UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT UNDER SECTION 13 OR 15 (d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 1997
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
Commission file number: 0-19231
REDWOOD EMPIRE BANCORP
(Exact name of Registrant as specified in its charter)
California 68-0166366
(State or other jurisdiction of (IRS Employer
Incorporated or organization) Identification No.)
111 Santa Rosa Avenue, Santa Rosa, California 95404-4905
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (707) 545-9611
Indicate by check mark whether the Registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to
such filing requirements for the past 90 days. Yes X No
- -
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date. November 3, 1997: 2,784,200
This page is page 1 of 22 pages.
REDWOOD EMPIRE BANCORP
AND
SUBSIDIARIES
INDEX
Page
----
PART I. Financial Information
ITEM 1. Financial Statements
Consolidated Statements of Operations
Three and Nine Months ended September 30, 1997 and 1996 . . . . . .3
Consolidated Balance Sheets
September 30, 1997 and December 31, 1996. . . . . . . . . . . . . .4
Consolidated Statements of Cash Flows
Nine Months Ended September 30, 1997 and 1996 . . . . . . . . . . .5
Notes to Consolidated Financial Statements. . . . . . . . . . . . .7
ITEM 2. Management's Discussion and Analysis
of Financial Condition and Results of Operations . . . . . . . . .9
PART II. Other Information
ITEM 1. Legal Proceedings . . . . . . . . . . . . . . . . . . . . . . . . 21
ITEM 2. Changes in Securities . . . . . . . . . . . . . . . . . . . . . . 21
ITEM 3. Defaults Upon Senior Securities . . . . . . . . . . . . . . . . . 21
ITEM 4. Submission of Matters to a Vote of Securities Holders . . . . . . 21
ITEM 5. Other Information . . . . . . . . . . . . . . . . . . . . . . . . 21
ITEM 6. Exhibits and Reports on Item 8-K. . . . . . . . . . . . . . . . . 21
SIGNATURES . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 22
This page is page 2 of 22 pages
PART I. FINANCIAL INFORMATION
ITEM 1. Financial Statements
REDWOOD EMPIRE BANCORP AND SUBSIDIARIES
Consolidated Statements of Operations
(dollars in thousands except per share data)
(unaudited)
Three Months Ended Nine Months Ended
September 30, September 30,
1997 1996 1997 1996
--------------------- -----------------------
Interest income:
Interest and fees on loans $7,898 $10,409 $24,922 $31,652
Interest on investment securities 913 805 2,594 2,270
Interest on federal funds sold 387 210 902 721
Interest on time deposits due from
financial institutions 1 39 7 152
--------------------- -----------------------
Total interest income 9,199 11,463 28,425 34,795
Interest expense:
Interest on deposits 3,715 4,841 11,849 15,204
Interest on subordinated notes 276 277 830 838
Interest on other borrowings 69 447 187 1,274
--------------------- -----------------------
Total interest expense 4,060 5,565 12,866 17,316
--------------------- -----------------------
Net interest income 5,139 5,898 15,559 17,479
Provision for loan losses 465 545 1,635 3,375
Net interest income after loan loss provision 4,674 5,353 13,924 14,104
Other operating income:
Service charges on deposit accounts 271 315 852 921
Merchant draft processing, net 335 374 1,127 1,381
Loan servicing income 161 412 676 1,297
Net realized (losses) on sale of
investment securities available for sale 30 --- 23 (8)
Gain on sale of loans and loan servicing 396 2,149 2,726 8,230
Other income 899 679 2,032 2,104
--------------------- -----------------------
Total other operating income 2,092 3,929 7,436 13,925
Other operating expense:
Salaries and employee benefits 2,614 4,331 8,768 12,941
Occupancy and equipment expense 876 1,396 2,519 4,115
Other 1,750 4,954 6,020 10,783
--------------------- -----------------------
Total other operating expense 5,240 10,681 17,307 27,839
--------------------- -----------------------
Income (loss) before income taxes 1,526 (1,399) 4,053 190
Provision (benefit) for income taxes 601 (595) 1,664 70
--------------------- -----------------------
Net income (loss) 925 (804) 2,389 120
Dividends on preferred stock 112 112 336 336
--------------------- -----------------------
Net income (loss) available for common shareholders $813 ($916) $2,053 ($216)
--------------------- -----------------------
--------------------- -----------------------
Earnings per common share and common equivalent share:
Primary net income (loss) per share $.28 ($.33) $.71 ($.08)
Weighted average shares 2,914,000 2,742,000 2,885,000 2,712,000
Fully diluted net income(loss) per share $.27 ($.33) $.70 ($.08)
Weighted average shares 3,436,000 2,742,000 3,424,000 2,712,000
Dividends per common share $ --- $ --- $ --- $ ---
See Notes to Consolidated Financial Statements.
This page is page 3 of 22 pages.
