10-K 1 SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 Form 10-K [X] Annual Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 For the fiscal year ended December 31, 1994. OR [ ] Transition Report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 For the transition period from ____________ to ____________. Commission file number 0-11008 C U BANCORP (Exact name of registrant as specified in its charter) California 95-3657044 (State or other jurisdiction (I.R.S. Employer of incorporation or organization) Identification Number) 16030 Ventura Boulevard Encino, California 91436 (Address of principal executive offices) (Zip Code) Registrant's telephone number, including area code (818) 907-9122 Securities registered pursuant to Section 12(b) of the Act: None Securities registered pursuant to Section 12(g) of the Act: Common Stock, no par value (title of class) Indicate by check mark whether the registrant has (1) 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 shorter periods 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 if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K (Section 220.405 of this chapter) is not contained herein, and will not be contained, to the best of registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K [x] The aggregate market value of the voting stock held by non-affiliates of the registrant as of February 28, 1995: Common Stock, no par value - The number of shares outstanding of the issuer's classes of common stock as of February 28, 1995: Common Stock, no par value 4,527,324 shares DOCUMENTS INCORPORATED BY REFERENCE None This document contains 81 pages. 1 TABLE OF CONTENTS Part Item Number Item Page I 1. Business 3 I 2. Properties 16 I 3. Legal Proceedings 17 I 4. Submission of Matters to a Vote 19 of Security Holders II 5. Market for the Company's Common Stock 20 and Related Stockholder Matters II 6. Selected Financial Data 21 II 7. Management's Discussion and Analysis 22 of Financial Condition and Results of Operations II 8. Financial Statements and Supplementary 36 Data II 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure 56 III 10. Directors and Executive Officers of the Company 57 III 11. Executive Compensation 57 III 12. Security Ownership of Certain 57 Beneficial Owners and Management III 13. Certain Relationships and Related 57 Transaction IV 14. Exhibits, Financial Statement 57 Schedules and Reports on Form 8-K 2 PART 1 Item 1. BUSINESS General Development of Business CU Bancorp, (the "Company) was incorporated under the laws of the State of California on September 3, 1981.It is the parent of California United Bank, a National Banking Association (the "Bank") which is a wholly owned subsidiary of the Company. DESCRIPTION OF BUSINESS Commercial Banking Business The Bank engages in the commercial banking business primarily serving the San Fernando Valley, Beverly Hills, West Los Angeles, and the South Bay portions of the County of Los Angeles which are generally affluent residential and business centers. The Bank also serves the greater Southern California metropolitan area. Until November 1993, the Bank operated in two distinct segments, commercial banking and mortgage banking.The Bank sold the origination portion of its mortgage banking division in November 1993. The Bank's primary focus is to engage in middle market lending to businesses, professionals, the entertainment industry, and high net-worth individuals. While in the past, the Bank specialized in serving the real estate industry, the Bank is currently attempting to diversify its portfolios and will in the future specialize in asset based lending to middle market businesses. While the Bank does not actively solicit retail or consumer banking business, it offers these services primarily to owners, officers, and employees of its wholesale customers, and customers of accounting and business management firms with which the Bank regularly does business. The Bank attracts customers and deposits by offering a personalized approach and a high degree of service.The key to the Bank's deposit generation is personal contacts and services rather than rate competition. A significant portion of its business is with business customers who conduct substantially all of their banking business with the Bank. Either alone or in concert with correspondent banks, the Bank offers a wide variety of credit and deposit services to its customers. Management believes that its current and prospective customers favorably respond to the individualized tailored banking services that the Bank provides. Deposit services, which the Bank offers, include personal and business checking accounts and savings accounts, insured money market deposit accounts, interest-bearing negotiable orders of withdrawal ("NOW") accounts, and time certificates of deposit, along with IRA and Keogh accounts. The Bank has not requested and does not have regulatory approval to offer trust services; nor does it have any present intention to seek such approval. The Bank has developed relationships with an extensive network or correspondent banks through which it is able to offer customers and prospective customers a wide variety of commercial and international banking services which it is otherwise unable to offer by itself. The Bank has successfully attracted and developed these relationships with several sizable correspondents which have participated in providing a portion of the Bank's customers' borrowing needs while the Bank remains the customers' bank of record. Continued development of a diversified commercial oriented deposit base is the Bank's highest priority. Time and demand deposits are actively solicited by the directors, officers, and employees of the Bank.The executive and senior officers of the Bank have had substantial experience in soliciting bank deposits and in serving the comprehensive banking needs of small and mid- size businesses. The Bank services the commercial banking business from its head office at 16030 Ventura Boulevard, in Encino, California 91436, a suburb of Los Angeles, and an office in West Los Angeles, located at 10880 Wilshire Boulevard, Los Angeles California 90024, in the Westwood commercial and retail district, with close freeway access. The Bank also maintains a South Bay Regional Office (non depository) in Gardena, California, in order to serve the 3 burgeoning South Bay area, a San Gabriel Valley Regional Office (non depository), located in City of Industry, which serves the San Gabriel Valley and northern Orange County and a Ventura County Loan Production Office in Camarillo which services northern Los Angeles County and Ventura County. Mortgage Banking In November 1993, the Bank sold the mortgage origination portion of its mortgage banking division to Republic Bancorp of Ann Arbor Michigan. This division had been established in February of 1988. The purpose of this division was to underwrite residential mortgages and subsequently sell them into the secondary market. Mortgages were originated on both a servicing retained and servicing released basis. Substantially all the loans originated by this division were presold to institutional investors or government agencies and are only originated subject to this forward commitment. The division had loan origination offices in Calabasas, Irvine, Costa Mesa, Pasadena, San Jose, and Sacramento, California in addition to origination centers at other Bank branches. The Bank retained the mortgage servicing portfolio after the sale of the division, although it retained the former division to service the loans. At December 31, 1994, the Bank sold all servicing with one sale to close in January, 1995. The Bank entered into an agreement with the Federal National Mortgage Association and Federal Home Loan Mortgage Corporation to dispose of any remaining portion of this portfolio by the of 1994 because, with the sale of the mortgage origination operation, the Bank is no longer a qualified seller/servicer of such loans. See Management's Discussion and Analysis for further amplification on the effect of the sale. Entertainment Division The Bank's entertainment division, housed in its West Los Angeles Regional Office, is designed specifically to serve the needs of accountants and business managers serving artists and other entertainment industry related companies and individuals, while providing a more diverse source of deposits for the Bank as a whole. At December 31, 1994 and 1993, this division had total deposits of $33 million and $35 million, respectively. Customers and Business Concentration The Bank believes that there is no single customer whose loss would have a material adverse effect on the Bank. At year end 1993, the Bank obtained approximately 24% of its deposits from companies associated with the real estate business, primarily title and escrow companies. However by year end 1994, this had been reduced to 17 %. While this appears to be a significant deposit concentration, because these deposits are attributable to a large number of companies in a diverse market (from small single family homes to larger projects), the Bank does not believe there is a problematical concentration in any one industry. To account for seasonal and economic variations in this industry, the Bank has taken a number of steps to insure liquidity. Regarding business concentrations in both lending and deposit activities, see Management's Discussion and Analysis. Competition The Company does not conduct any business unrelated to the business of the Bank and thus is affected by competition only in the banking industry. The Bank's primary commercial banking market area consists of the San Fernando Valley, Beverly Hills, West Los Angeles, and metropolitan areas of the City and County of Los Angeles. The Bank also serves the South Bay, Orange County, Northern San Diego County, the San Gabriel Valley, the Conejo Valley, Ventura County and much of Southern California. The banking business in California generally, and specifically in the Bank's primary market area, is highly competitive with respect to both loans and deposits. The business is dominated by a relatively small number of major banks which have many offices operating over wide geographic areas. Many of the major commercial banks offer certain services (such as international services, trust services, and securities brokerage) which are not offered directly by the Bank. By virtue of the greater total capitalization of such banks, they have substantially higher lending limits than the Bank and substantial advertising and promotional budgets. However, smaller independent financial institutions also represent a competitive force, particularly as to the class of customers which the Bank typically serves. To compete with major financial institutions, the Bank relies upon specialized services, responsive handling of customer needs, local promotional activity, and personal contacts by its officers, directors, and staff, as opposed to large multi-branch banks which compete primarily by rate and location of branches. For customers whose 4 loan demands exceed the Bank's lending limit, the Bank seeks to arrange for such loans on a participation basis with correspondent banks. The Bank also assists customers requiring services not offered by the Bank in obtaining such services from its correspondent banks. In the past, an independent bank's principal competitors for deposits and loans have been other banks (particularly major banks), savings and loan associations, and credit unions. To a lesser extent, competition was also provided by thrift and loans, mortgage brokerage companies, and insurance companies. In the past several years, the trend has been for other financial intermediaries to offer financial services traditionally offered by banks. Other institutions, such as brokerage houses, credit card companies, and even retail establishments, have offered new investment vehicles such as money-market funds or cash advances on credit card accounts. This led to increased cost of funds for most financial institutions. Even within the banking industry, the trend has been towards offering more varied services, such as discount brokerage, often through affiliate relationships. The direction of federal legislation seems to favor and foster competition between different types of financial institutions and to encourage new entrants into the financial services market. However, it is not possible to forecast the impact such developments will have on commercial banking in general, or on the Bank in particular. Economic Environment in the Bank's Market Area The general economy in the Southern California market area, and particularly the real estate market, are suffering from the effects of a prolonged recession that have negatively impacted upon the ability of certain borrowers of the Bank to perform their obligations to the Bank. According to the First Interstate Bancorp Forecast 1994/1995 (the "Forecast"), Los Angeles County continues to serve as "ground zero" for the California recession. Los Angeles' unemployment rate remains higher than the adjusted rates for both the state or the nation. The Forecast predicts that economic recovery "continues to elude California's most populous county, besieged by weak demand, falling real estate values and defense procurement cuts which have Los Angeles' aerospace/defense related industries in full retreat. A stabilization in the area's defense related industries and real estate market is necessary before a full fledged recovery can begin to take hold. This is unlikely to happen until early 1995 in Los Angeles." It is too early to predict the effect of the January 1994 earthquake on the Los Angeles Area, although reports have indicated that it will be the most costly natural disaster on record, surpassing the midwest floods of 1993. It is also expected that it will have a positive effect on the construction industry, but a negative effect on the real estate market which may further delay the economic recovery. The financial condition of the Bank has been, and is expected to continue to be, dependent upon overall general economic conditions and the real estate market in Southern California. The future success of the Bank is dependent,in large part, upon the quality of its assets. Although management of the Bank has devoted substantial time and resources to the identification, collection and workout of nonperforming assets, and the diversification of portfolios, the real estate markets in Southern California and the overall economy in this area is likely to continue to have a significant effect on the quality of the Bank's assets in future periods and, accordingly, its financial condition and results of operations. REGULATION AND SUPERVISION The following discussion of statutes and regulations is only a summary and does not purport to be complete. This discussion is qualified in its entirety by reference to such statutes and regulations. No assurance can be given that such regulations will not change in the future. The Company is subject to periodic reporting requirements of Section 13(d) of the Securities Exchange Act of 1934, which requires the Company to file annual, quarterly, and other current reports as well as proxy materials with the Securities and Exchange Commission ("the Commission"). Effect of Governmental Policies and Recent Legislation Banking is a business that depends on rate differentials. In general,the difference between the interest rate paid by the Bank on its deposits and its other borrowings and the interest rate received by the Bank on loans extended to its customers and securities held in the Bank's portfolio comprise the major portion of the Company's earnings. These rates are highly sensitive to many factors that are beyond the control of the Bank. Accordingly, the earnings and growth of the Company are subject to the influence of domestic and foreign economic conditions, including inflation, recession and unemployment. 5 The commercial banking business is not only affected by general economic conditions but is also influenced by the monetary and fiscal policies of the federal government and the policies of regulatory agencies, particularly the Federal Reserve Board. The Federal Reserve Board implements national monetary policies (with objectives such as curbing inflation and combating recession) by its open-market operations in United States Government securities, by adjusting the required level of reserves for financial institutions subject to its reserve requirements and by varying the discount rates applicable to borrowings by depository institutions. The actions of the Federal Reserve Board in these areas influence the growth of bank loans, investments and deposits and also affect interest rates charged on loans and paid on deposits. The nature and impact of any future changes in monetary policies cannot be predicted. From time to time, legislation is enacted which has the effect of increasing the cost of doing business,limiting or expanding permissible activities or affecting the competitive balance between banks and other financial institutions. Proposals to change the laws and regulations governing the operations and taxation of banks, bank holding companies and other financial institutions are frequently made in Congress, in the California legislature and before various bank regulatory and other professional agencies. For example, legislation was recently introduced in Congress that would repeal the current statutory restrictions on affiliations between commercial banks and securities firms. Under the legislation, as proposed, bank holding companies would be allowed to control both a commercial bank and a securities affiliate, which could engage in the full range of investment banking activities, including corporate underwriting. The likelihood of any major legislative changes and the impact such changes might have on the Company are impossible to predict. See "Item 1. Business - Supervision and Regulation." Supervision and Regulation Bank holding companies and banks are extensively regulated under both federal and state law. Set forth below is a summary description of certain laws which relate to the regulation of the Company and the Bank. The description does not purport to be complete and is qualified in its entirety by reference to the applicable laws and regulations. The Company The Company, as a registered bank holding company,is subject to regulation under the Bank Holding Company Act of 1956, as amended (the "BHCA"). The Company is required to file with the Federal Reserve Board quarterly and annual reports and such additional information as the Federal Reserve Board may require pursuant to the BHCA. The Federal Reserve Board may conduct examinations of the Company and its subsidiaries. The Federal Reserve Board may require that the Company terminate an activity or terminate control of or liquidate or divest certain subsidiaries or affiliates when the Federal Reserve Board believes the activity or the control of the subsidiary or affiliate constitutes a significant risk to the financial safety, soundness or stability of any of its banking subsidiaries. The Federal Reserve Board also has the authority to regulate provisions of certain bank holding company debt, including authority to impose interest ceilings and reserve requirements on such debt. Under certain circumstances, the Company must file written notice and obtain approval from the Federal Reserve Board prior to purchasing or redeeming its equity securities. Under the BHCA and regulations adopted by the Federal Reserve Board, a bank holding company and its nonbanking subsidiaries are prohibited from requiring certain tie-in arrangements in connection with any extension of credit, lease or sale of property or furnishing of services. Further, the Company is required by the Federal Reserve Board to maintain certain levels of capital. See "Item 1. Business - Supervision and Regulation - Capital Standards." The Company is required to obtain the prior approval of the Federal Reserve Board for the acquisition of more than 5% of the outstanding shares of any class of voting securities or substantially all of the assets of any bank or bank holding company. Prior approval of the Federal Reserve Board is also required for the merger or consolidation of the Company and another bank holding company. The Company is prohibited by the BHCA, except in certain statutorily prescribed instances, from acquiring direct or indirect ownership or control of more than 5% of the outstanding voting shares of any company that is not a bank or bank holding company and from engaging directly or indirectly in activities other than those of banking, managing or controlling banks or furnishing services to its subsidiaries. However, the Company, subject to the prior approval of the 6 Federal Reserve Board, may engage in any, or acquire shares of companies engaged in, activities that are deemed by the Federal Reserve Board to be so closely related to banking or managing or controlling banks as to be a proper incident thereto. In making any such determination, the Federal Reserve Board is required to consider whether the performance of such activities by the Company or an affiliate can reasonably be expected to produce benefits to the public, such as greater convenience, increased competition or gains in efficiency, that outweigh possible adverse effects, such as undue concentration of resources, decreased or unfair competition, conflicts of interest or unsound banking practices. The Federal Reserve Board is also empowered to differentiate between activities commenced de novo and activities commenced by acquisition, in whole or in part, of a going concern and is generally prohibited from approving an application by a bank holding company to acquire voting shares of any commercial bank in another state unless such acquisition is specifically authorized by the laws of such other state. Under Federal Reserve Board regulations, a bank holding company is required to serve as a source of financial and managerial strength to its subsidiary banks and may not conduct its operations in an unsafe or unsound manner. In addition, it is the Federal Reserve Board's policy that in serving as a source of strength to its subsidiary banks, a bank holding company should stand ready to use available resources to provide adequate capital funds to its subsidiary banks during periods of financial stress or adversity and should maintain the financial flexibility and capital-raising capacity to obtain additional resources for assisting its subsidiary banks. A bank holding company's failure to meet its obligations to serve as a source of strength to its subsidiary banks will generally be considered by the Federal Reserve Board to be an unsafe and unsound banking practice or a violation of the Federal Reserve Board's regulations or both. This doctrine has become known as the "source of strength" doctrine. Although the United States Court of Appeals for the Fifth Circuit found the Federal Reserve Board's source of strength doctrine invalid in 1990, stating that the Federal Reserve Board had no authority to assert the doctrine under the BHCA, the decision, which is not binding on federal courts outside the Fifth Circuit, was recently reversed by the United States Supreme Court on procedural grounds. The validity of the source of strength doctrine is likely to continue to be the subject of litigation until definitively resolved by the courts or by Congress. The Company is also a bank holding company within the meaning of Section 3700 of the California Financial Code. As such, the Company and its subsidiaries are subject to examination by, and may be required to file reports with, the California State Banking Department. The Bank The Bank, as a national banking association, is subject to primary supervision, examination and regulation by the Comptroller. If, as a result of an examination of a Bank, the Comptroller should determine that the financial condition, capital resources, asset quality, earnings prospects, management, liquidity or other aspects of the Bank's operations are unsatisfactory or that the Bank or its management is violating or has violated any law or regulation, various remedies are available to the Comptroller. Such remedies include the power to enjoin "unsafe or unsound practices," to require affirmative action to correct any conditions resulting from any violation or practice, to issue an administrative order that can be judicially enforced, to direct and increase in capital, to restrict the growth of the Bank, to assess civil monetary penalties, and to remove officers and directors. The FDIC has similar enforcement authority, in addition to its authority to terminate a Bank's deposit insurance in the absence of action by the Comptroller and upon a finding that a Bank is in an unsafe or unsound condition, is engaging in unsafe or unsound activities, or that its conduct poses a risk to the deposit insurance fund or make prejudice the interest of its depositors. The Bank is not currently subject to any such actions by the Comptroller or the FDIC. The deposits of the Bank are insured by the FDIC in the manner and to the extent provided by law. For this protection, the Bank pays a semiannual statutory assessment. See "Item 1. Business - Supervision and Regulation Premiums for Deposit Insurance." The Bank is also subject to certain regulations of the Federal Reserve Board and applicable provisions of California law, insofar as they do not conflict with or are not preempted by federal banking law. Various other requirements and restrictions under the laws of the United States and the State of California affect the operations of the Bank. Federal and California statutes and regulations relate to many aspects of the Bank's operations, including reserves against deposits, interest rates payable on deposits, loans, investments, mergers and acquisitions, borrowings, dividends, locations of branch offices, capital requirements and disclosure obligations to depositors and borrowers. 