Table of Contents

 

 

 

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 June 30, 2008

 

OR

 

o

 

TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

Commission file number 001-34142

 

OAK VALLEY BANCORP

(Exact name of registrant as specified in its charter)

 

California

 

26-2326676

State or other jurisdiction of

 

I.R.S. Employer

incorporation or organization

 

Identification No.

 

125 N. Third Ave., Oakdale, CA  95361

(Address of principal executive offices)

 

(209) 848-2265

Issuer’s telephone number

 

Not applicable

(Former name, former address and former fiscal year, if changed since last report)

 

Indicate by check mark whether the issuer (1) has filed all reports required to be filed by Section 13 or 15(d) of the Exchange Act during the past 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   o

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See definitions of “large accelerated filer,” “accelerated filer,” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):

 

Large accelerated filer o

Accelerated filer o

 

 

Non-accelerated filer o

Smaller reporting company x

(Do not check if a smaller reporting company)

 

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).  Yes   o  No   x

 

APPLICABLE ONLY TO CORPORATE ISSUERS

 

State the number of shares outstanding of each of the issuer’s classes of common equity, as of the latest practicable date: 7,658,252 shares of common stock outstanding as of August 13, 2008.

 

 

 



Table of Contents

 

Oak Valley Bancorp

June 30, 2008

 

Index

 

 

Page

PART I – FINANCIAL INFORMATION

 

 

 

Item 1.

Financial Statements

 

 

 

 

 

Condensed Consolidated Balance Sheets at June 30, 2008, December 31, 2007

3

 

 

 

 

Condensed Consolidated Statements of Earnings for the Three and Six Month Periods Ended June 30, 2008 and 2007

4

 

 

 

 

Condensed Consolidated Statements of Changes of Shareholders’ Equity for the Six-Month Period Ended June 30, 2008 and Year Ended December 31, 2007

5

 

 

 

 

Condensed Consolidated Statements of Cash Flows for the Six-Month Periods Ended June 30, 2008 and 2007

6

 

 

 

 

Notes to Consolidated Financial Statements

7

 

 

 

Item 2.

Management’s Discussion and Analysis of Financial Condition and Results of Operations

10

 

 

 

Item 3.

Quantitative and Qualitative Disclosures About Market Risk

28

 

 

 

Item 4T.

Controls and Procedures

28

 

 

 

PART II – OTHER INFORMATION

 

 

 

 

Item 1.

Legal Proceedings

29

Item 2.

Unregistered Sales of Equity Securities and Use of Proceeds

29

Item 3.

Defaults Upon Senior Securities

29

Item 4.

Submission of Matters to a Vote of Security Holders

29

Item 5.

Other Information

30

Item 6.

Exhibits

30

 

2



Table of Contents

 

PART I

 

Item 1.     Financial Statements

 

OAK VALLEY COMMUNITY BANK

CONDENSED BALANCE SHEETS (UNAUDITED)

 

 

 

June 30,

 

December 31,

 

 

 

2008

 

2007

 

ASSETS

 

 

 

 

 

 

 

 

 

 

 

Cash and due from banks

 

$

11,331,483

 

$

10,397,951

 

Federal funds sold

 

745,000

 

3,805,000

 

 

 

 

 

 

 

Cash and cash equivalents

 

12,076,483

 

14,202,951

 

 

 

 

 

 

 

Securities available for sale

 

34,652,428

 

33,372,624

 

Loans, net

 

395,234,968

 

382,264,026

 

Bank premises and equipment, net

 

10,484,249

 

10,108,620

 

Other real estate owned

 

3,547,193

 

 

Accrued interest and other assets

 

20,099,500

 

14,310,569

 

 

 

 

 

 

 

 

 

$

476,094,821

 

$

454,258,790

 

 

 

 

 

 

 

LIABILITIES AND SHAREHOLDERS’ EQUITY

 

 

 

 

 

 

 

 

 

 

 

Deposits

 

$

358,158,690

 

$

377,347,776

 

Accrued interest and other liabilities

 

2,801,414

 

3,549,624

 

FHLB advances

 

71,400,000

 

31,000,000

 

 

 

 

 

 

 

Total liabilities

 

432,360,104

 

411,897,400

 

 

 

 

 

 

 

Shareholders’ equity

 

 

 

 

 

Preferred stock, no par value; 10,000,000 shares authorized, none issued or outstanding

 

 

 

Common stock, no par value; 10,000,000 shares authorized and 7,658,252 shares and 7,607,780 shares issued and outstanding at June 30, 2008 and December 31, 2007, respectively

 

23,019,218

 

22,843,171

 

Additional paid-in capital

 

1,875,703

 

1,748,380

 

Retained earnings

 

18,982,143

 

17,723,646

 

Accumulated other comprehensive income (loss), net of tax

 

(142,347

)

46,193

 

 

 

 

 

 

 

Total shareholders’ equity

 

43,734,717

 

42,361,390

 

 

 

 

 

 

 

 

 

$

476,094,821

 

$

454,258,790

 

 

See accompanying notes

 

3



Table of Contents

 

OAK VALLEY COMMUNITY BANK

CONDENSED STATEMENTS OF EARNINGS (UNAUDITED)

 

 

 

3 MONTHS ENDED

 

6 MONTHS ENDED

 

 

 

JUNE 30,

 

JUNE 30,

 

 

 

2008

 

2007

 

2008

 

2007

 

 

 

 

 

 

 

 

 

 

 

Interest and fees on loans

 

$

6,775,872

 

$

7,620,178

 

$

13,710,003

 

$

15,133,407

 

Interest on securities available for sale

 

408,651

 

407,888

 

803,331

 

793,861

 

Interest on federal funds sold

 

4,472

 

59,734

 

9,577

 

86,334

 

Interest on deposits with banks

 

308

 

1,119

 

1,026

 

2,789

 

 

 

 

 

 

 

 

 

 

 

 

 

7,189,303

 

8,088,919

 

14,523,937

 

16,016,391

 

 

 

 

 

 

 

 

 

 

 

Deposits

 

1,710,446

 

2,849,178

 

3,868,004

 

5,586,235

 

FHLB advances

 

397,226

 

578,475

 

758,898

 

1,146,787

 

Federal funds purchased

 

944

 

8,637

 

7,316

 

28,912

 

 

 

 

 

 

 

 

 

 

 

 

 

2,108,616

 

3,436,290

 

4,634,218

 

6,761,934

 

 

 

 

 

 

 

 

 

 

 

Net interest income

 

5,080,687

 

4,652,629

 

9,889,719

 

9,254,457

 

 

 

 

 

 

 

 

 

 

 

Provision for loan losses

 

440,000

 

120,000

 

585,000

 

290,000

 

 

 

 

 

 

 

 

 

 

 

Net interest income after provision for loan losses

 

4,640,687

 

4,532,629

 

9,304,719

 

8,964,457

 

 

 

 

 

 

 

 

 

 

 

Service charges on deposits

 

344,365

 

274,683

 

647,292

 

540,130

 

Earnings on cash surrender value of life insurance

 

99,242

 

43,615

 

180,518

 

87,230

 

Mortgage commissions

 

21,719

 

52,180

 

71,449

 

152,464

 

Other

 

207,043

 

172,370

 

386,693

 

293,518

 

 

 

 

 

 

 

 

 

 

 

 

 

672,369

 

542,848

 

1,285,952

 

1,073,342

 

 

 

 

 

 

 

 

 

 

 

Salaries and employee benefits

 

2,434,975

 

2,075,082

 

4,881,402

 

4,153,081

 

Occupancy expenses

 

670,393

 

555,161

 

1,339,946

 

1,053,180

 

Data processing fees

 

190,439

 

107,965

 

368,998

 

216,095

 

Telephone expenses

 

72,884

 

62,095

 

144,382

 

124,029

 

Other operating expenses

 

1,192,899

 

641,874

 

1,883,432

 

1,206,568

 

