-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, Os4f5OQ9YeGEzxicReO3+zqmnIfCEWtz6BeRfGWJu066lFzRxKPoHVV2fsT4sdid Wa440PGuSo57mMw0uZ4mlg== 0000721161-98-000001.txt : 19980310 0000721161-98-000001.hdr.sgml : 19980310 ACCESSION NUMBER: 0000721161-98-000001 CONFORMED SUBMISSION TYPE: 10-K PUBLIC DOCUMENT COUNT: 3 CONFORMED PERIOD OF REPORT: 19971231 FILED AS OF DATE: 19980309 SROS: NASD FILER: COMPANY DATA: COMPANY CONFORMED NAME: SJNB FINANCIAL CORP CENTRAL INDEX KEY: 0000721161 STANDARD INDUSTRIAL CLASSIFICATION: STATE COMMERCIAL BANKS [6022] IRS NUMBER: 770058227 STATE OF INCORPORATION: CA FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-K SEC ACT: SEC FILE NUMBER: 000-11771 FILM NUMBER: 98559938 BUSINESS ADDRESS: STREET 1: ONE N MARKET ST CITY: SAN JOSE STATE: CA ZIP: 95113 BUSINESS PHONE: 4089477562 MAIL ADDRESS: STREET 1: ONE NORTH MARKET STREET CITY: SAN JOSE STATE: CA ZIP: 95113 10-K 1 1997 FORM 10-K UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, DC 20549 FORM 10-K (Mark One) [X] ANNUAL REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934] For the Fiscal Year ended December 31, 1997 OR [ ] TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the Transition period from ________________ to ________________________ Commission File Number 0-11771 SJNB Financial Corp. - -------------------------------------------------------------------------------- (Exact name of registrant as specified in its charter) California 77-0058227 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) ONE NORTH MARKET STREET, SAN JOSE, CALIFORNIA 95113 - -------------------------------------------------------------------------------- (Address of principal executive offices) (Zip Code) Registrant's telephone number (408) 947-7562 Securities registered pursuant to Section 12(b) of the Exchange Act: NONE Securities registered pursuant to Section 12(g) of the Exchange Act: Common Stock, no par value - -------------------------------------------------------------------------------- (Title of class) Indicate by check mark whether the registrant (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 such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes X No ___ Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K 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 or any amendment to this Form 10-K. [ ] The aggregate market value of the voting and non-voting common equity held by non-affiliates of the registrant, based on a market value of $35.00 per share (the closing price of the Common Stock, as of March 3, 1998) was $69,257,000. Number of shares of common stock outstanding as of March 3, 1998: 2,516,558 Documents incorporated by reference: Portions of registrant's definitive proxy statement for registrant's 1997 Annual Meeting of Shareholders (to be filed pursuant to Regulation 14A) are incorporated by reference into Part III of this Report. TABLE OF CONTENTS PART I Page Item 1 - Business 1 Item 2 - Properties 9 Item 3 - Legal Proceedings 10 Item 4 - Submission of Matters to a Vote of Security Holders 11 PART II Item 5 - Market for Registrant's Common Equity and Related Stockholder Matters 11 Item 6- Selected Financial Data 12 Item 7 - Management's Discussion and Analysis of Financial Condition and Results of Operations 13 Item 7A- Quantitative and Qualitative Disclosures about Market Risk 30 Item 8 - Financial Statements and Supplementary Data 31 Item 9 - Changes in and Disagreements with Accountants on Accounting and Financial Disclosure 52 PART III Item 10 - Directors and Executive Officers of the Registrant 52 Item 11 - Executive Compensation 52 Item 12 - Security Ownership of Certain Beneficial Owners and Management 52 Item 13 - Certain Relationships and Related Transactions 52 Item 14 - Exhibits, Financial Statement Schedules and Reports on Form 8-K 52 Signatures 58 PART I ITEM 1. BUSINESS This Annual Report on Form 10-K includes forward-looking information within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended, and are subject to the "safe harbor" created by those sections. These forward-looking statements (which do not involve the historical or financial statement information herein) involve certain risks and uncertainties that could cause actual results to differ materially from those in the forward-looking statements. Such risks and uncertainties include, but are not limited to, the following factors: competitive pressure in the banking industry; changes in the interest rate environment; general economic conditions, either nationally or regionally, are less favorable than expected, resulting in, among other things, a deterioration in credit quality and an increase in the provision for possible loan losses; changes in the regulatory environment; changes in business conditions, particularly in Santa Clara County and in the semiconductor industry; certain operational risks involving data processing systems or fraud; volatility of rate sensitive deposits; asset/liability matching risks and liquidity risks; risks associated with the Year 2000; and changes in the securities markets. See also the section included herein entitled "Year 2000" and "Certain Additional Business Risks" and other risk factors discussed elsewhere in this Report. General SJNB Financial Corp. ("Company") is a bank holding company registered under the Bank Holding Company Act of 1956, as amended (the "BHCA"). The Company was incorporated under the laws of the State of California on April 18, 1983. Its principal office is located at One North Market Street, San Jose, California 95113 and its telephone number is (408) 947-7562. The Company owns 100% of the issued and outstanding common shares of San Jose National Bank (referred to herein as "SJNB" or "the Bank"). The Bank was incorporated on November 23, 1981 and commenced business in San Jose, California, on June 10, 1982. The Company acquired Business Bancorp ("BB") and its wholly-owned subsidiary California Business Bank ("CBB") on October 1, 1994. Operations of the Company and BB were consolidated into a single location at One North Market Street, San Jose, California 95113. SJNB engages in the general commercial banking business with special emphasis on the banking needs of the business and professional communities in San Jose and the surrounding areas. On January 2, 1996, the Bank acquired Astra Financial Corp. for approximately $760,000. Its business was merged into the Bank's Financial Services Division, by adding approximately $1.9 million of factored receivables. Astra Financial Corp. was liquidated on January 5, 1996, and its assets were transferred to the Bank. The Bank's Financial Services Division is located at 95 South Market Street, San Jose, California 95113. SJNB accepts checking and savings deposits, offers money market deposit accounts and certificates of deposit, makes secured and unsecured commercial and other installment and term loans, and offers other customary banking services. SJNB offers banking services generally, but it places primary emphasis on lending for real estate purposes and specialized lending to businesses and professionals. Loans for real estate purposes include term financing for commercial facilities and real estate construction loans mainly for residential and commercial properties. Loans to businesses and professionals include accounts receivable financing, equipment financing, commercial loans, SBA loans, and letters of credit. In addition, the Bank offers factoring services through its Financial Services Division. Although the Bank has neither a trust nor an international banking department, it has arranged to provide these services through its correspondent banks. The Company provides commercial banking services principally through the Bank and the Bank's Financial Services Division. As a bank holding company, the Company is authorized to engage in the activities permitted under the BHCA and regulations thereunder. Year 2000 The Company has conducted a comprehensive review of its computer systems to identify the systems that could be affected by the "Year 2000" issue and has developed an implementation plan designed to resolve the issue. The Year 2000 problem arises because many software programs were written using two digits rather than four to define the applicable year. Any of the Company's programs that have time-sensitive software may recognize the two-digit date "00" as being the year 1900 rather then the year 2000. This could result in a major system failure or miscalculations. The Company plans to utilize both internal and external resources to attempt to identify, correct or replace, and test its systems for the Year 2000 compliance. It is anticipated that all corrective action and testing of key systems will be completed by December 31, 1998. The Company has recently converted the Bank's main data processing system. The vendor has stated that the software is Year 2000 compliant. Confirmations from the Bank's other vendors have been requested as to their plans for being Year 2000 compliant. The Bank presently believes that, with modifications to existing software and/or the conversion to new software which is Year 2000 compliant, the Year 2000 problem should not pose significant operational problems for the Company's computer systems as so modified and converted. The Company is expensing all period costs associated with the Year 2000 problem. To date, the amount of such expense has not been significant. It is estimated that the Bank will incur approximately $100,000 for the identification, correction and reprogramming, and testing of systems for Year 2000 compliance during 1998 and 1999. Other significant risks relating to the Year 2000 problem are that of the unknown impact of this problem on the operations of the Bank's customers and actions which banking regulators may take. The Bank is making efforts to ensure that its customer base is aware of the Year 2000 problem. In addition to seminars for and mailings to its customer base, the Bank has amended its Credit Policy and credit authorization documentation to include consideration regarding the Year 2000 problem. It is not possible to predict the effect of this problem on the economic viability of its customers and the related impact it may have on the level of the Bank's provision for possible loan losses in future periods. Service Area The principal service area of SJNB includes the County of Santa Clara and its contiguous counties, including San Mateo, Alameda, Contra Costa, Santa Cruz and San Benito. Employees At December 31, 1997, SJNB had 68 full-time officers and employees and 16 part-time employees for a total of 77.5 employees on a full-time equivalent basis. Certain of the Bank's officers are also officers of the Company. None of the Bank's employees are represented by a union. Management believes that employee relations are good. Supervision and Regulation The Effect of Government Policy on Banking The earnings and growth of the Company are affected not only by local market area factors and general economic conditions, but also by government monetary and fiscal policies. For example, the Board of Governors of the Federal Reserve System ("FRB") influences the supply of money through its open market operations in U.S. Government securities and adjustments to the discount rates applicable to borrowings by depository institutions and others. Such actions influence the growth of loans, investments and deposits and also affect interest rates charged on loans and paid on deposits. The nature and impact of future changes in such policies on the business and earnings of the Company cannot be predicted. Additionally, state and federal tax policies can impact banking organizations. Applicable California bank and corporation tax rates were recently reduced by 5% in order to keep California competitive with other western states. As a consequence of the extensive regulation of commercial banking activities in the United States, the business of the Company is particularly susceptible to being affected by the enactment of federal and state legislation which may increase or decrease the cost of doing business, modify permissible activities or enhance the competitive position of other financial institutions. Any change in applicable laws or regulations may have a material adverse effect on the business and prospects of the Company. Regulation and Supervision of Bank Holding Companies The Company is a bank holding company subject to the Bank Holding Company Act of 1956, as amended ("BHCA"). The Company reports to, registers with, and may be examined by, the FRB. The FRB also has the authority to examine the Company's subsidiaries. The cost of any examination by the FRB are payable by the Company. The Company is a bank holding company within the meaning of Section 3700 of the California Financial Code. As such the Company and the Bank are subject to examination by, and may be required to file reports with, the California Commissioner of Financial Institutions (the "Commissioner"). The FRB has significant supervisory and regulatory authority over the Company and its affiliates. The FRB requires the Company to maintain certain levels of capital. See "Capital Standards." The FRB also has the authority to take enforcement action against any bank holding company that commits any unsafe or unsound practice, or violates certain laws, regulations or conditions imposed in writing by the FRB. See "Prompt Corrective Action and Other Enforcement Mechanisms." Under the BHCA, a company generally must obtain prior approval of the FRB before it exercises a controlling influence over a bank, or acquires directly or indirectly, more than 5% of the voting shares or substantially all of the assets of any bank or bank holding company. Thus, the Company is required to obtain prior approval of the FRB before it acquires, merges or consolidates with any bank or bank holding company. Any company seeking to acquire, merge or consolidate with the Company also would be required to obtain approval of the FRB. The Company is generally prohibited under the BHCA from acquiring ownership or control of more than 5% of the voting shares of any company that is not a bank or bank holding company and from engaging directly or indirectly in activities other than banking, managing banks, or providing services to affiliates of the holding company. A bank holding company, with the approval of the FRB, may engage, or acquire the voting shares of companies engaged, in activities that the FRB has determined to be so closely related to banking or managing or controlling banks as to be a proper incident thereto. A bank holding company must demonstrate that the benefits to the public of the proposed activity will outweigh the possible adverse effects associated with such activity. A bank holding company may acquire banks in states other than its home state without regard to the permissibility of such acquisitions under state law, but subject to any state requirement that the bank has been organized and operating for a minimum period of time, not to exceed five years, and the requirement that the bank holding company, prior to or following the proposed acquisition, controls no more than 10% of the total amount of deposits of insured depository institutions in the United States and no more than 30% of such deposits in that state (or such lesser or greater amount set by state law). Banks may also merge across states lines, therefore creating interstate branches. Furthermore, a bank is now able to open new branches in a state in which it does not already have banking operations, if the laws of such state permit such de novo branching. Under California law, (a) out-of-state banks that wish to establish a California branch office to conduct core banking business must first acquire an existing 5 year old California bank or industrial loan company by merger or purchase; (b) California state-chartered banks are empowered to conduct various authorized branch-like activities on an agency basis through affiliated and unaffiliated insured depository institutions in California and other states and (c) the Commissioner is authorized to approve an interstate acquisition or merger which would result in a deposit concentration exceeding 30% if the Commissioner finds that the transaction is consistent with public convenience and advantage. However, a state bank chartered in a state other than California may not enter California by purchasing a California branch office of a California bank or industrial loan company without purchasing the entire entity or by establishing a de novo California branch office. The FRB generally prohibits a bank holding company from declaring or paying a cash dividend which would impose undue pressure on the capital of subsidiary banks or would be funded only through borrowing or other arrangements that might adversely affect a bank holding company's financial position. The FRB's policy is that a bank holding company should not continue its existing rate of cash dividends on its common stock unless its net income is sufficient to fully fund each dividend and its prospective rate of earnings retention appears consistent with its capital needs, asset quality and overall financial condition. See "Restrictions on Dividends and Other Distributions" for additional restrictions. Transactions between the Company and the Bank are subject to a number of other restrictions. FRB policies forbid the payment by bank subsidiaries of management fees which are unreasonable in amount or exceed the fair market value of the services rendered (or, if no market exists, actual costs plus a reasonable profit). Subject to certain limitations, depository institution subsidiaries of bank holding companies may extend credit to, invest in the securities of, purchase assets from, or issue a guarantee, acceptance, or letter of credit on behalf of, an affiliate, provided that the aggregate of such transactions with affiliates does not exceed 10% of the capital stock and surplus of the institution, and the aggregate of such transactions with all affiliates does not exceed 20% of the capital stock and surplus of such institution. The Company may only borrow from depository institution subsidiaries if the loan is secured by marketable obligations with a value of a designated amount in excess of the loan. Further, the Company may not sell a low-quality asset to a depository institution subsidiary. The FRB has adopted comprehensive amendments to Regulation Y which became effective April 21, 1997, and are intended to improve the competitiveness of bank holding companies by, among other things: (i) expanding the list of permissible nonbanking activities in which well-run bank holding companies may engage without prior FRB approval, (ii) streamlining the procedures for well-run bank holding companies to obtain approval to engage in other nonbanking activities and (iii) eliminating most of the anti-tying restrictions imposed upon bank holding companies and their nonbank subsidiaries. Amended Regulation Y also provides for a streamlined and expedited review process for bank acquisition proposals submitted by well-run bank holding companies and eliminates certain duplicative reporting requirements in the event of a further change in bank control or in bank directors or officers after an earlier approved change. These changes to Regulation Y are subject to numerous qualifications, limitations and restrictions. In order for a bank holding company to qualify as "well-run," both it and the insured depository institutions that it controls must meet the "well-capitalized" and "well-managed" criteria set forth in Regulation Y. To qualify as "well-capitalized," the bank holding company must, on a consolidated basis: (i) maintain a total risk-based capital ratio of 10% or greater; (ii) maintain a Tier 1 risk-based capital ratio of 6% or greater; and (iii) not be subject to any order by the FRB to meet a specified capital level. Its lead insured depository institution must be well-capitalized as that term is defined in the capital adequacy regulations of the applicable bank regulator, 80% of the total risk-weighted assets held by its insured depository institutions must be held by institutions that are well-capitalized, and none of its insured depository institutions may be undercapitalized. To qualify as "well-managed:" (i) each of the bank holding company, its lead depository institution and its depository institutions holding 80% of the total risk-weighted assets of all its depository institutions at their most recent examination or review must have received composite, management and compliance ratings which were at least satisfactory; (ii) none of the bank holding company's depository institutions may have received one of the two lowest composite ratings; and (iii) neither the bank holding company nor any of its depository institutions during the previous 12 months may have been subject to a formal enforcement order or action. Bank Regulation and Supervision As a national bank, the Bank is regulated, supervised and regularly examined by the Office of the Comptroller of the Currency ("OCC"). Deposit accounts at the Bank are insured by Bank Insurance Fund ("BIF"), as administered by the Federal Deposit Insurance Corporation ("FDIC"), to the maximum amount permitted by law. The Bank is also subject to applicable provisions of California law, insofar as such provisions are not in conflict with or preempted by federal banking law. The Bank is a member of the Federal Reserve System, and is also subject to certain regulations of the FRB dealing primarily with check clearing activities, establishment of banking reserves, Truth-in-Lending (Regulation Z), Truth-in-Savings (Regulation DD), and Equal Credit Opportunity (Regulation B). The OCC may approve, on a case-by-case basis, the entry of bank operating subsidiaries into a business incidental to banking, including activities in which the parent bank is not permitted to engage. A national bank is permitted to engage in activities approved for a bank holding company through a bank operating subsidiary, such as acting as an investment or financial advisor, leasing personal property and providing financial advice to customers. In general, these activities are permitted only for well-capitalized or adequately capitalized national banks. By comparison, California state-chartered banks are regulated by the California Department of Financial Institutions ("DFI"). The DFI was created pursuant to AB 3351, effective July 1, 1997, and combines the State Banking Department, the Department of Savings and Loan, and regulatory oversight over industrial loan companies and credit unions with the DFI. Capital Standards The OCC and other federal banking agencies have risk-based capital adequacy guidelines intended to provide a measure of capital adequacy 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. government securities, to 100% for assets with relatively higher credit risk, such as certain loans. In determining the capital level the Bank is required to maintain, the OCC does not, in all respects, follow generally accepted accounting principles ("GAAP") and has special rules which have the effect of reducing the amount of capital it will recognize for the purpose of determining the capital adequacy of the Bank. A banking organization's risk-based capital ratios are obtained by dividing its qualifying capital by its total risk-adjusted assets and off balance sheet items. The regulators measure risk-adjusted assets and 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, other types of qualifying preferred stock and minority interests in certain subsidiaries, less most other intangible assets and other adjustments. Net unrealized losses on available-for-sale equity securities with readily determinable fair value must be deducted in determining Tier 1 capital. For Tier 1 capital purposes, deferred tax assets that can only be realized if an institution earns sufficient taxable income in the future are limited to the amount that the institution is expected to realize within one year, or ten percent of Tier 1 capital, whichever is less. Tier 2 capital may consist of a limited amount of the allowance for possible loan and lease losses, term preferred stock and other types of preferred stock not qualifying as Tier 1 capital, term subordinated debt and certain other instruments with some characteristics of equity. The inclusion of elements of Tier 2 capital are 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 and off balance sheet items of 8%, and a minimum ratio of Tier 1 capital to adjusted average risk-adjusted assets and off balance sheet items of 4%. On September 16, 1997, the FDIC adopted a final rule lowering the risk-based capital requirements for certain small business loans and leases sold with recourse. The final rule on small business loans and leases sold with recourse essentially makes permanent an interim interagency rule in effect since 1995 that reduced the minimum capital levels that institutions must maintain for those transactions. Under the final rule, a qualifying institution that sells small business loans and leases with recourse must hold capital only against the amount of recourse retained. In general, a qualifying institution is one that is well-capitalized under the FDIC's prompt corrective action rules. The amount of recourse that can receive the preferential capital treatment cannot exceed 15% of the institution's total risk-based capital. In addition to the risked-based guidelines, federal banking regulators require banking organizations to maintain a minimum amount of Tier 1 capital to adjusted average total assets, referred to as the leverage capital 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%. It is improbable, however, that an institution with a 3% leverage ratio would receive the highest rating by the regulators since a strong capital position is a significant part of the regulators' rating. 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. Thus, the effective minimum leverage ratio, for all practical purposes, must be at least 4% or 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 following tables present the capital ratios for the Company and the Bank, compared to the standards for well-capitalized depository institutions, as of December 31, 1997 (amounts in thousands except percentage amounts). (amounts in thousands, except percentages) - --------------------------------------------------------------------------------------------------------------------------- Actual Well Minimum ------------------------------------- Capitalized Capital The Company Capital Ratio Ratio Requirement - --------------------------------------------------------------------------------------------------------------------------- Leverage $29,167 9.07% 5.0% 4.0% Tier 1 Risk-based 29,167 11.28 6.0 4.0 Total Risk- based 32,415 12.53 10.0 8.0 The Bank - --------------------------------------------------------------------------------------------------------------------------- Leverage $28,879 8.97% 5.0% 4.0% Tier 1 Risk-based 28,879 11.17 6.0 4.0 Total Risk-based 32,126 12.43 10.0 8.0