7 Restrictions on Transfers of Funds to the Company by the Bank The Company is a legal entity separate and distinct from the Bank. The Company's ability to pay cash dividends is limited by state law. There are statutory and regulatory limitations on the amount of dividends which may be paid to the Company by the Bank. The prior approval of the Comptroller is required if the total of all dividends declared by a national bank in any calendar year exceeds the bank's net profits (as defined) for that year combined with its retained net profits (as defined) for the preceding two years, less any transfers to surplus. The Comptroller also has authority to prohibit the Bank from engaging in activities that, in the Comptroller's opinion, constitute unsafe or unsound practices in conducting its business. It is possible, depending upon the financial condition of the bank in question and other factors, that the Comptroller could assert that the payment of dividends or other payments might, under some circumstances, be such an unsafe or unsound practice. Further, the Comptroller and the Federal Reserve Board have established guidelines with respect to the maintenance of appropriate levels of capital by banks or bank holding companies under their jurisdiction. Compliance with the standards set forth in such guidelines and the restrictions that are or may be imposed under the prompt corrective action provisions of federal law could limit the amount of dividends which the Bank or the Company may pay. See "Item 1. Business Supervision and Regulation - Prompt Corrective Regulatory Action and Other Enforcement Mechanisms" and - "Capital Standards" for a discussion of these additional restrictions on capital distributions. The Comptroller has approved the Bank's plan to pay not more than $90,000 in dividends in each calendar quarter of 1995 to the Company. At present, substantially all of the Company's revenues, including funds available for the payment of dividends and other operating expenses, is, and will continue to be, primarily dividends paid by the Bank. At December 31, 1994, the Bank had no retained earnings available for the payment of cash dividends but had received the prior approval of the Comptroller to pay certain dividends as set forth above. The Bank is subject to certain restrictions imposed by federal law on any extensions of credit to, or the issuance of a guarantee or letter of credit on behalf of, the Company or other affiliates, the purchase of or investments in stock or other securities thereof, the taking of such securities as collateral for loans and the purchase of assets of the Company or other affiliates. Such restrictions prevent the Company and such other affiliates from borrowing from the Bank unless the loans are secured by marketable obligations of designated amounts. Further, such secured loans and investments by the Bank to or in the Company or to or in any other affiliate is limited to 10% of the Bank's capital and surplus (as defined by federal regulations) and such secured loans and investments are limited, in the aggregate, to 20% of the Bank's capital and surplus (as defined by federal regulations). California law and National Banking Law also imposes certain restrictions with respect to transactions involving the Company and other controlling persons of the Bank. Additional restrictions on transactions with affiliates may be imposed on the Bank under the prompt corrective action provisions of federal law. See "Item 1.Business - Supervision and Regulation -Prompt Corrective Regulatory Action and Other Enforcement Mechanisms." Capital Standards The Federal Reserve Board and the Comptroller have adopted risk-based minimum capital guidelines intended to provide a measure of capital that reflects the degree of risk associated with a banking organization's operations for both transactions reported on the balance sheet as assets and transactions, such as letters of credit and recourse arrangements, which are recorded as off balance sheet items. Under these guidelines, nominal dollar amounts of assets and credit equivalent amounts of off balance sheet items are multiplied by one of several risk adjustment percentages, which range from 0% for assets with low credit risk, such as certain U.S. Treasury securities, to 100% for assets with relatively high credit risk, such as business loans. A banking organization's risk-based capital ratios are obtained by dividing its qualifying capital by its total risk adjusted assets. The regulators measure risk-adjusted assets, which includes off balance sheet items, against both total qualifying capital (the sum of Tier 1 capital and limited amounts of Tier 2 capital) and Tier 1 capital. Tier 1 capital consists of common stock, retained earnings, noncumulative perpetual preferred stock (cumulative perpetual preferred stock for 8 bank holding companies) and minority interests in certain subsidiaries, less most intangible assets. Tier 2 capital may consist of a limited amount of the allowance for possible loan and lease losses, cumulative preferred stock, term preferred stock, term subordinated debt and certain other instruments with some characteristics of equity. The inclusion of elements of Tier 2 capital is subject to certain other requirements and limitations of the federal banking agencies. The federal banking agencies require a minimum ratio of qualifying total capital to risk-adjusted assets of 8% and a minimum ratio of Tier 1 capital to risk-adjusted assets of 4%. In addition to the risked-based guidelines, federal banking regulators require banking organizations to maintain a minimum amount of Tier 1 capital to total assets, referred to as the leverage ratio. For a banking organization rated in the highest of the five categories used by regulators to rate banking organizations, the minimum leverage ratio of Tier 1 capital to total assets must be 3%. For all banking organizations not rated in the highest category, the minimum leverage ratio must be at least 100 to 200 basis points above the 3% minimum, or 4% to 5%. In addition to these uniform risk-based capital guidelines and leverage ratios that apply across the industry, the regulators have the discretion to set individual minimum capital requirements for specific institutions at rates significantly above the minimum guidelines and ratios. The federal banking regulators have issued a proposed rule to take account of interest rate risk in calculating risk- based capital. The proposed rule includes a supervisory model for taking account of interest rate risk. Under that model, institutions would report their assets, liabilities and off balance sheet positions in time bands based upon their remaining maturities. The federal banking agencies would then calculate a net risk weighted interest rate exposure. If that interest rate risk exposure was in excess of a certain threshold (1% of assets), the institution could be required to hold additional capital proportionate to that excess risk. Alternatively, the agencies have proposed making interest rate risk exposure a subjective factor in considering capital adequacy. Exposures would be measured in terms of the change in the present value of an institution's assets minus the change in the present value of its liabilities and off-balance sheet positions for an assumed 100 basis point parallel shift in market interest rates. However, the federal banking agencies have proposed to let banks use their own internal measurement of interest rate risk if it is declared adequate by examiners. Effective January 17, 1995, the federal banking agencies issued a final rule relating to capital standards and the risks arising from the concentration of credit and nontraditional activities. Institutions which have significant amounts of their assets concentrated in high risk loans or nontraditional banking activities and who fail to adequately manage these risks, will be required to set aside capital in excess of the regulatory minimums. The federal banking agencies have not imposed any quantitative assessment for determining when these risks are significant, but have identified these issues as important factors they will review in assessing an individual bank's capital adequacy. In December 1993, the federal banking agencies issued an interagency policy statement on the allowance for loan and lease losses which, among other things, establishes certain benchmark ratios of loan loss reserves to classified assets. The benchmark set forth by such policy statement is the sum of (a) assets classified loss; (b) 50 percent of assets classified doubtful; (c) 15 percent of assets classified substandard; and (d) estimated credit losses on other assets over the upcoming 12 months. Federally supervised banks and savings associations are currently required to report deferred tax assets in accordance with SFAS No. 109. See "Item 1. Business -- Supervision and Regulation -- Accounting Changes." The federal banking agencies recently issued final rules governing banks and bank holding companies, which become effective April 1, 1995, which limit the amount of deferred tax assets that are allowable in computing an institutions regulatory capital. The standard has been in effect on an interim basis since March 1993. Deferred tax assets that can be realized for taxes paid in prior carryback years and from future reversals of existing taxable temporary differences are generally not limited. Deferred tax assets that can only be realized through future taxable earnings are limited for regulatory capital purposes to the lesser of (i) the amount that can be realized within one year of the quarter- end report date, or (ii) 10% of Tier 1 Capital. The amount of any deferred tax in excess of this limit would be excluded from Tier 1 Capital and total assets and regulatory capital calculations. Future changes in regulations or practices could further reduce the amount of capital recognized for purposes of capital adequacy. Such a change could affect the ability of the Bank to grow and could restrict the amount of profits, if any, available for the payment of dividends. 9
The following table presents the amounts of regulatory capital and the capital ratios for the Bank, compared to its minimum regulatory capital requirements as of December 31, 1994. December 31, 1994 Minimum Capital Actual Amount Ratios Requirement (in thousands) Leverage ratio $29,506 10.4 % 4.0% Tier 1 risk-based ratio 29,506 14.1 4.0 Total risk-based ratio 32,178 15.4 8.0
Prompt Corrective Action and Other Enforcement Mechanisms Federal law requires each federal banking agency to take prompt corrective action to resolve the problems of insured depository institutions, including but not limited to those that fall below one or more prescribed minimum capital ratios. The law required each federal banking agency to promulgate regulations defining the following five categories in which an insured depository institution will be placed, based on the level of its capital ratios: well capitalized, adequately capitalized, undercapitalized, significantly undercapitalized and critically undercapitalized. In September 1992, the federal banking agencies issued uniform final regulations implementing the prompt corrective action provisions of federal law. An insured depository institution generally will be classified in the following categories based on capital measures indicated below: "Well capitalized" "Adequately capitalized" Total risk-based capital of 10%; Total risk-based capital of 8%; Tier 1 risk-based capital of 6%; and Tier 1 risk-based capital of 4%; Leverage ratio of 5%. and Leverage ratio of 4%. "Undercapitalized" "Significantly undercapitalized" Total risk-based capital less than 8%; Total risk-based capital less than Tier 1 risk-based capital less than 4%; or 6%; Tier 1 risk-based capital Leverage ratio less than 4%. less than 3%; or Leverage ratio less than 3%. "Critically undercapitalized" Tangible equity to total assets less than 2%. An institution that, based upon its capital levels, is classified as "well capitalized," "adequately capitalized" or undercapitalized" may be treated as though it were in the next lower capital category if the appropriate federal banking agency, after notice and opportunity for hearing, determines that an unsafe or unsound condition or an unsafe or unsound practice warrants such treatment. At each successive lower capital category, an insured depository institution is subject to more restrictions. The federal banking agencies, however, may not treat an institution as "critically undercapitalized" unless its capital ratio actually warrants such treatment. The Bank believes it meets all of the criteria for "well capitalized". The law prohibits insured depository institutions from paying management fees to any controlling persons or, with certain limited exceptions, making capital distributions if after such transaction the institution would be undercapitalized. If an insured depository institution is undercapitalized, it will be closely monitored by the appropriate federal banking agency, subject to asset growth restrictions and required to obtain prior regulatory approval for acquisitions, branching and engaging in new lines of business. Any undercapitalized depository institution must submit an acceptable capital restoration plan to the appropriate federal banking agency 45 days after becoming undercapitalized. The appropriate federal banking agency cannot accept a capital plan unless, among other things, it determines that the plan (i) specifies the steps the institution will take to become adequately capitalized, (ii) is based on realistic assumptions and (iii) is likely 10 to succeed in restoring the depository institution's capital. In addition, each company controlling an undercapitalized depository institution must guarantee that the institution will comply with the capital plan until the depository institution has been adequately capitalized on an average basis during each of four consecutive calendar quarters and must otherwise provide adequate assurances of performance. The aggregate liability of such guarantee is limited to the lesser of (a) an amount equal to 5% of the depository institution's total assets at the time the institution became undercapitalized or (b) the amount which is necessary to bring the institution into compliance with all capital standards applicable to such institution as of the time the institution fails to comply with its capital restoration plan. Finally, the appropriate federal banking agency may impose any of the additional restrictions or sanctions that it may impose on significantly undercapitalized institutions if it determines that such action will further the purpose of the prompt correction action provisions. An insured depository institution that is significantly undercapitalized, or is undercapitalized and fails to submit, or in a material respect to implement, an acceptable capital restoration plan, is subject to additional restrictions and sanctions. These include, among other things: (i) a forced sale of voting shares to raise capital or, if grounds exist for appointment of a receiver or conservator, a forced merger; (ii) restrictions on transactions with affiliates; (iii) further limitations on interest rates paid on deposits; (iv) further restrictions on growth or required shrinkage; (v) modification or termination of specified activities; (vi) replacement of directors or senior executive officers; (vii) prohibitions on the receipt of deposits from correspondent institutions; (viii) restrictions on capital distributions by the holding companies of such institutions; (ix) required divestiture of subsidiaries by the institution; or (x) other restrictions as determined by the appropriate federal banking agency. Although the appropriate federal banking agency has discretion to determine which of the foregoing restrictions or sanctions it will seek to impose, it is required to force a sale of voting shares or merger, impose restrictions on affiliate transactions and impose restrictions on rates paid on deposits unless it determines that such actions would not further the purpose of the prompt corrective action provisions. In addition, without the prior written approval of the appropriate federal banking agency, a significantly undercapitalized institution may not pay any bonus to its senior executive officers or provide compensation to any of them at a rate that exceeds such officer's average rate of base compensation during the 12 calendar months preceding the month in which the institution became undercapitalized. Further restrictions and sanctions are required to be imposed on insured depository institutions that are critically undercapitalized. For example, a critically undercapitalized institution generally would be prohibited from engaging in any material transaction other than in the ordinary course of business without prior regulatory approval and could not, with certain exceptions, make any payment of principal or interest on its subordinated debt beginning 60 days after becoming critically undercapitalized. Most importantly, however, except under limited circumstances, the appropriate federal banking agency, not later than 90 days after an insured depository institution becomes critically undercapitalized, is required to appoint a conservator or receiver for the institution. The board of directors of an insured depository institution would not be liable to the institution's shareholders or creditors for consenting in good faith to the appointment of a receiver or conservator or to an acquisition or merger as required by the regulator. In addition to measures taken under the prompt corrective action provisions, commercial banking organizations may be subject to potential enforcement actions by the federal regulators for unsafe or unsound practices in conducting their businesses or for violations of any law, rule, regulation or any condition imposed in writing by the agency or any written agreement with the agency. Enforcement actions may include the imposition of a conservator or receiver, the issuance of a cease and desist order that can be judicially enforced, the termination of insurance of deposits (in the case of a depository institution), the imposition of civil money penalties, the issuance of directives to increase capital, the issuance of formal and informal agreements, the issuance of removal and prohibition orders against institution-affiliated parties and the enforcement of such actions through injunctions or restraining orders based upon a judicial determination that the agency would be harmed if such equitable relief was not granted. Safety and Soundness Standards On February 2, 1995, the federal banking agencies adopted final safety and soundness standards for all insured depository institutions. The standards, which were issued in the form of guidelines rather than regulations,relate to internal controls, information systems, internal audit systems, loan underwriting and documentation, compensation and interest rate exposure. In general, the standards are designed to assist the federal banking agenciesin identifying and addressing problems at insured depository institutions before capital becomes impaired. If an institution fails to meet 11 these standards, the appropriate federal banking agency may require the institution to submit a compliance plan. Failure to submit a compliance plan may result in enforcement proceedings. Additional standards on earnings and classified assets are expected to be issued in the near future. In December 1992, the federal banking agencies issued final regulations prescribing uniform guidelines for real estate lending. The regulations, which became effective on March 19, 1993, require insured depository institutions to adopt written policies establishing standards, consistent with such guidelines, for extensions of credit secured by real estate. The policies must address loan portfolio management, underwriting standards and loan to value limits that do not exceed the supervisory limits prescribed by the regulations. Appraisals for "real estate related financial transactions" must be conducted by either state certified or state licensed appraisers for transactions in excess of certain amounts. State certified appraisers are required for all transactions with a transaction value of $1,000,000 or more; for all nonresidential transactions valued at $250,000 or more; and for "complex" 1-4 family residential properties of $250,000 or more. A state licensed appraiser is required for all other appraisals. However, appraisals performed in connection with "federally related transactions" must now comply with the agencies' appraisal standards. Federally related transactions include the sale, lease, purchase, investment in, or exchange of, real property or interests in real property, the financing or refinancing of real property, and the use of real property or interests in real property as security for a loan or investment, including mortgage-backed securities. Premiums for Deposit Insurance Federal law has established several mechanisms to increase funds to protect deposits insured by the Bank Insurance Fund ("BIF") administered by the FDIC. The FDIC is authorized to borrow up to $30 billion from the United States Treasury; up to 90% of the fair market value of assets of institutions acquired by the FDIC as receiver from the Federal Financing Bank; and from depository institutions that are members of the BIF. Any borrowings not repaid by asset sales are to be repaid through insurance premiums assessed to member institutions. Such premiums must be sufficient to repay any borrowed funds within 15 years and provide insurance fund reserves of $1.25 for each $100 of insured deposits. The result of these provisions is that the assessment rate on deposits of BIF members could increase in the future. The FDIC also has authority to impose special assessments against insured deposits. The FDIC has adopted final regulations implementing a risk-based premium system required by federal law. Under the regulations, which cover the assessment periods commencing on and after January 1, 1994, insured depository institutions are required to pay insurance premiums currently within a range of 23 cents per $100 of deposits to 31 cents per $100 of deposits depending on their risk classification. On January 31, 1995, the FDIC issued proposed regulations that would establish a new assessment rate schedule of 4 cents per $100 of deposits to 31 cents per $100 of deposits applicable to members of BIF. There can be no assurance that the final regulations will be adopted as proposed. To determine the risk-based assessment for each institution, the FDIC will categorize an institution as well capitalized, adequately capitalized or undercapitalized based on its capital ratios. A well-capitalized institution is one that has at least a 10% total risk-based capital ratio, a 6% Tier 1 risk- based capital ratio and a 5% Tier 1 leverage capital ratio. An adequately capitalized institution will have at least an 8% total risk-based capital ratio, 4% Tier 1 risk-based capital ratio and a 4% Tier 1 leverage capital ratio. An ndercapitalized institution will be one that does not meet either of the above definitions. The FDIC will also assign each institution to one of three subgroups based upon reviews by the institution's primary federal or state regulator, statistical analyses of financial statements and other information relevant to evaluating the risk posed by the institution. Interstate Banking and Branching On September 29, 1994, the President signed into law the Riegel-Neal Interstate Banking and Branching Efficiency Act of 1994 (the "Interstate Act"). Under the Interstate Act,beginning one year after the date of enactment, a bank holding company that is adequately capitalized and managed may obtain approval under the BHCA to acquire an existing bank located in another state without regard to state law. A bank holding company would not be permitted to make such an acquisition if, upon consummation,it would control (a) more than 10% of the total amount of deposits of insured depository institutions in the United States or (b) 30% or more of the deposits in the state in which the bank is located. A state may limit the percentage of total deposits that may be held in that state by any one bank or bank holding company if application of such limitation does not discriminate against out-of-state banks. An out-of-state bank holding company may not acquire a state bank in existence for less than a minimum length of time that may be prescribed by 12 state law except that a state may not impose more than a five year existence requirement. The Interstate Act also permits, beginning June 1, 1997,mergers of insured banks located in different states and conversion of the branches of the acquired bank into branches of the resulting bank. Each state may permit such combinations earlier than June 1, 1997, and may adopt legislation to prohibit interstate mergers after that date in that state or in other states by that state's banks. The same concentration limits discussed in the preceding paragraph apply. The Interstate Act also permits a national or state bank to establish branches in a state other than its home state if permitted by the laws of that state, subject to the same requirements and conditions as for a mergertransaction. The Interstate Act is likely to increase competition in the Company's market areas especially from larger financial institutions and their holding companies. It is difficult to assess the impact such likely increased competition will have on the Company's operations. In 1986, California adopted an interstate banking law. The law allows California banks and bank holding companies to be acquired by banking organizations in other states on a "reciprocal" basis (i.e., provided the other state's laws permit California banking organizations to acquire banking organizations in that state on substantially the same terms and conditions applicable to banking organizations solely within that state). The law took effect in two stages. The first stage allowed acquisitions on a "reciprocal" basis within a region consisting of 11 western states. The second stage, which became effective January 1, 1991, allows interstate acquisitions on a national "reciprocal" basis. California has also adopted similar legislation applicable to savings associations and their holding companies. Community Reinvestment Act and Fair Lending Developments The Bank is subject to certain fair lending requirements and reporting obligations involving home mortgage lending operations and Community Reinvestment Act ("CRA") activities. The CRA generally requires the federal banking agencies to evaluate the record of a financial institution in meeting the credit needs of their local communities, including low and moderate income neighborhoods. In addition to substantial penalties and corrective measures that may be required for a violation of certain fair lending laws, the federal banking agencies may take compliance with such laws and CRA into account when regulating and supervising other activities. On December 21, 1993, the federal banking agencies issued a proposal to change the manner in which they measure a bank's compliance with its CRA obligations, but no final regulation has yet been approved. On March 8, 1994, the federal Interagency Task Force on Fair Lending issued a policy statement on discrimination in lending. The policy statement describes the three methods that federal agencies will use to prove discrimination: overt evidence of discrimination, evidence of disparate treatment and evidence of disparate impact. Accounting Changes In February 1992, the Financial Accounting Standards Board ("FASB") issued SFAS No.109, "Accounting for Income Taxes," which supersedes SFAS No. 96 of the same title. SFAS No. 109, which became effective for fiscal years beginning after December 31, 1992, employs an asset and liability approach in accounting for income taxes payable or refundable at the date of the financial statements as a result of all events that have been recognized in the financial statements and as measured by the provisions of enacted tax laws. Adoption by the Company of SFAS No. 109 did not have a material impact on the Company's results of operations. In December 1991, the FASB issued SFAS No. 107, "Disclosures about Fair Value of Financial Instruments," which is effective for fiscal years ending after December 15, 1992 (December 15, 1995 in the case of entities with less than $150 million in total assets). SFAS No. 107 requires financial intermediaries to disclose, either in the body of their financial statements or in the accompanying notes, the "fair value" of financial instruments for which it is "practicable to estimate that value." SFAS No. 107 defines "fair value" as the amount at which a financial instrument could be exchanged in a current transaction between willing parties, other than in a forced or liquidation sale. Quoted market prices, if available, are deemed the best evidence of the fair value of such instruments. Most deposit and loan instruments issued by financial intermediaries are subject to SFAS No. 107, and its effect will be to require financial statement disclosure of the fair value of most of the assets and liabilities of financial intermediaries such as the Company and the Bank. The disclosure required by SFAS No. 107 at December 31, 1994 is presented in Note 8 to the Company's 13 Consolidated Financial Statements. See "Item 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA." In May 1993, the FASB issued SFAS No. 114, "Accounting by Creditors for Impairment of a Loan". SFAS No. 114 prescribes the recognition criterion for loan impairment and the measurement methods for certain impaired loans and loans whose terms are modified in troubled debt restructurings. SFAS No. 114 states that a loan is impaired when it is probable that a creditor will be unable to collect all principal and interest amounts due according to the contracted terms of the loan agreement. A creditor is required to measure impairment by discounting expected future cash flows at the loan's effective interest rate, or by reference to an observable market price, or by determining that foreclosure is probable. SFAS No. 114 also clarifies the existing accounting for in- substance foreclosures by stating that a collateral-dependent real estate loan would be reported as real estate owned only if the lender had taken possession of collateral. SFAS No. 118 amended SFAS No. 114, to allow a creditor to use existing methods for recognizing interest income on an impaired loan. To accomplish that it eliminated the provisions in SFAS No. 114 that described how a creditor should report income on an impaired loan. SFAS No. 118 did not change the provisions in SFAS No. 114 that require a creditor to measure impairment based on the present value of expected future cash flows discounted at the loan's effective interest rate, or as a practical expedient, at the observable market price of the loan or the fair value of the collateral if the loan is collateral dependent. SFAS No. 118 amends the disclosure requirements in SFAS No. 114 to require information about the recorded investments in certain impaired loans and about how a creditor recognizes interest income related to those impaired loans. SFAS No. 114 is effective for financial statements issued for fiscal years beginning after December 15, 1994. Although earlier application is encouraged, it is not required. SFAS No. 118 is effective concurrent with the effective date of SFAS No. 114. The Company has not adopted SFAS No. 114 for fiscal year 1994, and the Company has not yet determined the impact of the adoption of thisstatement. In December 1990, FASB issued SFAS No. 106,"Employers' Accounting for Post- Retirement Benefits Other Than Pensions" effective for fiscal years beginning after December 15, 1992. In November 1992, FASB issued Statement of Financial Standards No. 112, "Employers' Accounting For Post-Employment Benefits," effective for fiscal years beginning after December 15, 1993. SFAS No. 106 and SFAS No. 112 focus primarily on post-retirement health care benefits. The Company does not provide post-retirement benefits, and SFAS No. 106 and SFAS No. 112 will have no impact on net income in 1994. In May 1993, the FASB issued SFAS No. 115 "Accounting For Certain Investments in Debt and Equity Securities" addressing the accounting and reporting for investments in equity securities that have readily determinable fair