. Cash payments subsequently received on nonaccrual loans are recognized as income only where the future collection of principal is considered by management to be probable. At March 31, 1995, the Company's total recorded investment in impaired loans was $337, for which there is a related allowance for credit losses of $87 determined in accordance with these Statements. The average recorded investment in the impaired loans during the three months ended March 31, 1995, was $337: the related amount of interest income recognized during the period that such loans were impaired was less than $1, and the amount of interest income recognized under the cash-basis method of accounting during the time within the period that the loans were impaired was less than $0.1. Allowance for Loan Losses Inherent in the lending function is the fact that loan losses will be experienced and that the risk of loss will vary with the type of loan being made and the credit-worthiness of the borrower over the term of the loan. The Company maintains an allowance for possible loan losses at a level estimated to be adequate to provide for losses that can be reasonably anticipated based upon specific loan conditions as determined by management, and based upon management's assessment of historical loan loss experience, prevailing economic conditions and other factors. While these factors are essentially judgmental and may not be reduced to a mathematical formula, it is management's view that the $1,099 allowance at March 31, 1995, approximately 1.71% of total loans, was adequate as an allowance against probable losses in the portfolio. At March 31, 1994, the $942 allowance amounted to approximately 1.67% of total loans. There can be no assurance that in any given period the Bank may not sustain charge- offs which are substantial in relation to the size of the allowance. The allowance is increased by charges to the provision for loan loss and reduced by net charge-offs. The activity in the allowance for loan losses was as follows: 1995 1994 (in 000's) Balance at January 1 $1,050 $ 912 Provision for loan losses 49 33 Recoveries 0 0 Charge-offs 0 3 Balance at March 31 $1,099 $ 942 Investments In May 1993, the Financial Accounting Standards Board issued SFAS No. 115, "Accounting for Certain Investments in Debt and Equity Securities". SFAS 115 changes the accounting and reporting for certain equity and all debt securities as defined, and requires that upon acquisition, securities be classified into one of the three categories and accounted for as follows: 10 Debt securities where management has the positive intent and ability to hold maturity are classified as "held to maturity" and reported at amortized cost. Debt and equity securities that are held for current sale are classified as "trading account securities" and reported at their fair value, with unrealized gains and losses included in earnings. Debt and equity securities not classified as either securities to be held to maturity or trading account securities are classified as "securities available for sale" and reported at fair value, with unrealized gains and losses excluded from earnings and reported as a separate component of shareholders' equity, net of the income tax effect that would result from their sale. The Bank's classification of its investments in debt and equity securities according to the provisions of SFAS 115 are as follows: March 31, 1995 Investment Securities Classified According to the Provisions of SFAS No. 115 Gross Gross Amortized Unrealized Unrealized Fair Cost Gains Losses Value Held-to-Maturity Securities U.S. Treasury (Held to maturity) $1,218 $0 $3 $1,215 Federal Reserve Stock $ 181 $0 $0 $ 181 Other Real Estate Owned The Bank had no other real estate owned at March 31, 1995, or December 31, 1994. Deposits Deposits totalled $84,720 at March 31, 1995, an increase of $5,342, or 7%, over December 31, 1994's balance of $79,378. During the last twelve months, deposits have grown $11,401, or 16%, over March 31, 1994's total of $73,319. The increase in the first quarter of 1995 was primarily all in time certificates with some slight growth also noted in transaction accounts. These increases were offset by drops in non-interest bearing demand accounts and savings. Management attributes the twelve month growth to an increase in personal banking officers, changes in the Company's current service market, and an advertisement plan focused on deposit growth, primarily time certificates. Non-interest-bearing demand deposits were 18% of total deposits at March 31, 1995, as compared to 17% at March 31, 1994. Time certificates of deposit were 38% of total deposits at quarter end, as compared to 30% at March 31, 1994. Liquidity and Capital Resources Liquidity refers to the Company's ability to maintain a cash flow adequate to fund operations and meet obligations and other commitments on a timely basis. As shown in the Consolidated