Regulators must take into consideration concentrations of credit risk and risks from non-traditional activities, as well as an institution's ability to manage those risks, when determining the adequacy of an institution's capital. This evaluation will be made as a part of the institution's regular safety and soundness examination. Regulators must also consider interest rate risk (when the interest rate sensitivity of an institution's assets does not match the sensitivity of its liabilities or its off-balance-sheet position) in evaluation of a bank's capital adequacy. Prompt Corrective Action and Other Enforcement Mechanisms The Federal Deposit Insurance Corporation Improvement Act of 1991 ("FDICIA") 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. Under the prompt corrective action provisions of FDICIA, an insured depository institution generally will be classified in the following categories based on the capital measures indicated below: "Well capitalized" Total risk-based capital of 10%; Tier 1 risk-based capital of 6%; and Leverage ratio of 5%. "Adequately capitalized" Total risk-based capital of 8%; Tier 1 risk-based capital of 4%; and Leverage ratio of 4%. "Undercapitalized" Total risk-based capital less than 8%; Tier 1 risk-based capital less than 4%; or Leverage ratio less than 4%. "Significantly undercapitalized" Total risk-based capital less than 6%; Tier 1 risk-based capital 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 practice warrants such treatment. At each successive lower capital category, an insured depository institution is subject to more restrictions. 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. Additionally, a holding company's inability to serve as a source of strength to its subsidiary banking organizations could serve as an additional basis for a regulatory action against the holding company. Safety and Soundness Standards FDICIA also implemented certain specific restrictions on transactions and required federal banking regulators to adopt overall safety and soundness standards for depository institutions related to internal control, loan underwriting and documentation and asset growth. Among other things, FDICIA limits the interest rates paid on deposits by undercapitalized institutions, restricts the use of brokered deposits, limits the aggregate extensions of credit by a depository institution to an executive officer, director, principal shareholder or related interest, and reduces deposit insurance coverage for deposits offered by undercapitalized institutions for deposits by certain employee benefits accounts. Federal banking agencies may require an institution to submit to an acceptable compliance plan as well as the flexibility to pursue other more appropriate or effective courses of action given the specific circumstances and severity of an institution's noncompliance with one or more standards. Restrictions on Dividends and Other Distributions The power of the board of directors of an insured depository institution to declare a cash dividend or other distribution with respect to capital is subject to statutory and regulatory restrictions which limit the amount available for such distribution depending upon the earnings, financial condition and cash needs of the institution, as well as general business conditions. FDICIA prohibits insured depository institutions from paying management fees to any controlling persons or, with certain limited exceptions, making capital distributions, including dividends, if, after such transaction, the institution would be undercapitalized. The payment of dividends by a national bank is further restricted by additional provisions of federal law, which prohibit a national bank from declaring a dividend on its shares of common stock unless its surplus fund exceeds the amount of its common capital (total outstanding common shares times the par value per share). Additionally, if losses have at any time been sustained equal to or exceeding a bank's undivided profits then on hand, no dividend shall be paid. Moreover, even if a bank's surplus exceeded its common capital and its undivided profits exceed its losses, the approval of the OCC is required for the payment of dividends if the total of all dividends declared by a national bank in any calendar year would exceed the total of its net profits of that year combined with its retained net profits of the two preceding years, less any required transfers to surplus or a fund for the retirement of any preferred stock. A national bank must consider other business factors in determining the payment of dividends. The payment of dividends by the Bank is governed by the Bank's ability to maintain minimum required capital levels and an adequate allowance for loan losses. Regulators also have authority to prohibit a depository institution from engaging in business practices which are considered to be unsafe or unsound, possibly including payment of dividends or other payments under certain circumstances even if such payment are not expressly prohibited by statute. Premiums for Deposit Insurance and Assessments for Examinations FDICIA 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. FDICIA also provides authority for special assessments against insured deposits. No assurance can be given at this time as to what the future level of premiums will be. 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 substantive 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. Recently Enacted Legislation The Taxpayer Relief Act of 1997 provides for Education Individual Retirement Accounts ("Education IRA"), a new type of tax-free savings vehicle to pay qualified higher education expenses. A maximum of $500 per year may be contributed to Education IRAs for any beneficiary under the age of 18 years, provided the contributor has adjusted gross income for the year not exceeding $95,000 ($150,000 for joint returns). No income tax deduction is provided for a contribution to an Education IRA. Until a distribution is made from an Education IRA, earnings on contributions to the account are not subject to tax. Additional restrictions apply as well. During 1996, new federal legislation amended the Comprehensive Environmental Response, Compensation, and Liability Act ("CERCLA") and the underground storage tank provisions of the Resource Conservation and Recovery Act to provide lenders and fiduciaries with greater protections from environmental liability. In June 1997, the U.S. Environmental Protection Agency ("EPA") issued its official policy with regard to the liability of lenders under CERCLA as a result of the enactment of the Asset Conservation, Lender Liability and Deposit Insurance Protection Act of 1996. California law provides that, subject to numerous exceptions, a lender acting in the capacity of a lender shall not be liable under any state or local statute, regulation or ordinance, other than the California Hazardous Waste Control Law, to undertake a cleanup, pay damages, penalties or fines, or forfeit property as a result of the release of hazardous materials at or from the property. In 1997, California adopted the Environmental Responsibility Acceptance Act (Cal. Civil Code ss.ss. 850-855) to facilitate (i) the notification of government agencies and potentially responsible parties (e.g., for cleanup) of the existence of contamination and (ii) the cleanup or other remediation of contamination by the potentially responsible parties. The Act requires, among other things, that owners of sites who have actual awareness of a release of a hazardous material that exceeds a specified notification threshold to take all reasonable steps to identify the potentially responsible parties and to send a notice of potential liability to the parties and the appropriate oversight agency. Pending Legislation and Regulations There are pending legislative proposals to reform the Glass-Steagall Act to allow affiliations between banks and other firms engaged in "financial activities," including insurance companies and securities firms. On September 16, 1997, the FDIC proposed two new rules governing minimum capital levels that FDIC-supervised banks must maintain against the risks to which they are exposed. The first proposed rule would make risk-based capital standards consistent for two types of credit enhancements (i.e., recourse arrangements and direct credit substitutes) and would require different amounts of capital for different risk positions in asset securitization transactions. The second proposed rule would permit limited amounts of unrealized gains on equity securities to be recognized for risk-based capital purposes. Certain other pending legislative proposals include bills to permit banks to pay interest on business checking accounts, to cap consumer liability for stolen debit cards, and to give judges the authority to force high-income borrowers to repay their debts rather than cancel them through bankruptcy. Competition 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. Other institutions, such as brokerage houses, mutual fund companies, credit card companies, and even retail establishments have offered new investment vehicles which also compete with banks for deposit business. The direction of federal legislation in recent years seems to favor competition between different types of financial institutions and to foster new entrants into the financial services market, and it is anticipated that this trend will continue. The enactment of the Interstate Banking and Branching Act in 1994 as well as the California Interstate Banking and Branching Act of 1995 will likely increase competition within California. Regulatory reform, as well as other changes in federal and California law will also affect competition. While the impact of these changes, and of other proposed changes, cannot be predicted with certainty, it is clear that the business of banking in California will remain highly competitive. Certain Additional Business Risks The Company's business, financial condition and operating results can be impacted by a number of factors, including but not limited to those set forth below, any one of which could cause the Company's actual results to vary from the Company's anticipated future results. Shares of the Company Common Stock eligible for future sale could have a dilutive effect on the market for Company Common Stock and could adversely affect the market price. The Articles of Incorporation of the Company authorize the issuance of 20,000,000 shares of common stock, of which approximately 2,493,000 shares were outstanding at December 31, 1997. Pursuant to its stock option plans, at December 31, 1997, the Company had outstanding options to purchase an aggregate of 313,960 shares of Company Common Stock. As of December 31, 1997, 153,025 shares of Company Common Stock remained available for option grants under the stock option plans. Sales of substantial amounts of Company Common Stock in the public market could adversely affect the market price of the Common Stock. The Company has previously announced its intention to pursue acquisitions of other financial services companies from time to time when such acquisitions are believed by the Company to enhance shareholder value or satisfy other strategic objectives of the Company. Other acquisitions, if any, could be accomplished by the issuance of additional shares of Company Common Stock or other securities convertible into or exercisable for such Common Stock. The loan portfolio of the Company is dependent on real estate. At December 31, 1997, real estate served as the principal source of collateral with respect to approximately 53% of the Company's loan portfolio. A worsening of current economic conditions or rising interest rates could have an adverse effect on the demand for new loans, the ability of borrowers to repay outstanding loans, the value of real estate and other collateral securing loans and the value of the available for sale investment portfolio, as well as the Company's financial condition and results of operations in general and the market value for Company Common Stock. Acts of nature, including earthquakes and floods, which may cause uninsured damage and other loss of value to real estate that secures these loans, may also negatively impact the Company's financial condition. The Bank is subject to certain operational risks, including, but not limited to, data processing system failures and errors and customer or employee fraud. The Bank maintains a system of internal controls to mitigate such occurrences and maintains insurance coverage for such risks, but should such an event occur that was not prevented or detected by the Bank's internal controls, or that was uninsured or in excess of the applicable insurance limits, it could have a significant negative impact on the Company's financial condition or results of operations. The risks associated with the "Year 2000" problem involve both operational issues relating to the Bank's data processing systems and the impact of this problem on the operations of the Bank's customers. Both of these issues could have a significant negative impact on the Company's financial condition or results of operations including the level of the Bank's provision for possible loan losses in future periods. Statistical Data Certain consolidated statistical information concerning the business of the Company appears on page 12, under the caption "Selected Financial Data;" on pages 13 through 29, under the caption "Management's Discussion and Analysis of Financial Condition and Results of Operations;" on pages 30 and 31, under the caption "Quantitative and Qualitative Disclosures about Market Risk;" and on pages 31 through 51, in the Company's Consolidated Financial Statements. Ratios relating to the Company's Return on Equity and Assets appear on page 12. The section entitled "Management's Discussion and Analysis of Financial Condition and Results of Operations" should be read in conjunction with the Company's Consolidated Financial Statements. ITEM 2: PROPERTIES The Company shares common quarters with SJNB's only office at One North Market Street, San Jose, California, 95113. Purchased by the Bank in 1985, the building consists of approximately 24,000 square feet of basement, ground floor and second floor space and is constructed and equipped to meet prescribed security requirements. In addition, the Bank assumed BB's lease for approximately 12,000 square feet located at 95 South Market Street, San Jose, California when the Company acquired BB in October 1994. Approximately 9,000 square feet of space at this location is currently being occupied by two third-party tenants under subleases which expire in September 2004 upon termination of the original BB lease. The remaining space at this location is being occupied by the Bank's Financial Services Division. In the opinion of management, adequate insurance is being maintained on these properties. The Bank has invested in loans secured by real property collateral. The Bank's policies with respect to such loans are described under the caption "Management's Discussion and Analysis of Financial Condition and Results of Operations - Loan Portfolio." The Bank's policies on real estate secured loans may be changed without a vote of security holders. ITEM 3: LEGAL PROCEEDINGS Other than as set forth below, neither the Company or the Bank is a party to any material pending legal proceeding, nor is their property the subject of any material pending legal proceeding, except ordinary routine legal proceedings arising in the ordinary course of the Bank's business and incidental to its business, none of which are expected to have a material adverse impact upon the Company's business, financial position or results of operations. The Bank has been named as a defendant in a lawsuit filed in the Santa Clara County Superior Court (which has subsequently been remanded to U. S. Bankruptcy Court jurisdiction) by Giannotta Properties, Inc. (the "Borrower"). The Borrower had borrowed money from the Bank, had defaulted, and in settlement of a subsequent lawsuit for collection, had given the Bank a security interest in certain real property as security for the loan. The Borrower again defaulted on the loan, the Bank declared a default and the foreclosure trustee conducted a foreclosure sale of the real property on January 17, 1995. The property was purchased at the foreclosure sale by a third party. The Bank recovered the full amount owed to it by the Borrower. On January 18, 1995, the Borrower filed suit against the Bank, the foreclosure trustee, the third party property purchaser, and various other parties, alleging, among other things, a claim that the foreclosure sale was improperly conducted. On December 22, 1996, the Borrower filed its First Amended Complaint against a number of defendants alleging "about $5 million" in damages as a result of the conduct described in its claims, which amount appears to be unsubstantiated by the Borrower's pleadings or subsequent discovery. The Bank answered the First Amended Complaint on February 10, 1997 denying all causes of action. The Plaintiff first and foremost seeks to overturn the foreclosure sale. If Plaintiff is successful in that result, no damages will be held against the Bank. If the Court finds that Plaintiff is entitled to unwind the sale, but for some reason the real property is unavailable, money damages could be awarded against the Bank; however, this result could be reached only if the Court finds that the Notice of Sale recorded during the foreclosure and subsequent continuances of the sale were legally defective. This is a question of law, and the Bank cannot at the date of this Report predict how this question will be resolved. The Bank intends to vigorously defend this lawsuit. During 1995, the Bank (along with Comerica Bank-California, Santa Clara Land Title and three principals of Century Loan Corporation) was served with a civil complaint in a class action lawsuit filed in the Superior Court of Santa Clara County, California. The lawsuit stemmed from the failure of Century Loan, a real estate investment company now in bankruptcy, that borrowed approximately $750,000 from the Bank during 1994. Plaintiffs were persons who invested in deeds of trust sold by Century Loan. Their complaint alleged that they were defrauded by Century Loan and its principals and that the Bank and other defendants aided and abetted a fraudulent Ponzi scheme by the principals of Century Loan. The Court granted class certification to the Plaintiffs in December 1995, permitting them to proceed on behalf of all Century Loan investors. On November 26, 1996, the Court granted summary judgment in favor of the Bank on all of the Plaintiff's claims against it. The Court found no evidence that the Bank had participated in any conspiracy with or aided and abetted Century Loan. On December 4, 1996, the Court entered judgment in favor of the Bank, dismissing the Plaintiffs' claims. Plaintiff's motion for a new trial was denied on January 27, 1997 and has subsequently been appealed. Plaintiffs have filed their opening brief on appeal. Counsel for the Bank has filed a responsive brief. The California Bankers Association has filed an amicus (friend-of-the-court) brief arguing in favor of the Bank's position. Oral argument has not yet been scheduled. ITEM 4: SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS No matter was submitted to a vote of security holders during the fourth quarter of the fiscal year covered by this Report. PART II ITEM 5: MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS As of March 3, 1998, the Company had 2,516,558 shares of Common Stock outstanding, held by approximately 1,800 beneficial shareholders. The Company's Common Stock is listed on the NASDAQ National Market System under the symbol "SJNB." The market makers of the common stock are: Sutro & Co., Hoefer & Arnett, Inc., Dean Witter Reynolds, Inc., Sandler O'Neill & Partners, Van Kasper & Co., Inc., Torrey Pines Securities Inc., Herzog, Heine, Geduld, Inc. and Wedbush Morgan Securities, Inc. Stock Price The following sets forth the high and low sales prices for the Company's Common Stock during the periods indicated, as reported by NASDAQ, and the per share cash dividends declared on the Common Stock. QUARTERLY COMMON STOCK PRICE - ----------------------------------------------------------- Price of Common Stock Cash High Low Dividends - ----------------------------------------------------------- 1996 - ----------------------------------------------------------- First Quarter $14.38 $13.13 ----- Second Quarter 16.88 14.00 $.15 Third Quarter 19.38 17.00 ----- Fourth Quarter 20.88 18.75 .18 - ----------------------------------------------------------- 1997 - ----------------------------------------------------------- First Quarter 26.00 18.75 ----- Second Quarter 26.00 22.50 .21 Third Quarter 32.25 24.75 ----- Fourth Quarter 42.00 30.75 .24 - ----------------------------------------------------------- 1998 - ----------------------------------------------------------- First quarter (through March 3, 1998) 37.00 33.50 .14* *Declared by the Board of Directors on January 21, 1998 and payable on March 2, 1998 to shareholders of record on February 9, 1998. The Company's Board of Directors considers the advisability and amount of proposed dividends each year. Future dividends will be determined in light of the Company's earnings, financial condition, future capital funds, regulatory requirements and such other factors as the Board of Directors may deem relevant. The Company's primary source of funds for payment of dividends to its shareholders will be receipt of dividends and management fees from the Bank. The payment of dividends by banks is subject to various legal and regulatory restrictions. See "Business - Supervision and Regulation Restrictions on Dividends and Other Distributions." From the period of 1993 through 1997, the Company maintained a policy of paying semi-annual dividends to its shareholders. Effective with the first quarter of 1998, the Company commenced a policy to pay quarterly cash dividends to its shareholders. It is the intention of the Company to continue payment of dividends, subject to financial results and other factors which could limit or restrict dividends as more fully discussed elsewhere herein.
