10-Q 1 fnb_3q06.txt FORM 10-Q SECURITIES AND EXCHANGE COMMISSION Washington D.C. 20549 FORM 10-Q Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 For the Quarterly Period Ended September 30, 2006 ------------------------------------------------- FNB BANCORP (Exact name of registrant as specified in its charter) California (State or other jurisdiction of incorporation) 000-49693 92-2115369 (Commission File Number) (IRS Employer Identification No.) 975 El Camino Real, South San Francisco, California 94080 (Address of principal executive offices) (Zip Code) Registrant's telephone number, including area code: (650) 588-6800 Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes [X] No [ ]. Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer or a non-accelerated filer. See definition of "accelerated filer and large accelerated filer" in Rule 12b-2 of the Exchange Act. (Check one): Large accelerated filer [ ] Accelerated filer [ ] Non-accelerated filer [X] Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes [ ] No [X] Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practicable date: Common Stock as of November 1, 2006: 2,717,604 shares. PART I--FINANCIAL INFORMATION Item 1. Financial Statements. FNB BANCORP AND SUBSIDIARY CONSOLIDATED BALANCE SHEETS (UNAUDITED) (Dollars in thousands) ASSETS
September 30, December 31, 2006 2005 ------------ ------------ Cash and due from banks $ 16,675 $ 19,068 Federal funds sold -- 16,230 ------------ ------------ Cash and cash equivalents 16,675 35,298 Securities available-for-sale 136,133 113,463 Loans, net 393,839 380,051 Bank premises, equipment, and leasehold improvements 13,300 12,028 Other real estate owned -- 2,600 Goodwill 1,841 1,841 Accrued interest receivable and other assets 24,191 23,860 ------------ ------------ Total assets $ 585,979 $ 569,141 ============ ============ LIABILITIES AND STOCKHOLDERS' EQUITY Deposits: Demand, noninterest bearing $ 121,005 $ 123,641 Demand, interest bearing 59,064 62,581 Savings and money market 170,378 180,489 Time 126,431 140,833 ------------ ------------ Total deposits 476,878 507,544 Federal Home Loan Bank advances 30,000 -- Federal funds purchased 10,622 -- Accrued expenses and other liabilities 8,007 6,354 ------------ ------------ Total liabilities 525,507 513,898 ------------ ------------ Stockholders' equity: Common stock, no par value, authorized 10,000,000 shares; Issued and outstanding 2,718,000 shares at September 30, 2006 and 2,700,000 shares at December 31, 2005 35,144 34,793 Additional paid-in capital 50 19 Retained earnings 25,233 20,832 Accumulated other comprehensive income/(loss) 45 (401) ------------ ------------ Total stockholders' equity 60,472 55,243 ------------ ------------ Total liabilities and stockholders' equity $ 585,979 $ 569,141 ============ ============
See accompanying notes to consolidated financial statements. 2 FNB BANCORP AND SUBSIDIARY CONSOLIDATED STATEMENT OF EARNINGS (UNAUDITED) (Dollars in thousands, except per share amounts)
Three months ended Nine months ended September 30, September 30, --------------------------- --------------------------- 2006 2005 2006 2005 ------------ ------------ ------------ ------------ Interest income: Interest and fees on loans $ 7,947 $ 6,972 $ 23,203 $ 19,255 Interest on securities 761 550 2,008 1,436 Interest on tax-exempt securities 538 397 1,464 1,056 Federal funds sold 256 114 592 256 ------------ ------------ ------------ ------------ Total interest income 9,502 8,033 27,267 22,003 ------------ ------------ ------------ ------------ Interest expense: Interest on deposits 2,355 1,566 6,419 3,679 Federal Home Loan Bank advances 421 -- 458 -- Federal funds purchased 10 1 28 61 ------------ ------------ ------------ ------------ Total interest expense 2,786 1,567 6,905 3,740 ------------ ------------ ------------ ------------ Net interest income 6,716 6,466 20,362 18,263 Provision for loan losses 120 165 390 435 ------------ ------------ ------------ ------------ Net interest income after provision for loan losses 6,596 6,301 19,972 17,828 ------------ ------------ ------------ ------------ Noninterest income: Gain on sale of other equity securities 4 -- 1,352 -- Gain on sale of other real estate owned -- -- 756 -- Service charges 630 590 1,861 1,742 Credit card fees 193 218 602 651 Other income 219 185 618 512 ------------ ------------ ------------ ------------ Total noninterest income 1,046 993 5,189 2,905 ------------ ------------ ------------ ------------ Noninterest expense: Salaries and employee benefits 3,005 2,823 9,209 8,435 Occupancy expense 440 400 1,276 1,058 Equipment expense 393 406 1,230 1,189 Professional fees 326 195 869 729 Telephone, postage and supplies 278 271 773 695 Bankcard expenses 189 205 576 608 Other expense 758 767 2,331 2,484 ------------ ------------ ------------ ------------ Total noninterest expense 5,389 5,067 16,264 15,198 ------------ ------------ ------------ ------------ Earnings before income tax expense 2,253 2,227 8,897 5,535 Income tax expense 787 674 2,874 1,684 ------------ ------------ ------------ ------------ NET EARNINGS $ 1,466 $ 1,553 $ 6,023 $ 3,851 ============ ============ ============ ============ Earnings per share data: Basic $ 0.54 $ 0.58 $ 2.23 $ 1.43 Diluted $ 0.53 $ 0.57 $ 2.18 $ 1.40 Weighted average shares outstanding: Basic 2,707,000 2,695,000 2,704,000 2,699,000 Diluted 2,766,000 2,736,000 2,765,000 2,746,000
See accompanying notes to consolidated financial statements. 3 -------------------------------------------------------------------------------- FNB BANCORP AND SUBSIDIARY CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (Dollars in thousands)
Three months ended Nine months ended September 30, September 30, --------------------------- --------------------------- 2006 2005 2006 2005 ------------ ------------ ------------ ------------ Net earnings $ 1,466 $ 1,553 $ 6,023 $ 3,851 Unrealized gain/(loss) on AFS securities 903 (270) 446 (631) ------------ ------------ ------------ ------------ Total comprehensive income $ 2,369 $ 1,283 $ 6,469 $ 3,220 ============ ============ ============ ============ FNB BANCORP AND SUBSIDIARY CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED) (Dollars in thousands) Nine months ended September 30, ---------------------------- 2006 2005 ------------ ------------ Cash flow from operating activities: Net earnings $ 6,023 $ 3,851 Adjustments to reconcile net earnings to net cash provided by operating activities Depreciation and amortization 944 1,012 Stock-based compensation expense 31 7 Provision for loan losses 390 435 Securities write-down -- 66 Gain on sale of other equity securities (1,352) -- Gain-sale of other real estate owned (756) -- Changes in assets and liabilities: Accrued interest receivable and other assets 1,021 (5,202) Accrued expenses and other liabilities 1,343 2,105 ------------ ------------ Net cash provided by operating activities 7,644 2,274 ------------ ------------ Cash flows from investing activities: Purchase of securities available-for-sale (45,105) (40,636) Proceeds from matured/called/securities available-for-sale 23,135 23,022 Proceeds from sale of other real estate owned 3,356 -- Net (increase)/decrease in loans (14,178) 9,705 Proceeds from sale of bank premises, equipment and leasehold improvements 491 241 Purchase of bank premises, equipment and leasehold improvements (2,651) (1,430) Cash and equivalents received in bank acquisition, net of cash paid -- 9,602 ------------ ------------ Net cash (used)/provided by investing activities (34,952) 504 ------------ ------------ Cash flows from financing activities: Net decrease/(increase) in demand and savings deposits (16,264) 847 Net (decrease)/increase in time deposits (14,402) 22,787 Net decrease in federal funds purchased 10,622 (18,667) Net increase in Federal Home Loan Bank advances 30,000 -- Net change in dividends declared (406) -- Dividends paid (1,217) (1,150) Repurchase of common stock (73) (765) Issuance of common stock 425 45 ------------ ------------ Net cash provided by financing activities 8,685 3,097 ------------ ------------ NET (DECREASE) INCREASE IN CASH AND CASH EQUIVALENTS (18,623) 5,875 Cash and cash equivalents at beginning of period 35,298 17,084 ------------ ------------ Cash and cash equivalents at end of period $ 16,675 $ 22,959 ============ ============ Additional cash flow information: Interest paid $ 6,720 $ 3,335 Income taxes paid $ 3,185 $ 1,576 Non-cash investing and financing activity: Accrued dividends 406 385 Change in unrealized gain on sale of AFS securities, net of $446,000 tax effect, was $310,000 in 2006, and dividends accrued, unpaid, were $406,000. In 2005, the change in unrealized loss on sale of securities, net of of $439,000 tax effect, was $631,000, and dividends accrued, unpaid, were $385,000.