values and for all investments in debt securities. These investments would be classified in three categories and accounted for as follows: (i) debt and equity securities that the entity has the positive intent and ability to hold to maturity would be classified as "held to maturity" and reported at amortized cost; (ii) debt and equity securities that are held for current resale would be classified as trading securities and reported at fair value, with unrealized gains and losses included in operations; and (iii) debt and equity securities not classified as either securities held to maturity or trading securities would be classified as securities available for sale, and reported at fair value, with unrealized gains and losses excluded from operations and reported as a separate component of shareholders' equity. The statement is effective for financial statements for calendar year 1994, but may be applied to an earlier fiscal year for which annual financial statements have not been issued. The Company adopted SFAS No. 115 in 1993. The cumulative effect of the change in accounting was not material. Additional Regulatory Matters The assets of a commercial banking institution consist largely of interest earning assets, including loans, federal funds sold, time certificates of deposit, and investment securities. The liabilities of a commercial banking institution consist of non-interest bearing demand deposits, and interest bearing liabilities, including time deposits, savings accounts, and other bank borrowings. The values and yields of these assets and rates paid on these liabilities are sensitive to changes in prevailing market rates of interest. The earnings and growth of the Company are largely dependent on the Company's ability to increase the amount and net yield of its interest earning assets which, in turn, depends upon deposit growth and the ability of the Company to maintain a favorable differential or "spread" between the yield on interest earning assets and the rate paid on interest bearing deposits and other interest bearing liabilities. The FRB implements national monetary policies (for example, to curb inflation and combat recession) by its open market operations in United States government securities, by adjusting the required level of reserves for financial institutions subject to its reserve requirements and by varying the discount rates applicable to borrowing by banks that are members 14 of the Federal Reserve System. The actions of the FRB in these areas influence the growth of bank loans, investments, and deposits, and also effect interest rates charged on loans and deposits. Thus, the earnings and growth of monetary and fiscal policies of the federal government, and the policies of regulatory agencies, particularly the FRB. The nature and impact of any future changes in economic conditions and government policies cannot be predicted. Supervision, regulation, and examination of the Bank by bank regulatory agencies are generally intended to protect depositors and are not intended for the protection of the Company's stockholders. In November 1993, the Office of the Comptroller of the Currency released the Bank from its Formal Agreement entered into in June 1992. The Formal Agreement required the implementation of certain policies and procedures for the operation of the bank to improve lending operations and management of the loanportfolio. The Formal Agreement required the Bank to maintain a Tier 1 risk weighted capital ratio of 10.5% and a 6% Tier 1 capital ratio based on adjusted total assets. The Formal Agreement mandated the adoption of a written program to essentially reduce criticized assets, maintain adequate loan loss reserves and improve bank administration, real estate appraisal, asset review management and liquidity policies, and restricted the payment of dividends. In November 1993, the Federal Reserve Bank of San Francisco released the Company from its August 1992, Memorandum of Understanding ("MOU") which required: 1) a plan to improve the financial condition of CU Bancorp and the Bank; 2) development of a formal policy regarding the relationship of CU Bancorp and the Bank, with regard to dividends, intercompany transactions, tax allocation and management or service fees; 3) a plan to assure that CU Bancorp has sufficient cash to pay its expenses; 4) ensure that regulatory reporting is accurate and submitted on a timely basis; 5) prior approval of the Federal Reserve Bank prior to the payment of dividends; 6) prior approval of the Federal Reserve Bank prior to CU Bancorp incurring any debt and 7) quarterly reporting regarding the condition of the Company and steps taken regarding the Memorandum of Understanding. The release of both agreements indicates that the Company has complied with the Formal Agreement and the Memorandum of Understanding, including improvement of asset and management quality, the development and implementation of policies and procedures as well as reporting methodologies and the maintenance of the required capital ratios. In addition, the Bank is subject to certain restrictions imposed by federal law on any extensions of credit to affiliates (including parent bank holding companies), investments of stock or other securities thereof, and the taking of such securities as capital and surplus for all affiliates. Transactions with affiliates are only permissible if they are on terms consistent with safe and sound banking practices, and must be on substantially identical terms (or not less favorable to the bank) as similar transactions with non-affiliates. A bank may not purchase a "low quality asset"(as defined in section 23a(b)(10) of the Federal Reserve Act) from an affiliate. Other restrictions require that transactions with affiliates be on substantially the same terms as would be available for non-affiliates and applies to the transactions already described as well as to a bank's sale of assets, payment of money, of furnishing of services to an affiliate; transactions in which an affiliate acts as an agent or broker and transactions with a third party, if an affiliate is a participant or has a financial interest in the transaction. EMPLOYEES As of December 31, 1994, the Company had two employees, its Chief Executive Officer and Chief Financial Officer, who received no compensation. At December 31, 1994, the Bank had 91 full-time employees and 7 part-time employees. Of these employees, 12 held titles of senior vice president or above. At December 31, 1994, none of the executive officers of the Bank served pursuant to written employment agreements. None of the Company's or the Bank's employees are represented by a labor union. The Company considers its relationship and the Bank's relationship with each company's respective employees to be excellent. 15 Item 2. PROPERTIES The principal offices of the Company are located in a multi-story office building located at 16030 Ventura Boulevard, Encino, California 91364 for which it pays a monthly rental of $60 thousand. The lease contains a ceiling on cost on living adjustments of 5% per year. The lease is renewable. The Bank leases the property in which its West Los Angeles branch and offices are located for a monthly rent of $ 6 thousand. The Bank also has certain month to month or short term leases for offices in the South Bay, Camarillo and the San Gabriel Valley. Management believes that the existing leases will be renogotiated at termination to provide for additional space requirements, which are not expected to be material. From time to time the Bank may acquire real property through foreclosure. See Management's Discussion and Analysis "Nonperforming Assets" for further amplification on real property acquired in this manner. 16 Item 3. LEGAL PROCEEDINGS In the normal course of business the Bank occasionally becomes a party to litigation. In the opinion of management, based upon consultation with legal counsel, the Bank believes that pending or threatened litigation involving the Bank will have no adverse material effect upon its financial condition, or results of operations. The Bank is a defendant in multiple lawsuits related to the failure of two real estate investment companies, Property Mortgage Company, Inc., ("PMC") and S.L.G.H., Inc. ("SLGH"). The lawsuits, consist of a federal action by investors in PMC and SLGH (the "Federal Investor Action"), at least three state court actions by groups of Investors (the "State Investor Actions"), and an action filed by the Resolution Agent for the combined and reorganized bankruptcy estate of PMC and SLGH (the "Neilson" Action). An additional action was filed by an individual investor and his related pension and profit sharing plans (the "Individual Investor Action"). Other defendants in these multiple actions and in related actions include financial institutions, title companies, professionals, business entities and individuals, including the principals of PMC and SLGH. The Bank was a depository bank for PMC, SLGH and related companies and was a lender to certain principals of PMC and SLGH ("Individual Loans"). Plaintiffs allege that PMC/SLGH was or purported to be engaged in the business of raising money from investors by the sale and issuance of interests in loans evidenced by promissory notes secured by real property. Plaintiffs allege that false representations were made, and the investment merely constituted a "Ponzi" scheme. Other charges relate to the Bank's conduct with regard to the depository accounts, the lending relationship with the principals and certain collateral taken , pledged by PMC and SLGH in conjunction with the Individual Loans. The lawsuits allege inter alia violations of federal and state securities laws, fraud, negligence, breach of fiduciary duty, and conversion as well as conspiracy and aiding and abetting counts with regard to these violations. The Bank denies the allegations of wrongdoing. Damages in excess of $100 million have been alleged, and compensatory and punitive damages have been sought generally against all defendants, although no specific damages have been prayed for with regard to the Bank, nor has there been any apportioning of liability among defendants or attributable to the various claims asserted. A former officer and director of the Bank has also been named as a defendant. The Bank and the named officer/director have notified the Bank's insurance carriers of the various lawsuits. During 1994, the Court granted the Bank's motion for summary judgment in the Individual Investor Action. An appeal of that Order was filed by the plaintiffs. The plaintiff in the Individual Investor Action will be a member of the settling class and in connection with the settlement discussed below, that appeal will be dismissed. The Bank has entered into a settlement agreement with the representatives of the various plaintiffs, which, when consummated, will dismiss all of the above referenced cases, with prejudice, against the Bank, its officers and directors, with the exception of the officer/director previously named. The settlement is subject to appropriate Court approvals, which have now been received. In connection with the settlement, the Bank will release its security interest in certain disputed collateral and cash proceeds thereof, which the Bank received from PMC, SLGH, or the principals, in connection with the Individual Loans. This collateral has been a subject of dispute in the Neilson Action, with both the Bank and the representatives of PMC/SLGH asserting the right to such collateral. All the Individual Loans have been charged off previously. The Bank will also make a cash payment to the Plaintiffs in connection with the settlement. In connection with the settlement the Bank will assign its rights, if any, under various insurance policies, to the Plaintiffs. The settlement does not resolve the claims asserted against the officer/director. The settlement has been approved by the Federal District Court and the Federal Bankruptcy Court. While one party to these matters filed an appeal to the approval by the courts, they have indicated that they will dismiss such appeal, which would allow the settlement to be effectuated. Based upon advice of counsel, the Bank believes that the possibility of the settlement not being finalized is remote. The Bank is still providing a defense to its former director/officer who continues as a defendant and who retains his rights of indemnity, if any, against the Bank arising out of his status as a former employee. At this time the only viable claims which remain against the former director/employee are claims of negligence in connection with certain depository relationships with PMC/SLGH. While the Bank's Director and Officer Liability Insurer has not acknowledged coverage of any potential judgment or cost of defense, the Insurer is on notice of the action and has participated in various aspects of the case. 17 Item 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS No matters were submitted during the fourth quarter of the fiscal year covered by this report to a vote of security holders, through the solicitation of proxies or otherwise. Item 4(A). EXECUTIVE OFFICERS OF THE COMPANY Set forth below are brief summaries of the background and business experience of each of the executive officers of the Company and the Bank as of December 31, 1994: Name Age Position with Position with Years in Job the Company the Bank Stephen G. Carpenter 54 CEO Chairman/CEO 2.5 David I. Rainer 38 President President/Chief 2.5 Operating Officer Patrick Hartman 45 Chief Financial Senior V.P./Chief 2.2 Officer Financial Officer Anne Williams 36 Chief Credit Officer 1.5 Set forth below are brief summaries of the background and business experience, of the executive officers of the Company. STEPHEN G. CARPENTER joined the Company in 1992 from Security Pacific National Bank where he was Vice Chairman in charge of middle market lending from July 1989 to June 1992. Mr. Carpenter was previously employed at Wells Fargo Bank from July 1980 to July 1989, where he was an Executive Vice President. DAVID I. RAINER was appointed Executive Vice president of the Bank in June 1992 and assumed the position of Chief Operating Office in late 1992. From July 1989 to June 1992, Mr. Rainer was employed by Bank of America, where he held the position of Senior Vice President. From March 1989 to July 1989, Mr. Rainer was a Senior Vice President at Faucet & Company, where he co-managed a stock and bond portfolio. From July 1982 to March 1989, Mr. Rainer was employed at Wells Fargo Bank, where he held the positions of Vice President and Manager. PATRICK HARTMAN has been employed by the Bank since November, 1992. Prior to assuming his present 18 positions he was Senior Vice President/ Chief Financial Officer for Cenfed Bank for a period during 1992. Mr. Hartman held the post of Senior Vice President/Chief Financial Officer of Community Bank, Pasadena, California, for thirteen years. ANNE WILLIAMS joined the Bank in 1992 as Senior Loan Officer. She was named to the position of Chief Credit Officer in July 1993. Prior to that time she spent five years at Bank of America/Security Pacific National Bank, where she was a credit administrator in asset based lending, for middle market in the Los Angeles area. Ms Williams was trained at Chase Manhattan Bank in New York, and was a commercial lender at Societe Generale in Los Angeles and Boston Five Cents Savings Bank where she managed the corporate lending group. 19 PART II Item 5. MARKET FOR COMPANY'S COMMON STOCK AND RELATED SHAREHOLDER MATTERS see Management's Discussion and Analysis "Capital" Holders of Company's Common Stock As of the close of business on December 31, 1994 there were 424 record holders of the Company's issued and outstanding Common Stock. Dividends Under national banking laws the Bank may not pay dividends from its capital. All dividends must be paid out of net profits then on hand, after deducting expenses, including losses and bad debts. In addition,the payment of dividends out of net profits is further limited in that the Bank is prohibited from declaring a dividend on its shares of common stock until the surplus fund equals the amount of capital stock, or, if the surplus fund does not equal the amount of capital stock, until there has been transferred to the surplus fund not less than one-tenth of the bank's net profits for the preceding half-year in the case of quarterly or semi-annual dividends, or not less than one-tenth of its net profits for the preceding two consecutive half-year periods in the case of annual dividends. The approval of the Comptroller of the Currency is required if the total of all dividends declared by the Bank in any calendar year exceeds the total of its net profits for that year combined with its net profits for the two preceding years, less any required transfers to surplus or to a fund for the retirement of any preferred stock. In first quarter 1995, the Bank received the Comptroller's prior approval for payment of dividends in 1995, not to exceed $90,000 per quarter. While the Company has generally followed a policy of retaining earnings for the purpose of increasing the net worth of the Company in order to support asset growth. Accordingly, in recent years, the Company had not paid any cash dividends. However, a $.02 per share dividend was declared in first quarter 1995. Holders of the Common Stock are entitled to receive dividends as and when declared by the Board of Directors out of funds legally available therefor under the laws of the State of California. The Company declared a 20 % stock dividend in 1989, 5% stock dividends in 1988, 1987, and 1986, a 2 for 1 stock split in 1984 and a 6 for 5 split effected in the form of a stock dividend in 1985. All per share amounts throughout this Form 10-K are adjusted to give effect to these share dividends and splits. 20
Item 6. SELECTED FINANCIAL DATA Selected Financial Data CU Bancorp and Subsidiary Amounts in thousands of dollars, except per share data As of the years ended December 31, 1994 1993 1992 1991 1990 Consolidated Balance Sheet Data Total securities $ 74,153 $ 88,034 $84,724 $ 59,533 $ 37,755 Net loans 167,175 134,148 193,643 273,126 308,346 Total earning assets 261,328 251,559 281,723 429,480 415,602 Total assets 304,154 279,206 353,923 516,762 485,697 Total deposits 264,181 238,928 318,574 473,125 444,542 Total shareholders' equity 29,744 26,990 24,632 32,598 36,600 Regulatory risk based capital ratio 15.4% 16.71% 12.87% 12.31% 14.15% Regulatory capital leverage ratio 10.44% 9.16% 6.12% 6.91% 9.25% Allowance for loan losses to: Period end total loans 4.25% 4.63% 6.28% 4.33% 1.32% Nonperforming loans 20,631% 473% 95% 75% 79% Nonperforming assets 20,631% 283% 95% 59% 79% Consolidated Operating Results Net interest income $ 13,881 $ 14,431 $ 20,625 $ 25,681 $ 28,851 Other operating income 5,408 26,423 21,499 10,537 6,936 Provision for loan losses 0 450 17,090 14,267 3,650 Operating expenses 14,735 36,883 37,493 27,843 22,265 Net income (loss) 2,574 2,098 (8,190) (3,637) 5,863 Fully diluted income/(loss) per common & equivalent share $ .56 $ 0.47 $ (1.90) $ (0.83) $ 1.27 Net interest margin 5.98% 5.86% 6.07% 6.99% 7.61% Return on average shareholders' equity 9.12% 8.12% (26.06)% (10.27)% 16.85% Return on average assets 0.97% 0.69% (1.89)% (0.76)% 1.31% Cash dividends per common share -- ------ ------- $ 0.150 $ 0.225
21 Item 7. Management Discussion and Analysis Overview The Bank's strong performance in 1994 has been the result of the continuation of the strategy that was developed over two years ago. Continued emphasis on growing as a middle market bank committed to a discipline of credit quality and cost control has resulted in solid earnings and growth for the year. The Bank's seasoned commercial lenders generated new loan commitments of $121 million in 1994, 20% more than the $101 million in commitments generated in 1993. Two consecutive years of significant new business development have demonstrated the Bank's ability to meet the needs of middle market companies for relationship-based services. This positive growth trend is expected to continue into 1995 and be a significant contributor to improved profit performance in the coming years. The Company earned $2.6 million, or $.56 per share, in 1994, compared to $2.1 million, or $0.47 per share, in 1993. The 1994 earnings included profitable performance by the Bank and a gain on the sale of the mortgage servicing rights retained by the Bank when its mortgage origination network was sold in 1993. The Bank's asset quality ratios continue to be exceptionally strong. At December 31, 1994, nonperforming assets were $ 36 thousand, down $ 2.3 million, or 98 %, from the prior year. At December 31, 1994, the Bank did not have any real estate acquired through foreclosure. The Bank's allowance for loan losses as a percent of both nonperforming loans and nonperforming assets at the end of 1994 was 20,631%, compared to 1993 levels of 473% and 283%, respectively. The allowance for loan losses as a percentage of nonperforming loans and assets has increased as both nonperforming categories were reduced. During 1994, the Bank enjoyed a net recovery as recoveries exceeded chargeoffs. Net recoveries further increase the allowance and its coverage of the nonperforming loans and assets. Capital ratios are strong , substantially exceeding levels required to be in the "well capitalized" category established by bank regulators. The Total Risk-Based Capital Ratio was 15.40%, the Tier 1 Risk-Based Capital Ratio was 14.12%, and the Leverage Ratio was 10.44% at December 31, 1994. The successful results in 1993 and 1994 concerning asset quality, regulatory relations, growth of middle market lending and strategic focus make expansion and growth possible. Two new loan production offices were opened in January 1994. These offices have allowed expanded market penetration and commercial portfolio diversification. These offices have since been converted to branches. On April 1, 1994, the Bank acquired the deposits of the Encino branch of Mechanics National Bank from the FDIC, to expand and improve deposit mix. In October 1994, another loan production office was opened in Camarillo,California to be the Ventura County regional center. The Bank has received authorization to convert the Camarillo office to a branch,and expects to make that conversion in 1995. Balance Sheet Analysis Loan Portfolio Composition and Credit Risk Significant improvements in loan portfolio composition and credit quality are the result of management's commitment to middle market commercial lending and a strong credit culture. The credit standards established over two years ago have allowed creation of a high quality commercial loan portfolio and nearly eliminated non performing assets. Real estate concentrations established before that time have been reduced to the point that they are no longer concentrations. The Bank's focus on middle market lending, in its infancy at year-end 1992, gained momentum in 1993 and further accelerated in 1994. Total loans increased over $33.9 million from December 31, 1993 to December 31, 1994. Offsetting this, the remaining Held for Sale mortgages of $10.4 million at December 31, 1993 were sold in the first quarter of 1994. Excluding this planned liquidation, loans increased by $44 million, or 34%, for the year ended December 31, 1994. 22
Table 1 Loan Portfolio December 31, Composition Amounts in thousands of dollars 1994 1993 1992 1991 1990 Commercial & Industrial Loans $169,413 97% $120,513 86% $118,575 57% $163,472 57% $187,031 60% Real Estate Loans: Held for Sale 0 10,426 40,167 40,350 24,156 Mortgages 4,773 3% 8,496 6% 40,311 20% 52,259 18% 81,593 26% Construction 416 1,226 2,392 14,368 2,743 Other Loans 0 0 1,184 3,044 3,175 Loans 174,602 140,661 202,629 273,493 298,698 Term federal funds sold 0 0 4,000 12,000 15,000 Total loans net of unearned fees $174,602 100% $140,661 100% $206,629 100% $285,493 100% $313,698 100%
At December 31, 1994, the Bank had loans totaling $169 million maturing within one year, $3 million maturing after one but within five years, and $3 million maturing after five years. The loans due after one year totaling $6 million all had predetermined interest rates. Historically, the Bank's real estate loans held for sale were secured by single family residences originated by the Mortgage Banking Operation. These loans were sold to investors through firm commitments, generally in less than 90 days, and presented almost no credit risk. The sale of the mortgage origination operation eliminated this loan concentration. The remainder of real estate loans are generally collateralized by a first or second trust deed position. Lending efforts have been directed away from commercial real estate, as well as construction and multifamily lending. The Bank is now focused on business lending to middle market customers. Current credit policy in general now permits commercial real estate lending only as part of a complete commercial banking relationship with a middle market customer. Existing commercial real estate loans, 14% of the loan portfolio, or $25 million at year end 1994, compared to $27 million at year-end 1993, are secured by first or second liens on office buildings and other structures. The loans are secured by real estate that had appraisals in excess of loan amounts at origination. Monitoring and controlling the Bank's allowance for loan losses is a continuous process. All loans are assigned a risk grade, as defined by credit policies, at origination and are monitored to identify changing circumstances that could modify their inherent risks. These classifications are one of the criteria analyzed in determining the adequacy of the allowance for loan losses. 23
The amount and composition of the allowance for loan losses is as follows: Table 2 Allocation of Allowance for Loan Losses Amounts in thousands of dollars December 31, Amounts in thousands of 1994 1993 1992 1991 1990 dollars Commercial & Industrial Loans $7,096 $ 5,699 $ 11,597 $ 11,147 $ 3,986 Real estate loans - Held for 0 67 368 90 60 Sale Real estate loans - Mortgages 0 225 249 28 21 Real estate loans - 0 10 62 100 37 Construction Other loans 0 0 19 0 0 Loans 7,096 6,001 12,295 11,365 4,104 Unfunded commitments and letters of credit 331 512 691 1,002 24 Total Allowance for loan $7,427 $ 6,513 $ 12,986 $ 12,367 $ 4,128 losses
Adequacy of the allowance is determined using management's estimates of potential portfolio and individual loan. Included in the criteria used to evaluate credit risk are, wherever appropriate, the borrower's cash flow, financial condition, management capabilities, and collateral valuations, as well as industry conditions. A portion of the allowance is established to address the risk inherent in general loan categories, historic loss experience, portfolio trends, economic conditions, and other factors. Based on this assessment a provision for loan losses may be charged against earnings to maintain the adequacy of the allowance. The allocation of the allowance based upon the risks by type of loans (as shown in Table 2), implies a degree of precision that is not possible when using judgment. While the systematic approach used does consider a variety of segmentations of the portfolio, management considers the allowance a general reserve available to address risks throughout the entire loan portfolio. 24 Activity in the allowance, classified by type of loan, is as follows:
Table 3 Analysis of the Changes in the Allowance for Loan Losses Amounts in thousands of dollars For the years ended December 31, 1994 1993 1992 1991 1990 Balance at January 1 $6,513 $12,986 $12,367 $4,128 $3,158 Loans charged off: Real estate secured loans 486 3,266 4,425 1,220 1,858 Commercial loans secured and unsecured 820 6,582 12,562 5,422 640 Loans to individuals, installment and other loans 107 901 813 258 321 Total charge offs 1,413 10,749 17,800 6,900 2,819 Recoveries of loans previously charged off: Real estate secured loans 586 393 249 15 42 Commercial loans secured and unsecured 1,735 3,189 1,001 819 97 Loans to individuals, installment and other loans 6 244 79 38 --- Total recoveries of loans previously charged off 2,327 3,826 1,329 872 139 Net charge offs (914) 6,923 16,471 6,028 2,680 Provision for loan losses 0 450 17,090 14,267 3,650 Balance at December 31 $7,427 $6,513 $12,986 $12,367 $4,128 Net loan charge offs (recoveries) as a percentage of average gross loans outstanding during the year ended December 31 (0.61)% 3.49% 6.70% 2.36% 0.98%
25 The Bank's policy concerning nonperforming loans is more conservative than is generally required. It defines nonperforming assets as all loans ninety days or more delinquent, loans classified nonaccrual, and foreclosed, or in substance foreclosed real estate. Nonaccrual loans are those whose interest accrual has been discontinued because the loan has become ninety days or more past due or there exists reasonable doubt as to the full and timely collection of principal or interest. When a loan is placed on nonaccrual status, all interest previously accrued but uncollected is reversed against operating results. Subsequent payments on nonaccrual loans are treated as principal reductions. At December 31, 1994, nonperforming loans amounted to $36 thousand, down 97% from $1.4 million at December 31, 1993.