REDWOOD EMPIRE BANCORP AND SUBS
Consolidated Balance Sheets
(dollars in thousands)
(unaudited)
September 30 December 31,
1997 1996
------------- ------------
Cash and due from banks $31,171 $20,261
Federal funds sold 31,641 25,212
Due from broker --- ---
--------- ---------
Cash and cash equivalents 62,812 45,473
Interest bearing deposits due from financial institutions 5 315
Investment securities:
Held to maturity (market value of $20,614 and $19,097) 20,045 18,781
Available for sale, at market 34,012 33,852
--------- ---------
Total investment securities 54,057 52,633
Mortgage loans held for sale 14,746 29,487
Loans:
Residential real estate mortgage 112,024 124,765
Commercial real estate mortgage 67,206 67,401
Commercial 55,954 66,525
Real estate construction 60,755 84,408
Installment and other 5,949 7,112
Less deferred loan fees (2,243) (2,797)
--------- ---------
Total portfolio loans 299,645 347,414
Less allowance for loan losses (7,989) (7,040)
--------- ---------
Net loans 291,656 340,374
Premises and equipment, net 3,853 4,049
Mortgage servicing rights 686 582
Other real estate owned 4,741 2,132
Cash surrender value of life insurance 2,896 2,814
Other assets and interest receivable 13,429 21,607
--------- ---------
Total assets $448,881 $499,466
--------- ---------
--------- ---------
Deposits:
Noninterest bearing demand deposits $85,781 $71,814
Interest-bearing transaction accounts 152,469 156,453
Time deposits $100,000 and over 57,838 75,411
Other time deposits 96,582 132,772
--------- ---------
Total deposits 392,670 436,450
Other borrowings 5,282 10,307
Subordinated notes 12,000 12,000
Other liabilities and interest payable 6,694 10,977
--------- ---------
Total liabilities 416,646 469,734
Shareholders' equity:
Preferred stock, no par value; authorized 2,000,000
shares; issued and outstanding 575,000 shares 5,750 5,750
Common stock, no par value; authorized 10,000,000
shares; issued and outstanding 2,784,200
and 2,748,652 shares 19,640 19,281
Retained earnings 7,086 5,032
Unrealized gain (loss) on investment securities
carried as, or transferred from available for
sale, net of income taxes (241) (331)
--------- ---------
Total shareholders' equity 32,235 29,732
Total liabilities and shareholders' equity $448,881 $499,466
--------- ---------
--------- ---------
See Notes to Consolidated Financial Statements.
This page is page 4 of 22 pages.
REDWOOD EMPIRE BANCORP AND SUBSIDIARIES
Consolidated Statements of Cash Flows
(in thousands)
(unaudited)
Nine Months Ended
September 30,
1997 1996
------- -------
Cash flows from operating activities:
Net income $2,389 $120
Adjustments to reconcile net income to net cash
provided by operating activities:
Depreciation and amortization, net 281 1,683
Net realized losses (gains) on securities
available for sale (23) 8
Loans originated for sale (133,868) (1,200,172)
Proceeds from sale of loans held for sale 174,171 1,254,807
Gain on sale of loans and loan servicing (2,726) (8,230)
Provision for loan losses 1,635 3,375
Change in other assets and interest receivable 7,218 2,380
Change in other liabilities and interest payable (4,639) 3,890
Noncash restructuring charge --- ---
Other, net 1,712 (1,698)
--------- ---------
Total adjustments 43,761 56,043
--------- ---------
Net cash provided by operating activities 46,150 56,163
--------- ---------
Cash flows from investing activities:
Net change in loans 18,308 (52,182)
Proceeds from sales of loans in portfolio 2,201 2,459
Purchases of investment securities available for sale (20,839) (23,202)
Purchases of investment securities held to maturity (730) (304)
Sales of investment securities available for sale 6,031 3,992
Maturities of investment securities available for sale 13,974 13,500
Maturities of investment securities held to maturity 500 938
Premises and equipment, net (910) (520)
Purchase of mortgage servicing rights (319) 782
Noninterest bearing demand deposits 310 105
Proceeds from sale of other real estate owned 1,514 2,148
--------- ---------
Net cash provided by (used in) investment activities 20,040 (52,284)
--------- ---------
Cash flows from financing activities:
Change in noninterest bearing transaction accounts 13,967 631
Change in interest bearing transaction accounts (3,985) 25,895
Change in time deposits (53,762) (38,539)
Change in borrowings (5,025) (16,243)
Issuance of stock 290 490
Dividends paid (336) (336)
--------- ---------
Net cash used in financing activities (48,851) (28,102)
--------- ---------
Net change in cash and cash equivalents 17,339 (24,223)
Cash and cash equivalents at beginning of period 45,473 55,140
--------- ---------
Cash and cash equivalents at end of period $62,812 $30,917
--------- ---------
--------- ---------
(Continued)
This page is page 5 of 22 pages.