ITEM 6: SELECTED FINANCIAL DATA The following presents selected financial data and ratios for the five years ended December 31, 1997: (dollars in thousands, except per share amounts) - ----------------------------------------------------------------------------------------------------------------------------- As of and for the Years Ended December 31, STATEMENT OF OPERATIONS DATA : 1997 1996 1995 1994 1993 - ----------------------------------------------------------------------------------------------------------------------------- Net interest income $18,489 $16,468 $14,295 $9,749 $7,163 Provision for possible loan losses (705) (190) (1,045) (600) (625) Other income 1,013 846 966 744 682 Other expenses (9,910) (9,635) (8,797) (6,676) (5,276) - ----------------------------------------------------------------------------------------------------------------------------- Income before income taxes 8,887 7,489 5,419 3,217 1,944 Income taxes 3,773 3,198 2,395 1,354 758 - ----------------------------------------------------------------------------------------------------------------------------- Net income $5,114 $4,291 $3,024 $1,863 $1,186 ============================================================================================================================= PER SHARE DATA: - ----------------------------------------------------------------------------------------------------------------------------- Net income per share - basic $2.04 $1.73 $1.27 $1.05 $0.71 Net income per share - diluted 1.94 1.64 1.22 1.00 0.70 Cash dividends per share 0.45 0.33 0.21 0.16 0.14 Shareholders' equity per share 13.30 12.14 11.02 9.92 9.86 Tangible shareholders' equity per share 11.80 10.40 9.06 7.84 9.86 ============================================================================================================================= BALANCE SHEET DATA: - ----------------------------------------------------------------------------------------------------------------------------- Balance sheet totals-end of year: Assets $324,919 $309,403 $252,195 $205,949 $127,967 Loans 228,972 198,627 170,800 149,407 97,958 Deposits 270,345 244,639 196,692 180,287 109,712 Shareholders' equity 33,159 31,205 26,658 23,442 16,064 Average balance sheet amounts: Assets $314,460 $274,868 $222,913 $153,717 $117,627 Loans 212,795 183,367 152,820 112,818 84,457 Earning assets 286,585 251,156 202,996 140,445 106,999 Deposits 265,340 217,716 183,282 133,897 100,899 Shareholders' equity 31,091 28,288 24,898 18,210 15,551 ============================================================================================================================= SELECTED RATIOS: - ----------------------------------------------------------------------------------------------------------------------------- Return on average equity 16.45% 15.17% 12.15% 10.23% 7.63% Return on average assets 1.63 1.56 1.36 1.21 1.01 Efficiency ratio (non-interest expense as a percentage of total revenues) 50.82 55.65 57.64 63.62 67.25 Efficiency ratio excluding the amortization of intangibles and goodwill 48.39 52.77 53.92 62.04 67.25 Dividend payout ratio 21.95 19.30 16.67 17.18 19.22 Average equity to average assets 9.89 10.29 11.17 11.85 13.22 Leveraged capital ratio 9.06 9.28 9.00 9.33 12.02 Nonperforming loans to total loans 0.19 0.27 0.52 3.67 3.75 Net chargeoffs to average loans 0.10 0.04 0.33 1.11 0.14 Allowance for loan losses to total loans 1.96 2.02 2.25 2.22 2.10 Allowance for loan losses to nonperforming loans 1,060.00 733.00 430.00 60.00 56.00
ITEM 7: MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS This Annual Report on Form 10-K includes forward-looking information within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended, and are subject to the "safe harbor" created by those sections. These forward-looking statements (which do not involve the historical or financial statement information herein) involve certain risks and uncertainties that could cause actual results to differ materially from those in the forward-looking statement. Such risks and uncertainties include, but are not limited to, the following factors: competitive pressure in the banking industry; changes in the interest rate environment; general economic conditions, either nationally or regionally, are less favorable than expected, resulting in, among other things, a deterioration in credit quality and an increase in the provision for possible loan losses; changes in the regulatory environment; changes in business conditions, particularly in Santa Clara County and in the semiconductor industry; certain operational risks involving data processing systems or fraud; volatility of rate sensitive deposits; asset/liability matching risks and liquidity risks; risks associated with the Year 2000; and changes in the securities markets. See also the section included herein "Year 2000" and "Business - Certain Additional Business Risks" and other risk factors discussed elsewhere in this Report. The purpose of the following discussion is to address information pertaining to the financial condition and results of operations of the Company that may not be apparent from a review of the consolidated financial statements and related notes. It also incorporates certain statistical information that is required by Industry Guide 3 promulgated by the Securities and Exchange Commission. The discussion should be read in conjunction with the aforementioned consolidated financial statements, as found on pages 32 through 54. The interest earned and yields on nontaxable securities have been adjusted to a fully-taxable equivalent basis for all financial information presented in this Item 7. Dollars are in thousands in the text, except per share amounts or as otherwise noted. Financial Review Earnings Summary For the year ended December 31, 1997, the Company reported net income of $5.1 million or $1.94 per diluted share as compared to net income of $4.3 million or $1.64 per diluted share in December 31, 1996 (a 19% increase). Net income for the year increased substantially over that of a year ago primarily due to the increase of $2.0 million in net interest income offset by increases in the loan loss provision and non-interest expense. For the year ended December 31, 1996, the Company reported net income of $4.3 million or $1.64 per diluted share as compared to net income of $3.0 million or $1.22 per diluted share in December 31, 1995 (a 43% increase). Net income for the year increased substantially over that of the prior year primarily due to the increase of $2.2 million in net interest income and a decrease in the provision for loan losses of $855 in 1996. The increase in net interest income and the reduction in the provision for loan losses was offset by an increase in expenses primarily related to the increase in volumes. As of December 31, 1997, consolidated assets were $325 million, gross loans were $229 million, and deposits were $270 million. Total consolidated assets increased $16 million from $309 million a year ago, representing a 5.2% increase. Loan and deposit growth was generated by increased marketing and business development efforts of the Bank. As of December 31, 1996, consolidated assets were $309 million, gross loans were $199 million, and deposits were $245 million. Total consolidated assets increased $57 million from $252 million in the prior year, representing a 23% increase. Loan and deposit growth was generated by increased marketing and business development efforts of the Bank. Net Interest Income and Margin Net interest income is the principal source of the Company's operating earnings. Significant factors affecting net interest income are rates, volumes and mix of the loan investment and deposit portfolios.
The following table shows the composition of average earning assets and average funding sources, average yields and rates and the net interest margin for the three years ended December 31, 1997. AVERAGE BALANCES, RATES AND YIELDS (dollars in thousands) 1997 1996 1995 - ---------------------------------------------------------------------------------------------------------------------------- Average Avg. Average Avg. Average Avg. Yield/ Yield/ Yield/ Assets Balance Interest Rate Balance Interest Rate Paid Balance Interest Rate Paid Paid - ---------------------------------------------------------------------------------------------------------------------------- Interest earning assets: Loans, net (1) $212,795 $22,732 10.68% $183,367 $20,422 11.14% $152,820 $18,016 11.79% Securities available for sale (2) 48,178 2,982 6.19 47,666 2,907 6.10 30,619 1,847 6.03 Securities held to maturity: Taxable (3) 11,929 806 6.76 12,356 813 6.58 12,122 758 6.25 Nontaxable (4) 2,916 235 8.06 2,866 227 7.91 2,601 201 7.72 Money market investments 10,767 586 5.44 4,901 258 5.26 4,834 280 5.79 Interest rate hedging instruments ---- (9) ---- ---- (9) ---- ---- (43) ---- - ---------------------------------------------------------- ------------------- ------------------- Total interest-earning assets 286,585 27,332 9.54 251,156 24,618 9.80 202,996 21,059 10.37 - ---------------------------------------------------------- ------------------- ------------------- Allowance for possible loan losses (4,162) (3,980) (3,574) Cash and due from banks 20,008 15,944 11,668 Other assets 7,835 6,842 7,035 Core deposit intangibles and goodwill, net 4,194 4,906 4,788 - ------------------------------------------------ ---------- --------- Total $314,460 $274,868 $222,913 ================================================ ========== ========= Liabilities and Shareholders' Equity Interest-bearing liabilities: Deposits: Interest-bearing demand $46,126 1,178 2.55 $41,322 1,155 2.79 $30,915 1,158 3.74 Money market and savings 85,696 3,061 3.57 60,833 2,035 3.35 51,654 1,751 3.39 Certificates of deposit: Less than $100 14,987 792 5.28 14,628 802 5.48 15,519 826 5.32 $100 or more 53,662 2,964 5.52 46,794 2,608 5.57 40,305 2,232 5.54 - ---------------------------------------------------------- ------------------- ------------------- Total certificates of deposit 68,649 3,756 5.47 61,422 3,410 5.55 55,824 3,058 5.48 - ---------------------------------------------------------- ------------------- ------------------- Other short-term borrowings 12,610 754 5.98 24,467 1,459 5.96 11,663 716 5.88 - ---------------------------------------------------------- ------------------- ------------------- Total interest-bearing liabilities 213,081 8,749 4.11 188,044 8,059 4.29 150,056 6,683 4.45 - ---------------------------------------------------------- ------------------- ------------------- Noninterest-bearing demand 64,869 54,139 44,889 Accrued interest payable and other liabilities 5,419 4,397 3,070 - ------------------------------------------------ ---------- --------- Total liabilities 283,369 246,580 198,015 - ------------------------------------------------ ---------- --------- Shareholders' equity 31,091 28,288 24,898 - ------------------------------------------------ ---------- --------- Total $314,460 $274,868 $222,913 ================================================---------- ==========--------- =========---------- Net interest income and margin (5) $18,583 6.48% $16,559 6.59% $14,376 7.08% ======================================= =================== =================== =================== (1) Includes amortized loan fees of $1,014 for 1997, $1,018 for 1996 and $1,123 for 1995. Nonperforming loans have been included in average loan balances. (2) Includes dividend income of $219, $217 and $233 received in 1997, 1996 and 1995, respectively. (3) Includes dividend income of $31 received in 1997 and 1996 and $30 in 1995. (4) Adjusted to a fully taxable equivalent basis using the federal statutory rate ($94 in 1997, $91 in 1996 and $81 in 1995). (5) The net interest margin represents the net interest income as a percentage of average earning assets.
The following table shows the effect on the interest differential of volume and rate changes for the years ended December 31, 1997 and 1996: VOLUME/RATE ANALYSIS (dollars in thousands) 1997 vs. 1996 1996 vs. 1995 - ---------------------------------------------------------------------------------------------------------------------------- Increase (decrease) Increase (decrease) due to change in due to change in - ---------------------------------------------------------------------------------------------------------------------------- Average Average Total Average Average Total Volume Rate Change Volume Rate (2) Change - ---------------------------------------------------------------------------------------------------------------------------- Interest income: Loans (1) $3,098 $(788) $2,310 $3,326 $(500) $2,826 Securities: Available for sale 31 44 75 1,039 21 1,060 Taxable (32) 25 (7) 15 40 55 Nontaxable 4 4 8 21 5 26 Money market investments 319 9 328 4 (26) (22) - ---------------------------------------------------------------------------------------------------------------------------- Total interest income 3,420 (706) 2,714 4,405 (460) 3,945 - ---------------------------------------------------------------------------------------------------------------------------- Interest expense: Interest checking 90 (67) 23 (12) 9 (3) Money market and savings 880 146 1,026 307 (23) 284 Certificates of deposits: Less than $100 21 (31) (10) (51) 27 (24) $100 or greater 379 (23) 356 361 15 376 Other short-term borrowings (709) 4 (705) 733 10 743 - ---------------------------------------------------------------------------------------------------------------------------- Total interest expense 661 29 690 1,338 38 1,376 - ---------------------------------------------------------------------------------------------------------------------------- Interest rate hedging instruments ---- ---- ---- ---- 34 34 - ---------------------------------------------------------------------------------------------------------------------------- Change in net interest income $2,759 $(735) $2,024 $3,067 $(464) $2,603 ============================================================================================================================ (1) The effect of the change in loan fees is included as an adjustment to the average rate and is described in greater detail below. (2) Excluded from the average rate column for interest income on loans is $420 of interest income collected in 1995 on a cash basis which pertains to prior periods.