See accompanying notes to consolidated financial statements. 4 FNB BANCORP AND SUBSIDIARY NOTES TO CONSOLIDATED FINANCIAL STATEMENTS SEPTEMBER 30, 2006 (UNAUDITED) NOTE A - BASIS OF PRESENTATION FNB Bancorp (the "Company") is a bank holding company registered under the Bank Holding Company Act of 1956, as amended. The Company was incorporated under the laws of the State of California on February 28, 2001. The consolidated financial statements include the accounts of FNB Bancorp and its wholly owned subsidiary, First National Bank of Northern California (the "Bank"). The Bank provides traditional banking services in San Mateo and San Francisco counties. All intercompany transactions and balances have been eliminated in consolidation. The financial statements include all adjustments of a normal and recurring nature, which are, in the opinion of management, necessary for a fair presentation of the financial results for the interim periods. The accompanying unaudited financial statements have been prepared in accordance with the instructions to Form 10-Q and, therefore, do not include all information and footnotes normally included in financial statements prepared in conformity with accounting principles generally accepted in the United States of America. Accordingly, these financial statements should be read in conjunction with the audited financial statements and notes thereto for the year ended December 31, 2005. Results of operations for interim periods are not necessarily indicative of results for the full year. Sequoia National Bank was acquired and merged into the Bank effective April 30, 2005. The estimated fair values of the assets acquired and liabilities assumed by First National Bank of Northern California included Cash and equivalents $20,583,000, Net loans $40,652,000, Core deposit intangibles and goodwill $3,116,000, All other assets $2,837,000, Total deposits $56,025,000, Other liabilities $274,000, or Total net assets of $10,889,000. 5 NOTE B - STOCK OPTION PLANS In 1997, the Company adopted an incentive employee stock option plan, known as the 1997 FNB Bancorp Plan. In 2002, the Company adopted an incentive employee stock option plan known as the 2002 FNB Bancorp Plan. The Plans allow the Company to grant options to employees of up to 348,997 shares, which includes the effect of stock dividends of common stock. At September 30, 2006, the Company has two stock-based employee compensation plans. Prior to 2003, the Company accounted for the plan under the recognition and measurement provisions of APB Opinion No. 25, Accounting for Stock Issued to Employees, and related interpretations. Effective January 1, 2003, the Company adopted the fair value recognition provisions of FASB Statement No. 123, Accounting for Stock-Based Compensation, prospectively to all employee awards granted, modified, or settled after January 1, 2003. Therefore, the cost related to stock-based employee compensation included in the determination of net income for 2005 is less than that which would have been recognized if the fair value based method had been applied to all awards since the original effective date of Statement No. 123. Incentive stock options are granted to bank officers who have been employed for at least one year at the time the options are granted. Non-qualified options are granted to non-employee directors at the same time as the bank officers, but do not require a minimum of one year service. Awards under the Company's plan vest at a rate of 20 percent per year over a period of five years for Incentive Options and vest immediately for Nonstatutory Options. Options vest over a five year period and have a life of ten years. Options are granted at an exercise price equal to the market price of the Company's stock at the date of grant. The expected life is the five-year vesting period. The options granted are increased by the amount, if any, of stock dividends granted annually. The expected term of options granted is derived from the output of the option valuation model and represents the period of time that options granted are expected to be outstanding. The risk-free rate for periods within the contractual life of the option is based on the U. S. Treasury yield curve in effect at the time of the grant. The following assumptions were used for options granted during 2006: Expected volatility 10% Weighted-average volatility 10% Expected dividends 6.66% Expected term (in years) 5 Risk-free rate 5.19% The amount of compensation expense for options recorded in the quarters ended September 30, 2006 and September 30 2005 was $8,000 and $5,000, respectively. The income tax benefit recognized in the income statements for these amounts was under $1,000 for the same two periods. The amount of compensation expense for options recorded in the nine months ended September 30, 2006 and September 30 2005 was $31,000 and $7,000, respectively. The income tax benefit recognized in the income statements for these amounts was under $1,000 for the same two periods. 6 The total intrinsic value of options exercised during the quarter ended September 30, 2006 was $41,000 under the 2002 Plan and $39,000 under the 1997 Plan. The total intrinsic value of options exercised during the nine months ended September 30, 2006 was $60,000 under the 2002 Plan and $194,000 under the 1997 Plan. The amount of total unrecognized compensation expense related to non-vested options at September 30, 2006 was $99,000, and the weighted average period it will be amortized over is 3.1 years. Effective January 1, 2006, the Company adopted SFAS No. 123(R) "Share-Based Payment", on a modified prospective basis. A summary of option activity under the 2002 FNB Bancorp Plan as of September 30, 2006 and changes during the quarter then ended is presented below. The weighted average fair value of the total options granted in June 2006 was $1.54.