REDWOOD EMPIRE BANCORP AND SUBSIDIARIES
Consolidated Statements of Cash Flows
(in thousands)
(unaudited)
Nine Months Ended
September 30,
1997 1996
------- -------
Supplemental Disclosures:
Cash paid during the period for:
Income taxes $60 $2,730
Interest expense 14,651 17,719
Noncash investing and financing activities:
Transfers from loans to other real estate owned 4,781 1,643
Transfer from loans to mortgage loans held for sale --- 50,000
Transfer from mortgage loans held for sale to loans 1,377 ---
Transfer of investment securities from available
for sale to held to maturity --- 17,193
This page is page 6 of 22 pages.
REDWOOD EMPIRE BANCORP AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Unaudited)
1. Basis of Presentation
The accompanying unaudited consolidated financial statements should be
read in conjunction with the financial statements and related notes contained
in Redwood Empire Bancorp's 1996 Annual Report to shareholders. The
statements include the accounts of Redwood Empire Bancorp ("Redwood"), and
its wholly owned subsidiary, National Bank of the Redwoods ("NBR"). All
significant inter-company balances and transactions have been eliminated.
The financial information contained in this report reflects all adjustments
which, in the opinion of management, are necessary for a fair presentation of
the results of the interim periods. All such adjustments are of a normal
recurring nature. The results of operations and cash flows for the nine
months ended September 30, 1997 are not necessarily indicative of the results
that may be expected for the year ending December 31, 1997.
Certain reclassifications were made to prior period financial statements
to conform to current period presentations.
For purposes of reporting cash flows, cash and cash equivalents include
cash on hand, amounts due from banks and federal funds sold. Federal funds
sold are generally for one day periods.
2. On March 24, 1997, Allied Bank, F.S.B. a wholly owned subsidiary of
Redwood, was merged into NBR. In connection with the merger, NBR assumed all
of Allied's rights and obligations. As a result of the merger Allied Bank,
F.S.B. ceased to exist.
3. Net Income per Share
Net income per share is calculated based on the weighted average number
of shares of common stock outstanding and common stock equivalents
outstanding during the periods ended September 30, 1997 and 1996.
4. New Accounting Pronouncements
The Company has adopted SFAS No. 125 "Accounting for Transfers and
Servicing of Financial Assets and Extinguishments of Liabilities" in 1997.
The statement provides accounting and reporting standards for transfers and
servicing of financial assets and extinguishments of liabilities. These
standards are based on consistent application of a financial-component
approach that focuses on control. Under this approach, after a transfer of
financial assets, an entity recognizes the financial and servicing assets it
controls and liabilities it has incurred, derecognizes financial assets when
control has been surrendered, and derecognizes liabilities when extinguished.
Management believes that adoption of SFAS 125 does not have a material
effect on the financial condition or results of operations of the Company.
This is page 7 of 22 pages.
In February 1997, the Financial Accounting Standards Board issued
Statement of Financial Accounting Standards No. 128, "Earnings per Share"
(SFAS 128). The Company is required to adopt SFAS 128 in the fourth quarter
of 1997 and will restate at that time earnings per share (EPS) data for prior
periods to conform with SFAS 128. Earlier application is not permitted.
SFAS 128 replaces current EPS reporting requirements and requires a dual
presentation of basic and diluted EPS. Basic EPS excludes dilution and is
currently computed by dividing net income available to common shareholders by
the weighted average of common shares outstanding for the period. Diluted
EPS reflects the potential dilution that could occur if securities or other
contracts to issue common stock were exercised or converted into common
stock.
If SFAS 128 had been in effect during the current and prior year periods,
basic EPS would have been $.29 and ($.33) for the quarters ended September
30, 1997 and 1996 and $.74 and ($.08) for the year ended September 30, 1997
and 1996 respectively. Diluted EPS under SFAS 128 would not have been
significantly different than fully diluted EPS reported for the periods.
This page is page 8 of 22
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
Redwood Empire Bancorp ("Redwood," and with its subsidiaries the
"Company") is a financial institution holding company headquartered in Santa
Rosa, California. Redwood has one subsidiary, National Bank of the Redwoods,
a national bank ("NBR").
Certain statements in this quarterly report on Form 10-Q include
forward-looking information within the meaning of Section 27A of the
Securities Act of 1933, as amended, and Section 21E of the Securities
Exchange Act of 1934, as amended, and are subject to the "safe harbor"
created by those sections. These forward-looking statements involve certain
risks and uncertainties that could cause actual results to differ materially
from those in the forward-looking statements. Such risks and uncertainties
include, but are not limited to, the following factors: competitive pressure
in the banking industry; changes in the interest rate environment; general
economic conditions, either nationally or regionally, are less favorable than
expected, resulting in, among other things, a deterioration in credit quality
and an increase in the provision for possible loan losses; changes in the
regulatory environment; and changes in business conditions, volatility of
rate sensitive deposits, operational risks including data processing system
failures or fraud; asset/liability matching risks and liquidity risks; and
changes in the securities markets. In addition, such risks and uncertainties
include mortgage banking activities, merchant card processing and
concentration of lending activities all of which have been described in
"Certain Important Considerations for Investors".