 

 

 

 

 

 

 

 

 

 

 

 

4,561,590

 

3,442,177

 

8,618,160

 

6,752,953

 

 

 

 

 

 

 

 

 

 

 

Earnings before provision for income taxes

 

751,466

 

1,633,300

 

1,972,511

 

3,284,846

 

 

 

 

 

 

 

 

 

 

 

Provision for income taxes

 

198,307

 

630,000

 

643,555

 

1,280,000

 

 

 

 

 

 

 

 

 

 

 

NET EARNINGS

 

$

553,159

 

$

1,003,300

 

$

1,328,956

 

$

2,004,846

 

 

 

 

 

 

 

 

 

 

 

Net Earnings Per Share

 

$

0.07

 

$

0.14

 

$

0.17

 

$

0.28

 

Net Earnings Per Share - assuming dilution

 

$

0.07

 

$

0.14

 

$

0.17

 

$

0.27

 

 

See accompanying notes

 

4



Table of Contents

 

OAK VALLEY COMMUNITY BANK

CONDENSED STATEMENT OF CHANGES IN SHAREHOLDERS’ EQUITY (UNAUDITED)

 

 

 

YEAR ENDED DECEMBER 31, 2007 AND THE SIX MONTH PERIOD ENDED JUNE 30, 2008

 

 

 

 

 

 

 

 

 

 

 

 

 

Accumulated

 

 

 

 

 

 

 

 

 

Additional

 

 

 

 

 

Other

 

Total

 

 

 

Common Stock

 

Paid-in

 

Retained

 

Comprehensive

 

Comprehensive

 

Shareholders’

 

 

 

Shares

 

Amount

 

Capital

 

Earnings

 

Income

 

Income

 

Equity

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balances, January 1, 2007

 

7,103,243

 

17,648,475

 

$

1,502,004

 

$

15,243,222

 

$

 

$

(204,772

)

$

24,188,929

 

Stock offering

 

456,431

 

5,020,739

 

 

 

 

 

 

 

 

 

5,020,739

 

Stock offering expense

 

 

 

(25,000

)

 

 

 

 

 

 

 

 

(25,000

)

Stock options exercised

 

48,106

 

198,957

 

 

 

 

 

 

 

 

 

198,957

 

Tax benefit of stock options exercised

 

 

 

 

 

116,303

 

 

 

 

 

 

 

116,303

 

Cash dividends ($0.19 per share)

 

 

 

 

 

 

 

(1,444,697

)

 

 

 

 

(1,444,697

)

Stock based compensation

 

 

 

 

 

130,073

 

 

 

 

 

 

 

130,073

 

Comprehensive income

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net changes in unrealized gain on available-for-sale securities (net of income tax of $163,169)

 

 

 

 

 

 

 

 

 

$

250,965

 

250,965

 

250,965

 

Net earnings

 

 

 

 

 

 

 

3,925,121

 

3,925,121

 

 

 

3,925,121

 

Comprehensive income

 

 

 

 

 

 

 

 

 

$

4,176,086

 

 

 

 

 

Balances, December 31, 2007

 

7,607,780

 

22,843,171

 

$

1,748,380

 

$

17,723,646

 

 

 

$

46,193

 

$

42,361,390

 

Stock options exercised

 

50,472

 

176,047

 

 

 

 

 

 

 

 

 

176,047

 

Tax benefit of stock options exercised

 

 

 

 

 

54,195

 

 

 

 

 

 

 

54,195

 

Stock based compensation

 

 

 

 

 

73,128

 

 

 

 

 

 

 

73,128

 

Cumulative effect of adopting EITF 06-04

 

 

 

 

 

 

 

(70,459

)

 

 

 

 

(70,459

)

Comprehensive income

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net changes in unrealized gain on available-for-sale securities (net of income tax of $122,584)

 

 

 

 

 

 

 

 

 

$

(188,540

)

(188,540

)

(188,540

)

Net earnings

 

 

 

 

 

 

 

1,328,956

 

1,328,956

 

 

 

1,328,956

 

Comprehensive income

 

 

 

 

 

 

 

 

 

$

1,140,416

 

 

 

 

 

Balances, June 30, 2008

 

7,658,252

 

23,019,218

 

$

1,875,703

 

$

18,982,143

 

 

 

$

(142,347

)

$

43,734,717

 

 

5



Table of Contents

 

OAK VALLEY COMMUNITY BANK

CONDENSED STATEMENTS OF CASH FLOWS (UNAUDITED)

 

 

 

6 MONTHS ENDED
JUNE 30,

 

 

 

2008

 

2007

 

 

 

 

 

 

 

CASH FLOWS FROM OPERATING ACTIVITIES:

 

 

 

 

 

Net earnings

 

$

1,328,956

 

$

2,004,846

 

Adjustments to reconcile net earnings to net cash from operating activities:

 

 

 

 

 

Provision for loan losses

 

585,000

 

290,000

 

Depreciation, amortization and accretion, net

 

563,236

 

489,517

 

Stock-based compensation expense

 

73,128

 

65,409

 

Excess tax benefits from stock-based payment arrangements

 

(54,195

)

(56,453

)

Loss (Gain) on sale of premises and equipment

 

1,434

 

(14,400

)

Decrease (increase) in accrued interest receivable

 

244,281

 

(110,559

)

Decrease in accrued interest payable and other liabilities

 

(868,052

)

(5,526,061

)

Increase in other assets

 

(1,067,052

)

(2,554,761

)

 

 

 

 

 

 

Net cash from operating activities

 

806,736

 

(5,412,462

)

 

 

 

 

 

 

CASH FLOWS FROM INVESTING ACTIVITIES:

 

 

 

 

 

Purchases of securities available for sale

 

(6,459,330

)

(10,963,565

)

Proceeds from maturities, calls, and principal paydowns of securities available for sale

 

4,872,433

 

11,888,590

 

Net (increase) decrease in loans

 

(17,103,135

)

1,559,985

 

Purchase of BOLI policies

 

(4,740,000

)

 

Proceeds from sales of premises and equipment

 

 

14,400

 

Net purchases of premises and equipment

 

(944,328

)

(4,253,604

)

 

 

 

 

 

 

Net cash from investing activities

 

(24,374,360

)

(1,754,194

)

 

 

 

 

 

 

CASH FLOWS FROM FINANCING ACTIVITIES:

 

 

 

 

 

FHLB advanced funds

 

151,294,000

 

61,874,000

 

FHLB payments

 

(110,894,000

)

(66,124,000

)

Federal funds advances

 

59,435,000

 

(124,760,000

)

Federal funds payments

 

(59,435,000

)

130,160,000

 

Net increase in demand deposits and savings accounts

 

8,038,661

 

2,994,642

 

Net decrease in time deposits

 

(27,227,747

)

(17,360,595

)

Excess tax benefits from stock-based payment arrangements

 

54,195

 

56,453

 

Proceeds from sale of common stock and exercise of stock options

 

176,047

 

2,920,881

 

 

 

 

 

 

 

Net cash from financing activities

 

21,441,156

 

(10,238,619

)

 

 

 

 

 

 

NET DECREASE IN CASH AND CASH EQUIVALENTS

 

(2,126,468

)

(17,405,275

)

 

 

 

 

 

 

CASH AND CASH EQUIVALENTS,
beginning of period

 

14,202,951

 

27,819,177

 

 

 

 

 

 

 

CASH AND CASH EQUIVALENTS,
end of period

 

$

12,076,483

 

$

10,413,902

 

 

 

 

 

 

 

SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:

 

 

 

 

 

Cash paid during the period for:

 

 

 

 

 

Interest

 

$

5,577,095

 

$

7,306,871

 

Income taxes

 

$

800,000

 

$

1,139,000

 

 

 

 

 

 

 

NON-CASH INVESTING ACTIVITIES:

 

 

 

 

 

Real estate acquired through foreclosure

 

$

3,547,193

 