Consolidated net interest income (on a fully taxable equivalent basis) was $18.6 million in 1997, as compared to $16.6 million in 1996. The $2.0 million increase in net interest income during 1997 was due primarily to an increase in the volume of earning assets. The Bank's net interest margin for 1997 was 6.48%, as compared to 6.59% in 1996. The decrease in the net interest margin was primarily due to the impact of the competitive market and the resulting pressure on loan interest rates. The Bank's average prime was 8.44% in 1997, as compared to 8.27% in 1996. In a declining rate environment, the Company must generally increase its earning assets in order to maintain net interest income growth. Consolidated net interest income (on a fully taxable equivalent basis) was $16.6 million in 1996, as compared to $14.4 million in 1995. The $2.2 million increase in net interest income during 1996 was due primarily to an increase in the volume of earning assets. The Bank's net interest margin for 1996 was 6.59%, as compared to 7.08% in 1995. The decrease in the net interest margin was primarily due to: (i) the receipt of substantial interest income on a cash basis in 1995 (approximately $588) for loans that had been on nonaccrual status; (ii) the impact of the declining interest rate environment in 1996; and (iii) the impact of the competitive market and the resulting pressure on loan interest rates. The Bank's average prime was 8.27% in 1996, as compared to 8.83% in 1995. Loan fees contributed 4.5% of loan portfolio interest during 1997, 5.0% in 1996 and 6.2% in 1995. This decline in the proportion of loan fees to total loan interest was due mainly to the increase in the competitive atmosphere relating to loan pricing, the overall level of interest rates and the higher proportion of SBA loans included in the loan portfolio (SBA loans generally have lower origination fees). Interest expense in 1997 was $8.7 million as compared to $8.1 million in 1996. This was mainly due to the increase in volumes. Actual interest expense rates declined from 4.29% in 1996 to 4.11% in 1997 (this compares to a decrease in the yields on earning assets of 9.80% in 1997 to 9.54% in 1996). Proportionately interest expense declined at a greater rate than interest income in management's view because the Bank took measures to assure the most efficient product pricing for deposit products. Interest expense in 1996 was $8.1 million as compared to $6.7 million in 1995. This was mainly due to the increase in volumes. Actual interest expense rates declined from 4.45% in 1995 to 4.29% in 1996. This compares to a decrease in the yields on earning assets of 10.37% in 1995 to 9.80% in 1996. A substantial portion of the Bank's deposits (an average of 24% in 1997, 25% in 1996 and 24% in 1995) are non interest-bearing and therefore do not reprice when interest rates change. See "Funding." This is somewhat ameliorated by a significant amount of corporate account balances which are tied to earnings credits and utilized to offset bank service costs. Due to the nature of the Company's lending markets in which loans are generally tied to the Prime rate, an increase in interest rates should positively affect the Company's future earnings, while a decline in interest rates would have a negative impact. In late 1997 and early 1998, market interest rates declined significantly due to several factors most notable of which were the strengthening of the dollar, the Asia crisis and the collective wisdom that inflation has receded. Should this "market" trend of declining interest rates continue during 1998, the Bank could experience an additional increase in its cost of funds relative to the yields earned on its earning assets and a decrease in its net interest margin. The Company's net interest margin for the periods presented is high relative to its peer group, mainly due to its high proportion of non interest-bearing deposits and the impact of the Bank's Financial Services Division. Net interest income also reflects the impact of nonperforming loans. The effect of nonaccrual loans on interest income for the years ended December 31, 1997, 1996 and 1995 was as follows: NEGATIVE IMPACT OF NONACCRUAL LOANS (dollars in thousands) For the Years Ended December 31, - ------------------------------------------------------------ 1997 1996 1995 1994 1993 - ------------------------------------------------------------ Interest revenue which would have been recorded under original terms $61 $35 $111 $359 $265 Interest revenue actually realized 32 29 11 121 126 - ------------------------------------------------------------ Negative impact on interest revenue $29 $6 $100 $238 $139 ============================================================ This table does not reflect the cash basis interest received on several significant loan collections during 1995, as such loans were not classified as nonaccrual as of the end of the year. The impact of such was significant in 1995. Approximately $588 of interest income was recognized in 1995 on collection of certain loans classified nonaccrual, which resulted in a 29 basis point impact on the net interest margin. Provision for Possible Loan Losses The level of the allowance for possible loan losses (and therefore the related provision) reflects the Company's judgment as to the inherent risks associated with the loan and factoring portfolios. Since estimates of the adequacy of the Company's allowance for possible loan losses are based on foreseeable risks, such judgments are subject to change based on changing circumstances. Based on management's current evaluation of such risks, as well as judgments of the Company's regulators, additions of $705, $190 and $1.0 million were made to the allowance for possible loan losses in 1997, 1996 and 1995, respectively. Management's determinations of the provision in 1997, 1996 and 1995 were based on the measurement of the possibility of future estimated loan losses through various objective and subjective criteria and the impact of net chargeoffs. See "Loan Portfolio" for a detailed discussion of asset quality and the allowance for possible loan losses. Other Income
The following table sets forth the components of other income and the percentage distribution of such income for the years ended December 31, 1997, 1996 and 1995. OTHER INCOME (dollars in thousands) 1997 1996 1995 - ---------------------------------------------------------------------------------------------------------------------------- Amount Percent Amount Percent Amount Percent - ---------------------------------------------------------------------------------------------------------------------------- Depositor service charges $607 59.92% $551 65.13% $553 57.25% Other operating income 453 44.72 437 51.65 456 47.20 Net loss on securities available for sale (47) (4.64) (142) (16.78) (43) (4.45) - ---------------------------------------------------------------------------------------------------------------------------- Total $1,013 100.00% $846 100.00% $966 100.00% ============================================================================================================================
Other income totaled $1.013 million in 1997, $846 in 1996 and $966 in 1995. This reduced levels of other income in 1996 were the result of the recognition of $142 of securities losses in that year. Other Expense The components of other expense are set forth in the following table for the years ended December 31, 1997, 1996 and 1995.
OTHER EXPENSE AS A PERCENT OF AVERAGE ASSETS (dollars in thousands) - ---------------------------------------------------------------------------------------------------------------------------- 1997 1996 1995 Amount Percent Amount Percent Amount Percent - ---------------------------------------------------------------------------------------------------------------------------- Salaries and benefits $5,725 1.82% $5,517 2.01% $4,339 1.95% Occupancy 725 .23 701 .26 740 .33 Amortization of core deposit intangibles and goodwill 473 .15 499 .18 569 .26 Data processing 441 .14 554 .20 458 .20 Business promotion 369 .12 365 .13 314 .14 Client services 345 .11 247 .09 247 .11 Legal and professional fees 331 .11 369 .13 476 .21 Directors' fees and costs 226 .07 219 .08 239 .11 Stationery and supplies 183 .06 183 .07 180 .08 Advertising 171 .05 236 .09 186 .08 Regulators' assessments 109 .03 72 .03 283 .13 Loan and collection 104 .03 151 .05 215 .10 Net cost of other real estate owned (72) (.02) (48) (.02) 45 .02 Other 780 .25 570 .21 506 .23 - --------------------------------------------------------------------------------------------------------------------------- Total $9,910 3.15% $9,635 3.51% $8,797 3.95% ============================================================================================================================
Total other expenses increased approximately $275 or 2.8% in 1997 as compared to 1996. This is primarily related to the increase in salaries and benefits due to staff growth related to the increased level of Bank's business activity and an increase in the provision for incentive payments for exceeding predefined goals. Business promotion and advertising expenses declined due to costs of promotions incurred in 1996. In addition, the Bank's data processing costs declined due to the termination of payments for its previous data processing software. During 1997 the Bank acquired a new processing system for a total cost of approximately $600. This cost will be amortized over a five year period commencing in November 1997. Amortization of core deposit intangibles is based on a declining balance method, and as such, the amount charged to expense will decline each year. Costs relating to client services increased approximately $100 during 1997 as compared to 1996 mainly due to the addition of significant clients utilizing services purchased by the Bank. Total other expenses increased approximately $838 or 9.5% in 1996 as compared to 1995. This is primarily related to the increase in salaries and benefits due to the January 1996 acquisition of Astra Financial Corp., staff growth related to the increased level of Bank's business activity and an increase in the provision for incentive payments for exceeding predefined goals. Business promotion and advertising expenses rose due to increased competitive pressure. In addition, the Bank made significant investments in technology to support the continued productivity of its staff. The FDIC reduced its premium on insurable deposits effective June 1995 from 23 cents per $100 of deposits to 4 cents. This resulted in savings to the Bank of $216 for 1996. Currently the premium on insurable deposits is 1.3 cents per $100 of insured deposits. In addition, as the Bank's credit quality continued to improve in 1996, there were significant reductions in its related cost, such as legal and professional fees, loan and collection expense and the net costs of other real estate owned, totaling $264. Income Taxes The effective tax rate was 42% in 1997, 43% in 1996 and 44% in 1995. The lower effective tax rates in 1997 and 1996 was primarily due to the reduction in the amount and proportion of amortization of the nondeductible portion of intangibles to pretax income arising in connection with the purchase of BB and Astra Financial Corp. Quarterly Income The unaudited consolidated income statement data of the Company and the Bank, in the opinion of management, includes all normal and recurring adjustments necessary to state fairly the information set forth therein. The results of operations are not necessarily indicative of results for any future period. The following table shows the Company's unaudited quarterly income statement data for the years 1997 and 1996: UNAUDITED QUARTERLY INCOME STATEMENT DATA (dollars in thousands, except per share amounts) - ----------------------------------------------------------------------------------------------------------------------------- First quarter Second quarter Third quarter Fourth quarter 1997 1996 1997 1996 1997 1996 1997 1996 - ----------------------------------------------------------------------------------------------------------------------------- Net interest income $4,208 $3,921 $4,635 $4,019 $4,675 $4,228 $4,971 $4,300 Provision for possible loan losses ----- (20) (180) (30) (215) (50) (310) (90) Other income 268 260 221 173 247 182 277 231 Other expenses (2,387) (2,473) (2,526) (2,340) (2,463) (2,423) (2,534) (2,399) - ----------------------------------------------------------------------------------------------------------------------------- Income before income taxes 2,089 1,688 2,150 1,822 2,244 1,937 2,404 2,042 Income taxes (884) (729) (908) (778) (948) (817) (1,033) (874) - ----------------------------------------------------------------------------------------------------------------------------- Net income $1,205 $959 $1,242 $1,044 $1,296 $1,120 $1,371 $1,168 ============================================================================================================================= Net income per share - basic $0.47 $0.40 $0.50 $0.43 $0.52 $0.45 $0.55 $0.46 ============================================================================================================================= Net income per share - diluted $0.45 $0.37 $0.48 $0.40 $0.50 $0.42 $0.52 $0.44 =============================================================================================================================
The Company reported net income of $1,371 for the quarter ended December 31, 1997, compared with net income of $1,168 for the fourth quarter of 1996. The results for the fourth quarter of 1996 as compared to the same quarter a year ago reflect an increase in volume of earning assets ($287 million in 1997 compared to $251 million in 1996) offset by a decline in net interest margins (6.48% in 1997 and 6.59% in 1996), a higher loan loss provision due to growth of loan portfolio and increased salaries and benefits relating to the increase volume of activity. Financial Condition and Earning Assets Money Market Investments Money market investments, which include federal funds sold and other short-term investments were $2.7 million at December 31, 1997 as compared to $19.8 million at December 31, 1996. This decrease relates to the reduction in the amount of the Bank's short-term borrowings of $13.7 million. The average balance of money market investments, which include federal funds sold and liquid money market investments, was $10.8 million in 1997 and $4.9 million in 1996. These balances represented 4% and 2% of average deposits for 1997 and 1996, respectively. They are maintained primarily for the short-term liquidity needs of the Bank. The increase in money market investments related to the growth of certain volatile deposits. See "Capital and Liquidity." Securities
The following table shows the book value composition of the securities portfolio at December 31, 1997, 1996 and 1995. At December 31, 1997 there were no issuers of securities for which the aggregate book value of securities of such issuer held by the Bank exceeded 10% of the Company's shareholders' equity. INVESTMENT SECURITIES COMPOSITION (dollars in thousands) December 31, - ---------------------------------------------------------------------------------------------------------------------------- 1997 1996 1995 - ---------------------------------------------------------------------------------------------------------------------------- Investment securities available for sale: U. S. Treasury $5,041 $4,005 $4,057 U. S. Government Agencies 34,327 34,285 34,578 Mortgage Backed 5,171 5,868 9 Mutual funds 3,766 3,886 3,898 - ---------------------------------------------------------------------------------------------------------------------------- Investment securities available for sale 48,305 48,044 42,542 - ---------------------------------------------------------------------------------------------------------------------------- Investment securities held to maturity: U. S. Treasury 1,992 1,975 4,265 U. S. Government Agencies 5,485 7,463 4,976 State and municipal 3,224 2,635 3,060 Mortgage Backed 2,518 2,481 2,428 Other 518 518 519 - ---------------------------------------------------------------------------------------------------------------------------- Investment securities held to maturity 13,737 15,072 15,248 - ---------------------------------------------------------------------------------------------------------------------------- Total $62,042 $63,116 $57,790 ============================================================================================================================
Investment securities classified as available for sale, which include all mutual funds, are acquired without the intent to hold until maturity. At December 31, 1997 the Bank's weighted average maturity of the available for sale investment portfolio was 1.75 years. It is estimated that for each 1% change in interest rates, the value of the Company's securities held to maturity will change by approximately 1.49%. Any unrealized gain or loss on investment securities available for sale is reflected in the carrying value of the security and reported net of income taxes in the equity section of the condensed consolidated balance sheets. Realized gains and losses are reported in the condensed consolidated statement of operations. The net unrealized gain, net of tax, on securities available for sale as of December 31, 1997 was $105. Investment securities classified as held to maturity include those securities which the Company has the ability and intent to hold to maturity. The Company's policy is to generally acquire "A" rated or better state and municipal securities. The specific issues are monitored for changes in financial condition. Appropriate action would be taken if significant deterioration was noted. The pre-tax unrealized gain on investment securities held to maturity was $106 as of December 31, 1997 as compared to $159 as of December 31, 1996. The reduction in unrealized gains resulted from the significant decrease in interest rates in 1996. Decreases in interest rates have an inverse effect on the value of securities for which the interest rate is fixed. The Bank's weighted average maturity of the held to maturity investment portfolio was approximately 2.02 years as of December 31, 1997. It is estimated that for each 1% change in interest rates, the value of the Company's securities held to maturity will change by approximately 1.43%. This volatility decreases as the average maturity shortens. Since it is the intention of management to hold these securities to maturity, the unrealized gains will be realized over the life of the securities as above market interest income is recognized. Mortgage backed securities ("MBS") are considered to have increased risks associated with them because of the timing of principal repayments. As interest rates decrease, the average maturity of mortgages underlying MBS's tend to decline; as rates increase maturities tend to lengthen. At December 31, 1997, the Company had the following securities which were mortgage-backed or related securities: Fair (dollars in thousands) Cost Value - --------------------------------------- --------- ---------- Federal Home Loan Mortgage Corp. (U.S. Agency) $4,902 $4,957 Federal National Mortgage Association (U.S. Agency) 2,712 2,762 Federated ARMs Funds * 1,686 1,648 Overland Variable Rate Government Fund* 1,129 1,046 * The assets of these mutual funds are invested mainly in adjustable rate U.S. Treasury or U.S. Government Agency securities. Loan Portfolio
The following table shows the Company's consolidated loans by type of loan or borrower and their percentage distribution: LOAN PORTFOLIO (dollars in thousands) December 31, - ---------------------------------------------------------------------------------------------------------------------------- 1997 1996 1995 1994 1993 - ---------------------------------------------------------------------------------------------------------------------------- Commercial $92,693 $77,335 $52,958 $51,045 $28,267 Real estate construction 17,818 15,451 14,488 16,343 15,492 Real estate-other 90,495 74,713 74,045 66,085 39,672 Consumer 9,042 8,622 8,800 9,461 6,857 Other 19,568 23,174 21,302 7,362 8,416 Unearned fee income (644) (668) (793) (888) (746) - ---------------------------------------------------------------------------------------------------------------------------- Total loan portfolio $228,972 $198,627 $170,800 $149,407 $97,958 ============================================================================================================================ Commercial 40.5% 38.9% 31.0% 34.2% 28.9% Real estate construction 7.8 7.8 8.4 11.0 15.8 Real estate-other 39.5 37.6 43.4 44.2 40.5 Consumer 3.9 4.3 5.2 6.3 7.0 Other 8.6 11.7 12.6 4.9 8.6 Unearned fee income (.3) (.3) (.6) (.6) (.8) - ---------------------------------------------------------------------------------------------------------------------------- Total loan portfolio 100.0% 100.0% 100.0% 100.0% 100.0% ============================================================================================================================