The following sections discuss significant changes and trends in
financial condition, capital resources and liquidity of the Company from
December 31, 1996 to September 30, 1997, and significant changes and trends
in the Company's results of operations for the three and nine months ended
September 30, 1997, compared to the same period, in 1996.
SUMMARY OF FINANCIAL RESULTS
The Company reported net income of $925,000 ($.27 per share, fully
diluted) for the three months ended September 30 1997, compared to net loss
$804,000 (a loss of $.33 per share, fully diluted, due to the effect of the
preferred dividend) for the same period in 1996. Net income for the nine
months ended September 30, 1997 was $2,389,000 ($.70 per share, fully
diluted) compared to $120,000 ($.08 per share, fully diluted) for the same
period in 1996.
The principal cause for the dramatic improvement in net income for the
three and nine month periods ended September 30, 1997, as compared to the
same periods one year ago relates to a reduction in operating expenses of
$5,441,000 and $10,532,000 respectively. Such reduction was a direct result
of the Company's restructuring efforts in late 1996 and several nonrecurring
charges recorded in 1996.
This page is page 9 of 22 pages.
NET INTEREST INCOME
Net interest income decreased $759,000 for the third quarter of 1997
compared to the third quarter of 1996. The decrease is primarily due to a
decrease in average earning assets of $56,828,000 or 11%. Net interest
margin for the quarter ended September 30, 1997 amounted to 5.08% as compared
to 4.76% one year ago and 5.37% for the second quarter of 1997.
Net interest income of $15,559,000 declined $1,920,00 or 11% for the nine
months ended September 30, 1997 when compared to the same period one year
ago. The decrease is primarily due to a decline in earning assets of
$79,490,000 or 16% offset by an increase in net interest margin. Net
interest margin for the first nine months of 1997 was 4.90% as compared to
4.64% for the same period one year ago.
The decline in earning assets of the Company is due principally to the
decline in mortgage loans held for sale. The average of such loans declined
$64,243,000 from $85,084,000 as of September 30, 1996 to $20,841,000 as of
September 30, 1997. Average mortgage loans held for sale amounted to
$20,019,000 in the third quarter of 1997 as compared to $82,802,000 in the
same period one year ago. Such average was $20,841,000 for the first nine
months of 1997 as compared to $85,084,000 for the first nine months of 1996.
This decline was a direct result of management's fourth quarter of 1996
decision to significantly curtail its "A paper" wholesale mortgage banking
operations.
In contrast, the net interest margin, on a year to date basis, increased
significantly due to an increased yield on earning assets and a decline on
interest bearing liabilities. Due to a change in the earning asset mix
resulting from the reduction of mortgage loans held for sale, the yield on
earning assets for the first nine months of 1997 increased from 8.38% to
9.25%. As a result of decreased funding needs, the Company significantly
reduced its higher cost time certificates of deposits. Total time
certificates of deposits amounted to $154,420,000 as of September 30, 1997 as
compared to $224,815,000 as of September 30, 1996 which results in a decline
of $70,395,000 or 31%. This reduction in higher cost liabilities had a
positive effect on overall rate paid for interest-bearing liabilities. Such
rate declined from 5.21% in the third quarter of 1996 to 5.09% for the same
quarter in 1997. For the nine months ended September 30, 1997, such rate
declined from 5.28% to 5.08% when compared to the same period one year ago.
This page is page 10 of 22 pages.
The following is an analysis of the net interest margin:
Three months ended Three months ended
September 30, 1997 September 30, 1997
Average % Average %
(dollars in thousands) Balance Interest Yield Balance Interest Yield
-------------------------- --------------------------
Earning assets (1) $404,816 $9,199 9.09 $495,706 $11,463 9.25
Interest-bearing
liabilities 324,020 4,060 5.01 427,128 5,565 5.21
------- -------
Net interest income $5,139 $5,898
------- -------
------- -------
Net interest income to
earning assets 5.08 4.76
Nine months ended Nine months ended
September 30, 1997 September 30, 1997
Average % Average %
(dollars in thousands) Balance Interest Yield Balance Interest Yield
-------------------------- --------------------------
Earning assets (1) $423,266 $28,425 8.95 $502,756 $34,795 9.23
Interest-bearing
liabilities 337,585 12,866 5.08 437,072 17,316 5.28
------- -------
Net interest income $15,559 $17,479
------- -------
------- -------
Net interest income to
earning assets 4.90 4.64
(1) Nonaccrual loans are included in the calculation of the average
balance of earning assets, and interest not accrued is excluded.
The following table sets forth changes in interest income and interest
expense for each major category of interest-earning asset and
interest-bearing liability, and the amount of change attributable to volume
and rate changes for the nine months ended September 30, 1997 and 1996.