Weighted- 2002 FNB Bancorp Plan Average Weighted- Remaining Aggregate Average Contractual Intrinsic Exercise Term Value Options Shares Price (in years) (000) ------------------------------------------------------------------------------------------------ Outstanding at June 30, 2006 194,712 $ 28.12 Granted -- -- Exercised (4,852) $ 26.55 Forfeited or expired (735) $ 31.08 Outstanding at September 30, 2006 189,125 $ 28.15 7.8 $ 1,296 Exercisable at September 30, 2006 75,008 $ 25.08 6.9 $ 744 A summary of option activity under the 1997 FNB Bancorp Plan as of September 30, 2006, and changes during the quarter then ended is presented below: 1997 FNB Bancorp Plan Weighted- Average Weighted- Remaining Aggregate Average Contractual Intrinsic Exercise Term Value Options Shares Price (in years) (000) ------------------------------------------------------------------------------------------------ Outstanding at June 30, 2006 58,596 $ 19.86 Granted -- -- Exercised (2,548) $ 19.76 Forfeited or expired -- Outstanding at September 30, 2006 56,048 $ 19.86 3.5 $ 849 Exercisable at September 30, 2006 56,048 $ 19.86 3.5 $ 849
7 A summary of option activity under the 2002 FNB Bancorp Plan as of September 30, 2006 and changes during the nine months then ended is presented below. The weighted average fair value of the options granted in June 2006 was $1.54.
Weighted- 2002 FNB Bancorp Plan Average Weighted- Remaining Aggregate Average Contractual Intrinsic Exercise Term Value Options Shares Price (in years) (000) ------------------------------------------------------------------------------------------------ Outstanding at January 1, 2006 154,899 $ 25.83 Granted 43,050 $ 36.25 Exercised (6,679) $ 26.08 Forfeited or expired (2,145) $ 29.91 Outstanding at September 30, 2006 189,125 $ 28.15 7.8 $ 1,296 Exercisable at September 30, 2006 75,008 $ 25.08 6.9 $ 744 A summary of option activity under the 1997 FNB Bancorp Plan as of September 30, 2006, and changes during the nine months then ended is presented below: 1997 FNB Bancorp Plan Weighted- Average Weighted- Remaining Aggregate Average Contractual Intrinsic Exercise Term Value Options Shares Price (in years) (000) ------------------------------------------------------------------------------------------------ Outstanding at January 1, 2006 68,739 $ 19.84 Granted -- -- Exercised (12,691) $ 19.74 Forfeited or expired -- -- Outstanding at September 30, 2006 56,048 $ 19.86 3.5 $ 849 Exercisable at September 30, 2006 56,048 $ 19.86 3.5 $ 849
8 The following table illustrates the effect on net income and earnings per share if the fair value-based method had been applied to all outstanding and unvested awards in each period in 2005.
(Dollars in thousands, except per share) Three months ended Nine months ended September 30, 2005 September 30, 2005 ------------------ ------------------ Net income as reported $ 1,553 $ 3,851 Add: stock-based employee compensation expense included in reported net income, net of related tax effects 3 7 Deduct: total stock-based employee compensation expense determined under fair value method for all awards, net of related tax effect (3) (4) ------------------ ------------------ Pro forma net earnings $ 1,553 $ 3,854 Earnings per share: Basic - as reported $ 0.58 $ 1.43 Basic - pro forma $ 0.58 $ 1.43 Diluted - as reported $ 0.57 $ 1.40 Diluted - pro forma $ 0.57 $ 1.40 NOTE C - EARNINGS PER SHARE CALCULATION Earnings per common share (EPS) are computed based on the weighted average number of common shares outstanding during the period. Basic EPS excludes dilution and is computed by dividing net earnings by the weighted average of common shares outstanding. 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. Earnings per share have been computed based on the following (dollars in thousands): Three months ended Nine months ended September 30, September 30, --------------------------- --------------------------- 2006 2005 2006 2005 ------------ ------------ ------------ ------------ Net earnings $ 1,466 $ 1,553 $ 6,023 $ 3,851 Average number of shares outstanding 2,707,000 2,695,000 2,704,000 2,699,000 Effect of dilutive options 59,000 41,000 61,000 47,000 Average number of shares outstanding used to calculate diluted earnings per share 2,766,000 2,736,000 2,765,000 2,746,000
All outstanding options were included in the 2006 and 2005 computations. 9 NOTE D - COMPREHENSIVE INCOME Comprehensive income is the change in equity of a business enterprise during a period from transactions and other events and circumstances from non-owner sources. Other comprehensive income consists of net unrealized gains and losses on investment securities available-for-sale. Comprehensive income for the three months ended September 30, 2006 was $2,369,000 compared to $1,283,000 for the three months ended September 30, 2005. Comprehensive income for the nine months ended September 30, 2006 was $6,469,000 compared to $3,220,000 for the nine months ended September 30, 2005. NOTE E - OTHER REAL ESTATE OWNED Loans that have become delinquent through non payment of scheduled principal and/or interest for 90 days are placed in nonaccrual and interest is no longer accrued. If a favorable restructuring cannot be made for the loan (provided the market value of the collateral is sufficient), or, if insufficient, the borrower is unable to make further payments, foreclosure procedures are initiated. If there are no bidders, or if bids are made and are insufficient to cover the debt, the Bank will acquire the property at sale under judgments, decrees, or mortgages where the property was originally security for debts previously contracted. A property carried as Other Real Estate Owned for $2,600,000 was disposed in the second quarter, with a net gain of $756,000. NOTE F - SALE OF SHARES OF PACIFIC COAST BANKERS' BANCSHARES. A sale of 3,950 shares of Pacific Coast Bankers' Bancshares was arranged by Pacific Coast Bankers' Bancshares (PCBB) as part of its desire to expand the number of PCBB shareholders. The Bank continues to hold a remaining 1,450 shares. The sale resulted in a pre-tax gain on sale of equity securities of $1,348,000 during the first quarter of 2006. Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations. Forward-Looking Information and Uncertainties Regarding Future Financial Performance. This report, including management's discussion below, concerning earnings and financial condition, contains "forward-looking statements". Forward-looking statements are estimates of or statements about expectations or beliefs regarding the Company's future financial performance or anticipated future financial condition that are based on current information and that are subject to a number of risks and uncertainties that could cause actual operating results in the future to differ significantly from those expected at the current time. Those risks and uncertainties include, although they are not limited to, the following: Increased competition. Increased competition from other banks and financial service businesses, mutual funds and securities brokerage and investment banking firms that offer competitive loan and investment products could require us to reduce interest rates and loan fees to attract new loans or 10 to increase interest rates that we offer on time deposits, either or both of which could, in turn, reduce interest income and net interest margins. Possible Adverse Changes in Economic Conditions. Adverse changes in national or local economic conditions could (i) reduce loan demand which could, in turn, reduce interest income and net interest margins; (ii) adversely affect the financial capability of borrowers to meet their loan obligations, which, in turn, could result in increases in loan losses and require increases in provisions for possible loan losses, thereby adversely affecting operating results; and (iii) lead to reductions in real property values that, due to the Company's reliance on real