$

0

 

Net change in unrealized gain/loss on available-for-sale securities

 

$

(311,122

)

$

(304,791

)

 

 

 

 

 

 

NON-CASH INVESTING ACTIVITIES:

 

 

 

 

 

Tax benefit from stock options exercised

 

$

54,195

 

$

56,453

 

Cumulative effect of adopting EITF 06-04

 

$

119,842

 

$

0

 

 

See accompanying notes

 

6



Table of Contents

 

OAK VALLEY COMMUNITY BANK

NOTES TO CONDENSED FINANCIAL STATEMENTS

 

NOTE 1 – BASIS OF PRESENTATION

 

On July 3, 2008 (the “Effective Date”), a bank holding company reorganization was completed whereby Oak Valley Bancorp became the parent holding company for Oak Valley Community Bank ( the “Bank”). On the Effective Date, each outstanding share of the Bank was converted into one share of Oak Valley Bancorp and the Bank became a wholly-owned subsidiary of the holding company. The condensed financial statements and accompanying footnotes are presented as if the reorganization occurred as of the earliest periods presented and are consistent with those of Oak Valley Community Bank, since prior to the Effective Date, Oak Valley Bancorp had no material assets, liabilities or operations.

 

The accounting principles followed by the Company and the methods of applying these principles conform with accounting principles generally accepted in the United States of America (GAAP) and with general practices within the banking industry. In preparing financial statements in conformity with GAAP, management is required to make estimates and assumptions that affect the reported amounts in the financial statements. Actual results could differ significantly from those estimates. Material estimates common to the banking industry that are particularly susceptible to significant change in the near term include, but are not limited to, the determination of the allowance for loan losses, the estimation of compensation expense related to stock options granted to employees and directors, and valuation allowances associated with deferred tax assets, the recognition of which are based on future taxable income.

 

The interim financial statements included in this report are unaudited but reflect all adjustments which, in the opinion of management, are necessary for a fair presentation of the financial position and results of operations for the interim periods presented. All such adjustments are of a normal recurring nature. The results of operations for the six month period ended June 30, 2008 are not necessarily indicative of the results of a full year’s operations. For further information, refer to the audited financial statements and footnotes included in the Company’s annual report for the year ended December 31, 2007.

 

NOTE 2 – CURRENT ACCOUNTING PRONOUNCEMENTS

 

Change in accounting principle – During 2008 in conjunction with the Company’s filing of a Form 10 registration statement with the SEC, the Company made a change in accounting principle and adopted Staff Accounting Bulletin (SAB) No. 108. As a result, the Company recorded adjustments to its deferred tax assets and also recorded a liability related to lease agreements that include fixed rent escalation clauses.

 

In accordance with Statement of Financial Accounting Standards (SFAS) No. 154, Accounting Changes and Correction of Errors the Company adjusted its financial statements to apply SAB No. 108 retrospectively. As a result of the change in accounting principle, the following adjustments to the financial statements were made:

 

·                  Accrued interest and other assets decreased by $144,586 at December 31, 2007.

·                  Accrued interest and other liabilities increased by $134,030 at December 31, 2007.

·                  Retained earnings decreased by $278,616 at December 31, 2007.

 

7



Table of Contents

 

OAK VALLEY COMMUNITY BANK

NOTES TO CONDENSED FINANCIAL STATEMENTS

 

·                  Occupancy expense increased $42,107 for the year ended December 31, 2007.

·                  Income tax expense increased $1,270 for the year ended December 31, 2007.

·                  Net income decreased $43,227 and basic and diluted earnings per share decreased $.01 per share to $.53 and $.52 per share, respectively, for the year ended December 31, 2007.

 

In September 2006, the Financial Accounting Standards Board, or FASB, issued Statement No. 157, “Fair Value Measurements” (SFAS 157). SFAS No. 157 defines the fair value, establishes a framework for measuring fair value and expands disclosure of fair value measurements. SFAS No. 157 applies under other accounting pronouncements that require or permit fair value measurements and accordingly, does not require any new fair value measurements. We adopted SFAS No. 157 as of January 1, 2008 and the adoption did not have a material impact on the financial condition or results of operations of the Company.

 

In February 2007, the FASB issued SFAS 159, “The Fair Value Option for Financial Assets and Financial Liabilities - Including an Amendment of FASB Statement No. 115”. SFAS 159 permits an entity to choose to measure many financial instruments and certain other items at fair value. Most of the provisions of SFAS 159 are elective; however, the amendment to SFAS 115, “Accounting for Certain Investments in Debt and Equity Securities”, applies to all entities with available for sale or trading securities. For financial instruments elected to be accounted for at fair value, an entity will report the unrealized gains and losses in earnings. We adopted SFAS No. 159 on January 1, 2008. We chose not to elect the option to measure the fair value of eligible financial assets and liabilities at fair value.

 

In September 2006 the Emerging Issues Task Force (“EITF”) ratified EITF issue 06-04, “Accounting for Deferred Compensation and Postretirement Benefit Aspect of Endorsement Split-Dollar Life Insurance Arrangements”. This ruling provides that the Company should recognize a liability for future benefits based on the agreements held with employees. The issue was effective for fiscal years beginning after December 17, 2007. The Company adopted this pronouncement effective January 1, 2008 and has recorded an initial liability of $119,842 with an offsetting adjustment to retained earnings of $70,459 and deferred taxes of $49,383, pursuant to this accounting pronouncement.

 

8



Table of Contents

 

OAK VALLEY COMMUNITY BANK

NOTES TO CONDENSED FINANCIAL STATEMENTS

 

NOTE 3 – LOANS

 

Loan totals were as follows:

 

 

 

JUNE 30,

 

DECEMBER 31,

 

 

 

2008

 

2007

 

Loans

 

 

 

 

 

Commercial real estate

 

$

225,393,458

 

$

208,309,072

 

Commercial

 

37,302,915

 

45,496,794

 

Real estate construction

 

89,087,305

 

83,173,030

 

Agriculture

 

26,976,136

 

31,429,970

 

Residential real estate and consumer

 

21,777,312

 

19,400,263

 

 

 

 

 

 

 

Total loans

 

400,537,126

 

387,809,129

 

 

 

 

 

 

 

Less:

 

 

 

 

 

Deferred loan fees and costs, net

 

(981,283

)

(1,038,350

)

Allowance for loan losses

 

(4,320,885

)

(4,506,753

)

 

 

 

 

 

 

Net loans

 

$

395,234,968

 

$

382,264,026

 

 

Changes in the allowance for loan losses were as follows:

 

 

 

JUNE 30,

 

DECEMBER 31,

 

 

 

2008

 

2007

 

 

 

 

 

 

 

Balance, beginning of period

 

$

4,506,753

 

$

4,341,062

 

Provision charged to operations

 

585,000

 

555,000

 

Loans charged off

 

(759,003

)

(401,510

)

Loan recoveries

 

3,743

 

4,275

 

Reclassification of reserve related to off-balance-sheet commitments

 

(15,608

)

7,926

 

 

 

 

 

 

 

Balance, end of period

 

$

4,320,885

 

$

4,506,753

 

 

9



Table of Contents

 

OAK VALLEY COMMUNITY BANK

NOTES TO CONDENSED FINANCIAL STATEMENTS

 

NOTE 3 – LOANS (CONTINUED)

 

The total recorded investment in impaired loans at June, 2008, was $2,887,670. The total recorded investment in impaired loans at December 31, 2007, was $9,087,462. No interest income was recognized on impaired loans, while considered impaired during 2008 and 2007.

 

NOTE 4 – OTHER REAL ESTATE OWNED

 

As of June 30, 2008, two loans with outstanding balances of $3,547,193 were reclassified to other real estate owned.