General The Company's loan portfolio consists primarily of short-term, floating rate loans for business and real estate purposes. At December 31, 1997, approximately 40% of the loan portfolio was commercial loans (including non-real estate SBA loans and Factoring), 8% was real estate construction, and 39% was in real estate other. SJNB's legal lending limit for any one borrower was approximately $4.8 million at December 31, 1997. The commercial loan portfolio primarily consists of loans to small to medium-sized businesses with gross revenues up to $25 million, as well as loans to local professional businesspersons. SJNB's lending services include revolving credit loans, SBA loans, term loans, accounts receivable financing, factoring, equipment financing and letters of credit. Included in commercial loans as of December 31, 1997 were factored accounts receivable of approximately $4.9 million or 2.1% of total loans. As of December 31, 1996, factored accounts receivable were $4.4 million or 2.2% of total loans. The Bank purchases accounts receivable from clients and then receives payment directly from the party obligated for the receivable. In most cases, the Bank's Financial Services Division purchases the receivables subject to recourse from the Bank's factoring client. The factoring business and related purchasing of accounts receivable is subject to a greater degree of risk than normal lending due to the involvement of the third party obligee, the lack of control over the direct receipt of payment, and the potential purchase of fraudulent or inflated receivables. To date, there have been no significant losses relating to the Bank's factoring program. In addition commercial loans include approximately $13 million of SBA loans which are not made for real estate purposes. These loans carry a 70 to 80% guarantee by the SBA. The real estate construction portfolio (7.8% of the loan portfolio) consists of 64% residential and 36% commercial. Such loans are made on the basis of the economic viability for the specific project, the cash flow resources of the developer, the developer's equity in the project and the underlying financial strength of the borrower. The Company's policy is to monitor each loan with respect to incurred costs, sales price and sales cycle. The real estate-other loans include term loans (up to a twenty-five year maturity) on income-producing commercial properties. These loans include SBA real estate type loans. Consumer loans consist primarily of loans to individuals for personal uses, such as home equity loans, installment purchases, premier lines (unsecured lines of credit) and overdraft protection loans, and a variety of other consumer purposes. Other loans include loans to real estate developers for short-term investment purposes (approximately $1.2 million), loans for real estate investment purposes made to non-developers (approximately $7.6 million), and loans for other investments (approximately $6.8 million). Concentrations of credit risk arise when a number of customers are engaged in similar business activities, or activities in the same geographic region, or have similar economic features that would cause their ability to meet contractual obligations to be similarly affected by changes in economic conditions. Although the Company has a diversified loan portfolio, a substantial portion of its customers' ability to honor loan terms is reliant upon the economic stability of Santa Clara County, which in some degree relies on the stability of high technology companies in its "Silicon Valley." Loans are generally made on the basis of a secure repayment source as the first priority and collateral is generally a secondary source for loan qualification. Approximately 53% of the loan portfolio is directly related to real estate or real estate interests, when real estate construction loans, real estate-other loans, Prime equity loans (included in consumer loans in the amount of $5.0 million) and certain other loans to real estate developers and other investors for short-term investment purposes (approximately 3.8% of the loan portfolio) are included. Included in the real estate-other category are approximately $26 million of SBA real estate type loans, of which, 70% to 80% are guaranteed by the SBA. Approximately 40.5% of the loan portfolio is made up of commercial loans; however, no particular industry represents a significant portion of such loans. Inherent in any loan portfolio are risks associated with certain types of loans. The Company attempts to limit these risks through conservative loan policies and review procedures that are applied at the time of origination. Included in these policies are specific maximum loan-to-value (LTV) limitations as to various categories of real estate related loans. These ratios are as follows: Maximum LTV Category of Real Estate Collateral Ratio - --------------------------------------------- -------------- Raw land 50% Land Development 60 Construction: 1-4 Single family residence, Less than $500 80 Greater than $500 80 Other 80 Term loans (construction take-out and commercial) 75 Other improved property 70 Prime equity loans 80 The Company's loan policy provides that any term loans on income-producing properties must have a minimum debt service coverage of at least 1.2 to 1 for non-owner occupied property and at least 1.1 to 1 for owner occupied. One of the significant risks associated with real estate lending is the risk associated with the possible existence of environmental risks or hazards on or in property affiliated with the loan. The Bank mitigates such risk through the use of an Environmental Risk Questionnaire for all loans secured by real estate. A Phase I environmental report is required if indicated by the questionnaire or if for any other reason it is determined appropriate. Other reasons would include the industrial use of environmentally sensitive substances or the proximity to other known environmental problems. A Phase II report is required in certain cases, depending on the outcome of the Phase I report. Activity Total loans were $229 million, $199 million and $171 million at December 31, 1997, 1996 and 1995, respectively. Gross loans averaged $213 million, $183 million and $153 million for the years ended 1997, 1996 and 1995, respectively. The increase in total loans of $30 million during 1997 relates to the overall growth in the Bank's loan portfolio. The most significant areas of growth were the increase in commercial loans of $15 million. In addition Real Estate Construction increased $2.4 million, while Real Estate - other increased $16 million, of which $10.9 million was SBA real estate loans. During 1996 the most significant areas of growth were the increase in SBA loans (included in the commercial and real estate-other loan categories) of $8 million and other commercial loans of $16 million. These increases were mainly due to the Bank's business development efforts and the strength of the local economy. The increase in loans for 1995 was primarily related to a $14 million increase in SBA loans. The economic climate in Northern California has been generally strong in 1997 and 1996. However, the competitive environment within the Bank's marketplace for additional loan growth has become more aggressive between lenders resulting in increasingly competitive pricing. To the extent that such competitive activity continues during 1998 and the Bank finds it necessary to meet such competition, the Bank's net interest margins could decline. In addition, its uncertain what impact the economic crisis currently unfolding in Asia will have on Silicon Valley and, potentially, the business of the Bank. Asset Quality Allowance for Possible Loan Losses A consequence of lending activities is that losses may be experienced. The amount of such losses will vary from time to time depending upon the risk characteristics of the loan portfolio as affected by economic conditions, rising interest rates and the financial experience of borrowers. The allowance for possible loan losses, which provides for the risk of losses inherent in the credit extension process, is increased by the provision for possible loan losses charged to expense and decreased by the amount of charge-offs net of recoveries. There is no precise method of predicting specific losses or amounts that ultimately may be charged off on particular segments of the loan portfolio. Similarly, the adequacy of the allowance for possible loan losses and the level of the related provision for possible loan losses is determined on a judgmental basis by management based on consideration of: o Economic conditions; o Borrowers' financial condition; o Loan impairment; o Evaluation of industry trends; o Industry and other concentrations; o Loans which are contractually current as to payment terms but demonstrate a higher degree of risk as identified by management; o Continuing evaluation of the performing loan portfolio; o Monthly review and evaluation of problem loans identified as having loss potential; o Quarterly review by the Board of Directors; o Off balance sheet risks; and o Assessments by regulators and other third parties. In addition to the internal assessment of the loan portfolio (and off balance sheet credit risk, such as letters of credit, etc.), the Company also retains a consultant who performs credit reviews on a quarterly basis and then provides an assessment of the adequacy of the allowance for possible loan losses. Examinations of the loan portfolio are also conducted periodically by the federal banking regulators. The Company utilizes a method of assigning a minimum and maximum loss ratio for each grade of loan within each category of loans (commercial, real estate-other, real estate construction, etc.) Loans are graded on a ranking system based on management's assessment of the loan's credit quality. The assigned loss ratio is based upon the Company's prior experience, industry experience, delinquency trends and the level of nonaccrual loans. In addition, the Company's methodology considers (and assigns a risk factor for) current economic conditions, off balance sheet risk and concentrations of credit. The methodology provides a systematic approach for the measurement of the possible existence of future loan losses. Management and the Board of Directors evaluate the allowance and determine its desired level considering objective and subjective measures, such as knowledge of the borrowers' business, valuation of collateral, the determination of impaired loans and exposure to potential losses. Based on known information available to it at the date of this Report, management believes that the Company's allowance for possible loan losses, determined as described above, was adequate for foreseeable losses at December 31, 1997. The allowance for possible loan losses is a general reserve available against the total loan portfolio and off balance sheet credit exposure. While management uses available information to recognize losses on loans, future additions to the allowance may be necessary based on changes in economic conditions. In addition, various regulatory agencies, as an integral part of their examination process, periodically review the Bank's allowance for possible loan losses. Such agencies may require the Bank to provide additions to the allowance based on their judgment of information available to them at the time of their examination. There is uncertainty concerning future economic trends. Accordingly, it is not possible to predict the effect future economic trends may have on the level of the provision for possible loan losses in future periods. The following table summarizes the activity in the allowance for possible loan losses for the five years ended December 31, 1997: ALLOWANCE FOR POSSIBLE LOAN LOSSES (dollars in thousands) Years Ended December 31, - ----------------------------------------------------------------------------------------------------------------------------- 1997 1996 1995 1994 1993 - ----------------------------------------------------------------------------------------------------------------------------- Balance, beginning of the year $4,005 $3,847 $3,311 $2,057 $1,553 - ----------------------------------------------------------------------------------------------------------------------------- Chargeoffs by loan category: Commercial 242 233 233 148 389 Real estate construction ----- ----- 154 ----- ----- Real estate-other 33 70 220 637 5 Consumer 13 22 89 73 90 Other ----- 93 ----- 824 26 - ----------------------------------------------------------------------------------------------------------------------------- Total chargeoffs 288 418 696 1,682 510 - ----------------------------------------------------------------------------------------------------------------------------- Recoveries by loan category: Commercial 67 258 42 192 21 Real estate construction ----- ----- ----- ----- 200 Real estate-other 4 13 27 10 5 Consumer ----- 65 16 7 16 Other ----- ----- 102 222 147 - ----------------------------------------------------------------------------------------------------------------------------- Total recoveries 71 336 187 431 389 - ----------------------------------------------------------------------------------------------------------------------------- Net chargeoffs 217 82 509 1,251 121 - ----------------------------------------------------------------------------------------------------------------------------- Provision charged to expense 705 190 1,045 600 625 Allowance relating to acquired businesses ----- 50 ----- 1,905 ----- - ----------------------------------------------------------------------------------------------------------------------------- Balance, end of the year $4,493 $4,005 $3,847 $3,311 $2,057 ============================================================================================================================= Ratios: Net chargeoffs to average loans 0.10% 0.04% 0.33% 1.11% 0.14% Allowance to total loans at the end of the year 1.96 2.02 2.25 2.22 2.10 Allowance to nonperforming loans at end of the year 1,060.00 733.00 430.00 60.00 56.00 =============================================================================================================================
Net chargeoffs were $217 or 0.10% of average loans during 1997. Net chargeoffs were $82 or 0.04% of average loans during 1996. During 1995, the Company experienced net chargeoffs of $509 or 0.33% of average loans during 1995. The decrease in net chargeoffs in 1996 as compared to 1995 resulted primarily from improved credit quality of the overall loan portfolio. Management does not believe there were any trends indicated by the detail of the aggregate charge-offs for any of the periods discussed. The allowance for possible loan losses as a percentage of total loans was 1.96%, 2.02%, and 2.25% at December 31, 1997, 1996 and 1995, respectively. The allowance for possible loan losses as a percentage of nonperforming loans was approximately 1,060%, 733% and 430% at December 31, 1997, 1996, 1995, respectively. Nonperforming loans were $424, $546 and $894 at December 31, 1997, 1996, 1995, respectively. See "Nonperforming Loans" below. Based on an evaluation of individual credits, historical credit loss experienced by loan type and economic conditions, management has allocated the allowance for possible loan losses as follows for the past five years:
ALLOCATION OF THE ALLOWANCE FOR POSSIBLE LOAN LOSSES (dollars in thousands) Amount of Allowance Allocation at December 31, - ---------------------------------------------------------------------------------------------------------------------------- 1997 1996 1995 1994 1993 - ---------------------------------------------------------------------------------------------------------------------------- Commercial $1,741 $1,335 $1,193 $1,192 $459 Real estate construction 236 223 176 310 181 Real estate-other 1,430 1,334 1,134 1,051 567 Consumer 158 126 169 219 99 Other 167 236 337 94 101 Unallocated 761 751 838 445 650 - ---------------------------------------------------------------------------------------------------------------------------- Total $4,493 $4,005 $3,847 $3,311 $2,057 ============================================================================================================================ Percent of Loans in Each Category to Total Loans at December 31, Commercial 40.5% 38.9% 31.0% 34.2% 28.9% Real estate construction 7.8 7.8 8.4 11.0 15.8 Real estate-other 39.5 37.6 43.4 44.2 40.5 Consumer 3.9 4.3 5.2 6.3 7.0 Other 8.3 11.4 12.0 4.3 7.8 - ---------------------------------------------------------------------------------------------------------------------------- Total 100.0% 100.0% 100.0% 100.0% 100.0% ============================================================================================================================
The allowance for possible loan losses is maintained without any internal allocation to the segments of the loan portfolio and the entire allowance is available to cover loan losses. The allocation is based on subjective estimates that take into account historical loss experience and management's current assessment of the relative risk characteristics of the portfolio as of the reporting date noted above and as described more fully herein. Nonperforming Loans
Loans for which the accrual of interest has been suspended and other loans with principal or interest contractually past due 90 days or more are set forth in the following table: NONPERFORMING LOANS (dollars in thousands) December 31, - ------------------------------------------------------------------------------------------------------------------------------ 1997 1996 1995 1994 1993 - ------------------------------------------------------------------------------------------------------------------------------ Loans accounted for on a non-accrual basis $360 $457 $866 $5,395 $3,678 Loans restructured and in compliance with modified terms 63 89 ---- ---- ---- Other loans with principal or interest contractually past due 90 days or more 1 ---- 28 83 ---- - ------------------------------------------------------------------------------------------------------------------------------ Total $424 $546 $894 $5,478 $3,678 ==============================================================================================================================
Potential nonperforming loans are identified by management as part of its ongoing evaluation and review of the loan portfolio. Based on such reviews and information known to management at the date of this Report, management has not identified any loans (other than those in the above table) about which it has serious doubts regarding the borrowers' ability to comply with present loan repayment terms, such that the loans might subsequently be classified as nonperforming. The accrual of interest on loans is discontinued and any accrued and unpaid interest is reversed when, in the opinion of management, there is significant doubt as to the collectibility of interest or principal or when the payment of principal or interest is ninety days past due, unless the amount is well-secured and in the process of collection. Other Real Estate Owned At December 31, 1996, the Bank had two properties totaling $454 (there was none at December 31, 1997) which were acquired through the foreclosure process. Prior to recording a foreclosure, the Bank provides for any expected loss in its allowance for possible loan losses. Any subsequent decline in value is charged directly to the income statement. Commitments and Lines of Credit It is the Bank's policy not to issue formal commitments or lines of credit except to a limited number of well-established and financially responsible local commercial enterprises. Such commitments can be either secured or unsecured and are typically in the form of revolving lines of credit for seasonal working capital needs. Occasionally, such commitments are in the form of a letter of credit to facilitate the customer's particular business transaction. Commitments and lines of credit typically mature within one year. These commitments involve (to varying degrees) credit risk in excess of the amount recognized as either an asset or liability in the statement of financial position. The Company attempts to control credit risk through its credit approval process. The same credit policies are used when entering into such commitments. As of December 31, 1997, the Company had undisbursed loan commitments to extend credit as follows: UNDISBURSED LOAN COMMITMENTS (dollars in thousands) Loan Category Amount - ----------------------------------------------------------- Commercial $52,111 Real estate construction 15,699 Real estate-other 587 Consumer 7,604 Other 16,645 - ----------------------------------------------------------- Total $92,646 =========================================================== In addition, there was approximately $12.2 million available for commitments under unused letters of credit. Funding