Table 4: Nonperforming Assets Amounts in thousands of dollars December 31, 1994 1993 1992 1991 1990 Loans not performing (1) $ 36 $ 378 $8,978 $14,955 $4,000 insubstance foreclosures 0 1,000 4,652 1,512 1,224 Total nonperforming loans 36 1,378 13,630 16,467 5,224 Other real estate owned 0 920 0 4,564 0 Total nonperforming assets $ 36 $2,298 $13,630 $21,031 $5,224 Allowance for loan losses as a percent of: Nonperforming loans 20,631% 473% 95% 75% Nonperforming asse 20,631 283 95 59 79 Nonperforming assets as a percent of total assets 0 0.8 3.8 4.2 1.1 Nonperforming loans as a percent of total loans 0 1.0 6.6 5.8 1.8 Note 1: Loans not performing Performing as $ 36 $ 9 $2,895 $4,783 agreed Partial performance 0 369 1,075 1,531 Not performing 0 0 5,008 8,641 $ 36 $378 $8,978 $14,955 Nonaccrual: Loans $ 36 $378 $7,728 $11,357 $1,486 Troubled debt 0 0 1,250 1,326 818 restructurings Past due ninety or more days (a): Loans 0 0 0 2,272 1,696
(a) Past due with respect to principal and/or interest and continuing to accrue interest. Securities The securities portfolio at December 31, 1994, totaled $74 million, compared to $88 million at year-end 1993. The securities are all classified as a Held to Maturity portfolio. This portfolio is recorded at amortized cost. It is the Bank's intention to hold these securities to their individual maturity dates. There was no Available for Sale portfolio at year-end 1994 and 1993. There have been no realized gains or losses on securities in during 1994. Gains of $77 thousand were realized during 1993. At December 31, 1994, there were unrealized gains of $ 9 thousand and losses of $ 2.7 million in the securities portfolio. Additional information concerning securities is provided in the footnotes to the accompanying financial statements. Other Real Estate Owned At December 31, 1994, there was no Other Real Estate Owned on the Bank's balance sheet, compared with $920 thousand at December 31, 1993. The carrying values of these properties are at fair value less estimated selling costs, which is determined using recent appraisal values adjusted, if necessary, for other market conditions. Loan balances in 26 excess of fair value are charged to the allowance for loan losses when the loan is reclassified to other real estate. Subsequent declines in fair value are charged against an allowance for real estate owned losses created by charging a provision to other operating expenses. During 1994, the bank sold properties held as Other Real Estate Owned, realizing gains of $585 thousand. There were no comparable sales in 1993. Expenses related to Other Real Estate Owned were $ 22 thousand in the year ended December 31, 1994. This compares to $ 234 thousand at December 31, 1993. Deposit Concentration Due to its historic focus on real estate related activities, the Bank has developed a concentration of deposit accounts from title insurance and escrow companies. These deposits are generally noninterest bearing transaction accounts that contribute to the Bank's interest margin. Noninterest expense related to these deposits is included in other operating expense. The Bank monitors the profitability of these accounts through an account analysis procedure. The Bank offers products and services allowing title insurance and escrow customers to operate with increased efficiency. A substantial portion of the services, provided through third party vendors, are automated data processing and accounting for trust balances maintained on deposit at the Bank. These and other banking related services, such as messenger and deposit courier services, will be limited or charged back to the customer if the deposit relationship profitability does not meet the Bank's experience. Noninterest bearing deposits represent nearly the entire title and escrow relationship. These balances have been reduced substantially as the Bank focused on middle market business loans. The balance at December 31, 1994, was $44 million, compared to $58 million at December 31, 1993. Costs relative to servicing the above relationships are the significant portion of the Bank's customer data processing and messenger and courier costs. There have been no significant changes in these costs during 1994.
Table 5 Real Estate Escrow and Title Average balance Insurance Company Deposits Year ended 12 months ended Amounts in thousands of dollars December 31,1994 December 31,1994 Percent of Percent of Percent of Total Class Total Percent of Amount Deposits Amount Deposits class 1994 Balances Noninterest bearing demand deposits $44,382 16.8% 39.6% $ 44,670 19.2% 41.0% Interest-bearing demand & savings deposits 1,263 .5% .8% 1,501 .6% 1.2% Total deposit concentration $45,645 17.3% 40.4% $ 46,171 19.8% 1993 Balances $58,943 25% $ 70,238 26%
The Bank had $36 million in certificates of deposit larger than $100 thousand dollars at December 31, 1994. The maturity distribution of these deposits is relatively short term, with $27 million maturing within 3 months and the balance maturing within 12 months. Liquidity and Interest Rate Sensitivity The objective of liquidity management is to ensure the Bank's ability to meet cash requirements. The liquidity position is managed giving consideration to both on and off-balance sheet sources and demands for funds. Sources of liquidity include cash and cash equivalents (net of Federal Reserve requirements to maintain reserves against deposit liabilities), securities eligible for pledging to secure borrowings from dealers pursuant to repurchase agreements, loan repayments, deposits, and borrowings from a $20 million overnight federal funds line available from a correspondent bank. Potential significant liquidity requirements are withdrawals from noninterest bearing demand deposits and funding under commitments to loan customers. During 1993, the Bank maintained a $20 million line of credit with a major purchaser of the mortgage loans originated by the mortgage origination operation. This warehouse line was terminated in conjunction with the sale of that operation. From time to time the Bank may experience liquidity shortfalls ranging from one to several days. In these instances, the Bank will either purchase federal funds, and/or sell securities under repurchase agreements. These actions are intended 27 to bridge mismatches between funding sources and requirements, and are designed to maintain the minimum required balances. The Bank had no Federal Funds purchased or borrowings under repurchase agreements during 1994. The Bank's historical portfolio of large certificates of deposit (those of $100 thousand or more) at December 31, 1994 was 14% of total deposits, compared to 8.1% at December 31, 1993. The funding source has traditionally been used to manage liquidity needs. During 1994, loan growth for the bank outpaced growth of deposits from the banks commercial customers. The Bank funded this growth, combined with the Bank's reduced concentration in title and escrow deposits, in part with certificates of deposit from customers from outside the Bank's normal service area. These out of area deposits are generally certificates of deposit of $90,000 or greater, that are priced competitively with similar certificates from other financial institutions throughout the country. At December 31, 1994, the Bank had approximately $55 million of these out of area deposits. 28
Table 6 Interest Rate Maturities of Earning Assets and Funding Liabilities at December 31, 1994 Amounts in thousands of dollars Amounts Maturing or Repricing in More Than More Than More Than 3 Months But 6 Months But 9 Months But Less Than Less Than Less Than Less than 12 Months Amounts in thousands of dollars 3 Months 6 Months 9 12 Months & Over Months Earning Assets Gross Loans (1) $162,531 $ 1,172 $ 1,271 $ 121 $9,506 Investments 6,000 3,001 4,975 4,983 55,194 Federal funds sold & other 20,000 ------ ------- ------ ------ Total earning assets 188,531 4,173 6,246 5,104 64,700 Interest bearing deposits: Demand 54,694 0 0 0 0 Savings 13,202 0 0 0 0 Time certificates of deposit: Under $100 30,731 8,879 1,530 6,600 96 $100 or more 26,859 5,616 1,335 2,500 105 Non interest bearing demand deposits 34,560 ------ ------ ------ ------- Total interest bearing liabilities 160,046 14,495 2,865 9,100 201 Interest rate sensitivity gap 28,485 (10,322) 3,381 (3,996) 64,499 Cumulative interest rate sensitivity gap 28,485 18,163 21,544 17,548 82,047 Off balance sheet financial instruments 0 0 0 0 0 Net cumulative gap $28,485 $18,163 $21,544 $17,548 $82,047 Adjusted cumulative ratio of rate sensitive assets to rate sensitive liabilities 1.18% 1.11% 1.12% 1.09% 1.40%
(1) Ratios greater than 1.0 indicate a net asset sensitive position. Ratios less than 1.0 indicate a liability sensitive position. A ratio of 1.0 indicates risk neutral position. 29 Assets and liabilities shown on Table 6 are categorized based on contractual maturity dates. Maturities for those accounts without contractual maturities are estimated based on the Bank's experience with these customers. Noninterest bearing deposits of title and escrow companies, having no contractual maturity dates, are considered subject to more volatility than similar deposits from commercial customers. The net cumulative gap position shown in the table above indicates that the Bank does not have a significant exposure to interest rate fluctuations during the next twelve months. Capital Total shareholders' equity was $30 million at December 31, 1994, compared to $27 million at year-end 1993. The increase was due to earnings, plus the exercise of stock options. The Bank is guided by statutory capital requirements, which are measured with three ratios, two of which are sensitive to the risk inherent in various assets and which consider off- balance sheet activities in assessing capital adequacy. During 1994 and 1993. the Bank's capital levels exceeded the "well-capitalized" standards, the highest classification established by bank regulators.
Table 7 Capital Ratios Regulatory Standards Dec 31 Dec 31 Well - 1994 1993 Capitalized Minimum Total Risk Based Capital 15.40% 16.7% 10.00% 8.00% Tier 1 Risk Based Capital 14.12 15.4 6.00 4.00 Leveraged Capital 10.44 9.2 5.00 3.00
No dividends have been paid in 1994 or 1993. In February, 1995, the Bank declared a dividend of $.02 per share for the fourth quarter of 1994, payable March 13, 1995 to shareholders of record February 20, 1995. The common stock of the Bank is listed and traded on the National Association of Securities Dealers Automated System (NASDAQ) National Market Systems where it trades under the symbol CUBN.
Table 8 Stock Prices - Unaudited 1994 1993 High Low High Low First Quarter $7.50 $6.50 $6.25 $3.38 Second Quarter 7.00 5.75 7.00 4.75 Third Quarter 7.50 6.00 6.25 5.00 Fourth Quarter 8.00 6.75 7.25 5.75
Earnings by Line of Business Prior to the sale of the mortgage origination network in November, 1993, the Bank operated a commercial bank and a mortgage bank as two distinct business segments. In 1994, real estate lending is generally only done as part of a commercial banking relationship. For 1994, therefore, the Bank consists of only a single segment, the commercial banking operation. Tables 9 shows the pre-tax operating contributions.
30 Table 9 Pre-tax operating contribution by line of business (i) Amounts in thousands of dollars 1993 1992 1994 Commercial Mortgage Consolidated Consolid- Banking Banking Consolid- Commercial Mortgage ated ated Banking Banking Net interest income $13,881 $14,431 $13,844 $587 $20,625 $18,888 $1,737 Provisions for loan losses 0 450 200 250 17,090 15,843 1,247 Risk adjusted net interest income 13,881 13,981 13,644 337 3,535 3,045 490 Noninterest revenue 2,836 24,940 1,032 23,908 21,499 1,865 19,634 Total revenues 16,717 38,921 14,676 24,245 25,034 4,910 20,124 Salaries and related benefits 6,335 11,020 6,151 4,869 12,647 7,998 4,649 Other operating expenses 7,800 25,416 7,738 17,678 24,846 12,910 11,936 Total operating expenses 14,135 36,436 13,889 22,547 37,493 20,908 16,585 Operating Income 2,582 2,485 787 1,698 (12,459) (15,998) 3,539 Gain on sale of mortgage origination operation 1,483 Gain on sale of mortgage servicing portfolio 2,572 Restructuring charge (600) Reserve for branch relocation (447) Income before taxes $4,554 $3,521 $787 $1,698 $(12,459) $(15,998) $3,539
(i) Inter-divisional transactions for 1993 have been eliminated at the division level. The Bank is committed to the expansion of its market penetration of the commercial bank including the creation of loan production offices, establishment of a Small Business Administration ("SBA") loan production group, and development of an international trade services group. Branches have been established in three strategic locations in Southern California. In January 1994, two branches were established to serve the San Gabriel Valley area and the South Bay area. The offices are staffed with seasoned commercial lenders whose primary focus is business development. Such offices are cost effective approaches to business development and allow the Bank access to wider market exposure. While these offices are primarily staffed with existing personnel, when appropriate, key people with specific market knowledge and experience have been hired. In October 1994, the Bank opened a loan production office in Camarillo, California as its regional center for Ventura County. The Camarillo office is expected to be converted to a Branch in the coming year. The Bank established, in the fourth quarter of 1993, a group of lenders to focus on the production of commercial loans that can be participated with the SBA. These loans are subject to the same credit quality policies and procedures as all commercial loan production. Fees generated from the sale of the guaranteed portion of the loans will be an important new source of noninterest income. Another new product was added late in 1993, with the creation of an international trade services group. Many of the Bank's existing commercial customers and prospects are involved in import and/or export. This product line includes letters of credit, foreign exchange, and foreign collections, and is another important element in the total banking relationship offered to our business customers. Net Interest Income and Interest Rate Risk Net interest income is the difference between interest and fees earned on earning assets and interest paid on funding liabilities. Net interest income for 1994 was $13.9 million, compared to $14.4 million in 1993 and $20.6 million in 1992. The change is primarily attributable to lower levels of average loans and deposits in 1994 being offset by favorable rate variations. The change in 1993 compared with 1992 was primarily attributable to changes in volume. As a result of efforts to deal with credit quality issues and refocus the Bank on middle market business customers, loans outside target markets have been motivated to leave the Bank. Initially this has an adverse affect on net interest margin but subsequent growth of the middle market loan portfolio replaces these assets and provides a more reliable and valuable source of interest margin. 31
Table 10 Analysis of Changes in Net Interest Income (1) (Amounts in thousands of dollars) Amounts in thousands of dollars Increases(Decreases) Year ended December 31, Year ended December 31, 1994 compared to 1993 1993 compared to 1992 Increases(Decreases) Volume Rate Total Volume Rate Total Interest Income Loans, net $(4,466) $2,016 $(2,450) $(3,871) $(1,210) $(5,081) Investments 1,149 175 1,324 (1,623) (549) (2,172) Federal Funds Sold 213 252 465 (326) (118) (444) Total interest income (3,104) 2,443 (661) (5,820) (1,877) (7,697) Interest Expense Interest bearing deposits: Demand 182 (114) 68 (196) (492) (688) Savings (80) 97 17 (138) (99) (237) Time Certificates of deposit: Under $100 (179) 195 16 522 (50) 472 $100 or more (177) 166 (11) (478) (193) (671) Federal funds purchased / Repos (40) (40) (80) (40) (23) (63) Other borrowings (135) 19 (116) (123) (193) (316) Total interest expense (429) 323 (106) (453) (1,050) (1,503) Net interest income $(2,675) $2,120 $ (555) $(5,367) $ (827) $(6,194)
(1) The change in interest income or interest expense that is attributable to both change in average balance and average rate has been allocated to the changes due to (i) average balance and (ii) average rate in proportion to the relationship of the absolute amounts of the changes in each. Yields on earning assets were approximately 7.8% in 1994, compared to a 7.6% yield for 1993 and 7.8% 1992. The higher average yield on earning assets in 1994 is largely due to the higher yields on loans as the prime rate began to rise in 1994. Through October 8, 1993, net interest income continued to benefit from an interest rate swap agreement, discussed below. Rates on interest bearing deposits resulted in an average cost of funds of 3.0 % in 1994, compared to 2.9% for 1993 and 3.4% for 1992. Shrinkage in the Bank's earning asset and funding liability portfolios contributed to the reduction in net interest income. Average loans during 1994 decreased $ 47 million from $189 million in 1993. Average loans in 1992 were $ 233 million. These decreases resulted from the sale of the held for sale mortgage loans, discussed below, and management's efforts to improve the quality of the loan portfolio and redirect production to middle market commercial loans. Earning assets averaged $231.9 million in 1994, down from $ 246.5 million in 1993, and $339 million in 1992. 32
Table 11 Average Balance Sheets and Analysis of Net Interest Income Amounts in thousands of dollars 1994 1993 1992 Interest Interest Interest Yield or Balance Income or Yield or Income or Yield or Income or Rate Expense Rate Balance Expense Rate Balance Expense Interest Earning Assets Loans, Net (1 $141,878 $14,036 9.89% $188,967 $16,487 8.72% $233,203 $ 21,568 9.25 % Investments (2) 66,891 2,947 4.41 37,534 1,558 4.15 76,161 3,667 4.81 Certificates of Deposit in other banks 1,010 58 5.74 4,102 123 3.00 3,135 186 5.93 Federal Funds Sold 22,100 918 4.15 15,927 454 2.85 26,862 898 3.34 Total Earning Asset 231,879 17,959 7.74 246,530 18,622 7.55 339,361 26,319 7.76 Non Earning Assets Cash & Due From Banks 29,559 41,243 74,999 Other Assets 7,351 15,645 18,613 Total Assets $268,789 $303,418 $432,973 Interest Bearing Liabilities Demand $ 71,821 1,730 2.41 $64,179 1,594 2.48 $ 70,702 2,282 3.23 Savings 9,893 255 2.58 12,741 315 2.47 17,787 552 3.10 Time Certificates of Deposits Less Than $100 22,144 997 4.50 26,577 979 3.68 12,529 507 4.05 More Than $100 19,713 773 3.92 24,737 784 3.17 39,085 1,455 3.72 Federal Funds Purchased / Repos 0 0 0 2,712 79 2.91 4,011 142 3.54 Total Interest Bearing Liabilities 123,571 3,755 3.04 130,946 3,751 2.86 144,114 4,938 3.43 Non Interest Bearing Deposits 109,004 0 0 137,485 0 0 244,543 0 0 Total Deposits 232,575 3,755 1.61 268,431 3,751 1.40 388,657 4,938 1.27 Other Borrowings 4,909 323 6.58 6,964 440 6.32 8,644 756 8.75 Total Funding Liabilities 237,484 4,078 1.72 275,395 4,191 1.52 397,301 5,694 1.43 Other Liabilities 3,264 2,175 4,328 Shareholders' Equity 28,006 25,848 31,344 Total Liabilities and Shareholders' Equity $268,754 $303,418 $432,973 Net Interest Income $13,881 5.99% 14,431 5.85 % $ 20,625 6.08 % Shareholders' Equity to Total Assets 10.42% 8.52 % 7.24 %
(1) Non- accrual loans are included in average loan balances, and loan fees earned have been included in interest income on loans. (2) Tax exempt securities do not materially affect reported yields. Expressing net interest income as a percent of average earning assets is referred to as margin. Margin was 5.99% for 1994 compared to 5.85% for 1993 and 6.08% for 1992. The Bank's margin is strong because it has funded itself with a significant amount of noninterest bearing deposits. The higher margin in 1994 is largely due to the benefits of rising interest rates, largely offset by the maturing of the interest rate swap discussed below. Through October 8, 1993, the Bank continued to benefit from an interest rate swap agreement entered into October 8, 1991, which had a notional value of $100 million. Under this arrangement, the Bank received a fixed rate of 8.18% and paid interest at prime rate, which was 6.0% during 1993. The income earned from the interest rate swap agreement was $0 in 1994, compared to $1.7 million in 1993 and $1.9 million in 1992. 33 Other Operating Income The majority of other operating income was earned as the Mortgage Banking Operation originated and sold mortgage loans. The trends and composition of other operating income are shown in the following table.
Table 12 Other operating income Amounts in thousands of dollars 1992 1994 1993 Commercial Mortgage Commercial Mortgage Consolidate Banking Banking Consolidated Consolidated Banking Banking Processing fees $1,143 $1,143 $1,137 $1,137 Capitalization of excess servicing rights 207 207 821 821 Fees on loans sold $15 1,182 1,182 3,336 3,336 Premium on sales of mortgage loans (8) 18,022 18,022 11,346 11,346 Service income 980 2,129 2,129 1,812 1,812 Documentation fees 99 104 826 930 $111 914 1,025 Other service fees and charges 1,165 851 399 1,250 904 363 1,267 Gain on sale of mortgage origination operation 1,483 Gain on sale of mortgage servicing 2,572 Gain on Sale of Reo 585 Securities&other nonoperating gains 755 755 Total $ 5.408 $ 1,032 $ 25,391 $ 26,423 $ 1,770 $ 19,729 $ 21,499
34 The Mortgage Banking Operation earned fee income on loans originated and gains as loans were sold to permanent investors. Loans for which servicing was retained were conventional mortgages under approximately $200 thousand which were sold to the Federal National Mortgage Association, the Federal Home Loan Mortgage Corporation, and other institutional investors. Excess servicing rights were capitalized, and related gains recognized, based on the present value of the servicing cash flows discounted over a period of seven years. When loan prepayments occurred within this period, the remaining capitalized cost associated with the loan was written off. The servicing rights were retained by the bank following sale of the mortgage origination operation. The Bank entered into an agreement with the Federal National Mortgage Association and the Federal Home Loan Mortgage Corporation to dispose of any remaining portion of this portfolio by the end of 1994 because, with the sale of the mortgage origination operation, the Bank is no longer a qualified seller/servicer of such loans. During 1994, the bank sold the retained servicing rights realizing a gain of $2,572 . Operating Expense The Bank restructured its branch operations functions in 1994, re- engineering its entire work flow and information handling activities. This resulted in a one time charge of $600 thousand for severance pay and other expenses associated with the changes to the operating policies and procedures. Operating expense for the commercial bank excluding this charge was $14.1 million in 1994, compared to $13.9 million in 1993 and $20.9 million in 1992. Operating expenses for the consolidated Bank have declined in 1994, primarily due to the sale of the mortgage origination operation at the end of 1993. Expenses for the Mortgage Banking Division increased by $6.0 million to $22.5 million in 1993, compared to $16.6 million in 1992. Selling expense was $12.2 million in 1993, up from $8.1 million in 1992. These expenses are affected by interest rate fluctuations. Premium on sales of mortgage loans included in other operating income is directly related to these expenses and subject to the same factors and conditions. The premium on sales of mortgage loans was $18.0 million in 1993, up from $11.3 million in 1992. Provision for Loan Losses The Bank made no provision for loan losses in 1994 compared with compared to $450 thousand during 1993 and over $17 million in 1992. No loan loss provision was deemed necessary for 1994 due to the declining levels of nonperforming assets, net recoveries received for the year, and the strong reserve position. The reduction in provision in 1993 was made possible by the significant reduction of nonperforming assets during 1993. The relationship between the level and trend of the allowance for loan losses and nonperforming assets, combined with the results of the ongoing review of credit quality, determine the level of provisions. Legal and Regulatory Matters In June 1992, the Bank entered into an agreement with the Office of the Comptroller of the Currency, the Bank's primary federal regulator, which required the implementation of certain policies and procedures for the operation of the bank to improve lending operations and management of the loan portfolio. In November 1993, after completion of its annual examination, the OCC released the Bank from the Formal Agreement. Following this, the Federal Reserve Bank of San Francisco ("Fed") notified the Company on November 29, 1993, that the Memorandum of Understanding, which it has signed, was terminated because the requirements of the agreement were satisfied. 35 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA Page 1. Report of Independent Public Accountants dated January 17, 1995; 37 2. Consolidated Statements of Financial Condition as of December 31, 1994 and 1993; 38 3. Consolidated Statements of Income for the Years Ended December 31, 1994, 1993 and 1992; 39 4. Consolidated Statements of Changes in Shareholders' Equity for the Years Ended December 31, 1994, 1993, and 1992; 40 5. Consolidated Statements of Cash Flows for the Years Ended December 31, 1994, 1993 and 1992; 41 6. Notes to Consolidated Financial Statements-- December 31, 1994. 42 36 : REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS To the Shareholders and the Board of Directors of CU Bancorp and Subsidiary: We have audited the accompanying consolidated statements of financial conditions of CU Bancorp and Subsidiary (the Company) as of December 31, 1994 and 1993, and the related consolidated statements of income, changes in shareholders' equity and cash flows for each of the three years in the period ended December 31, 1994. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of CU Bancorp and Subsidiary as of December 31, 1994 and 1993, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 1994, in conformity with generally accepted accounting principles. Arthur Andersen LLP Los Angeles, California January 17, 1995 37
Consolidated Statements of Financial Condition CU Bancorp and Subsidiary December 31, Amounts in thousands of dollars, except share data 1994 1993 Assets Cash and due from banks $35,397 $18,440 Federal funds sold 20,000 28,000 Total cash and cash equivalents 55,397 46,440 Time deposits with other financial institutions 0 1,377 Investment securities (Market value of $71,423 and $87,889 in 1994 and 1993, respectively) 74,153 88,034 Loans, (Net of allowance for loan losses of $7,427 and $6,513 at December 31, 1994 and 1993, respectively) 167,175 134,148 Premises and equipment, net 996 924 Other real estate owned, net 0 920 Accrued interest receivable and other assets 6,433 7,363 Total Assets $304,154 $279,206 Liabilities and Shareholders' equity Deposits: Demand deposits $112,034 $125,665 Savings deposits 67,896 66,214 Time deposits under $100 47,836 27,753 Time deposits of $100 or more 36,415 19,296 Total deposits 264,181 238,928 Accrued interest payable and other liabilities 10,229 13,288 Total liabilities 274,410 252,216 Commitments and contingencies Shareholders' equity: Preferred stock, no par value: Authorized -- 10,000,000 shares No shares issued or outstanding in 1994 or 1993 --- --- Common stock, no par value: Authorized - 20,000,000 shares Issued and outstanding - 4,467,318 in 1994, and 4,424,306 in 1993 26,430 26,250 Retained earnings 3,314 740 Total Shareholders' equity 29,744 26,990 $304,154 $279,206 The accompanying notes are an integral part of these consolidated statements.