 

Real estate properties acquired through, or in lieu of, loan foreclosure are to be sold and are initially recorded at the lower of carrying amount of the loan or fair value of the property at the date of foreclosure. Subsequent to foreclosure, valuations are periodically performed and any subject revisions in the estimate of fair value are reported as adjustment to the carrying value of the real estate, provided the adjusted carrying amount does not exceed the original amount at foreclosure. Revenues and expenses from operations and changes in the valuation allowance are included in other operating expenses.

 

NOTE 5 – OTHER POST-RETIREMENT BENEFIT PLANS

 

During January 2008, the Bank has awarded certain officers a salary continuation plan (the Plan). Under the Plan, the participants will be provided with a fixed annual retirement benefit for twenty years after retirement. The Bank is also responsible for certain pre-retirement death benefits under the Plan. In connection with the implementation of the Plan, the Bank purchased single premium life insurance policies on the life of each of the officers covered under the Plan. The Bank is the owner and partial beneficiary of these life insurance policies. The assets of the Plan, under Internal Revenue Service regulations, are owned by the Bank and are available to satisfy the Bank’s general creditors.

 

During January 2008 the Bank awarded two of its directors a director retirement plan (“DRP”). Under the DRP, the participants will be provided with a fixed annual retirement benefit for ten years after retirement. The Bank is also responsible for certain pre-retirement death benefits under the DRP. In connection with the implementation of the DRP, the Bank purchased single premium life insurance policies on the life of each director covered under the DRP. The Bank is the owner and partial beneficiary of these life insurance policies. The assets of the DRP, under Internal Revenue Service regulations, are the property of the Bank and are available to satisfy the Bank’s general creditors.

 

Future compensation under both plans is earned for services rendered through retirement. The Bank accrues for the salary continuation liability based on anticipated years of service and vesting schedules provided under the plans. The Bank’s current benefit liability is determined based on vesting and the present value of the benefits at a corresponding discount rate. The discount rate used is an equivalent rate for investment-grade bonds with lives matching those of the service periods remaining for the salary continuation contracts, which average approximately 20 years.

 

During January 2008, the Bank entered into split-dollar life insurance agreements with certain officers. In connection with the implementation of the split-dollar agreements, the Bank purchased single

 

10



Table of Contents

 

OAK VALLEY COMMUNITY BANK

NOTES TO CONDENSED FINANCIAL STATEMENTS

 

premium life insurance policies on the life of each of the officers covered by the split-dollar life insurance agreements. The Bank is the owner of the policies and the partial beneficiary in an amount equal to the cash surrender value of the policies.

 

The combined cash surrender value of all Bank-owned life insurance policies was $9,669,748 and $4,749,230 at June 30, 2008 and December 31, 2007, respectively.

 

11



Table of Contents

 

OAK VALLEY COMMUNITY BANK

NOTES TO CONDENSED FINANCIAL STATEMENTS

 

NOTE 6 – FAIR VALUE MEASUREMENTS

 

SFAS No. 157, Fair Value Measurements, which the Company adopted effective January 1, 2008, defines fair value, establishes a framework for measuring fair value, establishes a three-level valuation hierarchy for disclosure of fair value measurement and enhances disclosure requirements for fair value measurements. The valuation hierarchy is based upon the transparency of inputs to the valuation of an asset or liability as of the measurement date. The three levels are defined as follow:

 

Level 1: Inputs to the valuation methodology are quoted prices (unadjusted) for identical assets or liabilities in active markets.

Level 2: Inputs to the valuation methodology include quoted prices for similar assets and liabilities in active markets and inputs that are observable for the asset or liability, either directly or indirectly, for substantially the full term of the financial instrument.

Level 3: Inputs to the valuation methodology are unobservable and significant to the fair value measurement.

 

In certain cases, the inputs used to measure fair value may fall into different levels of the fair value hierarchy. In such cases, the level in the fair value hierarchy within which the fair value measurement in its entirety falls has been determined based on the lowest level input that is significant to the fair value measurement in its entirety. The Company’s assessment of the significance of a particular input to the fair value measurement in its entirety requires judgment , and considers factors specific to the asset or liability.

 

Assets and liabilities measured at fair value on a recurring and non-recurring basis are summarized below:

 

 

 

Fair Value Measurements at June 30, 2008 Using

 

 

 

June 30, 2008

 

Quoted
Prices in
Active
Markets for
Identical
Assets
(Level 1)

 

Significant
Other
Observable
Inputs
(Level 2)

 

Significant
Unobservable
Inputs
(Level 3)

 

 

 

 

 

 

 

 

 

 

 

Assets and liabilities measured on a recurring basis:

 

 

 

 

 

 

 

 

 

Available-for-sale securities

 

$

34,652,428

 

$

1,751,865

 

$

32,900,563

 

$

 

 

 

 

 

 

 

 

 

 

 

Assets and liabilities measured on a non-recurring basis:

 

 

 

 

 

 

 

 

 

Impaired Loans

 

$

2,719,459

 

$

 

$

 

$

2,719,459

 

 

The fair value of securities available for sale equals quoted market price, if available. If quoted market prices are not available, fair value is determined using quoted market prices for similar securities. Changes in fair market value are recorded in other comprehensive income. SFAS No. 157 applies to

 

12



Table of Contents

 

OAK VALLEY COMMUNITY BANK

NOTES TO CONDENSED FINANCIAL STATEMENTS

 

loans measured for impairment using the practical expedients permitted by SFAS No. 114, Accounting by Creditors for Impairment of a Loan, including impaired loans measured at an observable market price (if available), or at the fair value of the loan’s collateral (if the loan is collateral dependent). Fair value of the loan’s collateral, when the loan is dependent on collateral, is determined by appraisals or independent valuation which is then adjusted for the cost related to liquidation of the collateral. At June 30, 2008, impaired loans had a principal balance of $2,887,670, with a valuation allowance of $168,211 at June 30, 2008. Upon being classified as impaired, charge offs were taken to reduce the balance of each loan to an estimate of the collateral fair market value less cost to dispose. This estimate was a level 3 valuation. There was no direct impact on the income statement. The charge-offs were recorded as a debit to the allowance for loan losses.

 

NOTE 7 – EARNINGS PER SHARE

 

The Bank computes earnings per share (“EPS”) in accordance with SFAS No. 128, Earnings per Share. SFAS No. 128 requires the presentation of basic EPS, which does not consider the effect of common stock equivalents and diluted EPS, which considers all dilutive common stock equivalents.

 

 

 

THREE MONTHS ENDED

 

SIX MONTHS ENDED

 

In thousands (except share and per

 

JUNE 30,

 

JUNE 30,

 

share amounts)

 

2008

 

2007

 

2008

 

2007

 

BASIC EARNINGS PER SHARE:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net income

 

$

553,159

 

$

1,003,300

 

$

1,328,956

 

$

2,004,846

 

Weighted average shares outstanding

 

7,641,534

 

7,167,879

 

7,625,787

 

7,138,564

 

Net income per share

 

$

0.07

 

$

0.14

 

$

0.17

 

$

0.28

 

 

 

 

 

 

 

 

 

 

 

DILUTED EARNINGS PER SHARE:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net income

 

$

553,159

 

$

1,003,300

 

$

1,328,956

 

$

2,004,846

 

Weighted average shares outstanding

 

7,641,534

 

7,167,879

 

7,625,787

 

7,138,564

 

Effect of dilutive stock options

 

56,147

 

174,111

 

70,193

 

179,069

 

Weighted average shares of common Stock and common stock equivalents

 

7,697,681

 

7,341,990

 

7,695,980

 

7,317,633

 

Net income per diluted share

 

$

0.07

 

$

0.14

 

$

0.17

 

$

0.27

 

 

During the three and six month periods ended June 30, 2008, weighted average options to purchase 257,623 and 123,571 shares of common stock, respectively, in prices ranging from $7.51 to $15.67 were outstanding . Weighted average options of 101,500 and 101,284, respectively, were outstanding during the same three and six month periods of 2007 with prices ranging from $12.23 to $15.67. They were not included in the computation of diluted EPS because the options’ exercise price was greater than the average market price of the common shares. These options begin to expire in 2015.