Changes not solely attributable to rate or volume have been allocated to rate.
September 30, 1997 over
September 30, 1996
--------------------------------
Volume Rate Total
--------------------------------
(in thousands)
Increase (decrease) in interest income:
Portfolio loans ($1,202) ($2,526) ($3,728)
Mortgage loans held for sale (3,325) 323 (3,002)
Investment securities 118 206 324
Interest-earning deposits with other
institutions (144) (1) (145)
Federal funds sold 69 112 181
--------------------------------
Total increase (decrease) (4,484) (1,886) (6,370)
--------------------------------
Increase (decrease) in interest expense:
Interest-bearing transaction accounts (201) 308 107
Time deposits (2,866) (595) (3,461)
Other borrowings (1,343) 247 (1,096)
--------------------------------
Total increase (decrease) (4,410) (40) (4,450)
--------------------------------
Increase in net interest income ($74) ($1,846) ($1,920)
--------------------------------
--------------------------------
This page is 11 of 22 pages.
PROVISION FOR LOAN LOSSES
The provision for loan losses for the three months ended September 30,
1997 amounted to $465,000 as compared to $545,000 in the same quarter in the
previous year. For the nine months ended September 30, 1997 the provision
decreased $1,740,000 from $3,375,000 in 1996 to $1,635,000 in 1997. The
decrease in the provision for loan losses for the comparable three month and
nine month period is due principally to a 1996 loan loss provision relating
to an acquired lease portfolio of $1,412,000, the Seller/Servicer of which
filed for bankruptcy, and the downgrading of several other problem loans in
1996. In addition, the 1996 loan loss provision was negatively effected by
net loan charge-offs which amounted to $594,000 and $1,427,000 for the three
months and nine months ended September 30, 1996 as compared to $24,000 and
$594,000 in 1997.
OTHER OPERATING INCOME AND EXPENSE AND INCOME TAXES
Other Operating Income
The following table sets forth the components of the Company's other
operating income for the nine months ended September 30, 1997, as compared to
the same period in 1996.
Three Months Ended Nine Months Ended
September 30 % September 30 %
--------------- ----------------
(dollars in thousands) 1997 1996 Change 1997 1996 Change
----- ------------- ------- --------------
Service charges on deposit
accounts 271 315 (14) 852 921 (7)
Merchant draft processing, net 335 374 (10) 1,127 1,381 (18)
Loan servicing income 161 412 (61) 676 1,297 (48)
Gain (loss) on securities 30 -- -- 23 (8) (388)
Gain on sale of loans and
servicing 396 2,149 (82) 2,726 8,230 (67)
Other income 899 679 32 2,032 2,104 (3)
------ ------ ------ -------
Total other operating income $2,092 $3,929 (47) $7,436 $13,925 (47)
------ ------ ------ -------
Other operating income decreased $1,837,000 or 47% to $2,092,000 for the
third quarter of 1997 when compared to $3,929,000 for the same period in
1996. Such decline is primarily due to a 82% decline in gain on sale of
loans and servicing of $1,753,000. Other operating income decreased
$6,489,000 for the nine months ended September 30, 1997 compared to the same
period in 1996. Such decline is due primarily to a 67% decline in gains on
sales of loans and servicing of $5,504,000. As previously mentioned, the
Company significantly curtailed its mortgage "A paper" wholesale mortgage
banking business the fourth quarter of 1996. Accordingly, gain on sale of
loan revenue from mortgage banking operations has significantly declined in
both the third quarter of 1997 and for the first nine months when compared to
the same period one year ago.
This page is 12 of 22 pages.
Due to the Company's sale of mortgage loan servicing rights associated
with $839,945,000 mortgage loans in the third and fourth quarters 1996, loan
servicing income declined $251,000 in the third quarter of 1997 and $621,000
on a year-to-date basis. With a significant reduction in serviced loans,
revenue from these operations will continue to be less than comparable
historical performance.
Currently the Company's mortgage banking operation is comprised of
sub-prime mortgage banking and residential mortgage loan brokerage. For the
remainder of the year revenue from these operations is expected to be
significantly less than comparable historical performance of the Company's
mortgage banking unit.
Merchant draft processing revenues declined $39,000 or 10% in the third
quarter of 1997 and $254,000 or 18% in the first nine months when compared to
the same periods one year ago. Such decline is attributable to the loss of a
substantial account in 1996 due to the customer's bankruptcy. The customer
in question was unable to fulfill it's contractual obligations associated
with accepting credit cards as payment for services, thus requiring the
Company to stand in the place of the merchant and honor their obligations
associated with customer charge-backs.