38
Consolidated Statements of Income CU Bancorp and Subsidiary For the Year Ended Amounts in thousands of dollars, except per share data December 31, 1994 1993 1992 Revenue from earning assets: Interest and fees on loans $14,036 $14,761 $19,641 Benefits of interest rate hedge transactions 0 1,726 1,927 Interest on taxable investment securities 2,947 1,525 3,624 Interest on tax exempt securities 19 33 43 Interest on time deposits with other financial institutions 39 123 186 Interest on federal funds sold 918 454 898 Total revenue from earning assets 17,959 18,622 26,319 Cost of funds: Interest on savings deposits 1,985 1,909 2,834 Interest on time deposits under $100 997 979 507 Interest on time deposits of $100 or more 773 784 1,455 Interest on federal funds purchased & securities sold under agreements to repurchase 0 79 142 Interest on other borrowings 323 440 756 Total cost of funds 4,078 4,191 5,694 Net revenue from earning assets before provision for loan losses 13,881 14,431 20,625 Provision for loan losses 0 450 17,090 Net revenue from earning assets 13,881 13,981 3,535 Other operating revenue: Capitalization of excess servicing rights 0 207 821 Servicing income - mortgage loans sold 980 2,129 1,812 Service charges and other fees 1,121 955 1,015 Fees on loans sold 15 1,182 3,336 Premium on sales of mortgage loans (8) 18,022 11,346 Other fees and charges - mortgage 143 2,368 2,414 Gain on sale of mortgage servicing portfolio 2,572 0 0 Gain on sale of mortgage origination operation 0 1483 0 Gain on sale of other real estate owned 585 Gain on sale of investment securities (before taxes of $11 and $250, 0 28 617 in 1993 and 1992) Gain on sale of securities held for sale (before taxes of $20 and 0 49 138 $56 in 1993 and 1992, respectively) Total other operating revenue 5,408 26,423 21,499 Other operating expenses: Salaries and related benefits 6,335 11,020 12,647 Selling expenses - mortgage loans 333 12,193 8,088 Restructuring Charge 600 Other operating expenses 7,467 13,670 16,758 Total operating expenses 14,735 36,883 37,493 Income (loss) before provision for (benefit from) income taxes 4,554 3,521 (12,459) Provision for (benefit from) income taxes 1,980 1,423 (4,269) Net income (loss) $2,574 $2,098 $(8,190) Earnings (loss)per share $0.56 $ 0.47 $(1.90)
The accompanying notes are an integral part of these consolidated financial statements. 39
Consolidated Statements of Changes in Shareholders' Equity CU Bancorp and Subsidiary Common Stock Amounts in thousands of dollars Retained except share data Number of Amount Earnings Total Shares Balance at December 31, 1991 4,283,531 25,766 6,832 32,598 Exercise of stock options 83,319 224 ---- 224 Net loss for the year --- ---- (8,190) (8,190) Balance at December 31, 1992 4,366,850 $25,990 $(1,358) $24,632 Exercise of stock options 57,456 260 ---- 260 Net income for the year --- ---- 2,098 2,098 Balance at December 31, 1993 4,424,306 $26,250 $740 $26,990 Exercise of stock options 1,000 5 0 5 Exercise of director warrants 42,012 175 0 175 Net Income for the year - --- 2,574 2,574 Balance at December 31, 1994 $4,467,318 $26,430 $3,314 $29,744
The accompanying notes are an integral part of these consolidated statements 40
Consolidated Statement of Cash Flows CU Bancorp and Subsidiary Amounts in thousands of dollars For the years ended December 31, Increase(decrease) in cash and cash equivalents 1994 1993 1992 Cash flows from operating activities Net income/(loss) $2,574 $2,098 $(8,190) Adjustments to reconcile net income/(loss)to net cash provided by operating activities: Provision for depreciation and amortization 459 821 772 Amortization of real estate mortgage servicing rights 15 983 1,504 Provision for losses on loans and other real estate owned 0 450 17,090 Benefit of deferred taxes (1,180) 1,510 (2,854) Gain on sale of investment securities, net 0 (77) (755) Increase/(decrease) in other assets 3,781 2,628 2,452 Increase/(decrease) in other liabilities (3,035) 2,582 (160) (Increase)/decrease in accrued interest receivable (766) 494 742 Increase/(decrease) in deferred loan fees 160 48 (12) Capitalization of excess mortgage servicing rights 0 (207) (821) Increase/(decrease) in accrued interest payable (24) (11) (161) Net amortization of (discount)/premium on investment securities 972 48 34 Accrued benefits from interest rate hedge transactions 0 485 (343) Total adjustments 382 9,754 17,488 Net cash provided by operating activities 2,956 11,852 9,298 Cash flows from investing activities Proceeds from investment securities sold or matured 52,882 78,545 93,986 Purchase of investment securities (39,973) (81,826) (118,740) Net decrease in time deposits with other financial institutions 1,377 1,979 2,143 Net (increase)/decrease in loans (33,187) 58,997 67,886 Purchases of premises and equipment, net (531) 290 (919) Net cash provided by investing activities (19,432) 57,985 44,356 Cash flows from financing activities Net increase/(decrease) in demand and savings deposits (11,949) (81,848) (141,077) Net increase/(decrease) in time certificates of deposit 37,202 2,202 (13,473) Proceeds from exercise of stock options and director warrants 180 260 224 Cancellation of warrants previously issued --- -- -- Cash dividend paid --- -- -- Net cash provided (used) by financing activities 25,433 (79,386) (154,326) Net increase (decrease) in cash and cash equivalents 8,957 (9,549) (100,672) Cash and cash equivalents at beginning of year 46,440 55,989 156,661 Cash and cash equivalents at end of year $55,397 $46,440 $55,989 Supplemental disclosure of cash flow information Cash paid during the year: Interest $4,102 $4,179 $5,525 Taxes 2,201 -- 836 Supplemental disclosure of noncash investing activities: Loans transferred to OREO 700 1,503 2,577
The accompanying notes are an integral part of these consolidated statements 41 Notes to Consolidated Financial Statements CU Bancorp and Subsidiary December 31, 1994 (Amounts in thousands unless otherwise specified) 1. Summary of significant accounting policies - CU Bancorp, a bank holding company (the Company), is a California corporation. The accounting and reporting policies of the Company and its subsidiary conform with generally accepted accounting principles and general practice within the banking industry. The following comments describe the more significant of those policies. (a) Principles of consolidation - The accompanying consolidated financial statements include the accounts of the Company and its wholly-owned subsidiary, California United Bank N.A. (the Bank). All significant transactions and accounts between the Company and the Bank have been eliminated in the consolidated financial statements. (b) Investment portfolio - The Bank's investment portfolio is separated into two groups, Investment Securities and Securities Available For Sale. Securities are segregated in accordance with management's intention regarding their retention. Accounting for each group of securities follows the requirements of SFAS 115 "Accounting for Certain Investments in Debt and Equity Securities". The adoption of SFAS 15 in 1993 had no material impact on the financial position or results of operations of the Bank. The Bank has the intent and ability to hold Investment Securities until maturity. Securities in this classification are carried at cost, adjusted for amortization of premiums and accretion of discounts on a straight-line basis. This approach approximates the effective interest method. Gains and losses recognized on the sale of Investment Securities are based upon the adjusted cost and determined using the specific identification method. Securities Available For Sale are those where management has the willingness to sell under certain conditions. This category of securities is carried at current market value with unrealized gains or losses recognized as a tax affected adjustment to capital in the statements of financial condition and in the statements of shareholders' equity. (c) Loans -- Loans are carried at face amount, less payments collected, allowance for loan losses, and unamortized deferred fees. Interest on loans is accrued monthly on a simple interest basis. The general policy of the Bank is to discontinue the accrual of interest and transfer loans to non-accrual (cash basis) status where reasonable doubt exists with respect to the timely collectibility of such interest. Payments on non-accrual loans are accounted for using a cost recovery method. No interest income on non- accural loans. Loan origination fees and commitment fees, offset by certain direct loan origination costs, are deferred and recognized over the contractual life of the loan as a yield adjustment. The allowance for loan losses is maintained at a level considered adequate to provide for losses that can reasonably be anticipated. Management considers current economic conditions, historical loan loss experience, and other factors in determining the adequacy of the allowance. The allowance is based on estimates and ultimate losses may differ from current estimates. These estimates are reviewed periodically and as adjustments become necessary, they are charged to earnings in the period in which they become known. The allowance is increased by provisions charged to operating expenses, increased for recoveries of loans previously charged-off, and reduced by charge-offs. In May 1993, the Financial Accounting Standards Board (FASB) issued Statement of Financial Accounting Standards (SFAS) No. 114, "Accounting by Creditors for Impairment of a Loan." SFAS 114 addresses the accounting by creditors for impairment of certain loans, as well as troubled debt restructurings. It is applicable to all homogeneous loans that are 42 collectively evaluated for impairment, and may impact how the Bank is currently reporting the loans and the loan loss reserves. This statement is effective for financial statements issued for fiscal years beginning after December 15, 1994. Management plans to adopt SFAS 114 in the first quarter of 1995. Management does not expect that adoption of this statement will have a material impact on the financial position or results of operations of the Bank. (d) Mortgage Banking Division -- The bank's real estate Mortgage Banking Division became operational in 1988. The mortgage origination operation was sold November 10, 1993. The Bank carried the first trust deed loans generated and held for sale by this Operation at the lower of aggregate cost or market. As of December 31, 1993, cost approximated market value. All loan inventory held for sale by this division had been sold prior to the end of 1994. During 1993, and 1992, the Bank capitalized $207, and $821, respectively, in connection with the right to service real estate mortgage loans originated in that Operation. This excess servicing asset, included in other assets, was initially capitalized at its discounted present value and amortized over a period of five to seven years. When prepayments of loans serviced occur, any remaining servicing asset associated with the loan was charged to operations in the year of occurrence. Amortization for 1994, 1993, and 1992, was $15 , $983, and $1,504 respectively. (e) Premises and equipment -- Premises and equipment are carried at cost, less accumulated depreciation and amortization. Depreciation is computed on the straight-line method over the estimated useful life of the asset. Amortization is computed on the straight-line method over the useful life of leasehold improvements or the remaining term of the lease, whichever is shorter. (f) Other real estate owned -- Other real estate owned, acquired through direct foreclosure or deed in lieu of foreclosure, is recorded at the lower of the loan balance or estimated fair market value. When a property is acquired, any excess of the loan balance over the estimated fair market value is charged to the allowance for loan losses. Subsequently, the assets are recorded at the lower of the new cost basis at foreclosure or fair market value less estimated selling expenses. Subsequent write-downs, if any, are included in other operating expenses in the period in which they become known. Gains or losses on sales are recorded in conformity with standards which apply to accounting for sales of real estate. Other real estate owned, net of reserves, amounted to $0 at December 31, 1994, and $920 at December 31, 1993. In substance foreclosures ("ISF") are included in the loan category and are carried at the lower of cost or estimated net realizable value. When a property is classified ISF, any excess of the loan balance over market or the estimated net realizable value is charged to the allowance for loan losses. Expenses related to these assets are included in other operating expenses in the period in which they are incurred. In substance foreclosures were $0 at December 31, 1994, and $1.0 million at December 31, 1993. (g) Interest Rate Derivatives -- Amounts receivable or payable under derivative financial instruments used to manage interest rate risks arising from the Bank's financial assets and financial liabilities are recognized as interest income or expense unless the instrument qualifies for hedge accounting. Gains and losses on qualifying hedges of existing assets or liabilities are included in the carrying amounts of those assets or liabilities and are ultimately recognized in income as part of those carrying amounts. Gains and losses on early terminations of derivatives are included in the carrying amount of the related loans or debt and amortized as yield adjustments over the remaining terms of the loans or debt. Fees received in connection with loan commitments are deferred in other liabilities until the loan is advanced and are then recognized over the term of the loan as an adjustment of the yield. Fees on commitments that expire unused are recognized in fees and commission revenue at expiration. Fees received for guarantees are recognized as fee revenue over the term of the guarantees. (h) Income taxes -- As discussed in Note 8, effective January 1, 1993, the Bank adopted the Statement of Financial Accounting Standards No. 109 (SFAS No. 109), "Accounting for Income Taxes." Under SFAS No. 109, deferred tax assets or liabilities are computed based on the difference between the financial statement and income tax basis of assets and liabilities using the enacted marginal tax rate. Deferred income tax expenses or credits are based on the changes in the asset or liability from period to period. Prior to January 1, 1993, the deferred income tax expenses or credits were recorded to reflect 43 the tax consequences of timing differences between the recording of income and expenses for financial reporting purposes and for purposes of filing federal income tax returns at income tax rates in effect when the difference arose. (i) Earnings per share (amounts in whole numbers) -- Earnings per share are computed based on the weighted average number of shares and common stock equivalents outstanding during each year (4,593,103 in 1994, 4,489,861 in 1993, and 4,317,913 in 1992), retroactively restated for stock dividends and stock splits. Common stock equivalents include the number of shares issuable on the exercise of outstanding options and warrants reduced by the number of shares that could have been purchased with the proceeds from the exercise of the options and warrants plus any tax benefits, based on the average price of common stock. (j) Statement of cash flows-- The Company presents its cash flows using the indirect method and reports certain cash receipts and payments arising from customer loans and deposits, and deposits placed with other financial institutions on a net basis. For purposes of reporting cash flows, cash and cash equivalents include cash and due from banks and federal funds sold. Generally, federal funds are sold for one-day periods. (k) Post-retirement benefits-- The Company provides no post-retirement benefits. Accordingly, the accounting prescribed by Statement of Financial Accounting Standards No. 106 "Accounting for Post-Retirement Benefits" has no effect on the Company's consolidated financial statements. (l) Reclassifications -- Certain amounts have been reclassified in the prior years to conform to classifications followed in 1994. 44 2. Average Federal Reserve balances -- The average cash reserve balances required to be maintained at the Federal Reserve Bank were approximately $6.0 million and $8.7 million for the years ended December 31, 1994 and 1993, respectively.
3. Investment portfolio -- A summary of the investment portfolio at December 31, 1994 and 1993, is as follows: Gross Gross Book Unrealized Unrealized Market Value Gains Losses Value 1994 U.S. Treasury securities $67,140 --- $(2,535) $64,605 U.S. Government agency securities 105 --- --- 105 State and municipal bonds 750 9 --- 759 Mortgage-backed securities 5,725 --- (204) 5,521 Federal Reserve Bank stock 433 --- --- 433 Total investment portfolio $74,153 $9 $(2,739) $71,423 1993 U.S. Treasury securities $57,822 $80 $ (259) $57,643 U.S. Government agency securities 29,029 --- --- 29,029 State and municipal bonds 750 34 --- 784 Mortgage-backed securities --- --- --- --- Federal Reserve Bank stock 433 --- --- 433 Total investment portfolio $88,034 $114 $(259) $87,889
Investments with a book value of $29,200 and $27,093 were pledged as of December 31, 1994 and 1993, respectively, to secure court deposits and for other purposes as required or permitted by law. Included in interest on investments in 1994, 1993, and 1992, is $19, $33, and $43, respectively, of interest from tax-exempt securities. Actual maturities may differ from contractual maturities because issuers may have the right to call or prepay obligations with or without call or prepayment penalties. 45
The book and market value of Investment securities as of December 31, 1994, by maturity, are shown below. Book Market Value Yield Value Due in one year or less $ 18,973 4.4% $ 18,752 Due after one through five years 48,272 5.2 45,958 Due after five years 1,183 7.1 1,192 Mortgage-backed securities 5,725 6.9 5,521 $ 74,153 $ 71,423
At December 31, 1994 and 1993, there were no Securities Available For Sale. Proceeds from the sales and maturities of debt securities during 1994, 1993, and 1992 were $ 54,259, $78,545, and $93,986, respectively. Gains of $0, $77, and $755 were realized on those transactions. There were no realized losses on sales in 1994, 1993, and 1992.
4. Loans -- The loan portfolio, net of unamortized deferred fees of $652 at December 31, 1994, and $492 at December 31, 1993, consisted of the following: December 31, 1994 1993 Commercial and industrial loans $169,413 $120,513 Real estate loans -- held for sale 0 10,426 Real estate loans -- mortgages 4,773 8,496 Real estate loans -- construction 416 1,226 Gross Loans 174,602 140,661 Less - Allowance for loan losses (7,427) (6,513) Net loans $167,17 $134,148
Total non-performing loans were $36 and $1,378 at December 31, 1994 and 1993, respectively. This includes in substance foreclosures of $ 0 and $1,000, at December 31, 1994 and 1993, respectively. Interest income, which would have been recognized had non-accrual loans and insubstance foreclosures been current, amounted to $6, $469, and $780, in 1994, 1993, and 1992, respectively. No interest income has been reported on non- accrual loans for the years 1994, 1993, or 1992.
An analysis of the activity in the allowance for loan losses is as follows: 1994 1993 1992 Balance, beginning of period $ 6,513 $ 12,986 $ 12,367 Loans charged off (1,413) (10,749) (17,800) Recoveries on loans previously charged off 2,327 3,826 1,329 Provision for loan losses 0 450 17,090 Balance, end of period $ 7,427 $ 6,513 $ 12,986
46 5. Loans to related parties -- There were no loans to directors and their affiliates for the years ended 1994 and 1993.