 

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Table of Contents

 

Item 2.   Management’s Discussion and Analysis of Financial Condition and Results of Operations

 

The following discussion explains the significant factors affecting our operations and financial position for the periods presented. The discussion should be read in conjunction with our financial statements and the notes related thereto which appear elsewhere in this report.

 

Forward-Looking Statements

 

Some matters discussed in this Form 10-Q may be “forward-looking statements” within the meaning of the Private Litigation Reform Act of 1995 and therefore may involve risks, uncertainties and other factors which may cause our actual results to be materially different from the results expressed or implied by our forward-looking statements.  These statements generally appear with words such as “anticipate,” “believe,” “estimate,” “may,” “intend,” and “expect.”  Although management believes that the assumptions and expectations reflected in such forward-looking statements are reasonable, it can give no assurance that such expectations will prove to be correct.  Factors that could cause actual results to differ from results discussed in forward-looking statements include, but are not limited to: economic conditions (both generally and in the markets where the Bank operates); competition from other providers of financial services offered by the Bank; government regulation and legislation; changes in interest rates; material unforeseen changes in the financial stability and liquidity of the Bank’s credit customers; and other risks as may be detailed from time to time in the Company’s filings with the Securities and Exchange Commission, all of which are difficult to predict and which may be beyond the control of the Company or the Bank.  The Company undertakes no obligation to revise forward-looking statements to reflect events or changes after the date of this discussion or to reflect the occurrence of unanticipated events.

 

Critical Accounting Estimates

 

The discussion and analysis of our financial condition and results of operations is based upon our financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America. The preparation of these financial statements requires management to make estimates and judgments that effect the reported amounts of assets and liabilities, revenues and expenses, and related disclosures of contingent assets and liabilities at the date of our financial statements. Actual results may differ from these estimates under different assumptions or conditions.

 

Allowance for Loan Losses

 

Accounting for allowance for loan losses involves significant judgment and assumptions by management and is based on historical data and management’s view of the current economic environment. At least on a quarterly basis, our management reviews the methodology and adequacy of allowance for loan losses and reports its assessment to the Board of Directors for its review and approval.

 

We base our allowance for loan losses on an estimation of probable losses inherent in our loan portfolio. Our methodology for assessing loan loss allowances are intended to reduce the differences between estimated and actual losses and involves a detailed analysis of our loan portfolio in three phases:

 

· the specific review of individual loans,

 

· the segmenting and review of loan pools with similar characteristics in accordance with SFAS No. 5, “Accounting for Contingencies,” and

 

· our judgmental estimate based on various subjective factors:

 

The first phase of our methodology involves the specific review of individual loans to identify and measure impairment. We evaluate each loan by use of a risk rating system, except for homogeneous loans, such as automobile loans and home mortgages. Specific risk rated loans are deemed impaired if all amounts, including principal and interest, will likely not be collected in accordance with the contractual terms of the related loan agreement. Impairment for commercial and real estate loans is measured either based on the present value of the loan’s expected future cash flows or, if collection on the loan is collateral dependent, the estimated fair value of the collateral, less selling and holding costs.

 

The second phase involves the segmenting of the remainder of the risk rated loan portfolio into groups or pools of loans, together with loans with similar characteristics, for evaluation in accordance with SFAS No. 5. We determine the calculated loss ratio to each loan pool based on its historical net losses and benchmark it against the levels of other peer banks.

 

In the third phase, we consider relevant internal and external factors that may affect the collectibility of loan portfolio and each group of loan pool. The factors considered are, but are not limited to:

 

· concentration of credits,

 

14



 

Table of Contents

 

· nature and volume of the loan portfolio,

 

· delinquency trends,

 

· non-accrual loan trend,

 

· problem loan trend,

 

· loss and recovery trend,

 

· quality of loan review,

 

· lending and management staff,

 

· lending policies and procedures,

 

· economic and business conditions, and

 

· other external factors.

 

Our management estimates the probable effect of such conditions based on our judgment, experience and known or anticipated trends. Such estimation may be reflected as an additional allowance to each group of loans, if necessary. Management reviews these conditions with our senior credit officers. To the extent that any of these conditions is evidenced by a specifically identifiable problem credit or portfolio segment as of the evaluation date, management’s estimate of the effect of such condition may be reflected as a specific allowance applicable to such credit or portfolio segment. Where any of these conditions is not evidenced by a specific, identifiable problem credit or portfolio segment as of the evaluation date, management’s evaluation of the inherent loss related to such condition is reflected in the unallocated allowance

 

Central to our credit risk management and our assessment of appropriate loss allowance is our loan risk rating system. Under this system, the originating credit officer assigns borrowers an initial risk rating based on a thorough analysis of each borrower’s financial capacity in conjunction with industry and economic trends. Approvals are made based upon the amount of inherent credit risk specific to the transaction and are reviewed for appropriateness by senior line and credit administration personnel. Credits are monitored by line and credit administration personnel for deterioration in a borrower’s financial condition which may impact the ability of the borrower to perform under the contract. Although management has allocated a portion of the allowance to specific loans, specific loan pools, and off-balance sheet credit exposures (which are reported separately as part of other liabilities), the adequacy of the allowance is considered in its entirety.

 

Non-Accrual Loan Policy

 

Interest on loans is credited to income as earned and is accrued only if deemed collectible. Accrual of interest is discontinued when a loan is over 90 days delinquent or if management believes that collection is highly uncertain. Generally, payments received on nonaccrual loans are recorded as principal reductions. Interest income is recognized after all principal has been repaid or an improvement in the condition of the loan has occurred that would warrant resumption of interest accruals.

 

Stock-Based Compensation

 

Effective January 1, 2006, the Bank adopted the provisions of Statement of Financial Accounting Standards (“SFAS”) No. 123R, Share Based Payments, a revision to the previously issued guidance on accounting for stock options and other forms of equity-based compensation. SFAS No. 123R requires companies to recognize in the income statement the grant-date fair value of stock options and other equity-based forms of compensation issued to employees over the employees’ requisite service period (generally the vesting period).  The Bank has adopted SFAS No. 123R using the modified prospective method which means that the unvested portion of previously granted awards and any awards that are granted or modified after the date of adoption will be measured and accounted for under the provisions of SFAS No. 123R. Accordingly, financial statement amounts for prior periods have not been restated to reflect the fair value method of recognizing compensation cost relating to stock options. The Bank will continue to use straight-line recognition of expenses for awards with graded vesting.  The Bank utilizes a binomial pricing model for all grants. Expected volatility is based on the historical volatility of the price of the Bank’s stock. The Bank uses historical data to estimate option exercise and stock option forfeiture rates within the valuation model. The expected term of options granted for the binomial model is derived from applying a historical suboptimal exercise factor to the contractual term of the grant. For binomial pricing, the risk-free rate for periods is equal to the U.S. Treasury yield at the time of grant and commensurate with the contractual term of the grant.

 

15



Table of Contents

 

Other Real Estate Owned

 

Other real estate owned, which represents real estate acquired through foreclosure, or deed in lieu of foreclosure in satisfaction of commercial and real estate loans, is carried at the lower of cost or estimated fair value less the estimated selling costs of the real estate. The fair value of the property is based upon a current appraisal. The difference between the fair value of the real estate collateral and the loan balance at the time of transfer is recorded as a loan charge off if fair value is lower. Subsequent to foreclosure, management periodically performs valuations and the OREO property is carried at the lower of carrying value or fair value, less costs to sell. The determination of a property’s estimated fair value incorporates (1) revenues projected to be realized from disposal of the property, (2) construction and renovation costs, (3) marketing and transaction costs, and (4) holding costs (e.g., property taxes, insurance and homeowners’ association dues). Any subsequent declines in the fair value of the OREO property after the date of transfer are recorded through a write-down of the asset. Any subsequent operating expenses or income, reduction in estimated fair values, and gains or losses on disposition of such properties are charged or credited to current operations.