Other Operating Expense
Other operating expense decreased by $5,441,000 or 51% to $5,240,000
during the third quarter of 1997 compared to $10,681,000 for the third
quarter of 1996, primarily due to the Company's restructuring plan, initiated
in the fourth quarter of 1996, which included the termination of employees,
the closing of several mortgage loan production offices, write-off of
duplicate or unnecessary fixed assets, and the merger of Allied Bank, F.S.B.
into NBR. In addition, during the third quarter of 1996 the company was
assessed $2,192,000 associated with the recapitalization of the SAIF fund.
Such amount was included in other expense in the third quarter of 1996.
Other operating expense decreased 38% to $17,307,000 from $27,839,000 for the
nine months ended September 30, 1997 compared to the same period in 1996.
The following table sets forth the components of the Company's other
operating expense during the three months ended September 30, 1997, as
compared to the same period in 1996.
Three Months Ended Nine Months Ended
September 30 % September 30 %
--------------- ----------------
(dollars in thousands) 1997 1996 Change 1997 1996 Change
----- ------------- ------- --------------
Salaries and employee
benefits $2,614 $4,331 (40) $8,768 $12,941 (32)
Occupancy and equipment
expense 876 1,396 (37) 2,519 4,115 (39)
Other 1,750 4,954 (65) 6,020 10,783 (44)
------ ------- -------- -------
Total other operating
expense $5,420 $10,681 (51) $17,307 $27,839 (38)
------ ------- -------- -------
------ ------- -------- -------
For the nine months ended September 30, 1997 the Company recorded a
provision for potential mortgage loan repurchases of $599,000 which is
included in other expense. For further discussion of this matter see
Nonperforming Assets.
This page is page 13 of 22 pages.
The Company expects other operating expense will continue to decline for
the remainder of the year, when compared to the previous year, due to the
virtual elimination of the "A paper" wholesale mortgage banking operations
and the effect of consolidating Allied Bank, F.S.B. into NBR.
Income Taxes
The Company's effective tax rate varies with changes in the relative
amounts of its non-taxable income and nondeductible expenses. The effective
rate was 41.1% for the nine-months ended September 30, 1997, compared to
36.8% for the same period in 1996.
MORTGAGE LOANS HELD FOR SALE
Mortgage loans held for sale decreased $14,741,000 or 50% to $14,746,000
at September 30, 1997 compared to $29,487,000 at December 31, 1996. The
decrease was due to the Company's decision to significantly curtail its "A
paper" wholesale mortgage banking operations in the fourth quarter of 1996.
LOANS
Total loans decreased $47,769,000 or 14% to $299,645,000 at September 30,
1997 compared to $347,414,000 at December 31, 1996. The principal reason for
this decline relates to real estate mortgage loans whose balance declined
$12,741,000 and construction loans whose balance declined $23,653,000, both
due to loan payoffs. The following table summarizes the composition of the
loan portfolio at September 30, 1997 and December 31, 1996.
September 30, 1997 December 31, 1996
------------------ ------------------
(dollars in thousands) Amount % Amount %
------------------ ------------------
Residential real estate mortgage $112,024 38% $124,765 37%
Commercial real estate mortgage 67,206 22 67,401 19
Commercial 55,954 19 66,525 19
Real estate construction 60,755 20 84,408 24
Installment and other 5,949 2 7,112 2
Less deferred fees (2,243) (1) (2,797) (1)
------------------ ----------------
Total loans 299,645 100% 347,414 100%
Less allowance for loan losses (7,989) ------ (7,040) -----
--------- ------ --------- -----
Net loans $291,656 $340,374
--------- --------
--------- --------
This page is page 14 of 22 pages.
ALLOWANCE FOR LOAN LOSSES
The allowance for loan losses is established through charges to earnings
in the form of the provision for loan losses. Loan losses are charged to,
and recoveries are credited to, the allowance for loan losses. The provision
for loan losses is determined after considering various factors such as loan
loss experience, current economic conditions, maturity of the portfolio, size
of the portfolio, industry concentrations, borrower credit history, the
existing allowance for loan losses, independent loan reviews, current charges
and recoveries to the allowance for loan losses, and the overall quality of
the portfolio, as determined by management, regulatory agencies, and
independent credit review consultants retained by the Company.
The adequacy of the Company's allowance for loan losses is based on
specific and formula allocations to the Company's loan portfolio. Specific
allocations of the allowance for loan losses are made to identified problem
or potential problem loans. The specific allocations are increased or
decreased through management's reevaluation of the status of the particular
problem loans. Loans which do not receive a specific allocation receive an
allowance allocation based on a formula, represented by a percentage factor
based on underlying collateral, type of loan, historical charge-offs and
general economic conditions and other qualitative factors.
The following table summarizes the Company's allowance for loan losses:
Three months ended Nine months ended
September 30 September 30
------------------ ------------------
(dollars in thousands) 1997 1996 1997 1996
-------- ------- ------ -------
Beginning allowance for loan
losses $7,548 $7,034 $7,040 $5,037
Provision for loan losses 465 545 1,635 3,375
Charge-offs (272) (630) (1,027) (1,532)
Recoveries 248 36 341 105
-------- ------- ------ -------
Ending allowance for loan
losses $7,989 $6,985 $7,989 $6,985
-------- ------- ------ -------
-------- ------- ------ -------
Net charge-offs to average
loans (annualized) .03% .69% .27% .55%
The allowance for loan losses as a percentage of portfolio loans
increased from 2.03% at December 31, 1996 to 2.67% at September 30, 1997.