property to secure many of its loans, could make it more difficult to prevent losses from being incurred on non-performing loans through the sale of such real properties. Possible Adverse Changes in National Economic Conditions and Federal Reserve Board Monetary Policies. Changes in national economic policies, such as increases in inflation or declines in economic output often prompt changes in Federal Reserve Board monetary policies that could reduce interest income or increase the cost of funds to the Company, either of which could result in reduced earnings. Changes in Regulatory Policies. Changes in federal and national bank regulatory policies, such as increases in capital requirements or in loan loss reserve or asset/liability ratio requirements, could adversely affect earnings by reducing yields on earning assets or increasing operating costs. Due to these and other possible uncertainties and risks, readers are cautioned not to place undue reliance on the forward-looking statements contained in this report, which speak only as of the date of this report, or to make predictions based solely on historical financial performance. The Company also disclaims any obligation to update forward-looking statements contained in this report. Critical Accounting Policies And Estimates ------------------------------------------ Management's discussion and analysis of its financial condition and results of operations are based upon the Company's 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 the Company to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosure of contingent assets and liabilities. On an on-going basis, the Company evaluates its estimates, including those related to its loans and allowance for loan losses. The Company bases its estimates on current market conditions, historical experience and on various other assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions. The Company believes the following policy requires significant judgments and estimates. Allowance for Loan Losses ------------------------- The allowance for loan losses is periodically evaluated for adequacy by management. Factors considered include the Company's loan loss experience, known and inherent risks in the portfolio, current economic conditions, known adverse situations that may affect the borrower's ability to repay, regulatory policies, 11 and the estimated value of underlying collateral. The evaluation of the adequacy of the allowance is based on the above factors along with prevailing and anticipated economic conditions that may impact borrowers' ability to repay loans. Determination of the allowance is in part objective and in part a subjective judgment by management based on the information it currently has in its possession. Adverse changes in any of these factors or the discovery of new adverse information could result in higher than expected charge-offs and loan loss provisions. Earnings Analysis ----------------- Net earnings for the quarter ended September 30, 2006 were $1,466,000, compared to net earnings of $1,553,000 for the quarter ended September 30, 2005, a decrease of $87,000, or 5.60%. Net earnings for the nine months ended September 30, 2006 were $6,023,000 compared to $3,851,000 for the nine months ended September 30, 2005, an increase of $2,172,000, or 56.40%. Earnings before income tax expense for the quarter ended September 30, 2006 were $2,253,000, compared to $2,227,000 for the quarter ended September 30, 2005, an increase of $26,000, or 1.17%. Earnings before income tax were $8,897,000 for the nine months ended September 30, 2006 compared to $5,535,000 for the nine months ended September 30, 2005, an increase of $3,362,000, or 60.74%. Two major contributors to the increased income were a gain on sale of other equity securities (common stock of Pacific Coast Bankshares), which resulted in a pre tax profit of $1,348,000 in the first quarter of 2006, and a $756,000 pre tax gain on sale of Other Real Estate Owned in the second quarter of 2006. Net interest income for the quarter ended September 30, 2006 was $6,716,000, compared to $6,466,000 for the quarter ended September 30, 2005, an increase of $250,000, or 3.87%. Net interest income for the nine months ended September 30, 2006 was $20,362,000 compared to $18,263,000 for the nine months ended September 30, 2005, an increase of $2,099,000, or 11.50%. The prime lending rate was 8.25% during the entire third quarter of 2006, compared to 6.25% on July 1, 2005, 6.50% on August 9, 2005 and 6.75% on September 30, 2005. The Federal Home Loan Bank of San Francisco's Weighted Monthly Cost of Funds Index for the three months ended September 2006 (based on the three Index Months ended August 31), averaged 4.18%, compared to 2.77% for the three months ended September 2005. Basic earnings per share were $0.54 for the third quarter of 2006 compared to $0.58 for the third quarter of 2005. Diluted earnings per share were $0.53 for the third quarter of 2006 compared to $0.57 for the third quarter of 2005. Basic earnings per share were $2.23 for the nine months ended September 30, 2006 compared to $1.43 for the nine months ended September 30, 2005. Diluted earnings per share were $2.18 for the nine months ended September 30, 2006 compared to $1.40 for the nine months ended September 30, 2005. The following table presents an analysis of net interest income and average earning assets and liabilities for the three-and nine-month periods ended September 30, 2006 compared to the three-and nine-month periods ended September 30, 2005. 12
Table 1 NET INTEREST INCOME AND AVERAGE BALANCES ------- FNB BANCORP AND SUBSIDIARY (Dollars in thousands) Three months ended September 30, ------------------------------------------------------------------------------------- 2006 2005 --------------------------------------- ----------------------------------------- Annualized Annualized Interest Average Interest Average Average Income Yield Average Income Yield INTEREST EARNING ASSETS Balance (Expense) (Cost) Balance (Expense) (Cost) ------------ ---------- ------------ ------------ ------------ ---------- Loans, gross $ 382,337 $ 7,947 8.25% $ 370,481 $ 6,972 7.47% Taxable securities 71,183 761 4.24 63,597 550 3.43 Nontaxable securities 59,195 538 3.61 46,140 397 3.41 Federal funds sold 19,583 256 5.19 13,280 114 3.41 ------------ ---------- ------------ ------------ Total interest earning assets $ 532,298 $ 9,502 7.08 $ 493,498 $ 8,033 6.46 NONINTEREST EARNING ASSETS Cash and due from banks $ 19,418 $ 19,690 Premises and equipment 13,241 12,096 Other assets 20,350 22,931 ------------ ------------ Total noninterest earning assets $ 53,009 $ 54,717 ------------ ------------ TOTAL ASSETS $ 585,307 $ 548,215 ============ ============ INTEREST BEARING LIABILITIES Deposits: Demand, interest bearing $ 63,648 ($ 106) (0.66) $ 56,004 ($ 31) (0.22) Money market 120,987 (961) (3.15) 114,481 (520) (1.80) Savings 53,224 (72) (0.54) 58,169 (45) (0.31) Time deposits 127,267 (1,216) (3.79) 140,072 (970) (2.75) Federal Home Loan Bank advances 30,000 (421) (5.57) -- -- -- Federal funds purchased 496 (10) (8.00) 89 (1) (4.46) ------------ ---------- ------------ ------------ Total interest bearing liabilities $ 395,622 ($ 2,786) (2.79) $ 368,815 ($ 1,567) (1.69) ------------ ---------- ------------ ------------ NONINTEREST BEARING LIABILITIES Demand deposits 122,163 119,219 Other liabilities 7,799 6,601 ------------ ------------ Total noninterest bearing liabilities $ 129,962 $ 125,820 ------------ ------------ TOTAL LIABILITIES $ 525,584 $ 494,635 Stockholders' equity $ 59,723 $ 53,580 ------------ ------------ TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 585,307 $ 548,215 ============ ============ NET INTEREST INCOME AND MARGIN ON TOTAL EARNING ASSETS $ 6,716 5.01% $ 6,466 5.20%
Interest income is reflected on an actual basis, not on a fully taxable basis due to immaterial effect. Yield on gross loans was not adjusted for nonaccrual loans, which were not considered material for this calculation. 13