 

Introduction

 

Effective July 3, 2008, Oak Valley Community Bank became a subsidiary of Oak Valley Bancorp, a newly established bank holding company. Oak Valley Bancorp operates Oak Valley Community Bank as a community bank in the general commercial banking business, with our primary market encompassing the California Central Valley around Oakdale and Modesto, and the Eastern Sierras. As such, unless otherwise noted, all references are about Oak Valley Community Bank.

 

Overview of Results of Operations and Financial Condition

 

·                  The Company recognized net income of $553,159 and $1,328,956 for the three and six month periods ended June 30, 2008 as compared with $1,003,300 and $2,004,846 for the same periods in 2007, respectively.  The factors resulting in this decrease will be discussed below.

 

·                   Net interest income increased $428,058 or 9.2% and $635,262 or 6.9% for the three and six month periods ended June 30, 2008, respectively, compared to the same periods in 2007.  These increases were primarily due to increases in the net interest margin of 30 and 20 basis points for the three and six month periods ended June 30, 2008, respectively.  The net interest margin increase is attributable primarily to liabilities repricing faster than assets in the current declining rate environment and a reduction of high cost certificates of deposit which were replaced by core deposits and FHLB advances with a lower interest rate.

 

·                   The provision for loan losses in the three and six month periods ended June 30, 2008 increased by $320,000 and $295,000, respectively, compared to the same periods in 2007, due to loan growth, an increase in the level of non-accrual loans and management’s assessment of the appropriate level for the allowance for loan losses.

 

·                   For the three and six month periods ended June 30, 2008, non-interest income increased by $129,521 or 23.9% and $212,610 or 19.8%, respectively, from the same period in 2007, primarily due to increased service charges on deposits as described below.

 

·                   Non-interest expense increased by $1.12 million or 32.5% and $1.87 million or 27.6%, for the three and six month periods ended June 30, 2008, respectively, as compared to the same periods in 2007, principally due to increased costs for salaries and benefits and a $451,000 OREO market value write down recorded in the second quarter of 2008.

 

·                   Total assets increased by $21.8 million or 4.8% (9.6% annualized), from December 31, 2007.  Total net loans increased by $12.97 million, or 3.4% (6.8% annualized), from December 31, 2007 to June 30, 2008, while deposits decreased by $19.2 million or 5.1% (10.2% annualized).

 

Income Summary

 

For the three and six month periods ended June 30, 2008, the Company recorded net income of $553,159 and $1,328,956, a decrease of $450,141 and $675,890, respectively, as compared to the $1,003,300 and $2,004,846 in net income for the same periods in 2007.  Return on average assets (annualized) was 0.47% and 0.58% for the second quarter and six month period of 2008, respectively, as compared with 0.90% and 0.91% for the same periods of 2007.  Annualized return on average equity was 5.01% and 6.09% for the second quarter and six month period of 2008, respectively, as compared with 11.04% and 11.27% for the same periods of 2007.

 

Earnings before provisions for income taxes for the second quarter and six month period of 2008 was down $881,834 and $1,312,335, respectively from the comparable 2007 periods.  The income statement components of these variances are as follows:

 

16



Table of Contents

 

Pre-Tax Income Variance Summary

(In thousands)

 

 

 

Effect on Pre-Tax
Income

 

Effect on Pre-Tax
Income

 

 

 

Increase (Decrease)

 

Increase (Decrease)

 

 

 

Three Months

 

Six Months

 

Change from 2007 to 2008 in:

 

 

 

 

 

Net interest income

 

$

428

 

$

635

 

Provision for loan losses

 

(320

)

(295

)

Non-interest income

 

131

 

213

 

Non-interest expense

 

(1,121

)

(1,865

)

Change in income before income taxes

 

$

(882

)

$

(1,312

)

 

These variances will be explained in the discussion below.

 

Net Interest Income

 

Net interest income is the largest source of the Bank’s operating income.  For the three and six month period ended June 30, 2008, net interest income was $5.08 million and $9.89 million, respectively, an increase of $428,000 or 9.2% and $635,000 or 6.9% from the comparable periods in 2007.

 

The net interest margin (net interest income as a percentage of average interest earning assets) was 4.77% and 4.68%, respectively, for the three and six month periods ended June 30, 2008, an increase of 30 and 20 basis points as compared to the same periods in 2007.  The increase in the net interest margin in 2008 was principally attributable to the change in the deposit mix from high cost certificates of deposit to lower cost core deposit accounts which caused the rate on interest-bearing liabilities to decrease faster than the rate on earning assets.

 

17



Table of Contents

 

The following tables shows the relative impact of changes in average balances of interest earning assets and interest bearing liabilities, and interest rates earned and paid by the Company and the Bank on those assets and liabilities for the three and six month periods ended June 30, 2008 and 2007:

 

Net Interest Analysis

(Dollars in thousands)

 

 

 

Three Months Ended June 30, 2008

 

Three Months Ended June 30, 2007

 

 

 

Average
Balance

 

Interest
Income/
Expens

 

Avg
Rate/
Yield

 

Average
Balance

 

Interest
Income/
Expense

 

Avg
Rate/
Yield

 

Assets:

 

 

 

 

 

 

 

 

 

 

 

 

 

Earning assets:

 

 

 

 

 

 

 

 

 

 

 

 

 

Gross loans (1) (2)

 

$

393,044

 

$

6,796

 

6.93

%

$

380,748

 

$

7,637

 

8.05

%

Investment securities (2)

 

35,041

 

409

 

4.68

%

34,988

 

420

 

4.81

%

Federal funds sold

 

867

 

4

 

2.07

%

4,510

 

60

 

5.31

%

Interest-earning deposits

 

95

 

0

 

1.27

%

91

 

1

 

4.94

%

Total interest-earning assets

 

429,047

 

7,209

 

6.74

%

420,336

 

8,118

 

7.75

%

Total noninterest earning assets

 

37,796

 

 

 

 

 

26,802

 

 

 

 

 

Total Assets

 

466,843

 

 

 

 

 

444,615

 

 

 

 

 

Liabilities and Shareholders’ Equity:

 

 

 

 

 

 

 

 

 

 

 

 

 

Interest-bearing liabilities:

 

 

 

 

 

 

 

 

 

 

 

 

 

Money market deposits

 

143,698

 

842

 

2.35

%

121,969

 

1,150

 

3.78

%

NOW deposits

 

56,367

 

101

 

0.72

%

52,969

 

148

 

1.12

%

Savings deposits

 

17,993

 

73

 

1.62

%

17,208

 

140

 

3.27

%

Time certificates of deposit $100,000 or more

 

37,546

 

360

 

3.85

%

66,457

 

823

 

4.97

%

Other time deposits

 

39,684

 

335

 

3.38

%

49,235

 

588

 

4.79

%

Other borrowings

 

64,550

 

398

 

2.47

%

43,916

 

587

 

5.36

%

Total interest-bearing liabilities

 

359,839

 

2,109

 

2.35

%

351,754

 

3,436

 

3.92

%

Noninterest-bearing liabilities:

 

 

 

 

 

 

 

 

 

 

 

 

 

Noninterest-bearing deposits

 

60,034

 

 

 

 

 

55,348

 

 

 

 

 

Other liabilities

 

2,991

 

 

 

 

 

3,580

 

 

 

 

 

Total noninterest-bearing liabilities

 

63,025

 

 

 

 

 

58,929

 

 

 

 

 

Shareholders’ equity

 

43,980

 

 

 

 

 

36,456

 

 

 

 

 

Total liabilities and shareholders’ equity

 

$

466,843

 

 

 

 

 

$

447,138

 

 

 

 

 

Net interest income

 

 

 

$

 5,100

 

 

 

 

 

$

 4,681

 

 

 

Net interest spread(3)

 

 

 

 

 

4.39

%

 

 

 

 

3.83

%

Net interest margin(4)

 

 

 

 

 

4.77

%

 

 

 

 

4.47

%

 


(1)  Loan fees have been included in the calculation of interest income. Loan fees were approximately $271,000 and $326,000 for the three months ended June 30, 2008 and 2007, respectively.  Loans are net of the allowance for loan losses, deferred fees, unearned income, and related direct costs.