6. Premises and equipment -- Book value of premises and equipment is as following. December 31, 1994 1993 Furniture, fixtures and equipment $3,796 $3,382 Leasehold improvements 690 608 Cost 4,486 3,990 Less - accumulated depreciation and amortization 3,490 3,066 Net Book Value $ 996 $ 924
The Bank leases facilities under renewable operating leases. Rental expense for premises included in occupancy expenses were $741 in 1994, $1,133 in 1993, and $1,011 in 1992. As of December 31, 1993, the approximate future lease payable under the lease commitments is as follows:
Year ended December 31, -- 1995 $830 1996 737 1997 720 1998 720 1999 720 2000 180 Thereafter 0 $3,907
47 7. Disclosures about Fair Value of Financial Instruments Financial instruments are defined as cash, evidence of an ownership interest in an entity or a contract that both imposes contractual obligations and rights to exchange cash, and/or other financial instruments on the parties to the transaction. For cash and cash equivalents, investments, floating rate loans and deposits with no contractual maturity date, the carrying value is considered a reasonable estimate of fair value. Where active and liquid markets exist, fair value indications per individual trading unit can be obtained. A modeling tool which calculated discounted cash flows was used to estimate fair value for other financial instruments. The model used discount rates that included current market rates adjusted for approximated credit risk, operating costs and interest rate risk inherent in the instruments. The net book value and fair value of financial instruments as of December 31, 1994, and 1993, were as follows:
December 31, 1994 December 31, 1993 Book Value, Estimated Book Value, Estimated Net Fair Value Net Fair Value Cash & Due From Banks $ 35,397 $35,397 $18,440 $18,440 Federal Funds Sold 20,000 20,000 28,000 28,000 Securities 74,153 71,423 88,034 87,887 Loans 167,175 175,023 134,148 143,402 Deposit Liabilities 264,181 264,181 238,928 238,928 Other Borrowed Money 3,794 3,794 6,698 6,698 Off Balance Sheet Items ---- --- ---- ---- Core Deposit Intangible ---- 22,527 ---- 10,200
Estimations of fair value of financial instruments are subject to significant estimate because active and liquid markets do not exist for a majority of them. The estimates pertain to financial conditions, risk characteristics, expected future losses, and market interest levels, among other factors, and if changed could have a significant impact on them. The resulting presentations of estimated fair value is not necessarily indicative of the value realizable in an actual exchange of financial instruments. 8. Income taxes - The Bank changed its method of accounting for income taxes on January 1, 1993, and adopted Statement of Financial Accounting Standards No. 109 (SFAS No. 109), "Accounting for Income Taxes." SFAS No. 109 requires an asset and liability approach for financial accounting and reporting for income taxes, and changes the criteria for the recognition and measurement of deferred tax assets and liabilities, including net operating loss carryforwards. 48 The effect on the Bank of adopting SFAS No. 109 was the recognition of a deferred tax asset, which was offset by deferred tax liabilities and a valuation allowance, with no resulting change in net assets to the financial position of the Bank. As of December 31, 1994 and 1993, the temporary differences which give rise to a significant portion of deferred tax assets and liabilities are as follows:
December 31, December 31, 1994 1993 Allowance for loan losses $ 3,348 $2,742 Deferred loan fees 294 221 Depreciation 196 83 Other expense accruals 1,631 646 State loss carryforward 0 395 Amortization of mortgage servicing asset 0 0 State tax expense (353) (428) Other (1) 4 Valuation allowance (1,404) (1,132) Net deferred tax asset $ 3,711 $2,531
The provisions (benefits) for income taxes consisted of the following: 1994 1993 1992 Current - Federal $ 2876 $(89) $(1,415) State 284 2 -- 3,160 (87) (1,415) Deferred - Federal (1,404) 1,268 (2,750) State 224 242 (104) (1,180) 1,510 (2,854) $1,980 $1,423 $(4,269)
49 The provisions (benefits) for income taxes varied from the Federal statutory rate of 34% for 1993, 1992, and 1991, for the following reasons:
1992 1994 1993 Amount Rate Amount Rate Amount Rate Provisions (benefit) for income at statutory rate $1,548 34.0% $1,198 34.0 % $(4,236) (34.0)% Interest on state and municipal bonds and other tax exempt transactions (25) (.5%) (25) (.7) % (15) (0.1) % State franchise taxes, net of federal income tax benefit 335 7.3% 256 7.3 % (103) (0.9) % Other, net 122 2.7% (6) (0.2) % 85 (0.7) % $1,980 43.5% $1,423 40.4 % $(4,269) (34.3) %
At December 31, 1993, the Company had a California Franchise Tax carryforward of $1.9 million, with the entire operating loss carryforward being utilized in 1994. 9. Shareholders' Equity - The Company has three employee stock option plans. The plans authorize the issuance of up to 400,075, 350,000, and 180,000 shares of common stock, and expire in 1993, 1995, and 2003, respectively. Options are granted at a price not less than the fair market value of the stock at the date of grant. Options under these plans expire up to ten years after the date of grant. The options granted under the 1983 plan are incentive stock options, as defined in the Internal Revenue Code. The options granted under the 1985 plan can be either incentive stock options or non-qualified options. There is a $100,000 limitation on the value of the stock covered by incentive stock options which may be granted or become exercisable in any calendar year. Any options in excess of this amount must be non-qualified options. In 1987, a special stock option plan was approved that is limited to directors of the Company and provides for the issuance of 120,960 shares of common stock. The plan expires in 1997. Options granted under the plan are non-qualified stock options. Each of the directors of the Company, at the time the special stock option plan was approved, received stock options to purchase 15,120 shares at $5.78 per share, which was in excess of the then prevailing market price. Options expire 10 years after the date of grant. There are no remaining options available for grant under the 1987 special stock plan. In 1994, a non-employee director stock option plan was approved that provides for the issuance of 200,000 shares of common stock. The plan expires in 2004. Options granted under the plan are non-qualified stock options. During 1994, options were granted to purchase 27,500 shares at $6.25 per share, which was equal to the market price at the date of grant. Options expire 10 years from the date of grant. 50
The following information is presented concerning the stock option plans as of December 31, 1994: Shares Range of Number of Subject to Exercise Shares Option Prices Exercisable Plan Expiring May 10, 1993 Non-qualified stock options 49,030 $5.00 19,612 Plan Expiring October 22, 1995 Non-qualified stock options 248,440 $4.75 -$15.21 79,956 Plan Expiring December 17, 2003 Non-qualified stock options 258,000 $6.63 0 Special Stock Option: Non-qualified stock options 45,360 $5.78 45,360 Plan Expiring April 27, 2004 Non-qualified stock options 27,500 6.25 0
During 1994, no incentive stock options under the 1983 plan were exercised and 1,000 non-qualified stock options under the 1985 plan were exercised at $4.75 per share. In 1984, certain members of the Board of Directors were granted warrants to purchase up to 360,067 shares of common stock at $4.17 per share, primarily for guaranteeing a capital note issued by the Company. These warrants became exercisable when the capital note was paid off in 1987, therefore all outstanding warrants are currently exercisable. During 1994 warrants for 57,012 shares were exercised. In 1994, warrants to purchase 7,500 shares of common stock at the fair market value at date of grant of $7.00 per share were issued to the former chairman of the board. The stock options and warrants have been retroactively adjusted to reflect stock splits and stock dividends. 10. Financial instruments with off-balance sheet risk and commitments and contingencies -- The consolidated statements of financial condition do not reflect various commitments relating to financial instruments which are used in the normal course of business. Management does not anticipate that the settlement of these financial instruments will have a material adverse effect on the Bank's financial position. These instruments include commitments to extend credit, standby and commercial letters of credit, and interest rate floor and swap agreements. These financial instruments carry various degrees of credit and market risk. Credit risk is defined as the possibility that a loss may occur from the failure of another party to perform according to the terms of the contract. Market risk is the possibility that future changes in market prices may make a financial instrument less valuable. The Bank primarily grants commercial and real estate loan commitments with variable rates of interest and maturities of one year or less to customers in the greater Los Angeles area. The contractual amounts of commitments to extend credit and standby and commercial letters of credit represent the amount of credit risk. Since many of the commitments and letters of credit are expected to expire without being drawn, the contractual amounts do not necessarily represent future cash requirements. For interest rate floor and swap agreements, the notional amounts do not represent exposure to credit loss. Commitments to extend credit are legally binding loan commitments with set expiration dates. They are intended to be disbursed, subject to certain conditions, upon request of the borrower. The Bank evaluates the creditworthiness of each customer. The amount of collateral obtained, if deemed necessary by the Bank upon the extension of credit, is based upon management's evaluation. Collateral held varies, but may include securities, accounts receivable, inventory, personal property, equipment, and income-producing commercial or residential property. Standby letters of credit are provided to customers to guarantee their performance, generally in the production of goods and services or under contractual commitments in the financial markets. Standby letters of credit generally have terms of up to one year. 51 Commercial letters of credit are issued to customers to facilitate foreign and domestic trade transactions. They represent a substitution of the Bank's credit for the customer's credit. Such letters of credit are generally short term in nature and are collateralized by the merchandise covered by the transaction. At December 31, 1994 and 1993 there were $1.5 million and $.5million outstanding, respectively. These amounts reduce the availability under the applicable customer's loan facility. Interest rate swaps and floors may be created to hedge certain assets and liabilities of the Bank. These transactions involve either an exchange of fixed or floating rate payment obligations on an underlying notional amount. In the case of a rate floor, there is a guaranteed payment of a rate differential on a notional amount, should a specific market rate fall below a specific agreed upon level. Credit risk related to interest rate swaps is limited to the interest receivable from the counterparty less the interest owed that party or, in the case of rate floors, to interest receivable on the differential between the specific rate contracted in the floor agreement and actual rates in effect at various settlement dates. Market risk fluctuates with interest rates. 52
The following is a summary of various financial instruments with off- balance sheet risk at December 31,1994 and 1993: December 31, Amounts in millions of dollars 1994 1993 Standby letters of credit $ 7 $ 3 Undisbursed loans 69 48 Interest rate floor agreements 0 1 Interest rate swap agreements* 0 0 *Notional amounts
In response to continued economic declines and anticipating interest rate declines, the Bank entered into an interest rate swap agreement effective October 8, 1991, for $100 million. Terms of this agreement were that the Bank would receive a fixed rate of 8.18% over two years in exchange for paying the average prime rate. Accrued benefits from this transaction amounted to $1,726 and $1,927 in 1993, and 1992, respectively, and are included in interest income. At December 31, 1992, the market value of this instrument was $ 1.7 million, net of accrued interest. Amounts due the Bank or counterparty were settled quarterly. This agreement expired on October 8, 1993. In the normal course of business, the Company occasionally becomes a party to litigation. See footnote 13. 11. Other operating expenses --
Other operating expenses included the following: 1994 1993 1992 Promotional expenses $264 $393 $494 Data processing for customers 737 920 3,030 Director and advisory fees 107 146 233 Legal fees 455 1,370 1,065 Messenger services 408 583 746 Other data processing fees 301 455 468 Regulatory assessments 568 946 1,011 Expenses for other real estate owned 22 234 2,737 Amortization of mortgage servicing rights 15 983 1,504 Occupancy expense 966 1,333 1,447 Reserve for branch relocation 58 447 ------ Other 3,566 5,860 4,023 Total operating expenses $7,467 $13,670 $16,758
53
12. Condensed financial information of CU Bancorp -- At December 31, 1994 and 1993, the condensed unconsolidated balance sheets of the Company are as follows: December 31, 1994 1993 Balance Sheets Cash $ 426 $ 343 Prepaid expenses 0 0 Investment in California United Bank N.A. 29,507 26,720 Total assets $29,933 $ 27,063 Other liabilities $ 189 $ 73 Shareholders' equity 29,744 26,990 Total liabilities and shareholders' equity $29,933 $ 27,063
For the years ended December 31, 1994, 1993, and 1992, the condensed unconsolidated statements of income of the Company are as follows: December 31, 1994 1993 1992 Statements of Income Equity in earnings/(loss) of the Bank $2,785 $ 2,265 $(7,986) Operating expenses 221 167 204 Interest Income 9 0 0 Net income/(loss) $2,573 $ 2,098 $(8,190)
Under National banking law, the Bank is limited in its ability to declare dividends to the Company to the total of its net income for the year, combined with its retained net income for the preceding two years less any required transfers to surplus. The effect of this law is to preclude the bank from declaring any dividends at December 31, 1994 and 1993 Dividends paid by the Bank during 1991 amounted to $920. No dividends were declared in 1994 or 1993, consistent with the Bank's supervisory agreements. 13. Legal Matters In the normal course of business the Bank occasionally becomes a party to litigation. In the opinion of management, based upon consultation with legal counsel, the Bank believes that pending or threatened litigation involving the Bank will have no adverse material effect upon its financial condition, or results of operations. The Bank is a defendant in multiple lawsuits related to the failure of two real estate investment companies, Property Mortgage Company, Inc., ("PMC") and S.L.G.H., Inc. ("SLGH"). The lawsuits, consist of a federal action by investors in PMC and SLGH (the "Federal Investor Action"), at least three state court actions by groups of Investors (the "State Investor Actions"), and an action filed by the Resolution Agent for the combined and reorganized bankruptcy estate of PMC and SLGH (the "Neilson" Action). An additional action was filed by an individual investor and his related pension and profit sharing plans (the "Individual Investor Action"). 54 Other defendants in these multiple actions and in related actions include financial institutions, title companies, professionals, business entities and individuals, including the principals of PMC and SLGH. The Bank was a depository bank for PMC, SLGH and related companies and was a lender to certain principals of PMC and SLGH ("Individual Loans"). Plaintiffs allege that PMC/SLGH was or purported to be engaged in the business of raising money from investors by the sale and issuance of interests in loans evidenced by promissory notes secured by real property. Plaintiffs allege that false representations were made, and the investment merely constituted a "Ponzi" scheme. Other charges relate to the Bank's conduct with regard to the depository accounts, the lending relationship with the principals and certain collateral taken , pledged by PMC and SLGH in conjunction with the Individual Loans. The lawsuits allege inter alia violations of federal and state securities laws, fraud, negligence, breach of fiduciary duty, and conversion as well as conspiracy and aiding and abetting counts with regard to these violations. The Bank denies the allegations of wrongdoing. Damages in excess of $100 million have been alleged, and compensatory and punitive damages have been sought generally against all defendants, although no specific damages have been prayed for with regard to the Bank, nor has there been any apportioning of liability among defendants or attributable to the various claims asserted. A former officer and director of the Bank has also been named as a defendant. The Bank and the named officer/director have notified the Bank's insurance carriers of the various lawsuits. During 1994, the Court granted the Bank's motion for summary judgment in the Individual Investor Action. An appeal of that Order was filed by the plaintiffs. The plaintiff in the Individual Investor Action will be a member of the settling class and in connection with the settlement discussed below that appeal will be dismissed. The Bank has entered into a settlement agreement with the representatives of the various plaintiffs, which, when consummated, will dismiss all of the above referenced cases, with prejudice, against the Bank, its officers and directors, with the exception of the officer/director previously named. The settlement is subject to the appropriate court approvals which have now been received. In connection with the settlement, the Bank will release its securityinterest in certain disputed collateral and cash proceeds thereof, which the Bank received from PMC, SLGH, or the principals, in connection with the Individual Loans. This collateral has been a subject of dispute in the Neilson Action, with both the Bank and the representatives of PMC/SLGH asserting the right to such collateral. All the Individual Loans have been chargedoff, previously. The Bank will also make a cash payment to the Plaintiffs in connection with the settlement. In connection with the settlement the Bank will assign its rights, if any, under various insurance policies, to the Plaintiffs. The settlement does not resolve the claims asserted against the officer/director. The settlement has been approved by the Federal District Court and the Federal Bankruptcy Court. While one party to these matters filed an appeal to the approval by the courts, they have indicated that they will dismiss such appeal, which would allow the settlement to be effectuated. Based upon advice of counsel, the Bank believes that the possibility of the settlement not being finalized is remote. The Bank is still providing a defense to its former director/officer who retains his rights of indemnity, if any, agiant the Bank arising out of his status as a former employee. At this time, the only viable claims which remain against the former director/employee are claims of negligence in connection with certain depository relationships with PMC/SLGH. While the Bank's Director and Officer Liability Insurer has not acknowledged coverage of any potential judgment or cost of defense, the Insurer is on notice of the action and has participated in various aspects of the case. 14. Regulatory Matters On November 2, 1993, the Office of the Comptroller of the Currency ("OCC"), after completion of their annual examination of the Bank, terminated the Formal Agreement entered into in June, 1992. In December 1993, the Fed terminated the Memo of Understanding entered into in August, 1992. The Formal Agreement had been entered into in June 1992 and required the implementation of certain policies and procedures for the operation of the Bank to improve lending operations and management of the loan portfolio. The Memorandum of Understanding was executed in August 1992. 55 Item 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURES None. 56 PART III Item 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE COMPANY Except as hereinafter noted, the information concerning directors and executive officers of the Company will be filed pursuant to Regulation 14A within 120 days after the end of the last fiscal year. For information concerning the executive officers of the Company, see Item 4 (A) "EXECUTIVE OFFICERS OF THE COMPANY". Item 11. EXECUTIVE COMPENSATION Information concerning executive compensation will be filed pursuant to Regulation 14A within 120 days after the end of the last fiscal year. Item 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT Information concerning security ownership of certain beneficial owners and management will be filed pursuant to Regulation 14A within 120 days after the end of the fiscal year. Item 13. CERTAIN RELATIONSHIPS AND RELATED MATTERS Information concerning certain relationships and related matters will be filed pursuant to Regulation 14A within 120 days after the end of the fiscal year. PART IV Item 14. EXHIBITS, FINANCIAL STATEMENTS, SCHEDULES, AND REPORTS ON FORM 8-K Page 10. Material Contracts Page 10.1 CU Bancorp 1994 Non-Employee Director Stock Option Plan 61 10.2 CU Bancorp 1993 Non Employee Director Stock Agreement 67 10.3 Mortgage Servicing Purchase Agreement 72 21. Subsidiaries of Registrant 81 57 SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. Date: March 28, 1995 C U BANCORP STEPHEN G. CARPENTER By Stephen G. Carpenter President and Chief Executive Officer PATRICK HARTMAN By Patrick Hartman Chief Financial Officer 58 Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the Registrant and in the capacities and on the dates indicated. Signature Title Date KENNETH BERNSTEIN Director March 28, 1995 _________________ Kenneth Bernstein STEPHEN G. CARPENTER Director, March 28, 1995 President/ Chief Executive Stephen G. Carpenter Officer RICHARD CLOSE Director March 28, 1995 Richard H. Close Secretary PAUL W. GLASS Director March 28,1995 Paul W. Glass M. DAVID NATHANSON Director March 28, 1995 M. David Nathanson RONALD S. PARKER Director March 28, 1995 ____________________ Ronald S. Parker DAVID I. RAINER ___________________ Director March 28, 1995 David I. Rainer Supplemental Information to be Furnished with Reports Filed Pursuant to Section 15 (d) of the Act by Registrant Which Have Not Registered Securities Pursuant to Section 12 of the Act. The proxy statement with respect to the annual meeting of the shareholders shall be furnished to shareholder subsequent to the filing of this Form 10-K and shall also be furnished to the Securities and Exchange Commission. 59 EX-10 2 INDEX TO EXHIBITS Page 10. Material Contracts 10.1 CU Bancorp 1994 Non-Employee Director Stock Option Plan 61 10.2 CU Bancorp 1993 Non Employee Director Stock Agreement 67 10.3 Mortgage Servicing Purchase Agreement 72 21. Subsidiaries of the Registrant 81 60 Exhibit 10.1 CU BANCORP 1994 NON-EMPLOYEE DIRECTOR STOCK OPTION PLAN Adopted April 27, 1994 Approved by the Shareholders on July 7, 1994 1. PURPOSE. (a) The purpose of the CU Bancorp 1994 Non-Employee Director Stock Option Plan (the "1994 Non-Employee Director Plan") is to strengthen CU Bancorp (the "Company") by providing to non-employee directors (the "Non-Employee Directors") added independence, incentives for high levels of performance and to encourage stock ownership in the Company. The 1994 Non-Employee Director Plan seeks to accomplish these goals by providing a means whereby the Non-Employee Directors of the Company may be given an opportunity to purchase by way of option common stock of the Company. (b) The Company, by means of the 1994 Non-Employee Director Plan, seeks to secure and retain the services of such Non-Employee Directors of the Company and to provide incentives for such persons to exert maximum efforts for the success of the Company. (c) The Company intends that the options issued under the 1994 Non-Employee Director Plan shall be options which do not qualify as "incentive stock options" as that term is used in Section 422 of the Internal Revenue Code, as amended (the "Code") ("non-qualified options"). 2. ADMINISTRATION. (a) The 1994 Non-Employee Director Plan shall be administered by a committee (the "Committee") designated by the Board of Directors of the Company (the "Board"), which shall be composed of not fewer than two (2) members of the Board. All of the members of the Committee shall be "disinterested persons" as provided in Rule 16b-3(c)(2)(i) promulgated pursuant to the Securities Exchange Act of 1934, as amended (the "1934 Act"). The Committee shall have, in connection with the administration of the 1994 Non-Employee Director Plan, the powers set forth in subparagraph 2(b), subject, however, to such resolutions, not inconsistent with the provisions of the 1994 Non-Employee Director Plan, as may be adopted from time to time by the Board. Any action of the Committee with respect to administration of the 1994 Non-Employee Director Plan shall be taken pursuant to a majority vote or to the unanimous written consent of its members. (b) The Committee shall have the power, subject to, and within the limitations of, the express provisions of the 1994 Non-Employee Director Plan: (i) To construe and interpret the 1994 Non- Employee Director Plan and the options granted under it, to construe and interpret any conditions or restrictions imposed on stock acquired pursuant to the exercise of an option, to define the terms used herein, and to establish, amend and revoke rules and regulations for its administration. The Committee, in the exercise of this power, may correct any defect, omission or inconsistency in the 1994 Non-Employee Director Plan or in any option agreement in a manner and to the extent it shall deem necessary or expedient to make the 1994 Non-Employee Director Plan fully effective. (ii) Generally, to exercise such powers and to perform such acts as it deems necessary or expedient to promote the best interests of the Company. (c) The Committee shall comply with the provisions of Rule 16b-3 promulgated pursuant to the 1934 Act, as in effect from time to time, to the extent applicable to the 1994 Non-Employee Director Plan. (d) The determinations of the Committee on matters referred to in this paragraph 2 shall be final and conclusive. 61 3. SHARES SUBJECT TO THE 1994 NON-EMPLOYEE DIRECTOR PLAN. Subject to the provisions of paragraph 8 relating to adjustments upon changes in stock, the stock that may be offered pursuant to options granted under the 1994 Non-Employee Director Plan shall not exceed the aggregate of 200,000 shares of the Company's common stock. If any option granted under the 1994 Non-Employee Director Plan shall for any reason expire, be cancelled or otherwise terminate without having been exercised in full, the stock not purchased under such option shall again become available for the 1994 Non-Employee Director Plan. 4. ELIGIBILITY AND OPTION PROVISIONS. Options to Non-Employee Directors shall be granted, without any further action on the part of the Committee, and as part of formula awards as defined in Rule 16b-3(c) only upon the following terms and conditions: (a) Each such person who is a director of the Company on the Effective Date (as defined in paragraph 12) shall receive non-qualified options to acquire 5,000 shares of stock of the Company, subject to adjustment as provided in paragraph 8 hereof, on the Effective Date, and such options shall be deemed to have been granted on the Effective Date. The Chairman of the Board on the Effective Date shall receive options to purchase an additional 2,500 shares of the Company's Common Stock. (b) Subject to the availability of shares under the 1994 Non-Employee Director Plan, each such person who is a director of the Company on a date which is in each year of the 1994 Non-Employee Director Plan (commencing in 1995), one day following the Annual Meeting of Shareholders for such year (the "Annual Grant Date"), shall receive non- qualified options to acquire 5,000 shares of stock of the Company, subject to adjustment as provided in paragraph 8 hereof, on such date, and such options shall be deemed to have been granted on such date. However, in the event that the shares available under the 1994 Non-Employee Director Plan are insufficient to make any such grant in full, all grants made under subparagraphs 4(b) or (c) on such date shall be prorated. Only one meeting during any calendar year may be designated as the Annual Meeting of Shareholders, and to the event that more than one meeting is so designated, the earliest during such calendar year shall be considered the Annual Meeting of Shareholders for purposes of the 1994 Non-Employee Director Plan. (c) In addition to the grants described in subparagraph 4(b) and subject to the availability of shares under the 1994 Non-Employee Director Plan, the Chairman of the Board of the Company on the Annual Grant Date shall receive non-qualified options to acquire 2,500 shares of stock of the Company, subject to adjustment as provided in paragraph 8 hereof, on such Annual Grant Date, and such options shall be deemed to have been granted on such anniversary date; provided, however, that in the event the shares available under the 1994 Non-Employee Director Plan are insufficient to make any such grant in full, all grants made under subparagraphs 4(b) or (c) on such date shall be prorated. (d) None of the options will be exercisable until the March 31 next following the date of grant. Each option shall become exercisable in the following four cumulative annual installments: 25% on the first March 31 following the date of grant; an additional 25% on the second March 31 following the date of grant; an additional 25% on the third March 31 following the date of grant; and the last 25% on the fourth March 31 following the date of grant. From time to time during each of such installment periods, the option may be exercised with respect to some or all of the shares allotted to that period, and/or with respect to some or all of the shares allotted to any prior period as to which the option was not fully exercised. During the remainder of the term of the option (if its term extends beyond the end of the installment periods), the option may be exercised from time to time with respect to any shares then remaining subject to the option. The provisions of this subparagraph 4(d) are subject to any option provisions governing the minimum number of shares as to which an option may be exercised. (e) Subject to earlier termination as provided elsewhere in the 1994 Non-Employee Director Plan, each option shall expire ten (10) years from the date the option was granted. 