Table 2 NET INTEREST INCOME AND AVERAGE BALANCES FNB BANCORP AND SUBSIDIARY (Dollars in thousands) Nine months ended September 30, ------------------------------------------------------------------------------------- 2006 2005 --------------------------------------- ----------------------------------------- Annualized Annualized Interest Average Interest Average Average Income Yield Average Income Yield INTEREST EARNING ASSETS Balance (Expense) (Cost) Balance (Expense) (Cost) ------------ ---------- ------------ ------------ ------------ ---------- Loans, gross $ 377,475 $ 23,203 8.22% $ 357,443 $ 19,255 7.20% Taxable securities 66,326 2,008 4.05 59,203 1,436 3.24 Nontaxable securities 55,490 1,464 3.53 41,925 1,056 3.37 Federal funds sold 16,176 592 4.89 11,331 256 3.03 ------------ ---------- ------------ ------------ Total interest earning assets $ 515,467 $ 27,267 7.07 $ 469,902 $ 22,003 6.26 NONINTEREST EARNING ASSETS Cash and due from banks $ 19,521 $ 19,476 Premises and equipment 12,684 11,846 Other assets 22,047 19,408 ------------ ------------ Total noninterest earning assets $ 54,252 $ 50,730 ------------ ------------ TOTAL ASSETS $ 569,719 $ 520,632 ============ ============ INTEREST BEARING LIABILITIES Deposits: Demand, interest bearing $ 62,453 ($ 247) (0.53) $ 56,620 ($ 109) (0.26) Money market 120,729 (2,477) (2.74) 108,686 (1,286) (1.58) Savings 54,662 (195) (0.48) 59,217 (128) (0.29) Time deposits 134,270 (3,500) (3.49) 118,964 (2,156) (2.42) Federal Home Loan Bank advances 11,099 (458) (5.52) -- -- -- Federal funds purchased (6.15) (61) 609 (28) 3,149 (2.59) ------------ ---------- ------------ ------------ Total interest bearing liabilities $ 383,822 ($ 6,905) (2.41) $ 346,636 ($ 3,740) (1.44) ------------ ---------- ------------ ------------ NONINTEREST BEARING LIABILITIES Demand deposits 120,208 115,065 Other liabilities 7,613 6,072 ------------ ------------ Total noninterest bearing liabilities $ 127,821 $ 121,137 ------------ ------------ TOTAL LIABILITIES $ 511,643 $ 467,773 Stockholders' equity $ 58,076 $ 52,859 ------------ ------------ TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 569,719 $ 520,632 ============ ============ NET INTEREST INCOME AND MARGIN ON TOTAL EARNING ASSETS $ 20,362 5.28% $ 18,263 5.20%
Net interest income is the difference between interest yield generated by earning assets and the interest expense associated with the funding of those assets. Tables 1 and 2, above, show the various components that contributed to changes in net interest income for the three and nine months ended September 30, 2006 and 2005. The principal interest earning assets are loans, from a volume as well as from an earnings perspective. For the quarter ended September 30, 2006, average loans outstanding represented 71.8% of average earning assets. For the quarter ended September 30, 2005, they represented 75.1% of average earning 14 assets. For the nine months ended September 30, 2006 and 2005, average loans outstanding represented 73.2% and 76.1%, respectively, of average earning assets. The yield on total interest earning assets for the quarter ended September 30, 2006 compared to the quarter ended September 30, 2005 increased from 6.46% to 7.08%, or 62 basis points. Contributing to this was a larger volume invested in loans, which increased by $11,856,000 or 3.20% quarter to quarter, with a yield increase of 78 basis points, or 10.44%. Interest income on total interest earning assets increased $1,469,000 or 18.29%. For the three months ended September 30, 2006 compared to the three months ended September 30, 2005, the cost on total interest bearing liabilities increased from 1.69% to 2.79%, an increase of 110 basis points. The most expensive as well as principal source of interest bearing liabilities comes from time deposits. Their average cost increased from 2.75% to 3.79%, and the expense on these deposits increased $246,000 for the three months ended September 30, 2006 compared to 2005. However, their average volume decreased by $12,805,000, or 9.14%. The other significant increase was in Federal Home Loan Bank advances, which averaged $30,000,000 in the quarter ended September 30, 2006, at a rate of 5.57%. There were no advances during the same quarter of 2005. For the nine months ended September 30, 2006 compared to the nine months ended September 30, 2005, interest income on interest earning assets increased $5,264,000 or 23.92%, and average earning assets increased $45,565,000, or 9.70%. Average loans increased by $20,032,000, or 5.60%. Interest on loans increased $3,948,000 or 20.50%. Their yield increased 102 basis points, or 14.17%. The cost on total interest bearing liabilities increased from 1.44% to 2.41%. Time deposit averages increased $15,306,000 or 12.87%. Their cost increased 107 basis points, or 44.21%. Federal Home Loan Bank advances averaged $11,099,000, at a cost of 5.52%. There were no Federal Home Loan Bank advances in 2005.Money market deposit average balances increased $12,043,000, or 11.08%, and their cost increased 116 basis points, or 73.42%. For the three and nine month periods ended September 30, 2006 and September 30, 2005, respectively, the following tables show the dollar amount of change in interest income and expense and the dollar amounts attributable to: (a) changes in volume (changes in volume at the current year rate), and (b) changes in rate (changes in rate times the prior year's volume). In this table, the dollar change in rate/volume is prorated to volume and rate proportionately. At the end of April, 2005, total interest-bearing deposits outstanding acquired from Sequoia National Bank were $49,080,000. They consisted of $7,477,000 in interest-bearing demand deposits; $12,518,000 in money market deposits; $1,917,000 in savings deposits; and $27,168,000 in time deposits. 15
Table 3 FNB BANCORP AND SUBSIDIARY ------- RATE/VOLUME VARIANCE ANALYSIS Three Months Ended September 30, (Dollars in thousands) 2006 Compared to 2005 Variance Interest Attributable To Income/Expense --------------------------- Variance Rate Volume ------------ ------------ ------------ INTEREST EARNING ASSETS Loans $ 975 $ 729 $ 246 Taxable securities 211 130 81 Nontaxable securities 141 22 119 Federal funds sold 142 88 54 ------------ ------------ ------------ Total $ 1,469 969 $ 500 ------------ ------------ ------------ INTEREST BEARING LIABILITIES Demand deposits $ 75 $ 71 $ 4 Money market 441 389 52 Savings deposits 27 34 (7) Time deposits 246 335 (89) Federal Home Loan Bank advances 421 -- 421 Federal funds purchased 9 4 5 ------------ ------------ ------------ Total $ 1,219 $ 833 $ 386 ------------ ------------ ------------ NET INTEREST INCOME $ 250 $ 136 $ 114 ============ ============ ============ Table 4 FNB BANCORP AND SUBSIDIARY RATE/VOLUME VARIANCE ANALYSIS Nine Months Ended September 30, (Dollars in thousands) 2006 Compared To 2005 Variance Interest Attributable To Income/Expense --------------------------- Variance Rate Volume ------------ ------------ ------------ INTEREST EARNING ASSETS Loans $ 3,948 $ 2,869 $ 1,079 Taxable securities 572 399 173 Nontaxable securities 408 66 342 Federal funds sold 336 227 109 ------------ ------------ ------------ Total $ 5,264 $ 3,561 $ 1,703 ------------ ------------ ------------ INTEREST BEARING LIABILITIES Demand deposits $ 138 $ 127 $ 11 Money market 1,191 1,048 143 Savings deposits 67 77 (10) Time deposits 1,344 1,067 277 Federal Home Loan Bank advances 458 -- 458 Federal funds purchased (33) 16 (49) ------------ ------------ ------------ Total $ 3,165 $ 2,335 $ 830 ------------ ------------ ------------ NET INTEREST INCOME $ 2,099 $ 1,226 $ 873 ============ ============ ============
16 Noninterest income ------------------ The following table shows the principal components of noninterest income for the periods indicated.