Deposits represent SJNB's principal source of funds. Most of the Bank's deposits are obtained from professionals, small to medium-sized businesses and individuals within the Bank's market area. SJNB's deposit base consists of non-interest and interest-bearing demand deposits, savings and money market accounts, and certificates of deposit. The following table summarizes the composition of deposits as of December 31, 1997, 1996 and 1995: DEPOSIT CATEGORIES (dollars in thousands) December 31, 1997 December 31, 1996 December 31, 1995 - ---------------------------------------------------------------------------------------------------------------------------- Percentage Percentage Percentage Total of Total Total of Total Total of Total Amount Deposits Amount Deposits Amount Deposits - ---------------------------------------------------------------------------------------------------------------------------- Noninterest-bearing demand $78,437 29.01% $80,774 33.02% $52,775 26.83% Interest-bearing demand 45,655 16.89 40,113 16.40 34,641 17.61 Money market and savings 82,619 30.56 60,684 24.80 51,201 26.03 Certificates of deposit: Less than $100 15,207 5.63 15,535 6.35 14,730 7.49 $100 or more 48,427 17.91 47,533 19.43 43,345 22.04 - ---------------------------------------------------------------------------------------------------------------------------- Total $270,345 100.00% $244,639 100.00% $196,692 100.00% ============================================================================================================================
Deposits increased 11% from $245 million at December 31, 1996 to $270 million at December 31, 1997. Deposits increased 25% from $197 million at December 31, 1995 to $245 million at December 31, 1996. These increases are mainly due to a combination of factors including the development of customers with significant cash balances, utilization of sophisticated cash management systems and aggressive pricing of rates. The Bank has been able to attract a significant proportion of its deposits in the form of non-interest-bearing deposits. The Bank's primary business is commercially oriented and therefore significant non-interest-bearing deposits are maintained by its commercial customers. In a high interest rate environment, these funds could be subject to disintermediation (moved for higher interest rate products). To counter such possibilities, the Bank maintains an array of products which it believes would be competitive in such an occurrence. In addition, in illiquid economic times (possibly recessions) these deposits could be subject to withdrawal pressures. See "Capital and Liquidity - Liquidity" for a discussion of the Bank's liquidity sources. The Bank also raises a substantial amount of funds through certificates of deposit of $100 or greater. These deposits are usually at interest rates greater than other types of deposits and are more sensitive to interest rate changes. Historically, the Bank's overall cost of funds has been less than that of its peer group. However, as these certificates of deposit are usually more interest rate sensitive, their repricing in an increasing interest rate environment could increase the Bank's cost of funds and negatively impact the Bank's net interest margin. See "Capital and Liquidity." The Bank utilizes short-term borrowings in its balance sheet management. The short-term borrowings (securities sold under agreements to repurchase) are used to fund the acquisition of fixed rate available for sale securities with an average life of 1.73 years at December 31, 1997. The average cost of the borrowings during 1997 was 5.77% while the average yield on the assets was 6.30%. If interest rates were to increase quickly, the cost of borrowings would increase with no offsetting increase in the yield on the assets purchased. See "Asset/Liability Management." Asset/Liability Management The Company defines interest rate sensitivity as the measurement of the mismatch in repricing characteristics of assets, liabilities and off balance sheet instruments at a specified point in time. This mismatch (known as interest rate sensitivity gap) represents the potential mismatch in the change in the rate of interest revenue accrual and interest expense that would result from a change in interest rates. Mismatches in interest rate repricing among assets and liabilities arise primarily from the interaction of various customer businesses (i.e., types of loans versus the types of deposits maintained) and from management's discretionary investment and funds gathering activities. The Company attempts to manage its exposure to interest rate sensitivity. However, due to its size and direct competition from the major banks, the Company must offer products which are competitive in the market place, even if less than optimum with respect to its interest rate exposure. The Company's balance sheet position at December 31, 1997 was asset-sensitive, based upon the significant amount of variable rate loans and the repricing characteristics of its deposit accounts. This position provides a hedge against rising interest rates, but has a detrimental effect during times of interest rate decreases. Net interest revenues are negatively impacted by a decline in interest rates. The interest rate gap is a measure of interest rate exposure and is based upon the known repricing dates of certain assets and liabilities and assumed repricing dates of others. See "Financial Review - Net Interest Income and Margin." The following table quantifies the Company's interest rate exposure at December 31, 1997 based upon the known repricing dates of certain assets and liabilities and the assumed repricing dates of others. At December 31, 1997, the Company was asset sensitive in the near term, as noted above. DISTRIBUTION OF REPRICING OPPORTUNITIES December 31, 1997 (dollars in thousands) After three After six After one Within months but months but year but After three within six within one within five months months year five years years Total - ---------------------------------------------------------------------------------------------------------------------------- Money market investments $2,700 $2,700 Investment securities-taxable 1,063 $1,053 $1,118 $7,280 ----- 10,514 Investment ----- 200 532 1,538 $953 3,223 securities-non-taxable Securities available for sale 4,095 10,033 10,078 16,797 7,302 48,305 Loans 178,061 4,941 9,037 24,349 12,584 228,972 - ---------------------------------------------------------------------------------------------------------------------------- Total earning assets 185,919 16,227 20,765 49,964 20,839 293,714 - ---------------------------------------------------------------------------------------------------------------------------- Interest checking, money market and savings 128,274 ----- ----- ----- ----- 128,274 Certificates of deposit: Less than $100 9,177 3,504 1,391 1,060 75 15,207 $100 or more 36,009 5,422 5,148 1,599 249 48,427 Repurchase agreements 16,000 ----- ----- ----- ----- 16,000 Other borrowings ----- ----- ----- 137 439 576 - ---------------------------------------------------------------------------------------------------------------------------- Total interest-bearing 189,460 8,926 6,539 2,796 763 208,484 liabilities - ---------------------------------------------------------------------------------------------------------------------------- Interest rate gap ($3,541) $7,301 $14,226 $47,168 $20,076 $85,230 ============================================================================================================================ Cumulative interest rate gap ($3,541) $3,760 $17,986 $65,154 $85,230 ============================================================================================================= Interest rate gap ratio 0.98 1.82 3.18 17.87 27.31 ============================================================================================================= Cumulative interest rate gap ratio 0.98 1.02 1.09 1.31 1.41 =============================================================================================================
In evaluating the Company's exposure to interest rate risk, certain shortcomings inherent in the method of analysis presented in the foregoing table must be considered. For example, although certain assets and liabilities may have similar maturities or periods to reprice, they may react in different degrees to changes in market interest rates. Additionally, the interest rates on certain types of assets and liabilities may fluctuate in advance of changes in market interest rates, while interest rates on other types may lag behind changes in market interest rates. Further, certain earning assets have features which restrict changes in interest rates on a short-term basis and over the life of the asset. The Company considers the anticipated effects of these various factors in implementing its interest rate risk management activities, including the utilization of certain interest rate hedges. A large proportion of the Bank's deposits are non interest-bearing demand deposits and are not included in the above table as they tend not to be interest rate sensitive. The average balance of these deposits was $65 million in 1997. In addition, the Bank's total tangible capital of approximately $29 million is not included as a funding source in the above table. To counter its asset sensitive interest rate position, the Bank entered into an interest rate "floor" in the amount of $10 million which expires in May 1999. The Bank paid a fixed premium of $47 for which it will receive the amount of interest on $10 million based on the difference of 7% and prime when prime is less than 7%. This provides some protection to the Bank against decreases in its net income when the prime rate decreases. Settlement is done quarterly and the Bank records the impact of this hedge on an accrual basis. The Bank has executed several transactions during 1995 and 1996 which are intended to mitigate its exposure to a decline in general market interest rates. The transactions involved the purchase of three U.S. Government Agency and three mortgage backed securities for an aggregate cost of $30 million which were financed through the use of 90 day repurchase agreements. The repurchase agreements are shown as short-term borrowings on the Company's consolidated balance sheet. The securities are fixed rate with maturities of $10 million in May 1998, $7 million in July 1998, $7 million in October 2000, $2 million in September 2001, $2 million in March 2002 and $1 million in November 2003. The average yield on the securities was 6.30%. The outstanding repurchase agreements as of December 31, 1997 had interest rates within a range of 5.68% to 5.75% and averaged 5.72% and mature within 90 days. As these repurchase agreements expire they will be renewed at the prevailing rates. These transactions carry risks in a rising rate environment because of the potential repricing volatility associated with the short-term repurchase market. If interest rates were to increase, the cost of borrowings would increase with no offsetting increase in the yield on the assets purchased. At the same time it is anticipated that the average yield on variable rate loans would increase and offset this impact.
The maturities and yields of the investment portfolio at December 31, 1997 are shown below: MATURITY AND YIELDS OF INVESTMENT SECURITIES At December 31, 1997 (dollars in thousands) Maturity After one year After five years Carrying Within one year within five years within ten years After ten years Value Amount Yield Amount Yield Amount Yield Amount Yield - ---------------------------------------------------------------------------------------------------------------------------- Securities available for sale: U. S. Treasury $5,041 $1,999 5.84% $3,042 6.21% ---- ---- ---- ---- U. S. Government Agencies 34,327 18,035 6.29 16,292 6.23 ---- ---- ---- ---- Mortgage Backed 5,171 ---- ---- 4,177 6.77 $994 6.71% ---- ---- Mutual funds 3,766 3,766 5.50 ---- ---- ---- ---- ---- ---- - --------------------------------------------------- ---------- ----------- ---------- Total 48,305 23,800 23,511 994 ---- - --------------------------------------------------- ---------- ----------- ---------- Securities held to maturity: U. S. Treasury 1,992 992 7.05 1,000 6.38 ---- ---- ---- ---- U. S. Government Agencies 5,485 2,000 6.12 3,486 6.42 ---- ---- ---- ---- State and municipal (1) 3,224 732 7.69 1,863 7.55 ---- ---- $628 7.36% Mortgage Backed 2,518 ---- ---- 2,518 7.90 ---- ---- ---- ---- Other 518 ---- ---- ---- ---- ---- ---- 518 6.00 - --------------------------------------------------- ---------- ----------- ---------- Total 13,737 3,724 8,867 ---- 1,146 - --------------------------------------------------- ---------- ----------- ---------- Total $62,042 $27,524 6.20% $32,378 6.53% $994 6.71% $1,146 6.75% ============================================================================================================================ (1) State and municipal securities are adjusted to a fully taxable equivalent basis using the federal statutory rate.
The following table shows the maturity and interest rate sensitivity of commercial, real estate construction and real estate-other loans at December 31, 1997. Approximately 85% of the commercial and real estate loan portfolio is priced with floating interest rates which limits the exposure to interest rate risk on long-term loans. COMMERCIAL AND REAL ESTATE LOAN MATURITY AND INTEREST RATE SENSITIVITY (dollars in thousands) Balances maturing Interest Rate Sensitivity - ---------------------------------------------------------------------------------------------------------------------------- Predeter- Balances at One mined Floating December 31, One year year to Over interest interest 1997 or less five years five years rates rates - ---------------------------------------------------------------------------------------------------------------------------- Commercial $92,693 $56,004 $30,087 $6,602 $5,108 $87,585 ============================================================================================================================ Real estate construction $17,818 $14,553 $2,275 $990 ----- $17,818 ============================================================================================================================ Real estate-other $90,495 $15,164 $25,572 $49,759 $25,009 $65,486 ============================================================================================================================
The above table does not take into account the possibility that a loan may be renewed at the time of maturity. In most circumstances, the Company treats a renewal request in substantially the same manner in which it considers the request for an initial extension of credit. The Company does not have a policy to automatically renew loans. Capital and Liquidity Capital The Company's book value per share was $13.30, $12.14 and $11.02 as of December 31, 1997, 1996 and 1995, respectively. Tangible book value per share was $11.80, $10.40 and $9.06 at December 31, 1997, 1996 and 1995, respectively, adjusted for goodwill and core deposit intangibles. Shareholders' equity was $33 million, $31 million and $27 million as of December 31, 1997, 1996 and 1995, respectively. Tangible shareholders' equity was $29 million, $27 million and $22 million as of December 31, 1997, 1996 and 1995, respectively. See Notes to Consolidated Financial Statements and "Business - Supervision and Regulation" for a discussion of the Company's capital requirements. Liquidity Management strives to maintain a level of liquidity sufficient to meet customer requirements for loan funding and deposit withdrawals. Liquidity requirements are evaluated by taking into consideration factors such as deposit concentrations, seasonality and maturities, loan demand, capital expenditures, and prevailing and anticipated economic conditions. SJNB's business is generated primarily through customer referrals and employee business development efforts. The Bank utilizes brokered deposits on a limited basis to satisfy temporary liquidity needs. The Bank's sources of liquidity consist of its deposits with other banks, overnight funds sold to correspondent banks and short-term, marketable investments net of short-term borrowings. On December 31, 1997, consolidated liquid assets totaled $62 million or 19% of consolidated total assets, as compared to $61 million or 20% of consolidated total assets on December 31, 1996. In addition to the liquid asset portfolio, SJNB also has available $18 million in informal lines of credit with three major commercial banks, approximately $6 million of credit available at the Federal Reserve Discount Window and $14 million in SBA guaranteed loans which are available for sale and could be sold within a 30-day period. SJNB is primarily a business and professional bank and, as such, its deposit base is more susceptible to economic fluctuations. Accordingly, management strives to maintain a balanced position of liquid assets to volatile and cyclical deposits. In their normal course of business, commercial clients maintain balances in large certificates of deposit. The stability of these balances hinges upon, among other factors, market conditions and each business' seasonality. Large certificates of deposit amounted to 18% of total deposits on December 31, 1997, as compared to 19% for 1996. Liquidity is also affected by investment securities and loan maturities and the effect of interest rate fluctuations on the marketability of both assets and liabilities. The loan portfolio consists primarily of floating rate, short-term loans. On December 31, 1997, approximately 45% of total consolidated assets had maturities under one year and 76% of total consolidated loans had floating rates tied to the prime rate or similar indexes. The short-term nature of the loan portfolio, and loan agreements which generally require monthly interest payments, provide the Company with an additional secondary source of liquidity. There are no material commitments for capital expenditures in 1998 or beyond. The Company's liquidity is maintained by cash flows stemming from dividends and management fees from the Bank and the exercise of stock options issued to the Bank's employees and directors. The amount of dividends from the Bank is subject to certain regulatory restrictions as discussed in Note 16 of the Notes to the Consolidated Financial Statements and elsewhere within this Report. Subject to said restrictions, at December 31, 1997, up to $11 million could have been paid to the parent Company by the Bank without regulatory approval. The Company's financial statements are presented in Note 15 of the Notes to Consolidated Financial Statements. Dividends of $2.6 million were paid to the parent company during 1997, while no dividends were paid to the Company by the Bank in 1996 or 1995. Effects of Inflation The most direct effect of inflation on the Company is higher interest rates. Because a significant portion of the Bank's deposits are represented by non interest-bearing demand accounts, changes in interest rates have a direct impact on the financial results of the Bank. See "Asset/Liability Management." Another effect of inflation is the upward pressure on the Company's operating expenses. Inflation did not have a material effect on the Bank's operations in 1997, 1996 or 1995. Item 7A: QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK The Company defines interest rate sensitivity as the measurement of the mismatch in repricing characteristics of assets, liabilities and off balance sheet instruments at a specified point in time. This mismatch (known as interest rate sensitivity gap) represents the potential mismatch in the change in the rate of interest income and interest expense that would result from a change in interest rates. Mismatches in interest rate repricing among assets and liabilities arise primarily from the interaction of various customer businesses (i.e., types of loans versus the types of deposits maintained) and from management's discretionary investment and funds gathering activities. The Company attempts to manage its exposure to interest rate sensitivity. However, due to its size and direct competition from the major banks, the Company must offer products which are competitive in the market place, even if less than optimum with respect to its interest rate exposure. The Company's balance