 

(2) Yields on municipal securities and loans have been adjusted to their fully-taxable equivalents based on a federal Marginal tax rate of 34%.

 

(3) Represents the average rate earned on interest-earning assets less the average rate paid on interest-bearing liabilities.

 

(4) Represents net interest income as a percentage of average interest-earning assets.

 

18



Table of Contents

 

 

 

Six months ended June 30, 2008

 

Six Months Ended June 30, 2007

 

 

 

Average
Balance

 

Interest
Inc /
Exp

 

Avg
Rate/
Yield

 

Average
Balance

 

Interest
Inc /
Exp

 

Avg
Rate/
Yield

 

Assets:

 

 

 

 

 

 

 

 

 

 

 

 

 

Earning assets:

 

 

 

 

 

 

 

 

 

 

 

 

 

Gross loans (1) (2)

 

$

390,570

 

$

13,736

 

7.05

%

$

380,632

 

$

15,167

 

7.99

%

Investment securities (2)

 

34,212

 

816

 

4.78

%

35,396

 

818

 

4.64

%

Federal funds sold

 

732

 

10

 

2.62

%

3,272

 

86

 

5.29

%

Interest-earning deposits

 

395

 

1

 

0.52

%

124

 

3

 

4.50

%

Total interest-earning assets

 

425,908

 

14,563

 

6.86

%

419,424

 

16,075

 

7.69

%

Total noninterest earning assets

 

34,573

 

 

 

 

 

25

 

 

 

 

 

Total Assets

 

460,481

 

 

 

 

 

444,615

 

 

 

 

 

Liabilities and Shareholders’ Equity:

 

 

 

 

 

 

 

 

 

 

 

 

 

Interest-bearing liabilities:

 

 

 

 

 

 

 

 

 

 

 

 

 

Money market deposits

 

142,044

 

1,821

 

2.57

%

117,745

 

2,124

 

3.62

%

NOW deposits

 

55,137

 

196

 

0.71

%

53,187

 

296

 

1.12

%

Savings deposits

 

16,864

 

180

 

2.14

%

16,546

 

282

 

3.42

%

Time certificates of deposit $100,000 or more

 

42,573

 

887

 

4.18

%

69,725

 

1,715

 

4.93

%

Other time deposits

 

41,457

 

784

 

3.79

%

49,658

 

1,169

 

4.72

%

Other borrowings

 

53,803

 

766

 

2.86

%

44,830

 

1,176

 

5.26

%

Total interest-bearing liabilities

 

351,878

 

4,634

 

2.64

%

351,691

 

6,762

 

3.86

%

Noninterest-bearing liabilities:

 

 

 

 

 

 

 

 

 

 

 

 

 

Noninterest-bearing deposits

 

61,916

 

 

 

 

 

53,457

 

 

 

 

 

Other liabilities

 

3,191

 

 

 

 

 

3,582

 

 

 

 

 

Total noninterest-bearing liabilities

 

65,107

 

 

 

 

 

57,039

 

 

 

 

 

Shareholders’ equity

 

43,496

 

 

 

 

 

35,886

 

 

 

 

 

Total liabilities and shareholders’ equity

 

$

460,481

 

 

 

 

 

$

444,615

 

 

 

 

 

Net interest income

 

 

 

$

9,929

 

 

 

 

 

$

9,313

 

 

 

Net interest spread(3)

 

 

 

 

 

4.22

%

 

 

 

 

3.83

%

Net interest margin(4)

 

 

 

 

 

4.68

%

 

 

 

 

4.45

%

 


(1)  Loan fees have been included in the calculation of interest income. Loan fees were approximately $549,000 and $687,000 for the six months ended June 30, 2008 and 2007, respectively. Loans are net of the allowance for loan losses, deferred fees, unearned income, and related direct costs.

 

(2) Yields on municipal securities and loans have been adjusted to their fully-taxable equivalents based on a federal Marginal tax rate of 34%.

 

(3) Represents the average rate earned on interest-earning assets less the average rate paid on interest-bearing liabilities.

 

(4) Represents net interest income as a percentage of average interest-earning assets.

 

19



Table of Contents

 

Shown in the following tables are the relative impacts on net interest income of changes in the average outstanding balances (volume) of earning assets and interest bearing liabilities and the rates earned and paid by the Company on those assets and liabilities for the three and six month periods ended June 30, 2008 and 2007.  Changes in interest income and expense that are not attributable specifically to either rate or volume are allocated proportionately among both variances.

 

Rate / Volume Variance Analysis

(In thousands)

 

 

 

For the Three Months Ended June 30,

 

 

 

2008 vs 2007

 

 

 

Increase (Decrease)

 

 

 

in interest income and expense

 

 

 

due to changes in:

 

 

 

Volume

 

Rate

 

Total

 

Interest income:

 

 

 

 

 

 

 

Gross loans (1)

 

$

247

 

$

(1,088

)

$

(841

)

Investment securities

 

1

 

(12

)

(11

)

Federal funds sold

 

(48

)

(7

)

(55

)

Interest-earning deposits

 

0

 

(1

)

(1

)

Total interest income

 

$

200

 

$

(1,108

)

$

(908

)

 

 

 

 

 

 

 

 

Interest expense:

 

 

 

 

 

 

 

Money market deposits

 

205

 

(514

)

(309

)

NOW deposits

 

9

 

(56

)

(47

)

Savings deposits

 

6

 

(74

)

(68

)

Time CD $100K or more

 

(358

)

(105

)

(463

)

Other time deposits

 

(114

)

(139

)

(253

)

Other borrowings

 

276

 

(463

)

(187

)

Total interest expense

 

$

24

 

$

(1,351

)

$

(1,327

)

 

 

 

 

 

 

 

 

Change in net interest income

 

$

176

 

$

243

 

$

419

 

 


(1)  Loan fees have been included in the calculation of interest income. Loan fees were approximately $271,000 and $326,000 for the three months ended June 30, 2008 and 2007, respectively.  Loans are net of the allowance for loan losses, deferred fees, unearned income, and related direct costs.

 

20



Table of Contents

 

Rate/Volume Analysis of Net Interest Income

(in thousands)

 

 

 

For the Six Months Ended June 30,

 

 

 

2008 vs 2007

 

 

 

Increase (Decrease)

 

 

 

in interest income and expense

 

 

 

due to changes in:

 

 

 

Volume

 

Rate

 

Total

 

Interest income:

 

 

 

 

 

 

 

Gross loans (1)

 

$

396

 

$

(1,827

)

$

(1,431

)

Investment securities

 

(27

)

25

 

(2

)

Federal funds sold

 

(67

)

(10

)

(77

)

Interest-earning deposits

 

6

 

(8

)

(2

)

Total interest income

 

$

308

 

$

(1,820

)

$

(1,512

)

 

 

 

 

 

 

 

 

Interest expense:

 

 

 

 

 

 

 

Money market deposits

 

$

438

 

$

(742

)

$

(304

)

NOW deposits

 

11

 

(110

)

(99

)

Savings deposits

 

5

 

(108

)

(103

)

Time CD $100K or more

 

(668

)

(161

)

(829

)

Other time deposits

 

(193

)

(192

)

(385

)

Other borrowings

 

235

 

(643

)

(408

)

Total interest expense

 

$

(172

)

$

(1,956

)

$

(2,128

)

 

 

 

 

 

 

 

 

Change in net interest income

 

$

480

 

$

136

 

$

616

 

 


(1)  Loan fees have been included in the calculation of interest income. Loan fees were approximately $549,000 and $687,000 for the six months ended June 30, 2008 and 2007, respectively. Loans are net of the allowance for loan losses, deferred fees, unearned income, and related direct costs.