The increase in this percentage is due to a $47,769,000 decline in the
Company's total loan portfolio. The decrease in the provision for loan
losses for the nine months ended September 30, 1997 of $1,740,000 over the
same period in 1996 is primarily due to an increased provision year ago due
to a lease portfolio of $1,412,000 purchased from a company currently in
bankruptcy proceedings who retained the servicing of such portfolio and
several other problem credits.
This page is page 15 of 22 pages.
NONPERFORMING ASSETS
The following table summarizes the Company's nonperforming assets.
September 30, December 31,
(dollars in thousands) 1997 1996
---------- ---------
Nonaccrual loans $10,275 $8,246
Accruing loans past due 90 days or more 174 1,536
Restructured loans 1,112 599
---------- ---------
Total nonperforming loans 11,561 10,381
Other real estate owned 4,741 2,132
Other assets owned 576 668
---------- ---------
Total nonperforming assets $16,878 $13,181
---------- ---------
---------- ---------
Nonperforming assets to total 3.76% 2.64%
Nonperforming assets have increased from $13,181,000 as of December 31,
1996 to $16,878,000 as of September 30, 1997. The principal reasons for this
increase relate to an increase in restructured loans of $513,000, an increase
in nonaccrual loans of $2,029,000, an increase in other real estate owned of
$2,609,000, all being offset by a decline in accruing loans past due 90 days
or more of $1,362,000.
Nonperforming loans consist of loans to 78 borrowers, 32 of which have
balances in excess of $100,000. The two largest have recorded balances of
$738,000 secured by general business assets and $650,000 secured by real
estate. Based on information currently available, management believes that
adequate reserves are included in the allowance for loan losses to cover any
loss exposure that may result from these loans.
Other real estate owned consists of 26 properties. 20 properties are
residential and 6 construction lots. Other assets owned included contract
receivable rights and repossessed personal property carried at $576,000.
Although the volume of nonperforming assets will depend in part on the
future economic environment, there are also nine loan relationships which
total approximately $1,940,000 about which management has serious doubts as
to the ability of the borrowers to comply with the present repayment terms
and which may become nonperforming assets based on the information presently
known about possible credit problems of the borrower.
Construction lending generally bears a greater degree of risk than other
forms of real estate lending. Accordingly, due to the Company's current
level of outstanding construction loans, the Company may experience an
increase in nonperforming loans from this loan category.
This page is page 16 of 22 pages.
In the first nine months of 1997 the Company was required by various
mortgage loan investors to repurchase twenty-one non performing residential
mortgage loans or purchase foreclosed real property. From time to time the
Company may be required to repurchase mortgage loans from investors depending
upon representations and warranties of the purchase agreement between the
investor and the Company. Such representations and warranties include valid
appraisal, status of borrower, first payment default or fraud. Primarily
these repurchases involve loans which are in default. The Company expects
that it may be required to repurchase loans in the future. The Company
maintains a reserve for its estimate of potential losses associated with the
potential repurchase of previously sold mortgage loans. Such reserve amounts
to $390,000 as of September 30, 1997.
At September 30, 1997 the Company's total recorded investment in impaired
loans (as defined by SFAS 114 and 118) was $12,665,000 of which $11,847,000
relates to the recorded investment for which there is a related allowance for
credit losses of $1,620,000 determined in accordance with these statements
and $817,000 relates to the amount of that recorded investment for which
there is no related allowance for credit losses determined in accordance with
these standards.
The average recorded investment in the impaired loans during the nine
months ended September 30, 1997 and September 30, 1996 was $13,000,000 and
$9,714,000; the related amount of interest income recognized during the
periods that such loans were impaired was $43,000 and $433,000 for the three
and nine month periods ended September 30, 1997 and $17,000 and $269,000 for
the same period in 1996. No interest income was recognized using a
cash-basis method of accounting during the period that the loans were
impaired.
LIQUIDITY
Redwood's primary source of liquidity is dividends from its financial
institution subsidiary. Redwood's primary uses of liquidity are associated
with cash payments made to the subordinated debt holders, dividend payments
made to the preferred stock holders, and operating expenses of the parent.
It is Redwood's general policy to retain liquidity at Redwood at a level
which management believes to be consistent with the safety and soundness of
the Company as a whole. As of September 30, 1997, Redwood held $2,196,000 in
deposits at NBR and a $3,000,000 subordinated note issued by NBR.