sheet position at December 31, 1997 was asset-sensitive, based upon the significant amount of variable rate loans and the repricing characteristics of its deposit accounts. This position provides a hedge against rising interest rates, but has a detrimental effect during times of interest rate decreases. Net interest revenues are negatively impacted by a decline in interest rates. The interest rate gap is a measure of interest rate exposure and is based upon the known repricing dates of certain assets and liabilities and assumed repricing dates of others. See "Financial Review - Net Interest Income and Margin." In evaluating the Company's exposure to interest rate risk, certain shortcomings inherent in the method of analysis presented in the following table must be considered. For example, although certain assets and liabilities may have similar maturities or periods to reprice, they may react in different degrees to changes in market interest rates. Additionally, the interest rates on certain types of assets and liabilities may fluctuate in advance of changes in market interest rates, while interest rates on other types may lag behind changes in market interest rates. Further, certain earning assets have features which restrict changes in interest rates on a short-term basis and over the life of the asset. The Company considers the anticipated effects of these various factors when implementing its interest rate risk management activities, including the utilization of certain interest rate hedges. Interest Rate Risk Analysis (dollars in thousands) Average Expected Maturity/Principal Repayment December 31, ---------------------------------------------------------------------------------- Interest Total Fair Rate 1998 1999 2000 2001 2002 Thereafter Balance Value - ---------------------------------------------------------------------------------------------------------------------------- Interest-Sensitive Assets: Fed funds sold and other short-term investments 5.44% $2,700 ---- ---- ---- ---- ---- $2,700 $2,700 Investments: Fixed maturity 6.18% 23,758 $9,867 $11,127 $678 $4,011 $628 50,069 49,856 Mortgage Backed 6.94% 400 2,471 174 1,278 74 3,292 7,689 8,008 Mutual Funds 5.50% 3,766 ---- ---- ---- ---- ---- 3,766 3,766 Federal Reserve Bank Stock 6.00% ---- ---- ---- ---- ---- 518 518 518 Loans: Fixed rate 9.73% 9,035 3,005 3,855 2,144 1,463 15,832 35,334 35,765 Variable rate 10.25% 86,153 17,866 17,015 12,078 12,013 43,598 188,723 188,232 Factoring accounts receivable 28.01% 4,915 ---- ---- ---- ---- ---- 4,915 4,926 Interest Rate Floor 7.00% ---- 13 ---- ---- ---- ---- 13 1 - ---------------------------------------------------------------------------------------------------------------------------- Interest-Sensitive Liabilities: Deposits: Interest-bearing demand 2.55% 23,974 6,504 6,504 8,673 ---- ---- 45,655 44,121 Money market 3.60% 49,151 15,698 15,698 ---- ---- ---- 80,547 79,489 Savings 2.53% 22 615 615 410 410 ---- 2,072 1,915 Certificates of deposit 5.08% 60,651 1,859 639 161 324 ---- 63,634 63,733 Fed funds purchased and repurchase agreements 5.72% 16,000 ---- ---- ---- ---- ---- 16,000 16,007 - --------------------------------------------------------------------------------------------------------------------------- Interest-Sensitive Off-balance sheet items: Unused lines of credit and undisbursed loan commitments 10.37% ---- ---- ---- ---- ---- ---- 92,646 ----
ITEM 8: FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA The following section includes the Company's Consolidated Financial Statements: Independent Auditors' Report Consolidated Balance Sheets - December 31, 1997 and 1996 Consolidated Statements of Income for the Years Ended December 31, 1997, 1996 and 1995 Consolidated Statements of Shareholders' Equity for the Years Ended December 31, 1997, 1996 and 1995 Consolidated Statements of Cash Flows for the Years Ended December 31, 1997, 1996 and 1995 Notes to Consolidated Financial Statements. Independent Auditors' Report The Board of Directors SJNB Financial Corp.: We have audited the accompanying consolidated balance sheets of SJNB Financial Corp. and subsidiary (the Company) as of December 31, 1997 and 1996, and the related consolidated statements of income, shareholders' equity, and cash flows for each of the years in the three-year period ended December 31, 1997. These consolidated financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these consolidated 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 SJNB Financial Corp. and subsidiary as of December 31, 1997 and 1996, and the results of their operations and their cash flows for each of the years in the three-year period ended December 31, 1997, in conformity with generally accepted accounting principles. KPMG Peat Marwick LLP San Jose, California January 15, 1998 - ---------------------------------------------------------------------------------------------------------------------------- SJNB Financial Corp. and subsidiary Consolidated Balance Sheets December 31, 1997 and 1996 (in thousands) - ---------------------------------------------------------------------------------------------------------------------------- Assets 1997 1996 - ---------------------------------------------------------------------------------------------------------------------------- Cash and due from banks $22,825 $20,208 Money market investments 2,700 19,800 Investment securities: Available for sale 48,305 48,044 Held to maturity (Fair value: $13,843 at December 31, 1997 and $15,231 at December 31, 1996) 13,737 15,072 - ---------------------------------------------------------------------------------------------------------------------------- Total investment securities 62,042 63,116 - ---------------------------------------------------------------------------------------------------------------------------- Loans 228,972 198,627 Allowance for possible loan losses (4,493) (4,005) - ---------------------------------------------------------------------------------------------------------------------------- Loans, net 224,479 194,622 - ---------------------------------------------------------------------------------------------------------------------------- Premises and equipment, net 3,916 4,001 Other real estate owned ----- 454 Accrued interest receivable and other assets 5,202 2,737 Intangibles, net of accumulated amortization of $1,707 at December 31,1997 and $1,234 at December 31, 1996. 3,755 4,465 - ---------------------------------------------------------------------------------------------------------------------------- Total $324,919 $309,403 ============================================================================================================================ Liabilities and Shareholders' Equity - ---------------------------------------------------------------------------------------------------------------------------- Deposits: Non interest-bearing $78,437 $80,774 Interest-bearing 191,908 163,865 - ---------------------------------------------------------------------------------------------------------------------------- Total deposits 270,345 244,639 - ---------------------------------------------------------------------------------------------------------------------------- Other short-term borrowings 16,000 29,688 Accrued interest payable and other liabilities 5,415 3,871 - ---------------------------------------------------------------------------------------------------------------------------- Total liabilities 291,760 278,198 - ---------------------------------------------------------------------------------------------------------------------------- Shareholders' equity: Common stock, no par value; 20,000 shares authorized ; 2,493 and 2,571 shares issued and outstanding in 1997 and 1996 respectively 18,800 20,880 Retained earnings 14,254 10,263 Net unrealized gain on securities available for sale 105 62 - ---------------------------------------------------------------------------------------------------------------------------- Total shareholders' equity 33,159 31,205 - ---------------------------------------------------------------------------------------------------------------------------- Commitments and contingencies ---- ---- - ---------------------------------------------------------------------------------------------------------------------------- Total $324,919 $309,403 ============================================================================================================================ See accompanying Notes to Consolidated Financial Statements.
- ---------------------------------------------------------------------------------------------------------------------------- SJNB Financial Corp. and subsidiary Consolidated Statements of Income Years ended December 31, 1997, 1996 and 1995 - ---------------------------------------------------------------------------------------------------------------------------- (in thousands, except per share amounts) 1997 1996 1995 - ---------------------------------------------------------------------------------------------------------------------------- Interest income: Interest and fees on loans $22,732 $20,422 $18,016 Interest on money market investments 586 258 280 Interest and dividends on investment securities available for sale 2,982 2,907 1,847 Interest on investment securities held to maturity 947 949 878 Other interest and investment income (9) (9) (43) - ---------------------------------------------------------------------------------------------------------------------------- Total interest income 27,238 24,527 20,978 - ---------------------------------------------------------------------------------------------------------------------------- Interest expense: Deposits: Interest-bearing demand 1,178 1,155 1,158 Money market and savings 3,061 2,035 1,751 Certificates of deposit of $100 or more 2,964 2,608 2,232 Certificates of deposit of less than $100 792 802 826 Other short-term borrowings 754 1,459 716 - ---------------------------------------------------------------------------------------------------------------------------- Total interest expense 8,749 8,059 6,683 - ---------------------------------------------------------------------------------------------------------------------------- Net interest income 18,489 16,468 14,295 - ---------------------------------------------------------------------------------------------------------------------------- Provision for possible loan losses 705 190 1,045 - ---------------------------------------------------------------------------------------------------------------------------- Net interest income after provision for possible loan losses 17,784 16,278 13,250 - ---------------------------------------------------------------------------------------------------------------------------- Other income: Service charges on deposits 607 551 553 Other operating income 453 437 456 Net loss on sale of securities available for sale (47) (142) (43) - ---------------------------------------------------------------------------------------------------------------------------- Total other income 1,013 846 966 - ---------------------------------------------------------------------------------------------------------------------------- Other expenses: Salaries and benefits 5,725 5,517 4,339 Occupancy 725 702 740 Other 3,460 3,416 3,718 - ---------------------------------------------------------------------------------------------------------------------------- Total other expenses 9,910 9,635 8,797 - ---------------------------------------------------------------------------------------------------------------------------- Income before income taxes 8,887 7,489 5,419 Income taxes 3,773 3,198 2,395 - --------------------------------------------------------------------------------------------------------------------------- Net income $5,114 $4,291 $3,024 ============================================================================================================================ Basic earnings per share $2.04 $1.73 $1.27 ============================================================================================================================ Diluted earnings per share $1.94 $1.64 $1.22 ============================================================================================================================ Average common shares outstanding 2,508 2,481 2,381 ============================================================================================================================ Average common share equivalents outstanding 2,640 2,622 2,484 ============================================================================================================================ See accompanying Notes to Consolidated Financial Statements.
- ---------------------------------------------------------------------------------------------------------------------------- SJNB Financial Corp. and subsidiary Consolidated Statements of Shareholders' Equity Years ended December 31, 1997, 1996 and 1995 - ---------------------------------------------------------------------------------------------------------------------------- Net Unrealized Gain (Loss) Total on Securities Share- Common Retained Available holders' (in thousands, except per share amounts) Shares Stock Earnings for Sale Equity - ---------------------------------------------------------------------------------------------------------------------------- Balances, December 31, 1994 2,363 $19,421 $4,278 $(257) $23,442 - ---------------------------------------------------------------------------------------------------------------------------- Stock options exercised 71 351 ---- ---- 351 Common stock repurchase (16) (145) ---- ---- (145) Cash dividends ($0.21 per share) ---- ---- (504) ---- (504) Net income for the year ---- ---- 3,024 ---- 3,024 Net unrealized gain on securities available for sale ---- ---- ---- 490 490 - ---------------------------------------------------------------------------------------------------------------------------- Balances, December 31, 1995 2,418 19,627 6,798 233 26,658 - ---------------------------------------------------------------------------------------------------------------------------- Stock options exercised 153 810 ---- ---- 810 Tax benefit from stock options exercised ---- 443 ---- ---- 443 Cash dividends ($0.33 per share) ---- ---- (826) ---- (826) Net income for the year ---- ---- 4,291 ---- 4,291 Net unrealized loss on securities available for sale ---- ---- ---- (171) (171) - ---------------------------------------------------------------------------------------------------------------------------- Balances, December 31, 1996 2,571 20,880 10,263 62 31,205 - ---------------------------------------------------------------------------------------------------------------------------- Stock options exercised 24 206 ---- ---- 206 Common stock repurchase (102) (2,495) ---- ---- (2,495) Tax benefit from stock options exercised ---- 209 ---- ---- 209 Cash dividends ($0.45 per share) ---- ---- (1,123) ---- (1,123) Net income for the year ---- ---- 5,114 ---- 5,114 Net unrealized gain on securities available for sale ---- ---- ---- 43 43 - ---------------------------------------------------------------------------------------------------------------------------- Balances, December 31, 1997 2,493 $18,800 $14,254 $105 $33,159 ============================================================================================================================ See accompanying Notes to Consolidated Financial Statements.
- ---------------------------------------------------------------------------------------------------------------------------- SJNB Financial Corp. and subsidiary Consolidated Statements of Cash Flows Years ended December 31, 1997, 1996 and 1995 - ---------------------------------------------------------------------------------------------------------------------------- (dollars in thousands) 1997 1996 1995 - ---------------------------------------------------------------------------------------------------------------------------- Cash flows from operating activities: Net income $5,114 $4,291 $3,024 Adjustments to reconcile net income to net cash provided by operating activities: Provision for possible loan losses 705 190 1,045 Depreciation and amortization 529 483 424 Amortization of intangibles 473 499 569 Deferred tax benefit (356) 121 (86) Loss on sale of securities available for sale 41 142 43 Net (gain) loss on sale of other real estate owned (65) (46) 19 Amortization of (discount) premium on investment securities, net (48) 36 (129) Decrease (increase) in intangible assets 237 200 (412) (Increase) decrease in accrued interest receivable and other assets (2,107) (1) 418 Increase (decrease) in accrued interest payable and other liabilities 1,722 (945) 2,470 - ---------------------------------------------------------------------------------------------------------------------------- Net cash provided by operating activities 6,245 4,970 7,385 - ---------------------------------------------------------------------------------------------------------------------------- Cash flows from investing activities: Proceeds from sale or maturities of securities available for sale 18,610 22,751 14,162 Maturities of securities held to maturity 2,250 5,345 425 Purchase of securities available for sale (18,850) (28,784) (37,148) Purchase of securities to be held to maturity (857) (5,101) (1,762) Proceeds from the sale of other real estate owned 519 406 1,761 Net increase in loans (30,562) (27,333) (22,851) Capital expenditures (444) (989) (896) Cash used to acquire Astra Financial Corp. ----- (650) ----- - ---------------------------------------------------------------------------------------------------------------------------- Net cash used in investing activities (29,334) (34,355) (46,309) - ---------------------------------------------------------------------------------------------------------------------------- Cash flow from financing activities: Net increase in deposits 25,706 47,947 16,405 Other short-term borrowings (13,688) 5,688 24,000 Cash dividends (1,123) (826) (504) Common stock repurchased (2,495) ----- (145) Proceeds from stock options exercised 206 810 351 - ---------------------------------------------------------------------------------------------------------------------------- Net cash provided by financing activities 8,606 53,619 40,107 - ---------------------------------------------------------------------------------------------------------------------------- Net (decrease) increase in cash and equivalents (14,483) 24,234 1,183 Cash and equivalents at beginning of year 40,008 15,774 14,591 - ---------------------------------------------------------------------------------------------------------------------------- Cash and equivalents at end of year $25,525 $40,008 $15,774 ============================================================================================================================
- ---------------------------------------------------------------------------------------------------------------------------- SJNB Financial Corp. and subsidiary Consolidated Statements of Cash Flows Years ended December 31, 1997, 1996 and 1995 - ---------------------------------------------------------------------------------------------------------------------------- (dollars in thousands) 1997 1996 1995 - ---------------------------------------------------------------------------------------------------------------------------- Other cash flow information: Interest paid $8,511 $8,012 $6,388 Income taxes paid $3,445 $4,111 $1,185 ============================================================================================================================ Noncash transactions: Transfer of loans to other real estate owned ----- $150 $950 ============================================================================================================================ Purchase of Astra Financial's assets at fair value: Loans ----- $676 ----- Intangible assets ----- 408 ----- Other assets ----- 93 ----- - ---------------------------------------------------------------------------------------------------------------------------- Fair value of assets acquired ----- 1,177 ----- Liabilities assumed: Other liabilities ----- 527 ----- - ---------------------------------------------------------------------------------------------------------------------------- Total liabilities assumed ----- 527 ----- - ---------------------------------------------------------------------------------------------------------------------------- Cash used to acquire Astra Financial Corp. ----- $650 ----- ============================================================================================================================ See accompanying Notes to Consolidated Financial Statements.