62 (f) The exercise price of each option shall be equal to one hundred percent (100%) of the fair market value of the stock subject to the option on the date the option is granted, which shall be the closing price for the stock of the Company on the date of such grant or if the date of such grant is not a trading day, the first immediately preceding trading day. The closing price for any day shall be the last reported sale price regular way or, in case no such reported sale takes place on such date, the average of the last reported bid and asked prices regular way, in either case on the principal national securities exchange registered under the 1934 Act on which the stock of the Company is admitted to trading or listed, or if not listed or admitted to trading on any national securities exchange, the last sale price of the stock of the Company on the National Association of Securities Dealers National Market System ("NMS") or, if not quoted in the NMS, the average of the closing bid and asked prices of the stock of the Company on the National Association of Securities Dealers Automated Quotation System ("NASDAQ") or any comparable system, or if the stock of the Company is not listed on NASDAQ or any comparable system, the closing bid and asked prices as furnished by any member of the National Association of Securities Dealers, Inc. selected from time to time by the Company for that purpose. (g) The purchase price of stock acquired pursuant to an option shall be paid at the time the option is exercised in cash or check payable to the order of the Company in an amount equal to the option price for the shares being purchased, in whole shares of stock of the Company owned by the optionee having a fair market value on the exercise date (determined by the Committee in accordance with any reasonable evaluation method, including the evaluation method described in Treasury Regulation 20.2031-2) equal to the option price for the shares being purchased, or a combination of stock and cash or check payable to the order of the Company, equal in the aggregate to the option price for the shares being purchased. Payments of stock shall be made by delivery of stock certificates properly endorsed for transfer in negotiable form. If other than the optionee, the person or persons exercising the option shall be required to furnish the Company appropriate documentation that such person or persons have the full legal right and power to exercise the option on behalf of and for the optionee. (h) An option by its terms may only be transferred by will or by the laws of descent and distribution upon the death of the optionee, shall not be transferable during the optionee's lifetime, and shall be exercisable during the lifetime of the person to whom the option is granted only by such person. (i) The Company may require any optionee, or any person to whom an option is transferred under subparagraph 4(h), as a condition of exercising any such option, to give written assurances satisfactory to the Company stating that such person is acquiring the stock subject to the option for such person's own account and not with any present intention of selling or otherwise distributing the stock. The requirement of providing written assurances, and any assurances given pursuant to the requirement, shall be inoperative if (i) the shares to be issued upon the exercise of the option are then registered or qualified under the then applicable federal or state securities laws, or (ii) a determination is made by counsel for the Company that such written assurances are not required in the circumstances under the then applicable federal or state securities laws. (j) If a Non-Employee Director optionee ceases to serve as a director of the Company, then such optionee's option shall terminate twelve (12) months thereafter, and during such twelve (12) month period, such option shall be exercisable only as to those shares with respect to which installments, if any, had accrued as of the date on which the optionee ceased to serve as a director of the Company. If such optionee dies during his term of office as a director or during the twelve month period following such cessation of directorship, then such option may be exercised at any specified time up to one (1) year following the death of the optionee by the person or persons to whom the optionee's rights under such option pass by will or by the laws of descent and distribution, but only to the extent that the optionee was entitled to exercise said option immediately prior to his death. In the event that the Non-Employee Director optionee is removed from the Board of Directors of the Company for cause, the option terminates immediately on the date of such removal. Removal for cause shall include removal of a director who has been declared of unsound mind by an order of court or convicted of a felony. 63 This subparagraph 4(j) shall not be construed to extend the term of any option or to permit anyone to exercise the option after expiration of its term, nor shall it be construed to increase the number of shares as to which any option is exercisable from the amount exercisable on the date of termination of the optionee's service as a director. (k) Options may be exercised by ten (10) days written notice delivered to the Company stating the number of shares with respect to which the option is being exercised together with payment for such shares. Not less than ten (10) shares may be purchased at any one time unless the number purchased is the total number of shares which may be purchased under the option. (l) Any option granted hereunder shall provide as determined by the Committee for appropriate arrangements for the satisfaction by the Company and the optionee of all federal, state, local or other income, excise or employment taxes or tax withholding requirements applicable, if any, to the exercise of the option or the later disposition of the shares of stock thereby acquired. Such arrangements shall include, without limitation, the right of the Company to deduct or withhold in the form of cash or, if permitted by law, shares of stock from any transfer or payment to an optionee or, if permitted by law, to receive transfers of shares of stock or other property from the optionee, in such amount or amounts deemed required or appropriate by the Committee in its discretion. Any shares of stock issued pursuant to the exercise of an option and transferred by the optionee to the Company for purposes of satisfying any withholding obligation shall not again be available for purposes of the Plan. 5. COVENANTS OF THE COMPANY. (a) During the terms of the options granted under the 1994 Non-Employee Director Plan, the Company shall keep available at all times the number of shares of stock required to satisfy such options. (b) The Company shall seek to obtain from each regulatory commission or agency having jurisdiction over the 1994 Non-Employee Director Plan or the Company such authority as may be required to issue and sell shares of stock upon exercise of the options granted under the 1994 Non-Employee Director Plan; provided, however, that this undertaking shall not require the Company to register under the Securities Act of 1933, as amended, either the 1994 Non-Employee Director Plan, any option granted under the 1994 Non-Employee Director Plan or any stock issued or issuable pursuant to any such option or grant. If the Company is unable to obtain from any such regulatory commission or agency the authority which counsel for the Company deems necessary for the lawful issuance and sale of stock under the 1994 Non-Employee Director Plan, the Company shall be relieved from any liability for failure to issue and sell stock upon grant or upon exercise of such options unless and until such authority is obtained. (c) The Company shall indemnify and hold harmless the members of the Committee in any action brought against any member in connection with the administration of the 1994 Non-Employee Director Plan to the maximum extent permitted by then applicable law, except in the case of willful misconduct or gross misfeasance by such member in connection with the 1994 Non-Employee Director Plan and its administration. 6. USE OF PROCEEDS FROM STOCK. Proceeds from the sale of stock pursuant to options granted under the 1994 Non-Employee Director Plan shall constitute general funds of the Company. 7. MISCELLANEOUS. Neither an optionee nor any person to whom an option is transferred under subparagraph 4(h) shall be deemed to be the holder of, or to have any of the rights of a holder with respect to, any shares subject to such option unless and until such person has satisfied all requirements for exercise of the option pursuant to its terms. 64 8. ADJUSTMENTS UPON CHANGES IN STOCK. If the outstanding shares of the stock of the Company are increased, decreased, or changed into, or exchanged for a different number or kind of shares or securities of the Company, without receipt of consideration by the Company, through reorganization, merger, recapitalization, reclassification, stock split, stock dividend, stock consolidation, or otherwise, an appropriate and proportionate adjustment shall be made in the number and kind of shares as to which options may be granted. A corresponding adjustment changing the number or kind of shares and the exercise price per share allocated to unexercised options, or portions thereof, which shall have been granted prior to any such change shall likewise be made. Any such adjustment, however, in an outstanding option shall be made without change in the total price applicable to the unexercised portion of the option but with a corresponding adjustment in the price for each share subject to the option. Adjustments under this section shall be made by the Committee whose determination as to what adjustments shall be made, and the extent thereof, shall be final and conclusive. No fractional shares of stock shall be issued under the 1994 Non-Employee Director Plan on account of any such adjustment. 9. TERMINATING EVENTS. Not less than thirty (30) days prior to the dissolution or liquidation of the Company, or a reorganization, merger, or consolidation of the Company with one or more corporations as a result of which the Company will not be the surviving or resulting corporation, or a sale of substantially all the assets of the Company to another person, or a reverse merger in which the Company is the surviving corporation but the shares of the Company's stock outstanding immediately preceding the merger are converted by virtue of the merger into other property (a "Terminating Event"), the Committee shall notify each optionee of the pendency of the Terminating Event. Upon delivery of said notice, any option granted prior to the Terminating Event shall be, notwithstanding the provisions of paragraph 4 hereof, exercisable in full, and not only as to those shares with respect to which installments, if any, have then accrued, subject, however, to earlier expiration or termination as provided elsewhere in the 1994 Non-Employee Director Plan. Upon the effective date of the Terminating Event, any option or portion thereof not exercised shall termi nate, and upon the effective date of the Terminating Event, the 1994 Non- Employee Director Plan shall terminate, unless provision is made in connection with the Terminating Event for assumption of options theretofore granted, or substitution for such options of new options covering stock of a successor employer corporation, or a parent or subsidiary corporation thereof, solely at the option of such successor corporation or parent or subsidiary corporation, with appropriate adjustments as to number and kind of shares and prices. 10. AMENDMENT OF THE 1994 NON-EMPLOYEE DIRECTOR PLAN. (a) The Committee, at any time, and from time to time, except as otherwise provided in subparagraph 10(c), may amend the 1994 Non- Employee Director Plan. However, except as provided in paragraph 8 relating to adjustments upon changes in stock, no amendment shall be effective unless approved by the affirmative vote of a majority of the shares of the Company present, or represented, and entitled to vote at a duly held meeting at which a quorum is present or by the written consent of the holders of a majority of the outstanding shares of the Company entitled to vote, where the amendment will: (i) Materially increase the number of shares reserved for options under the 1994 Non-Employee Director Plan; (ii) Materially modify the requirements as to eligibility for participation in the 1994 Non-Employee Director Plan; or (iii) Materially increase the benefits accruing to participants under the 1994 Non-Employee Director Plan; provided, however, that approval at a meeting or by written consent need not be obtained or may be obtained by a lesser degree of shareholder approval if the Committee determines, in its discretion after consultation with the Company's legal counsel, that such approval is not required under, or such lesser degree of shareholder approval will comply with, all applicable laws, including Rule 16b-3 promulgated pursuant to the 1934 Act. (b) Rights and obligations under any option granted pursuant to the 1994 Non-Employee Director Plan, while the 1994 Non- Employee Director Plan is in effect, shall not be altered or impaired by suspension or termination of the 1994 Non-Employee Director Plan, except with the consent of the person to whom the stock or option 65 was granted. (c) The provisions of paragraph 4 subdivisions (a)-(f) may not be amended more than once every six (6) months other than to comply with changes in the Code, the Employee Retirement Income Securities Act, or the rules thereunder. 11. TERMINATION OR SUSPENSION OF THE 1994 NON-EMPLOYEE DIRECTOR PLAN. (a) The Committee may suspend or terminate the 1994 Non- Employee Director Plan at any time. Unless sooner terminated, the 1994 Non- Employee Director Plan shall terminate ten years from the Effective Date (as defined in paragraph 12) of the 1994 Non-Employee Director Plan. No options may be granted under the 1994 Non-Employee Director Plan while the 1994 Non-Employee Director Plan is suspended or after it is terminated. (b) Rights and obligations under any option granted pursuant to the 1994 Non-Employee Director Plan, while the 1994 Non- Employee Director Plan is in effect, shall not be altered or impaired by suspension or termination of the 1994 Non-Employee Director Plan, except with the consent of the person to whom the stock or option was granted. 12. EFFECTIVE DATE OF PLAN. The 1994 Non-Employee Director Plan shall become effective on April 27, 1994 (the "Effective Date") but no options granted under the 1994 Non-Employee Director Plan shall be exercised unless and until the 1994 Non- Employee Director Plan has been approved by the affirmative vote of a majority of the outstanding shares of the Company present, or represented, and entitled to vote at a duly held meeting at which a quorum is present or by the written consent of the holders of a majority of the outstanding shares of the Company entitled to vote, and, if required, an appropriate permit has been issued by the appropriate state securities authorities and approval has been obtained from the appropriate federal or state and/or federal regulatory authorities. 66 Exhibit 10.2 NOTWITHSTANDING ANY OTHER PROVISION OF THIS AGREEMENT, NO SHARES OF THE COMPANY'S STOCK SHALL BE ISSUED PURSUANT HERETO UNLESS THE COMPANY'S 1994 NON-EMPLOYEE DIRECTOR STOCK OPTION PLAN SHALL HAVE FIRST BEEN APPROVED BY THE AFFIRMATIVE VOTE OF A MAJORITY OF THE OUTSTANDING SHARES OF THE COMPANY PRESENT, OR REPRESENTED, AND ENTITLED TO VOTE AT A DULY HELD MEETING AT WHICH A QUORUM IS PRESENT OR BY THE WRITTEN CONSENT OF THE HOLDERS OF A MAJORITY OF THE OUTSTANDING SHARES OF THE COMPANY ENTITLED TO VOTE. CU BANCORP NON-QUALIFIED STOCK OPTION (NON-EMPLOYEE DIRECTOR) ________________________, Optionee: CU Bancorp (the "Company"), pursuant to its 1994 Non-Employee Director Stock Option Plan (the "1994 Non-Employee Director Plan"), has this day granted to you, the optionee named above, an option to purchase shares of the common stock of the Company ("Common Stock"). This option is not intended to qualify as an "incentive stock option" within the meaning of Section 422 of the Internal Revenue Code of 1986, as amended (the "Code"). 67 The details of your option are as follows: The total number of shares subject to this option is ___________________ (____). None of the options will be exercisable until the March 31 next following the date of the grant. Each option shall become exercisable in the following four cumulative annual installments: 25% on the first March 31 following the date of the grant; an additional 25% on the second March 31 following the date of the grant; an additional 25% on the third March 31 following the date of the grant; and the last 25% on the fourth March 31 following the date of the grant. From time to time during each of such installment periods, the option may be exercised with respect to some or all of the shares allotted to that period, and/or with respect to some or all of the shares allotted to any prior period as to which the option was not fully exercised. During the remainder of the term of the option (if its term extends beyond the end of the installment periods), the option may be exercised from time to time with respect to any shares then remaining subject to the option. The exercise price of this option is ___________________________ ($____________) per share, which is equal to one hundred percent (100%) of the fair market value of the Common Stock on the date of the grant of this option. The exercise price per share shall be paid upon exercise of all or any part of each installment which has become exercisable by you at the time the option is exercised in cash or check payable to the order of the Company, in whole shares of stock of the Company owned by the Optionee having a fair market value on the exercise date equal to the option price for the shares being purchased, or a combination of stock and cash or check payable to the order of the Company, equal in the aggregate to the option price for the shares being purchased. The minimum number of shares with respect to which this option may be exercised at any one time is ten (10) except as to an installment subject to exercise, as set forth in paragraph 1, which amounts to fewer than ten (10) shares, in which case, as to the exercise of that installment, the number of shares in such installment shall be the minimum number of shares. 68 The Company may require any optionee, or any person to whom an option is transferred under paragraph 7, as a condition of exercising the option, to give written assurances satisfactory to the Company stating that such person is acquiring the stock subject to the option for such person's own account and not with any present intention of selling or otherwise distributing the stock; provided, however, that the requirement of providing such written assurances, and any assurances given pursuant to the requirement, shall be inoperative if (i) the shares issuable upon exercise of this option are then registered or qualified under the then applicable federal or state securities laws or (ii) a determination is made by counsel for the Company that such assurances are not required in the circumstances under the then applicable federal or state securities law. The term of this option commences on the date hereof and, unless sooner terminated as set forth below or in the 1994 Non-Employee Director Plan, terminates on the date which is ten (10) years from the date of the grant as defined in the 1994 Non-Employee Director Plan. This option shall terminate prior to the expiration of its term as follows: twelve (12) months after the cessation of your directorship with the Company for any reason, unless (A) in the event you die during the period of your service as a director or during the twelve month period specified above, one (1) year following the date of your death.; or (c) such cessation of directorship is for cause (as defined in the 1994 Non-Employee Director Plan) whereupon this option terminates immedi ately on the date of your removal from the Board of Directors of the Company. However, in any and all circumstances, this option may be exercised following cessation of directorship only as to that number of shares as to which it was exercisable on the date of cessation of directorship under the provisions of paragraph 1 of this option. This option may be exercised, to the extent specified above, by delivering ten (10) days' written notice of exercise together with the exercise price to the Secretary of the Company, or to such other person as the Company may designate, during regular business hours, together with such additional documents as the Company may then require pursuant to paragraph 4. This option is not transferable, except by will or by the laws of descent and distribution, and is exercisable during your life only by you. 69 Any notices provided for in this option or the 1994 Non- Employee Director Plan shall be given in writing and shall be deemed effectively given upon receipt or, in the case of notices delivered by the Company to you, five (5) days after deposit in the United States mail, postage prepaid, addressed to you at the address specified below or at such other address as you hereafter designate by written notice to the Company. This option is subject to all the provisions of the 1994 Non- Employee Director Plan, a copy of which is attached hereto, and its provisions are hereby made a part of this option, including without limitation, the provisions of paragraphs 4 of the 1994 Non-Employee Director Plan relating to option provisions, and is further subject to all interpretations, amendments, rules and regulations which may from time to time be promulgated and adopted pursuant to the 1994 Non- Employee Director Plan. In the event of any conflict between the provisions of this option and those of the 1994 Non-Employee Director Plan, the provisions of the 1994 Non-Employee Director Plan shall control. The Company is not providing you with advice, warranties, or representations regarding any of the legal or tax effects to you with respect to this grant. You are encouraged to seek legal and tax advice from your own legal and tax advisers as soon as possible. By accepting this grant and the shares of Common Stock covered thereby, and by signing this instrument, you acknowledge that you are familiar with the terms of the grant and the 1994 Non-Employee Director Plan, that you have been encouraged by the Company to discuss the grant and the 1994 Non-Employee Director Plan with your own legal and tax advisers, and that you agree to be bound by the terms of the grant and the 1994 Non-Employee Director Plan. Dated this _____ day of __________________, 19__. Very truly yours, CU Bancorp By____________________________ Duly authorized on behalf of the Board of Directors 70 The undersigned: Acknowledges receipt of the foregoing option and understands that all rights and liabilities with respect to this option are set forth in the option and the 1994 Non-Employee Director Plan; and Acknowledges that as of the date of grant of this option, it sets forth the entire understanding between the undersigned optionee and the Company regarding the acquisition of stock in the Company and supersedes all prior oral and written agreements on that subject. ______________________________ Optionee Address: ______________________________ ______________________________ Attachments: CU Bancorp 1994 Non-Employee Directors Stock Option Plan 71 Exhibit 10.3 MORTGAGE SERVICING PURCHASE AGREEMENT THIS MORTGAGE SERVICING PURCHASE AGREEMENT (this "Agreement") is entered into this ______ day of ________, 1994, by and between Douglas County Bank & Trust Co., with its principal office being located in Omaha, Nebraska (hereinafter called "Buyer"), and California United Bank, its principal office being located in Encino, California (hereinafter called "Seller"); WITNESSETH: WHEREAS, Seller is the servicer of certain residential mortgage loans identified on Exhibit A attached hereto and incorporated herein by reference; and WHEREAS, Seller desires to sell, assign, transfer and set over to Buyer, and Buyer desires to purchase all of the Seller's rights and obligation to service the mortgages listed on Exhibit A. NOW, THEREFORE, in consideration of the purchase price to be paid by the Buyer as hereinafter set forth, and in consideration of the mutual promises contained herein, Buyer and Seller agree as follows: 1. DEFINITIONS. The following terms shall have the following meanings: 1.1. The term "Mortgage Note" shall mean a valid and enforceable note or other evidence of indebtedness secured by a Mortgage listed in Exhibit "A" attached hereto. 1.2. The term "Mortgage" shall mean each valid and enforceable mortgage or deed of trust listed on Exhibit A. Each Mortgage secures a Mortgage Note and creates a valid lien upon the described real property improved by a single family (1-4 families) dwelling, subject to no other liens or encumbrances except those which may be subordinate to our first lien position or specifically provided therein. The term "Mortgages" shall refer to all Mortgages listed on Exhibit A. 1.3. The term "Mortgage Portfolio" shall mean all documents, agreements, instruments or correspondence relating to a Mortgage Note and the Mortgage securing it, including the related title insurance policy, fire and casualty insurance policy or a currant declaration page, flood hazard insurance policy (if any), mortgage insurance or guaranty certificate and any other documents, agreements, or instruments under which any related legal rights or obligations are created or exist, and shall include copies of the original Mortgage Note and Mortgage. 1.4. The term "Closing" shall mean the closing of the purchase and sale contemplated by this Agreement, and the term "Closing Date" shall mean August 31, 1994, or such other time as may be mutually agreed upon in writing by Buyer and Seller. The term "Transfer Date" shall also mean August 31, 1994, unless another date is mutually agreed upon in writing by Buyer and Seller. The term "Settlement Date" shall mean the date which is ten business days after Transfer Date. 1.5. The term "Seller's Cut-off Date" shall mean August 31, 1994, which shall be the day on which Seller closes the books of account (after application of all funds received on or before August 31, 1994, with respect to the Mortgages in order to determine the outstanding balances of the Mortgage Notes for the purpose of determining the purchase price and to consummate the transfer of servicing to Buyer. 1.6. The term "Contract Date" shall mean ___________, 1994, which shall be the day on or by which both parties shall have executed this agreement. 1.7. The term "Property" shall mean all of the following rights, properties, interests, documents, agreements and funds: 1.7.1. All of the Seller's rights and obligations to service the Mortgages and to receive all payments due 72 or to become due under such Mortgages, in accordance with the terms and conditions of any and all servicing agreements governing the Mortgages, including but not limited to, the right to receive and retain all servicing fees, late fees, assumption fees, insurance proceeds and other amounts. 1.7.2. Seller's servicing and insurance files relating to the Mortgages and the closing and servicing thereof. 1.7.3. All Mortgage Portfolios pertaining to Mortgages. 1.8. The term "Ninety Day Mortgage" shall mean any Mortgage which, at the close of business on Seller's Cut-off Date, is in default as a result of payments for the months of June, July and August 1994 (for principal and interest) not having been made. 1.9. The term "In Foreclosure" shall mean that the notice of default has been filed to commence proceedings in foreclosure or a sale under power of sale under the law of the State wherein a Mortgage is to be enforced has been taken and such proceedings are continuing. 1.10. The term"In Litigation" shall mean that a legal action in foreclosure of a Mortgage, or for a deficiency thereunder, in which the sale of the property in foreclosure (whether by action, power of sale, or otherwise) has been delayed by reason of the defense of such action by the mortgagor, or any other legal action or proceeding relating to such mortgage is pending. 1.11. The term "In Bankruptcy" shall mean as to a Mortgage, that any mortgagor thereof has sought relief under or has otherwise been subjected to the federal bankruptcy laws or other similar laws of general application for the relief of debtors, through the institution of appropriate proceedings, and such proceedings are continuing; such proceedings shall be deemed to continue until the real property covered by such Mortgage is released from jurisdiction of the Bankruptcy or other court in which the matter is pending, whether because such proceeding is dismissed, finally concluded or otherwise. 1.12. The term "Investor" shall mean the owner and holder of the note. 1.13. The term "T&I Account" means the custodial account established as described in Section 7.7 herein into which all monies designated for the payment of taxes, assessments and insurance are placed. 1.14. The term "P&I Account" means the custodial account established as described in Section 7.7 herein, into which all monies designated for the payment of principal and interest are placed. 1.15. The term "Custodial Account" includes the P&I Account and T&I Account, and any other custodial account established by Seller and in effect at the time of the execution of this Agreement. 2. PURCHASE AND SALE. Subject to the terms and provisions set forth in this Agreement, on the Closing Date Seller shall sell, assign, transfer and set over to Buyer all of Seller's rights and obligations to service the Mortgages, and sell and convey the Property to Buyer, and Buyer shall purchase the Property from Seller and shall assume the obligation to service the Mortgages. 