Table 5 NONINTEREST INCOME Three months ended Nine months ended September 30, September 30, --------------------------- --------------------------- (Dollars in thousands) 2006 2005 2006 2005 ------------ ------------ ------------ ------------ Gain on sale of other equity securities $ 4 $ -- $ 1,352 $ -- Gain - sale of other real estate owned -- -- 756 -- Service charges 630 590 1,861 1,742 Credit card fees 193 218 602 651 Other income 219 185 618 512 ------------ ------------ ------------ ------------ Total noninterest income $ 1,046 $ 993 $ 5,189 $ 2,905 ============ ============ ============ ============ Noninterest income consists mainly of service charges on deposits, credit card fees, and several other miscellaneous types of income. For the quarter ended September 30, 2006 compared to September 30, 2005, there were no significant changes. For the nine months ended September 30, 2006 and September 30, 2005, total noninterest income increased by $2,284,000, or 78.62%. The two significant changes were the gain on sale of other equity securities for $1,352,000, and the gain on sale of other real estate owned, for $756,000. These two items accounted for 92.29% of the nine month change. Noninterest expense ------------------- The following table shows the principal components of noninterest expense for the periods indicated. Table 6 NONINTEREST EXPENSE (Dollars in thousands) Three months ended Nine months ended September 30, September 30, --------------------------- --------------------------- 2006 2005 2006 2005 ------------ ------------ ------------ ------------ Salaries and employee benefits $ 3,005 $ 2,823 $ 9,209 $ 8,435 Occupancy expense 440 400 1,276 1,058 Equipment expense 393 406 1,230 1,189 Professional fees 326 195 869 729 Telephone, postage and supplies 278 271 773 695 Bankcard expense 189 205 576 608 Other expense 758 767 2,331 2,484 ------------ ------------ ------------ ------------ Total noninterest expense $ 5,389 $ 5,067 $ 16,264 $ 15,198 ============ ============ ============ ============
Noninterest expense consists mainly of salaries and employee benefits. For the three months ended September 30, 2006 compared to three months ended September 30, 2005, it represented 55.8% and 55.7% of total noninterest expenses. For the nine months ended September 30, 2006 and 2005, it was 56.6% and 55.5% respectively of total noninterest expense. For the nine months of 17 2006, the staff at the two former Sequoia National Bank branches are in the 2006 period for nine months, but only eight months in 2005. The same reason accounts for occupancy expense increases of $218,000 for the nine months. The remaining categories are less significant. Other expense decreased $9,000 in the quarter ended September 30, 2006 over the quarter ended September 30, 2005. The principal decrease was $41,000 in acquisition related expense, in connection with Sequoia National Bank for the third quarter of 2005. This was offset by a provision for losses on unfunded commitments of $15,000 in 2006, and $40,000 core deposit intangible premium amortization. Numerous smaller variances account for the remainder. For the nine months ended September 30, 2006 and 2005, the decrease in other expense was $153,000. The principal decrease was $349,000 in acquisition related expense in 2005, partly offset by a $75,000 provision for loan losses on unfunded commitments in 2006, and $119,000 in deposit premium amortization. Income Taxes ------------ The effective tax rate for the quarter ended September 30, 2006 was 34.9% compared to 30.3% for the quarter ended September 30, 2005. The effective tax rate for the nine months ended September 30, 2006 and September 30, 2005, respectively was 32.3% and 30.4%. This is affected by changing amounts invested in tax-free securities, by available Low Income Housing Credits, by amounts of interest income on qualifying loans in Enterprise Zones, and by the effective state tax rate. 2006 was also affected by the gain on sale of equity securities and the gain on sale of other real estate owned. Asset and Liability Management ------------------------------ Ongoing management of the Company's interest rate sensitivity limits interest rate risk through monitoring the mix and maturity of loans, investments and deposits. Management regularly reviews the Company's position and evaluates alternative sources and uses of funds as well as changes in external factors. Various methods are used to achieve and maintain the desired rate sensitivity position including the sale or purchase of assets and product pricing. In order to ensure that sufficient funds are available for loan growth and deposit withdrawals, as well as to provide for general needs, the Company must maintain an adequate level of liquidity. Asset liquidity comes from the Company's ability to convert short-term investments into cash and from the maturity and repayment of loans and investment securities. Liability liquidity comes from Company's customer base, which provides core deposit growth. The overall liquidity position of the Company is closely monitored and evaluated regularly. Management believes the Company's liquidity sources at September 30, 2006 are adequate to meet its operating needs in 2006 and going forward into the foreseeable future. The Company's asset/liability gap is the difference between the cash flow amounts of interest-sensitive assets and liabilities that will be refinanced (or repriced) during a given period. For example, if the asset amount to be repriced exceeds the corresponding liability amount for a certain day, month, year or longer period, the institution is in an asset-sensitive gap position. In this situation, net interest income would increase if market interest rates rose or decrease if market interest rates fell. Alternatively, if more liabilities than assets will reprice, the institution is in a liability-sensitive position. Accordingly, net interest income would decline when rates rose and increase when rates fell. 18 The following table sets forth information concerning interest rate sensitive assets and liabilities as of September 30, 2006. The assets and liabilities are classified by the earlier of maturity or repricing date in accordance with their contractual terms. Since all interest rates and yields do not adjust at the same speed or magnitude, and since volatility is subject to change, the gap is only a general indicator of interest rate sensitivity.