 

The table above reflects the rates decline has impacted liabilities slightly more than assets as indicated by the increase of $136,000 in net interest income due to the rate change.  The increased loan volume and the overall change in mix of deposit balances contributed an increase of $480,000 to net interest margin.

 

Non-Interest Income

 

Non-interest income represents service charges on deposit accounts and other non-interest related charges and fees, including fees from the sale of loans.  For the three and six month period ended June 30, 2008, non-interest income was $672,369 and $1,285,952, an increase of $129,521 or 23.9% and $212,610 or 19.8%, respectively, from the same period in 2007.

 

The following table shows the major components of non-interest income:

 

Non-Interest Income

(In thousands)

 

Non-Interest Income

 

 

 

For the Three Months Ended June 30,

 

For the Six Months Ended June 30,

 

 

 

2008

 

2007

 

$ chg

 

% chg

 

2008

 

2007

 

$ chg

 

% chg

 

Service charges on deposits

 

$

344

 

$

275

 

$

69

 

25.4

%

$

647

 

$

540

 

$

107

 

19.8

%

Earnings on cash surrender of life ins

 

99

 

44

 

55

 

127.5

%

181

 

87

 

94

 

106.9

%

Mortgage commissions

 

22

 

52

 

(30

)

(58.4

)%

71

 

152

 

(81

)

(53.1

)%

Other

 

207

 

172

 

35

 

20.1

%

387

 

294

 

93

 

31.7

%

 

 

$

672

 

$

543

 

$

129

 

23.9

%

$

1,286

 

$

1,073

 

$

213

 

19.8

%

 

21



Table of Contents

 

Service charges on deposits increased by $69,000 or 25.4% and $107,000 or 19.8% in the three and six month periods ended June 30, 2008, respectively, as compared to the same periods in 2007, which is primarily due to increases in the number of demand deposit accounts opened during the first six months of 2008.  The Bank continues to expand its offerings to the consumer and business depositor. Currently, the Bank is pursuing a strategy to increase its core deposit base further by expanding the Bank’s offering of remote deposit capture products as well as cash management products for current and prospective business depositors.  In addition, Earnings on cash surrender of life insurance increased by $55,000 and 94,000 as a result of the $4.74 million invested in additional life insurance policies on certain officers and directors during the first quarter of 2008.

 

Non-Interest Expense

 

Non-interest expense represents salaries and benefits, occupancy expenses, professional expenses, outside services, and other miscellaneous expenses necessary to conduct business.

 

The following table shows the major components of non-interest expenses:

 

Non-Interest Expense

(In thousands)

 

 

 

For the Three Months Ended June 30,

 

For the Six Months Ended June 30,

 

 

 

2008

 

2007

 

$

 change

 

%
change

 

2008

 

2007

 

$

 change

 

%
change

 

Salaries and employee benefits

 

$

2,435

 

$

2,075

 

$

360

 

17.3

%

$

4,881

 

$

4,153

 

$

728

 

17.5

%

Occupancy expenses

 

670

 

555

 

115

 

20.8

%

1,340

 

1,053

 

287

 

27.2

%

Data processing fees

 

191

 

108

 

83

 

76.4

%

369

 

216

 

153

 

70.8

%

Telephone expenses

 

73

 

62

 

11

 

17.4

%

144

 

124

 

20

 

16.4

%

Other operating expenses

 

1,193

 

642

 

551

 

85.8

%

1,884

 

1,207

 

677

 

56.1

%

 

 

$

4,562

 

$

3,442

 

$

1,120

 

32.5

%

$

8,618

 

$

6,753

 

$

1,865

 

27.6

%

 

Non-interest expenses increased by $1.12 million or 32.5% and $1.87 million or 27.6% for the three and six months ended June 30, 2008, as compared to the same periods of 2007.  Salaries and employee benefits increased $360,000 and $728,000 for the three and six months ended June 30, 2008, as compared to the same periods of 2007 as a result of additional facilities, in Stockton and Oakdale, and corresponding branch personnel, as well as continued additions to the Bank’s administrative and support personnel, positioning the Bank for continued growth.  These additional facilities were the primary reason for the increase in occupancy expense of $115,000 and $287,000 for the three and six months ended June 30, 2008, as compared to the same periods of 2007.

 

Management anticipates that noninterest expense will continue to increase as we continue to grow.  However, management remains committed to cost-control and efficiency, and we expect to keep these increases to a minimum relative to growth.

 

Income Taxes

 

Income tax expense for the three and six months ended June 30, 2008, were $198,307 and $643,555, respectively, a decrease of $431,693 or 68.5% and $636,445 or 49.7% for the same periods in 2007.  The effective tax rate (income tax expense as a percentage of pre-tax income) for the second quarter and six month period of 2008 was 26.4% and 32.6%, respectively, compared with 38.6% and 39.0% for the same period in 2007.  The disparity between the effective tax rates in 2008 as compared to 2007 is primarily due to tax credits from California Enterprise Zones and low income housing projects as well as tax free-income on loans within these enterprise zones and municipal securities and loans that comprise a larger proportion of pre-tax income in 2008 as compared to 2007.

 

Balance Sheet Analysis

 

At June 30, 2008, consolidated assets totaled $476.1 million, as compared with $454.3 million at December 31, 2007.  This represents an increase of $21.8 million (a 9.6% annual rate) since December of 2007.  Total net loans increased $12.97 million (a 6.8% annual rate) over that period, while deposits decreased $19.2 million (10.2% annualized) and shareholders’ equity increased $1.4 million over that same period.

 

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Table of Contents

 

Asset Quality

 

Nonperforming assets consist of loans on non-accrual status, loans 90 days or more past due and still accruing interest, loans restructured, where the terms of repayment have been renegotiated resulting in a reduction or deferral of interest or principal, and other real estate owned (“OREO”).

 

Loans are generally placed on non-accrual status when they become 90 days past due, unless management believes the loan is adequately collateralized and in the process of collection. The past due loans may or may not be adequately collateralized, but collection efforts are continuously pursued. Loans may be restructured by management when a borrower has experienced some changes in financial status, causing an inability to meet the original repayment terms, and where we believe the borrower will eventually overcome those circumstances and repay the loan in full. OREO consists of properties acquired by foreclosure or similar means and which management intends to offer for sale.

 

Non-accrual loans totaled $2.89 million at June 30, 2008, as compared to $9.09 million at December 31, 2007.  The non-accrual loans as of June 30, 2008 are loans made to 3 borrowers all for the purpose of residential construction.

 

OREO totals $3.55 million as of June 30, 2008 and consists of two properties that were acquired through foreclosure including residential land lots and a commercial real estate property.

 

The following table presents information about the Company’s non-performing loans, including asset quality ratios as of June 30, 2008 and December 31, 2007:

 

Non-Performing Assets

(in thousands)

 

 

 

June 30

 

December 31

 

 

 

2008

 

2007

 

Loans in nonaccrual status

 

$

2,888

 

$

9,087

 

Loans past due 90 days or more and accruing

 

12

 

721

 

Restructured loans

 

 

 

Total nonperforming loans

 

2,900

 

9,808

 

Other real estate owned

 

3,547

 

 

 

Total nonperforming assets

 

$

6,447

 

$

9,808

 

 

 

 

 

 

 

Allowance for loan losses

 

$

4,321

 

$

4,507

 

 

 

 

 

 

 

Asset quality ratios:

 

 

 

 

 

Non-performing assets to total assets

 

1.35

%

2.16

%

Non-performing loans to total loans

 

0.72

%

2.54

%

Allowance for loan losses to total loans

 

1.08

%

1.16

%

Allowance for loan losses to total non-performing loans

 

149

%

46

%

 

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Table of Contents

 

Allowance for Loan and Lease Losses