3. DEPOSIT. Buyer has paid directly to seller a deposit of $19,100.00, which shall be applied to the Purchase Price (See 4.2 below). Should Buyer or Seller breach in any material respect one of its material obligations under this Agreement, and should such breach result in damage to the other party, then party so damaged may pursue the following remedy: The damaged party shall give written notice to the other party of its breach and provide the breaching party ten (10) days to correct such breach. If the breach cannot be cured in this ten (10) day period, then the damaged party may terminate this Agreement by written notice to the other party. Should this Agreement be terminated in accord with this Paragraph, then each party shall return to the other all monies paid to the other under this Agreement, including the deposit of $19,100.00. Upon a breach of this Agreement by the Buyer, Seller may retain the deposit as liquidated damages. 3.1. Buyer acknowledges receipt of the above deposit. 4. PURCHASE PRICE. 73 4.1. The Purchase Price to be paid by Buyer to Seller of the Property shall be the sum of: 4.1.1. One Hundred and Ten one hundredths percent (1.10%) of an amount equal to (i) the aggregate unpaid principal amount of all of the applicable Mortgage Notes at the close of business on Seller's Cut-off Date, minus (ii) the aggregate unpaid principal amount of all Ninety Day Mortgages, Mortgages in Foreclosure, In Litigation or In Bankruptcy and for which a pay off request has been received; plus 4.1.2. the amount of all unreimbursed advances made by Seller on or prior to the Transfer Date to any escrow accounts maintained in connection with any of the applicable Mortgages. 4.2. The Purchase Price, minus the deposit previously paid, will be paid to Seller on the Settlement Date. 5. DELIVERY. The Seller shall deliver to Buyer, within 5 business days of Transfer Date, the following: 5.1. Instruments of transfer and conveyance, in form reasonably satisfactory to Buyer, evidencing the sale, assignment and transfer of the Property by Seller to Buyer, including copies of assignments of each Mortgage from Seller to Buyer. As of the Transfer Date, Seller shall certify in writing that it has sent such assignments (and corresponding filing fees) for recording at the proper governmental office; 5.2. Cash payable by bank wire in immediately available funds for the balance required to be in the related custodial accounts within 3 business days of Seller's Transfer Date; 5.3. The Mortgage Portfolio for each Mortgage and the files described in 1.7.2; 5.4. Such other documents as Buyer may reasonably require in order to complete the transactions contemplated hereunder and to evidence compliance by Seller with the covenants, agreements, representations and warranties made by it hereunder; 5.5. A cut-off trial balance for each Mortgage will be listed on Exhibit A. A copy of all outstanding payoff letters or other documents relating to such request for pay off shall be provided to Buyer by Seller at the Closing Date. 6. REPRESENTATIONS AND WARRANTIES OF BUYER AND SELLER. As an inducement to enter into this Agreement, Buyer and Seller each represent and warrant to the other as follows (it being acknowledged that each such representation and warranty relates to material matters upon which the other has relied and it being understood that each such representations and warranties shall survive the transfer of servicing contemplated hereby): 6.1. It is duly organized, validly existing and in good standing under the laws of the jurisdiction of its organization; has all the requisite power and authority to own its properties and carry on its business as and where now being conducted and is duly qualified to do business and is in good standing in each jurisdiction in which the character and location of the properties owned or leased by it or the nature of the business transacted makes such qualifications necessary; and has all requisite corporate power and authority to enter into this Agreement, and the agreements to which it is or will become a party contemplated by this Agreement, and to carry out the transactions contemplated hereby; 6.2. The execution and delivery of this Agreement, and of the agreements to be entered into pursuant hereto, and the consummation of the transactions contemplated hereby have each been duly and validly authorized by all necessary corporate action, and this Agreement and each such other agreement constitute valid and legally binding agreements enforceable in accordance with their respective terms; 6.3. The execution and delivery of this Agreement and the consummation of the transactions contemplated hereby will not violate, conflict with, result in a beach of, constitute a default under, be prohibited by, or require any additional approval under its charter, certificate of incorporation, bylaws, or any instrument or agreement to which it is a party or by which it is bound or which affects the Property, or any federal or state law, rule or regulation or any judicial or administrative decree, order, ruling or regulation applicable to it or to the Property; and 74 6.4. There is no litigation or action at law or in equity pending, or, to its knowledge, threatened against it and no proceeding of any kind is pending, or to its knowledge, threatened, by any federal, state or local governmental or administrative body, which will or might materially affect any of the Property or its ability to consummate the transactions contemplated hereby. 6.5. Buyer and Seller represent that they know of no reason why the transfer of this servicing would not be approved by the Investors. 7. ADDITIONAL REPRESENTATIONS AND WARRANTIES OF SELLER. As an inducement to Buyer to consummate the transactions contemplated hereby, Seller additionally represents and warrants as follows (it being acknowledged that each such representation and warranty relates to material matters upon which Buyer has relied and it being agreed that all such representations and warranties shall survive the Closing contemplated hereby): 7.1. All Mortgage Notes and Mortgages and all documents, agreements and instruments pertaining to each such Mortgage Note and Mortgage (each such Mortgage Note, Mortgage and documents, agreements and instruments related thereto and hereinafter referred to as "Mortgage Loan") are valid and enforceable in accordance with their respective terms subject to applicable bankruptcy, moratorium and other laws of general application affecting creditors' rights and meet all requirements of each applicable Investor. Seller is in material compliance with all requirements of each Investor and all other applicable laws and regulations with respect to any obligation by Seller to be performed pertaining to the Mortgage Portfolios. 7.2. (Intentionally Blank) 7.3. With respect to each Mortgage loan, the Investor or the Custodian for the Investor, who has possession of the Original Mortgage Note, the Original Mortgage, and the original title insurance policy, which Seller has received, is in possession of, and will at the closing deliver to the Buyer any remaining items in the Mortgage Portfolios. If Seller does not have the above items in is possession, it will inform Buyer of the location of these items. 7.4. A valid and enforceable policy of title insurance prepared in compliance with applicable Investor Guidelines which has been issued in connection with each Mortgage in an amount not less than the original principal amount of the Mortgage Note secured by each such Mortgage, and each such policy is presently in full force and effect and all premiums with respect thereto have been paid in full; copies of all such policies of title insurance shall have been delivered to the Buyer not later than the Transfer Date. 7.5. Each building or other improvement located on the premises covered by any Mortgage is insured in the manner required by the Mortgage Portfolio documents and by the Investor. The insurance policies contain standard mortgagee clauses against (i) loss or damage by fire and from such other insurable risks and hazards as are set forth in the standard extended coverage form of endorsement; and (ii) such other insurable risks and hazards against which insurance may be required by the FNMA/FHLMC where applicable. Such insurance is in amounts which are not less than the amount necessary to comply with any co-insurance provision of the policies, and in any event, in amounts not less than replacement cost of the property which is secured by the related Mortgage. To the knowledge of Seller, some of the said buildings and other improvements have been affected in some substantial manner or suffered any material loss as a result of any fire, explosion, accident, strike, riot, war, or act of God or the public enemy. 7.6. The full original principal amount of each Mortgage Note (net of any discounts) has been advanced to the mortgagor named therein. Each Mortgage has been duly recorded in accordance with applicable laws and regulations and each Mortgage is a valid and enforceable first lien on the premises described therein, in each case subject to no other lien or encumbrance except customarily accepted by lenders in Califorinia. All subordinated liens excepted. 7.7. Custodial accounts have been established and continuously maintained in material accordance with the requirement of the Investors and other applicable laws and regulations, and all payments which have been received in connection with the Mortgages have been duly and regularly deposited to custodial accounts and all disbursements therefrom have been made, in material accordance with all applicable requirements, laws and regulations. With respect to each Mortgage all payments for taxes, assessments, ground rents, hazard insurance, mortgage insurance and flood hazard insurance or comparable items constituting permissible expenditures from the T&I Account applicable thereto have been made before the same became delinquent, and all such hazard and mortgage and flood hazard insurance is in full force and effect; and, with respect to any such Mortgage, adequate flood hazard insurance is in full force and effect if required under applicable laws and regulations. 75 7.8. (Intentionally Blank) 7.9. All of the information set forth on Exhibit A is correct, and the aggregate unpaid principal amount on the Mortgage Notes on such Exhibit was materially true and correct as of the date set forth on such Exhibit. 7.10. The unexpected amounts paid to Seller by the obligor or the Mortgage Notes and Mortgages for taxes, assessments, general rents, hazard insurance, Mortgage Insurance, flood hazard insurance and comparable items as shown on Exhibit "A" is correct. All such amounts expended by Seller prior to the Transfer Date to pay for such items has been and shall be properly expended in accordance with the requirements of the Mortgage Notes, the Mortgages and the requirements of applicable law and regulations. 7.11. The Mortgages do not secure any project loans mobile home loans, construction loans, or mortgage-backed serial notes. 7.12. Each of the representations and warranties of the Seller contained in any servicing agreements covering the Mortgages are true and correct in all respects at the time those representations and warranties were made. 7.13. Seller has not received any prepaid fees for services rendered in conjunction with the Mortgages covered under the Service Agreements, and that as of the Transfer Date, Seller will have received payment for all amounts due to it for such services by Seller furnished prior to the Transfer Date, subject to any post-closing adjustments necessary to provide Lender/Servicer with any fees actually earned but not received by Lender/Servicer. 8. CERTAIN COVENANTS OF SELLER. Seller covenants and agrees with Buyer as follows, it being understood and agreed that each of the following covenants and agreements shall survive the Closing: 8.1. Seller shall warrant and defend title of Buyer in and to the Property, and at any time, upon request of Buyer, Seller shall at its expense, execute, acknowledge and deliver or cause to be done, executed, acknowledged and delivered such acts deeds, assignments, releases, transfers, conveyances, powers of attorney, other instruments and guarantees as may be reasonably necessary or proper for the purpose of fully effectuating the assignment, transfer and conveyance of the Property to Buyer. 8.2. Seller will indemnify, defend and hold Buyer harmless from and against any and all claims, loss, cost or damage, including, without limitation, reasonable attorneys' fees and expenses, (i) arising out of any act or omission, or alleged act or omission, of Seller or any employee, agent or representative authorized to act and acting on Seller's behalf with respect to the Mortgage Notes, the Mortgages or any document, agreement, or instrument contained therein or relating thereto, occurring on or prior to the Transfer Date; or (ii) arising in connection with any foreclosure of or effort to collect sums due under a Mortgage undertaken by Seller or any employee, agent or representative (other than Buyer) authorized by Seller to act in this regard on Seller's behalf; or (iii) arising out of Seller's failure to perform any of its obligations hereunder; or (iv) arising out of the falsity, incorrectness or incompleteness in any material respect of any representation or warranty made by Seller herein, or otherwise heretofore or hereafter made by Seller, or of any books, records, documents, agreements, instruments or other papers or information transferred to Buyer pursuant to this Agreement; or (v) arising out of Seller's failure on or prior to the Transfer Date to place or maintain in force of flood, casualty or hazard insurance policy on any real property and improvements thereon securing a Mortgage note which was adequate in coverage and amount under accepted practice in the mortgage banking industry. Buyer shall only be entitled to indemnification hereunder if Seller shall have received from Buyer thirty (30) days' written notice of a claim for such indemnification, specifying the nature and amount of the claim, and the facts and circumstances giving rise to it. Seller shall be entitled to undertake and control the defense and settlement of any such claim. 8.3. From and after the date of its execution of this Agreement, Seller shall make available during normal business hours to Buyer or cause to be made available to Buyer for its inspection, copying and reproduction, the Property and all books and records maintained by, through or for Seller relative thereto and, until the Transfer Date, Buyer and its authorized officers, employees and agents shall be given unrestricted access thereto, provided only that its and their activities shall not unreasonably interfere with the normal business operations of Seller. In addition, Seller shall hereafter and following the Transfer make available to Buyer such of Seller's personnel from time to time during regular business hours and for such time as may be reasonable or the purpose of assisting Buyer in an orderly and efficient transfer as herein contemplated, and to enable Buyer to carry out its responsibilities as servicer. 8.4. With respect to any and all payments received by Seller on or after the close of business on Seller's Transfer Date on account of any Mortgage, Seller shall hold the same as agent for Buyer and keep the same separate from its 76 other funds and, commencing on the Transfer Date, shall immediately deliver the same to Buyer, properly endorsed. In addition, on and after the Transfer Date, Seller shall within 48 hours, forward and remit by express mail or other expeditious means to Buyer any and all bills, invoices, insurance policies, letters, documents and other correspondence or communications relating to the Property or to any Mortgages. 8.5. Not less than fifteen (15) days prior to the Transfer Date, Seller shall, at its sole cost and expense, prepare, or cause the Investors to prepare, as appropriate, and mail to each hazard and casualty insurer for each Mortgage, and to the writing of agent for each flood hazard insurer for each Mortgage, a request for an endorsement of its policy of insurance effective on the Transfer Date adding Buyer as servicer for the Investor in form reasonably satisfactory to the Buyer and naming Buyer as loss payee (with proper loan number, if available) together with instructions that such endorsement be forwarded directly to the Buyer at the following address: Douglas County Bank & Trust Co. P.O. Box 4340 Omaha, NE 68104 Prior to the Transfer Date, Seller shall file a copy of each such request in the appropriate servicing file for each Mortgage to be transferred to Buyer under this Agreement. 8.6. Seller shall notify each mortgagor which has executed a Mortgage of the sale of its servicing to Buyer and shall direct such mortgagors to make all future payments to Buyer. Such notice shall be given in the time frames prescribed by applicable rules, laws and regulations, and shall also be given upon Buyer's request. 8.7. On or before August 31, 1994, Seller shall furnish to Buyer a trial balance, certified to be correct by an officer of Seller, identifying by loan number each Mortgage, as of Seller's Cut-off Date, and setting forth for each such Mortgage as of such date: 8.7.1. the current principal balance; 8.7.2. the P&I Account and T&I Account balances maintained by the Seller; 8.7.3. the current monthly payment (stating separately the portion for principal and interest and the portion for taxes, insurance and similar items) and the due date of the next installment payment of principal and interest; 8.7.4. delinquent payments by date due and amount, if any; and 8.7.5. the amount of all of Seller's unreimbursed advances, including but not limited to, such advances to the T&I Account. In addition, Seller shall identify by loan number all Ninety Day Mortgages, if any. 8.7.6 the loans for which a payoff statement has been received. All information required under paragraphs 8.7.1 through 8.7.6 shall be accurate as of the Transfer Date and shall be furnished by Seller to Buyer within five (5) days after the Transfer Date. On the Transfer Date, Seller using its reasonable best efforts shall furnish to Buyer a written statement, certified to be correct by an officer of Seller, identifying any Mortgage loan number with respect to which Seller has received a threat of litigation or action against it and whether the problem giving rise to such threat still exists. In such statement Seller shall also identify by loan number and property description of the type of payment due or pending action necessary, as the case may be, (i) any and all Mortgages with respect to which any payment for taxes assessments, ground rents, hazard insurance premiums, mortgage insurance premiums, flood insurance premiums or comparable items constituting permissible expenditures are delinquent or will become delinquent if not paid within the thirty (30) day period immediately following the Transfer Date; and (ii) any and all Mortgages with respect to which, to the best of Seller's knowledge, Buyer will need to take any other action (including, but not limited to, action with respect to pending insurance claims, loan assumptions, requests for transfer or payoffs, requests for partial release, payment plans, pending inquiries or claims of the respective mortgagors or others, and other similar matters) within said thirty (30) day period other than the normal collection of monthly payments and accounting thereof. 77 8.8. On or before the Transfer Date, with respect to each Mortgage, Seller will deliver to Buyer: 8.8.1. tax receipts for, or other official evidence of, payment of the taxes required to be made from the T&I Account relating thereto for the fiscal tax period most recently ended; 8.8.2. copies containing Seller's most recent analysis of its T&I Accounts; and 8.8.3. with respect to each Mortgage, a schedule of the history of the transactions for the life of the Mortgage and all codes applicable to such history transactions used on the records maintained by Seller with respect to each such Mortgage. 8.9. Seller will indemnify Buyer against payoff, from transfer date until January 10, 1995. 9. REPURCHASE OF DEFECTIVE PROPERTY. Upon the written request of Buyer at any time, subject to investor approval and from time to time after Closing for a period of 120 days after the Transfer Date, Seller shall attempt to cure and if unsuccessful in its attempt to cure promptly purchase, for the prices hereinafter set forth, the servicing rights for any Mortgage as to which, in the opinion of Buyer, the documents included in the related Mortgage Portfolio are so defective as to possibly prevent or interfere with Buyer's collection of the payments under, or realization of the other benefits of, such Mortgage. The Purchase Price for each such portion of the Property shall equal the sum of (i) an amount equal to one hundred and ten one hundredths percent (1.10%) of the unpaid principal amount of the related Mortgage Note at the close of business on the Seller's repurchase date, plus (ii) all sums paid by Buyer hereunder for Seller's unreimbursed advances to its T&I Account with respect to such Mortgage, to the extent Buyer has not been reimbursed for such advances by the respective mortgagor; and (iii) all other unreimbursed costs, expenses and advances (including, but not limited to, advances to any T&I Account maintained by the Buyer) incurred by Buyer in connection with the Mortgage after the Closing Date. 10. CERTAIN AGREEMENTS WITH RESPECT TO NINETY-DAY MORTGAGES. Seller and Buyer further agree with reference to the Ninety Day Mortgages that in the event that (i) a check or checks in payment of any amount due or to become due under any such mortgage shall have been received by Seller prior to the close of business on Seller's Cut-off Date and shall be returned uncollected for any reason; and (ii) such Mortgage would have been a Ninety- Day Mortgage as of the close of business on Seller's Cut-off Date except for the receipt on or prior to such date of such check or checks, then Seller shall immediately pay to Buyer the portion of the Purchase Price attributable to the servicing rights for such Mortgage received by Seller at the Closing in accordance with the computation of the portion of the Purchase Price attributable to the servicing rights for any particular Mortgage as set forth in Section 8 above, and thereafter such Mortgage shall be treated as a Ninety-Day Mortgage. 11. OTHER POST CLOSING ADJUSTMENTS. Seller shall promptly reimburse and remit to Buyer upon demand the portion of the Purchase Price paid by Buyer under Section 4.1.1 hereof with respect to any Mortgage which is prepaid or otherwise paid in full on or prior to the Closing Date, whether or not Seller shall have received and credited such payment on or before the Closing Date. If Buyer is not reimbursed in full within 12 months for the unreimbursed advances of Seller to the escrow accounts for which Buyer paid a portion of the Purchase Price under Section 4.1.2 hereof, the Seller will promptly reimburse and remit to Buyer upon demand the amount of any actual cash loss or losses (including, but not limited to, the portion of the Purchase Price paid under 4.1.2 hereof) incurred by Buyer in connection with such reimbursed advances to any such escrow account with respect to any Mortgage. Thereafter, if unreimbursed advances are paid to Buyer, Buyer will reimburse the same amount to Seller. Seller shall not use, and shall prohibit its affiliates, correspondents, wholesale sources, successors or assigns from using, the mortgagor list of the Mortgages or other data or information related to the Mortgages for purposes of soliciting a refinancing of the Mortgages or conducting marketing programs of any type, such list, data and information after the Closing Date being the sole property of Buyer. Seller shall not take any action which would permit use of such list, information or data by a third party. Should the Seller, its affiliate, correspondent, wholesale sources, successors or assigns solicit any of the mortgagors who have executed the Mortgages, the servicing of which is sold hereby, and such mortgagors pay off amounts owing to Buyer, Seller shall reimburse the fees Buyer has previously paid for such Mortgages. 12. CLOSING CONDITIONS. The respective obligations of Buyer and Seller to complete the purchase and sale of 78 the Property pursuant to this Agreement are subject to the fulfillment on or prior to Closing Date of each of the following conditions to be fulfilled by the other, unless the same is specifically waived in writing by the party for whose benefit the same is to be fulfilled: 12.1. Seller and Buyer shall each have materially performed all of its covenants and agreements contained herein which are required to be performed by each of them on or prior to the Closing and Transfer Date. 12.2. All representations and warranties of Seller and Buyer respectively set forth in this Agreement shall be true in all material respects at and as if made on the Closing and Transfer Date. 12.3. All requisite federal, state and local governmental and regulatory approvals relating to the transactions contemplated hereby shall have been obtained. 12.4. (Intentionally Blank) 12.5. Buyer shall have received from the Seller a copy of the monthly accounting report prepared by Seller, certified to be true and correct in all material respects by an authorized officer of Seller, with respect to each Mortgage as of Seller's Cut-off Date, together with a reconciliation for each such report. 12.6. Buyer shall have received from Seller a copy of the Schedule of Mortgages for each of the Mortgages identified on Exhibit A, updated as of the close of business on Seller's Cut-off Date so that all Mortgages which have been satisfied as of said date can be deleted, together with a certificate signed by Seller's authorized officer, dated as of Closing Date, that all information set forth therein is true and correct. This Exhibit shall be delivered no later than the Closing Date. 12.7. Buyer shall have received from Seller a certificate signed by Seller's authorized officer dated as of the Transfer Date, setting forth separately the amount of all unreimbursed advances made by Seller on or prior to Seller's Transfer Date to all escrow accounts maintained in connection with the Mortgages, identifying by loan number each Mortgage as to which such unreimbursed advances shall have been made, together with a statement that as of the Transfer Date all information set forth in such certificate is true and correct in all material respects. 12.8. Buyer shall have received from Seller an assignment of each service agreement with the Investors, and/or any consent required from the Investors to such assignment. 12.9. Seller will deliver to Buyer written approval of transfer of servicer rights and responsibilities from each Investor, effective on the Transfer Date. 13. NOTICES. Any notice or demand which is required or permitted to be given by any provision of the Agreement shall be deemed to have been sufficiently given if either serviced personally or sent by prepaid or registered or certified mail, addressed at its address set for below: SELLER California United Bank 16030 Ventura Blvd. Encino, CA 91436 BUYER Douglas County Bank & Trust Co. 6015 N.W. Radial Highway Omaha, NE 68104 Either party may change its address by written notice to the other. 14. ENTIRE AGREEMENT. This Agreement, together with the agreements and instruments referred to herein, contains the entire agreement of the parties and there are no representations, inducements or other provisions other than those expressed in writing herein. All changes, additions or deletions hereto must be made in writing and signed by each of the parties. 15. SURVIVAL OF PROVISIONS. All of the covenants, agreements, representations and warranties made herein 79 by the parties hereto shall survive and continue in effect after the consummation of the transactions contemplated hereby. The parties hereto shall, from time to time after the Closing Date, at the request of each of the other and without further consideration, execute and deliver such instruments and take such action as may be reasonably necessary, proper and convenient to consummate the transactions contemplated hereby. 16. WAIVERS. A waiver of any term, condition or obligation under this Agreement by any party shall not be construed as a waiver by such party of any other term, condition or obligation nor shall any such waiver constitute a waiver of subsequent breach of the same term, condition or obligation or of any right consequent thereon. 17. GOVERNING LAW. This Agreement shall be governed by and construed in accordance with the laws of Nebraska. 18. BROKERAGE FEES. Buyer and Seller represent that no brokerage fees or commissions were incurred by either of them in connection with this transaction, with the exception of those due Hamilton, Carter, Smith & Co., which are Seller's responsibility. 19. LITIGATION. In the event of litigation concerning provisions of this Agreement, the prevailing party shall be entitled to attorney's fees and costs, including appellate attorney's fees and costs, if any. 20. ASSIGNMENTS. Seller, at its own expense, will prepare assignments to Buyer and have recorded such assignments immediately after Transfer. 21. TRANSFER FEES. All investor and tax service transfer fees will have been paid by the Seller. 22. TAPE TO TAPE TRANSFER. Prior to the Transfer Date, Seller will have prepared at its expense a diskette containing master file information in the Buyer's prescribed format and file specifications. 23. RIGHT TO CURE. Buyer and Seller acknowledge that technical deficiencies, in documentation or otherwise, may be present in the Mortgage Portfolio and administration thereof which are susceptible of cure. Accordingly, prior to exercising any right which it may have under this Agreement with regard to any such technical deficiency in the Mortgage Portfolio, Buyer will give Seller not less than thirty (30) days' notice, during which period Seller may attempt to cure any such deficiency. So long as Seller is diligently attempting to affect a cure, Buyer shall not enforce any right which may be occasioned by such deficiencies for which a cure is being pursued. However, if said deficiencies are not cured within a reasonable period of time, notwithstanding Seller's efforts to do so, Buyer may exercise its right under this Agreement. IN WITNESS WHEREOF, the parties hereto have caused this Agreement to be duly executed and sealed as of the day and year first above written. California United Bank ("Seller") By:_____________________________________ Pat Hartman ATTEST: Chief Financial Officer ___________________________ Douglas County Bank & Trust Co. ("Buyer") By:_____________________________________ John W. King ATTEST: Senior Vice President ____________________________ EX-21 3 Exhibit 21. Subsidiaries of the Registrant 100% Owned: California United Bank, National Association a national banking association 80 EX-27 4
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