Table 7 RATE SENSITIVE ASSETS/LIABILITIES ------- As of September 30, 2006 (Dollars in thousands) Over Three Three To Over One Over Not Months Twelve Through Five Rate- Or Less Months Five Years Years Sensitive Total ---------- ---------- ---------- ---------- ---------- ---------- Interest earning assets: Federal funds sold $ -- $ -- $ -- $ -- $ -- $ -- Securities available for sale 19,634 26,691 49,120 40,688 -- 136,133 Loans 244,681 15,574 93,762 44,743 3 398,763 ---------- ---------- ---------- ---------- ---------- ---------- Total interest earning assets 264,315 42,265 142,882 85,431 3 534,896 Cash and due from banks -- -- -- -- 16,675 16,675 Allowance for loan losses -- -- -- -- (4,924) (4,924) Other assets -- -- -- -- 39,332 39,332 ---------- ---------- ---------- ---------- ---------- ---------- Total assets $ 264,315 $ 42,265 $ 142,882 $ 85,431 $ 51,086 $ 585,979 ========== ========== ========== ========== ========== ========== Interest bearing liabilities: Demand, interest bearing $ 59,064 $ -- $ -- $ -- $ -- $ 59,064 Savings and money market 170,378 -- -- -- -- 170,378 Time deposits 49,749 60,980 15,702 -- -- 126,431 Federal Home Loan Bank advances -- 10,000 20,000 -- -- 30,000 Federal funds purchased 10,622 -- -- -- -- 10,622 ---------- ---------- ---------- ---------- ---------- ---------- Total interest bearing liabilities 289,813 70,980 35,702 -- -- 396,495 ---------- ---------- ---------- ---------- ---------- ---------- Noninterest demand deposits -- -- -- -- 121,005 121,005 Other liabilities -- -- -- -- 8,007 8,007 Stockholders' equity -- -- -- -- 60,472 60,472 ---------- ---------- ---------- ---------- ---------- ---------- Total liabilities and stockholders' equity $ 289,813 $ 70,980 $ 35,702 $ -- $ 189,484 $ 585,979 ========== ========== ========== ========== ========== ========== Interest rate sensitivity gap ($ 25,498) ($ 28,715) $ 107,180 $ 85,431 ($ 138,398) $ -- ========== ========== ========== ========== ========== ========== Cumulative interest rate sensitivity gap ($ 25,498) ($ 54,213) $ 52,967 $ 138,398 $ -- $ -- Cumulative interest rate sensitivity gap ratio (9.65%) (17.68%) 11.78% 25.87% -- --
Financial Condition ------------------- Assets. Total assets increased to $585,979,000 at September 30, 2006 from $569,141,000 at December 31, 2005, an increase of $16,838,000. Most of this increase was in securities available for sale, which increased $22,670,000, and net loans, which increased $13,788,000. Federal funds sold decreased $16,230,000, and other real estate owned decreased $2,600,000, and the remaining categories increased by $790,000 net. Most of the increase in total assets was funded by Federal Home Loan Bank borrowings of $30,000,000 and federal funds purchased of $10,622,000, which also offset the decrease in deposits of $30,666,000. Loans. Gross loans at September 30, 2006 were $399,525,000, an increase of $13,979,000 or 3.63% from December 31, 2005. Gross real estate loans increased $1,355,000, construction loans increased $7,143,000, and commercial loans increased $5,902,000, but consumer loans decreased by $421,000. The portfolio breakdown was as follows. 19
Table 8 LOAN PORTFOLIO ------- September 30, December 31, (In thousands) 2006 Percent 2005 Percent ------------ ---------- ------------ ---------- Real Estate $ 304,168 76.1% $ 302,813 78.5% Construction 33,386 8.3 26,243 6.8 Commercial 58,972 14.8 53,070 13.8 Consumer 2,999 0.8 3,420 0.9 ------------ ---------- ------------ ---------- Gross loans 399,525 100.0% 385,546 100.0% ========== ========== Net deferred loan fees (762) (948) Allowance for loan losses (4,924) (4,547) ------------ ------------ Net loans $ 393,839 $ 380,051 ============ ============
Allowance for loan losses. The Company has the responsibility of assessing the overall risks in its portfolio, assessing the specific loss expectancy, and determining the adequacy of the allowance for loan losses. The level of the allowance is determined by internally generating credit quality ratings, reviewing economic conditions in the Company's market area, and considering the Company's historical loan loss experience. The Company considers changes in national and local economic conditions, as well as the condition of various market segments. It also reviews any changes in the nature and volume of the portfolio. It watches for the existence and effect of any concentrations of credit, and changes in the level of such concentrations. The Company also reviews the effect of external factors, such as competition and legal and regulatory requirements. Finally, the Company is committed to maintaining an adequate allowance, identifying credit weaknesses by consistent review of loans, and maintaining the ratings and changing those ratings in a timely manner as circumstances change. A summary of transactions in the allowance for loan losses for the nine months ended September 30, 2006 and the nine months ended September 30, 2005 is as follows. During the quarter ended June 30, 2005, the $700,000 balance in Sequoia National Bank's allowance for loan losses was added to the Bank's allowance as part of the acquisition entries.