Redwood pays quarterly dividends of 7.8% on its preferred stock of
$5,750,000 and interest at 8.5% on $12,000,000 of subordinated debentures
issued in 1993. Payment of these obligations is dependent on dividends from
NBR. Federal regulatory agencies have the authority to prohibit the payment
of dividends by NBR to Redwood if a finding is made that such payment would
constitute an unsafe or unsound practice, or if NBR became undercapitalized.
If NBR is restricted from paying dividends, Redwood could be unable to pay
the above obligations. No assurance can be given as to the ability of NBR to
pay dividends to Redwood.
During both the first and second quarters of 1997, NBR declared
dividends of $215,000. Management believes that at September 30, 1997, the
Company's liquidity position was adequate for the operations of Redwood and
its subsidiary for the foreseeable future.
This page is page 17 of 22 pages.
Although each entity within the consolidated group manages its own
liquidity, the Company's consolidated cash flow can be divided into three
distinct areas; operating, investing and financing. For the nine months
ended September 30, 1997 the Company received $46,150,000 and $20,040,000 in
cash flows from operating and investing activities while using $48,851,000 in
financing activities.
CAPITAL RESOURCES
A strong capital base is essential to the Company's continued ability to
service the needs of its customers. Capital protects depositors and the
deposit insurance fund from potential losses and is a source of funds for the
substantial investments necessary for the Company to remain competitive. In
addition, adequate capital and earnings enable the Company to gain access to
the capital markets to supplement its internal growth of capital. Capital is
generated internally primarily through earnings retention.
The Company and NBR are required to maintain minimum capital ratios
defined by various federal government regulatory agencies. The FRB and the
OCC have each established capital guidelines, which include minimum capital
requirements. The regulations impose three sets of standards: a "risk-based",
"leverage" and "tangible" capital standard.
Under the risk-based capital standard, assets reported on an
institution's balance sheet and certain off-balance sheet items are assigned
to risk categories, each of which is assigned a risk weight. This standard
characterizes an institution's capital as being "Tier 1" capital (defined as
principally comprising shareholders' equity and noncumulative preferred
stock) and "Tier 2" capital (defined as principally comprising the allowance
for loan losses and subordinated debt).
Under the leverage capital standard, an institution must maintain a
specified minimum ratio of Tier 1 capital to total assets, with the minimum
ratio ranging from 4% to 6%. The leverage ratio for the Company and NBR is
based on average assets for the quarter.
This page is page 18 of 22 pages.
The following table summarizes the consolidated capital ratios and the
capital ratios of the principal subsidiaries at December 31, 1996 and
September 30, 1997.
Company NBR
----------------------
September 30, 1997
Total capital to risk based assets 14.01% 13.26%
Tier 1 capital to risk based assets 9.18 11.11
Leverage ratio 7.03 8.48
December 31, 1996
Total capital to risk based assets 12.12 12.28
Tier 1 capital to risk based assets 7.63 9.40
Leverage ratio 5.46 6.87
This page is page 19 of 22 pages
CONCENTRATION OF LENDING ACTIVITIES. Concentration of the Company's
lending activities in the real estate sector, including construction loans could
have the effect of intensifying the impact on the Company of adverse changes in
real estate market in the Company's lending areas. At September 30, 1997,
approximately 80% of the Company's loans were secured by real estate, of which
28% were secured by commercial real estate, including small office buildings,
owner-user office/warehouses, mixed use residential and commercial properties
and retail properties. Substantially all of the properties that secure the
Company's present loans are located within Northern and Central California. The
ability of the Company to continue to originate mortgage or construction loans
may be impaired by adverse changes in local or regional economic conditions,
adverse changes in the real estate market, increasing interest rates, or acts of
nature (including earthquakes, which may cause uninsured damage and other loss
of value to real estate that secures the Company's loans). Due to the
concentration of the Company's real estate collateral, such events could have a
significant adverse impact on the value of such collateral or the Company's
earnings.
This page is page 20 of 22 pages
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) EXHIBIT 11
Weighted average shares, used in the computation of per share
earnings, include the common stock equivalents impact of common stock
options outstanding. Primary earnings per share includes the
reduction of net income by the declared Preferred Stock dividend. The
impact on earnings per share assuming conversion of the Preferred
Stock was reflected in the fully-dilutive computation. The
computation of per share earnings is incorporated by reference in the
Consolidated Statement of Operations on page 3 herein.
(b) REPORTS ON FORM 8-K
Form 8-K dated July 22, 1997 announcing the dividend on preferred
stock payable on July 30, 1997.
Form 8-K dated July 29, 1997 announcing second quarter 1997 financial
results.
This page is page 21 of 22 pages
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 and in the capacity indicated.
REDWOOD EMPIRE BANCORP
(Registrant)
DATE: x-x-97 BY: /s/ James E. Beckwith
------ -----------------------------------
James E. Beckwith
Executive Vice President,
Chief Financial Officer,
Principal Financial Officer, and
Principal Accounting Officer
This page is page 22 of 22 pages