Statements of Cash Flows ("Statement") for the quarters ended March 31, 1995 and 1994, the Company's usual and primary sources of funds have been customer deposits and loan principal repayments. While the usual and primary sources are expected to continue to provide significant amounts 11 of funds in the future, their mix, as well as other sources, will depend on future economic and other market conditions. The maturity and repricing profile of the Company's asset-liability mix is currently in an asset sensitive position. This means that when there exists a declining interest rate environment, the returns on the Company's earning assets drops more quickly than the Company's cost of funds. This causes a narrowing of the net interest spread and a possible reduction to the overall earnings of the Company. As rates increase, the opposite effect occurs. The Company's management monitors the asset-liability position of the Company on a monthly basis and is continually assessing both the asset-liability mix and the products being offered to its customers. The 1995 Statement of Cash Flows shows that the only source of net cash inflow during the period under review was from financing activities. Operating and investing activities used net cash of $450 and $1,179, respectively, primarily for net loan originations which totalled $807. The Bank experienced deposit growth in the first quarter of 1995 (see "Deposits" herein), thereby providing a net $5,342 in cash for financing activities. These activities resulted in an increase in cash and cash equivalents of $3,713 during the first quarter of 1995. If the Bank's loan portfolio grows substantially, it might be necessary to raise deposits to support the growth. The Bank monitors its loan-to-deposit ratio (76% at March 31, 1995 and 80% at December 31, 1994) on a daily basis. If the loan-to-deposit ratio indicates that a liquidity squeeze is possible, the Bank can raise rates on deposits to attract more funds. In addition, the Bank has $5,500 in short-term lines of credit available to it from its correspondent banks. The Company's primary source of income is interest income earned on its liquid investments. Due to regulatory restrictions, the Bank is not expected to pay dividends to the Company in the foreseeable future. The amounts invested by the Company in the Bank at March 31, 1995 were approximately $310. The Company's yearly operating expenses are expected to exceed investment income by approximately $30 during 1995. Liquidity is measured by various ratios, the most common being the liquidity ratio of cash less reserve requirements, time deposits in other financial institutions, federal funds sold, securities held for sale and unpledged investment securities compared to total deposits. At March 31, 1995 and December 31, 1994, this ratio was 28% and 25%, respectively. Capital Adequacy The FRB and the Comptroller of the Currency have specified guidelines for the purpose of evaluating the capital adequacy of holding companies and banks. The table below summarizes the current requirements for 1995, and the Company's and the Bank's compliance therewith. The requirements for the ratio of regulatory capital to risk-weighted assets for an "adequately capitalized" institution is 8.00%. 12 Capital as a Minimum Tier 1 % of Risk- Leverage Capital Weighted Assets Ratio Ratio Regulatory Requirements for 1995 8.00% 4.00% 4.00% Consolidated Company Ratio at March 31, 1995 8.44% Not applicable 8.44% Bank Ratio at March 31, 1995 10.24% 7.52% 8.98% The capital levels of both the Bank and the Company currently exceed all minimum regulatory requirements. Management anticipates that both companies will continue to exceed the regulatory minimums in the foreseeable future. Therefore, the Company and the Bank have adequate capital in order to expand in the future, either through loan generation or other means of expansion. Effects of Inflation The impact of inflation on a financial institution differs significantly from that exerted on an industrial concern, primarily because its assets and liabilities consist largely of monetary items. The most direct effect of inflation is higher interest rates. However, the Bank's earnings are affected by the spread between the yield on earning assets and rates paid on interest- bearing liabilities rather than the absolute level of interest rates. Additionally, there may be some upward pressure on the Company's operating expenses, such as adjustments in staff expense and occupancy expense, based upon consumer price indices. In the opinion of management, inflation has not had a material effect on the consolidated results of operations. 13 INDEX TO EXHIBITS Exhibit No. Description 27 Financial Data Schedule 14 SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. NAPA NATIONAL BANCORP Date May 12, 1995 By: /s/ Brian J. Kelly Brian J. Kelly Executive Vice President By: /s/ Joan E. Heinitz Joan E. Heinitz Treasurer 15