Table 9 ALLOWANCE FOR LOAN LOSSES ------- Nine months ended Nine months ended (In thousands) September 30, 2006 September 30, 2005 ------------------ ------------------ Balance, beginning of period $ 4,547 $ 3,334 Provision for loan losses 390 435 Recoveries 2 23 Amounts charged off (15) (86) Allowance acquired in business combination -- 700 ------------------ ------------------ Balance, end of period $ 4,924 $ 4,406 ================== ==================
In management's judgment, the allowance was adequate to absorb losses currently inherent in the loan portfolio at September 30, 2006. However, changes in prevailing economic conditions in the Company's markets or in the financial condition of its customers could result in changes in the level of nonperforming assets and charge-offs in the future and, accordingly, changes in the allowance. Nonperforming assets. Nonperforming assets consist of nonaccrual loans, foreclosed assets, and loans that are 90 days or more past due but are still accruing interest and other real estate owned. At September 30, 2006, there was 20 $3,000 in non-accrual loans, compared to $17,000 at December 31, 2005. There was no Other Real Estate Owned at September 30, 2006, and no loans past due 90 days and still accruing. At December 31, 2005, there was $2,600,000 in Other Real Estate Owned. This property secured a loan with an original balance of $3,592,000. When borrowers were unable to make payments, the loan was written down to its appraised value in June 2003, March 2004 and March 2005, leaving a balance of $2,600,000. The property was taken back through trustee's foreclosure sale on April 1, 2005, and booked as Other Real Estate Owned for $2,600,000. It was sold in the second quarter of 2006 for $3,356,000, resulting in a net gain of $756,000. There were no foreclosed assets or loans past due 90 days and still accruing at December 31, 2005. Deposits. Total deposits at September 30, 2006 were $476,878,000 compared to $507,544,000 on December 31, 2005. Of these totals, noninterest-bearing demand deposits were $121,005,000 or 25.4% of the total on September 30, 2006 and $123,641,000 or 24.4% on December 31, 2005. Time deposits were $126,431,000 on September 30, 2006 and $140,833,000 on December 31, 2005. The following table sets forth the maturity schedule of the time certificates of deposit on September 30, 2006:
Table 10 -------- (Dollars in thousands) Under $100,000 Maturities: $100,000 Or more Total ------------ ------------ ------------ Three months or less $ 18,558 $ 31,191 $ 49,749 Over three to six months 15,336 19,713 35,049 Over six through twelve months 13,542 12,389 25,931 Over twelve months 9,927 5,775 15,702 ------------ ------------ ------------ Total $ 57,363 $ 69,068 $ 126,431 ------------ ------------ ------------ The following table shows the risk-based capital ratios and leverage ratios at September 30, 2006 and December 31, 2005 for the Bank: Table 11 -------- Minimum "Well September 30, December 31, Capitalized" Risk-Based Capital Ratios 2006 2005 Requirements --------------------------- ------------- ------------ ------------ Tier 1 Capital 11.14% 10.64% > 6.00% - Total Capital 12.11% 11.56% > 10.00% - Leverage Ratios 9.86% 9.47% > 5.00% -
Liquidity. Liquidity is a measure of the Company's ability to convert assets into cash with minimal loss. As of September 30, 2006, Liquid Assets were $152,808,000, or 26.1% of total assets. As of December 31, 2005, Liquid Assets were $148,761,000, or 26.1% of total assets. Liquidity consists of cash and due from other banks accounts, federal funds sold, and securities available-for-sale. The Company's primary uses of funds are loans, and the primary sources of funds are deposits. The relationship between total net loans and total deposits is a useful additional measure of liquidity. The Company also has federal fund borrowing facilities for a total of $50,000,000, a Federal Home Loan Bank line of up to 25% of total assets, and a Federal Reserve Bank facility. A higher loan to deposit ratio means that assets will be less liquid. This has to be balanced against the fact that loans represent the highest interest earning assets. A lower loan to deposit ratio means lower potential 21 income. On September 30, 2006 net loans were at 82.6% of deposits. On December 31, 2005 net loans were at 74.9% of deposits. Off-Balance Sheet Items The Company has certain ongoing commitments under operating leases. These commitments do not significantly impact operating results. As of September 30, 2006 and December 31, 2005, commitments to extend credit and letters of credit were the only financial instruments with off-balance sheet risk. The Company has not entered into any contracts for financial derivative instruments such as futures, swaps, options or similar instruments. Loan commitments and letters of credit were $135,284,000 and $97,701,000 at September 30, 2006 and December 31, 2005, respectively. As a percentage of net loans, these off-balance sheet items represent 34.4% and 25.7% respectively. Corporate Reform Legislation President George W. Bush signed the "Sarbanes-Oxley Act of 2002" (the "Act") on July 30, 2002, which responds to the recent corporate accounting scandals. Among other matters, the Act increases the penalties for securities fraud, establishes new rules for financial analysts to prevent conflicts of interest, creates a new independent oversight board for the accounting profession, imposes restrictions on the consulting activities of accounting firms that audit company records and requires certification of financial reports by corporate executives. The SEC has adopted a number of rule changes to implement the provisions of the Act. The SEC has also approved new rules proposed and adopted by the New York Stock Exchange and the Nasdaq Stock Market to strengthen corporate governance standards for listed companies. The Company does not currently anticipate that compliance with the Act (including the rules adopted pursuant to the Act) will have a material effect upon its financial position or results of its operations or its cash flows. Item 3. Quantitative and Qualitative Disclosures about Market Risk. Market risk is the risk of loss to future earnings, to fair values of assets or to future cash flows that may result from changes in the price or value of a financial instrument. The value of a financial instrument may change as a result of changes in interest rates and other market conditions. Market risk is attributed to all market risk sensitive financial instruments, including loans, investment securities, deposits and borrowings. The Company does not engage in trading activities or participate in foreign currency transactions for its own account. Accordingly, exposure to market risk is primarily a function of asset and liability management activities and of changes in market rates of interest. Changes in rates can cause or require increases in the rates paid on deposits that may take effect more rapidly or may be greater than the increases in the interest rates that the Company is able to charge on loans and the yields that it can realize on its investments. The extent of that market risk depends on a number of variables including the sensitivity to changes in market interest rates and the maturities of the Company's interest earning assets and deposits. For the quarter ended September 30, 2006, the prime lending rate was unchanged at 8.25%. For the quarter ended September 30, 2005, the prime lending rate started at 6.25%, increased to 6.50% on August 9, 2005 and 6.75% on September 20, 2005. 22 Item 4. Controls and Procedures. (a) Disclosure Controls and Procedures: An evaluation of the Company's disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) was carried out under the supervision and with the participation of the Company's Chief Executive Officer, Chief Financial Officer and other members of the Company's senior management as of the end of the Company's fiscal quarter ended September 30, 2006. The Company's Chief Executive Officer and Chief Financial Officer concluded that the Company's disclosure controls and procedures as currently in effect are effective in ensuring that the information required to be disclosed by the Company in the reports it files or submits under the Act is (i) accumulated and communicated to the Company's management (including the Chief Executive Officer and Chief Financial Officer) to allow timely decisions regarding required disclosure, and (ii) recorded, processed, summarized and reported within the time periods specified in the Commission's rules and forms. (b) Internal Control Over Financial Reporting: An evaluation of any changes in the Company's internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)), that occurred during the Company's fiscal quarter ended September 30, 2006, was carried out under the supervision and with the participation of the Company's Chief Executive Officer, Chief Financial Officer and other members of the Company's senior management. The Company's Chief Executive Officer and Chief Financial Officer concluded that no change identified in connection with such evaluation has materially affected, or is reasonably likely to materially affect, the Company's internal control over financial reporting. PART II--OTHER INFORMATION Item 1. Legal Proceedings There are no material legal proceedings currently pending against the Company or Bank, other than ordinary routine litigation incidental to their business. Item 1A. Risk Factors There have been no material changes from risk factors previously disclosed by the Company in response to Item 1A, Part 1 of Form 10-K as of December 31, 2005. Item 6. Exhibits Exhibits 31: Rule 13a-14(a)/15d-14(a) Certifications 32: Section 1350 Certifications 23 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 hereunto duly authorized. FNB BANCORP (Registrant) Dated: November 9, 2006. By: /s/ THOMAS C. MCGRAW ----------------------------- Thomas C. McGraw Chief Executive Officer (Authorized Officer) By: /s/ JAMES B. RAMSEY ----------------------------- James B. Ramsey Senior Vice President Chief Financial Officer (Principal Financial Officer) 24