Notes to Consolidated Financial Statements December 31, 1997, 1996 and 1995 NOTE 1 - Summary of Significant Accounting Policies SJNB Financial Corp. ("Company") is a bank holding company registered under the Bank Holding Company Act of 1956, as amended. The Company was incorporated under the laws of the State of California on April 18, 1983. Its principal office is located at One North Market Street, San Jose, California, 95113. The Company owns 100% of the issued and outstanding common shares of San Jose National Bank (referred to herein as "SJNB" or "the Bank"). The Bank was incorporated on November 23, 1981 and commenced business in San Jose, California on June 10, 1982. Its main office is located at One North Market Street, San Jose, California. SJNB engages in the general commercial banking business with special emphasis on the banking needs of the business and professional communities in San Jose and the surrounding areas. The Financial Services Division is located at 95 South Market, San Jose, California, where it engages in the factoring of accounts receivable. The accounting policies of SJNB Financial Corp. and San Jose National Bank (collectively, the "Company") are in accordance with generally accepted accounting principles and conform to general practices within the banking industry. a. Consolidation The consolidated financial statements include the accounts of SJNB. All material intercompany accounts and transactions have been eliminated in the consolidated financial statements. b. Investment Securities The Company accounts for its investment securities as follows: Available for sale-Investment securities that are acquired without the intent to hold until maturity are classified as available for sale. Such securities are valued at market value. Market value adjustments are reported as a separate component of shareholders' equity until realized. Held to maturity-Investment securities purchased with the intent and ability to hold them until maturity are classified as held to maturity. Such securities are carried at cost, adjusted for accretion of discounts and amortization of premiums. Investment securities purchased are recorded as of their trade date. Accretion of discounts and amortization of premiums arising at acquisition are included in income using methods approximating the interest method. Gains or losses on sales of securities, if any, are determined based on the specific identification method. c. Loans and Allowance for Possible Loan Losses Loans generally are stated at the principal amount outstanding. Interest on loans is credited to income on a simple interest basis. Loan origination fees and direct origination costs are deferred and amortized to income by a method approximating the level yield method over the estimated lives of the underlying loans. The accrual of interest on loans is discontinued and any accrued and unpaid interest is reversed when, in the opinion of management, there is significant doubt as to the collectibility of interest or principal or when the payment of principal or interest is ninety days past due, unless the amount is well-secured and in the process of collection. The allowance for possible loan losses is a valuation allowance maintained to provide for future loan losses through charges to current operating expense. The allowance is based upon a continuing review of loans by management which includes consideration of changes in the character of the loan portfolio, current and anticipated economic conditions, past lending experience and such other factors which, in management's judgment, deserve recognition in estimating potential loan losses. In addition, regulatory examiners may require the Company to recognize additions to the allowance based on their judgments about information available to them at the time of their examinations. Impaired loans are those in which, based on current information and events, it is probable that the Company will be unable to collect all amounts due according to the contractual terms of the loan agreement, including scheduled interest payments. The Company measures such loans based on the present value of future cash flows discounted at the loan's effective interest rate, or at the loan's market value or the fair value of the collateral if the loan is secured. If the measurement of the impaired loan is less than the recorded investment in the loan, impairment is recognized by creating or adjusting an existing allocation of the allowance for loan losses. d. Sales of Loans When loans or participating interests in loans are sold without recourse, gains and losses are recognized at the time of sale. Gains or losses recognized are equal to the premium less estimated future servicing costs and profits. Any premiums or discounts related to loan sales are amortized on a basis that approximates the effective yield over the estimated remaining life of the loan. e. Premises and Equipment Premises and equipment are stated at cost, less accumulated depreciation and amortization. Depreciation and amortization are charged to expense over the estimated useful lives of the assets on a straight-line basis as follows: Buildings 30 years Furniture and equipment 3-10 years Improvements 7-15 years f. Other Real Estate Owned Other real estate owned is comprised of real estate acquired through foreclosure. Such foreclosures are initially recorded at the lower of cost or fair value. Subsequent valuation adjustments are made if estimated selling costs and the fair value falls below the carrying amount. Holding costs are expensed as incurred. g. Intangibles Goodwill is amortized using the straight-line method over 15 years. Core deposit intangibles are amortized using an accelerated method over ten years. On a periodic basis, the Company reviews its intangible assets for events or changes in circumstances that may indicate that the carrying amount of the assets may not be recoverable. Should such a change indicate that the value of such intangibles may be impaired, an evaluation of the recoverability would be performed prior to any writedown of the assets. h. Interest Rate Instruments Interest rate instruments are entered into in conjunction with the Bank's asset/liability management. As these contracts are entered into only after meeting the accounting criteria for a hedge, and as long as they continue to meet such criteria, changes in market value are deferred and the net settlements are accrued as adjustments to interest income. The Bank currently has outstanding an interest rate floor arrangement which does not meet the accounting criteria for a hedge and which therefore is accounted for on a mark to market basis. i. Income Taxes The Company accounts for income taxes using the asset and liability method. Under this method, deferred tax assets and liabilities are recognized for the future tax consequences of differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date. Under the asset and liability method, deferred tax assets are recognized for deductible temporary differences and operating loss and tax credit carryforwards, and then a valuation allowance is established to reduce that deferred tax asset if it is "more likely than not" that the related tax benefits will not be realized. j. Net Income Per Share In December 1997, the Company implemented Statement of Financial Accounting Standards (SFAS) No. 128, Earnings Per Share. SFAS No. 128 establishes standards for computing and reporting earnings per share (EPS) and applies to entities with publicly held common stock. This statement supersedes Accounting Principles Board (APB) Opinion No. 15. Basic net income per share is computed by dividing net income by the weighted average number of shares of common stock outstanding during the year. Diluted net income per share is computed by dividing net income by the weighted average number of shares of common stock outstanding during the year plus shares issuable assuming exercise of all employee stock options, except where anti-dilutive. k. Statement of Cash Flows For purposes of reporting cash flows, cash and cash equivalents include cash on hand, amounts due from banks and money market investments. l. Use of Estimates Management of the Company has made a number of estimates and assumptions relating to the reporting of assets and liabilities and the disclosure of contingent asset and liabilities to prepare these financial statement in conformity with generally accepted accounting principles. Actual results could differ from those estimates. m. Impairment of Long-Lived Assets Long-lived assets and certain identifiable intangibles held and used by an entity are reviewed for impairment whenever events or changes indicate that the carrying amount of an asset may not be recoverable. The Company has not identified any long-lived assets or identifiable intangibles which were impaired. n. Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities SFAS No. 125, Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities, provides accounting and reporting standards for transfers and servicing of financial assets and extinguishments of liabilities based on consistent application of a financial-components approach that focuses on control. It distinguishes transfers of financial assets that are sales from transfers that are secured borrowings. Under this approach, after a transfer of financial assets, an entity recognizes all financial and servicing assets it controls and liabilities it has incurred and derecognizes financial assets it no longer controls and liabilities that have been extinguished. The Company did not have any significant transactions in which this Statement had any impact on its consolidated financial statements. o. Reclassification Certain 1996 and 1995 amounts have been reclassified to conform with the 1997 presentation. NOTE 2 - Acquisition On January 2, 1996 the Company acquired Astra Financial Inc. (Astra) which was accounted for as a purchase transaction. Astra was an asset-based lending company based in San Jose, California. Its outstanding factoring receivables were approximately $2.2 million as of December 31, 1995. The purchase price of Astra was approximately $760. NOTE 3 - Cash and Due from Banks The Federal Reserve requires the Bank to maintain average reserve balances for certain deposit balances. Such required reserves were approximately $6.0 million and $4.1 million as of December 31, 1997 and 1996, respectively. NOTE 4 - Investment Securities
Investment securities as of December 31, 1997 and 1996 are summarized as follows: (dollars in thousands) December 31, 1997 - ---------------------------------------------------------------------------------------------------------------------------- Unrealized Fair ---------------------------------------- Cost Gains Losses Value - ---------------------------------------------------------------------------------------------------------------------------- Available for sale: U.S. Treasury $5,001 $40 ----- $5,041 U. S. Government Agencies 34,148 179 ----- 34,327 Mortgage Backed 5,097 74 ----- 5,171 Mutual funds 3,898 ----- ($132) 3,766 - ---------------------------------------------------------------------------------------------------------------------------- Total available for sale 48,144 293 (132) 48,305 - ---------------------------------------------------------------------------------------------------------------------------- Held to Maturity: U.S. Treasury 1,992 16 ----- 2,008 U.S. Government agencies 5,485 34 (7) 5,512 State and municipal (nontaxable) 3,224 36 (2) 3,258 Mortgage Backed 2,518 29 ----- 2,547 - ---------------------------------------------------------------------------------------------------------------------------- Total held to maturity 13,219 115 (9) 13,325 Federal Reserve Bank Stock 518 ----- ----- 518 - ---------------------------------------------------------------------------------------------------------------------------- Total 13,737 115 (9) 13,843 ============================================================================================================================ Total investment securities portfolio $61,881 $408 ($141) $62,148 ============================================================================================================================ December 31, 1996 - ---------------------------------------------------------------------------------------------------------------------------- Unrealized Fair ---------------------------------------- Cost Gains Losses Value - ---------------------------------------------------------------------------------------------------------------------------- Available for sale: U.S. Treasury $3,989 $19 ($3) $4,005 U. S. Government Agencies 34,099 188 (2) 34,285 Mortgage Backed 5,835 55 (22) 5,868 Mutual funds 4,018 ----- (132) 3,886 - ---------------------------------------------------------------------------------------------------------------------------- Total available for sale 47,941 262 (159) 48,044 - ---------------------------------------------------------------------------------------------------------------------------- Held to Maturity: U.S. Treasury 1,975 28 ----- 2,003 U.S. Government agencies 7,463 78 (18) 7,523 State and municipal (nontaxable) 2,635 20 (2) 2,653 Mortgage Backed 2,481 53 ----- 2,534 - ---------------------------------------------------------------------------------------------------------------------------- Total held to maturity 14,554 179 (20) 14,713 Federal Reserve Bank Stock 518 ----- ----- 518 - ---------------------------------------------------------------------------------------------------------------------------- Total 15,072 179 (20) 15,231 ============================================================================================================================ Total investment securities portfolio $63,013 $441 $(179) $63,275 ============================================================================================================================
As of December 31, 1997 and 1996 investment securities with carrying values of approximately $39 million and $38 million, respectively, were pledged as collateral for deposits of public funds and other purposes. Investment in Federal Reserve Bank stock is carried at cost, which is approximately equal to its market value. The following tables provide the scheduled maturities of the Company's investment securities portfolio as of December 31, 1997: (dollars in thousands) December 31, 1997 ---------------------- Amortized Fair Securities available for sale Cost Value ----------------------- Due in one year or less $19,988 $20,034 Due after one year through five years 23,281 23,511 Due after five years through ten years 977 994 ----------------------- Total 44,246 44,539 ----------------------- Securities held to maturity Due in one year or less 3,724 3,729 Due after one year through five 8,867 8,952 years Due after ten years 628 644 ----------------------- Total 13,219 13,325 ----------------------- Non-maturity investments Available for sale - Mutual Funds 3,898 3,766 Held to maturity - FRB Stock 518 518 ----------------------- Total 4,416 4,284 ----------------------- Total Investment securities $61,881 $62,148 ======================= Mutual funds consist of several funds invested in U. S. Government securities and government issued adjustable rate mortgages (ARMS). Interest income earned on U. S. Treasury, U. S. Government agencies and state and municipal securities for the years ended December 31, 1997, 1996 and 1995 are as follows: - --------------------------------------------------------- Interest income (dollars in thousands) 1997 1996 1995 - ---------------------------------------------------------- Securities available for sale: U.S. Treasury $280 $291 $417 U.S. Government agencies 2,110 2,088 1,200 Mortgage Backed 373 311 (3) Mutual funds 219 217 233 Securities held to maturity: U.S. Treasury 132 168 214 U.S. Government agencies 453 408 306 State and municipal(nontaxable) 141 136 120 Mortgage Backed 190 206 208 Federal Reserve Bank 31 31 30 - ---------------------------------------------------------- Interest income $3,929 $3,856 $2,725 ========================================================== NOTE 5 - Loans A summary of loans as of December 31, 1997 and 1996 is as follows: (dollars in thousands) 1997 1996 - ------------------------------------------------------------- Commercial $92,693 $77,335 Real estate construction 17,818 15,451 Real estate-other 90,495 74,713 Consumer 9,042 8,622 Other 19,568 23,174 Unearned fee income (644) (668) - ------------------------------------------------------------- Total loan portfolio 228,972 198,627 Less allowance for possible loan losses (4,493) (4,005) - ------------------------------------------------------------- Loans, net $224,479 $194,622 ============================================================= Concentrations of credit risk arise when a number of customers are engaged in similar business activities, or activities in the same geographic region, or have similar features that would cause their ability to meet contractual obligations to be similarly affected by changes in economic conditions. Although the Company has a diversified loan portfolio, a substantial portion of its customers' ability to honor contracts is reliant upon the economic stability of the Santa Clara Valley, which in some degree relies on the stability of high technology companies in its "Silicon Valley." Loans are generally made on the basis of a secure repayment source, which is based on a detailed cash flow analysis; however, collateral is generally a secondary source for loan qualification. Approximately 40% of the Company's loan portfolio is made up of real estate other than construction. This category of real estate loans includes loans on income-bearing commercial properties. In addition, 7.8% of the loan portfolio is made up of real estate construction loans. These loans consist of approximately 61% residential and 39% commercial. Included in Consumer loans are Prime equity loans of $4.9 million or approximately 2.1% of the total loan portfolio. Included in the category "Other" are loans to real estate developers for short-term investment purposes and loans to nondevelopers for real estate investment purposes that amount to approximately 3.8% of the total loan portfolio. This amounts to approximately 53% of the loan portfolio directly related to real estate or real estate interests. Approximately 40% of the total loan portfolio is commercial loans; however, no particular industry represents a significant portion of such loans. The following is an analysis of the allowance for possible loan losses for the years ended December 31, 1997, 1996 and 1995: (dollars in thousands) 1997 1996 1995 - ----------------------------------------------------------- Balance, beginning of year $4,005 $3,847 $3,311 Provision for possible loan 705 190 1,045 losses Charge-offs (288) (418) (696) Recoveries 71 336 187 Allowance relating to the acquisition of Astra Financial Corp. ---- 50 ---- - ----------------------------------------------------------- Balance, end of year $4,493 $4,005 $3,847 =========================================================== At December 31, 1997, impaired loans totaled $706 with a corresponding valuation allowance of $66. For the year ended December 31, 1997, the average recorded investment in impaired loans was approximately $600. The Company recognized $46 of interest on impaired loans (during the portion of the year they were impaired), of which $39 related to impaired loans for which interest income is recognized on the cash basis. The balance of nonaccrual loans as of December 31, 1997 and 1996 was approximately $360 and $457, respectively. The effect on interest income had these loans been performing in accordance with contractual terms was $61 in 1997, $35 in 1996 and $111 in 1995. Income actually recognized on these loans was $32 in 1997, $29 in 1996 and $11 in 1995. The Company has made loans to executive officers, directors and their affiliates in the ordinary course of business. An analysis of activity with respect to such loans during the years ended December 31, 1997, 1996 and 1995 is as follows: (dollars in thousands) 1997 1996 1995 - ----------------------------------------------------------- Balance, beginning of year $1,652 $1,466 $3,854 New loans disbursed 495 634 471 Repayments of loans (924) (448) (2,859) - ----------------------------------------------------------- Balance, end of year $1,223 $1,652 $1,466 =========================================================== As of December 31, 1997, loans of approximately $12 million were pledged as collateral for the Federal Reserve Discount Window. The Bank did not utilize the Discount Window for any borrowings during 1997. NOTE 6 - Premises and Equipment A summary of premises and equipment as of December 31, 1997 and 1996 is as follows: (dollars in thousands) 1997 1996 - ------------------------------------------------------------------- Land $829 $829 Buildings and improvements 3,632 3,880 Furniture and equipment 3,070 2,639 - ------------------------------------------------------------------- Premises and equipment 7,531 7,348 Less accumulated depreciation and amortization (3,615) (3,347) - ------------------------------------------------------------------- Premises and equipment, net $3,916 $4,001 =================================================================== NOTE 7 - Time Deposits As of December 31, 1997 and 1996, the Bank had $48 million in time deposits in denominations of $100 or more. Interest expense for these deposits was $3.0 million and $2.6 million in 1997 and 1996, respectively. NOTE 8 - Other Short-term Borrowings Other short-term borrowings include federal funds purchased and securities sold under agreements to repurchase and information relating to these borrowings are summarized below: (dollars in thousands) 1997 1996 1995 - ----------------------------------------------------------- Federal funds purchased Balance at December 31, ---- ---- $2,000 Weighted average interest rate at year end ---- ---- 5.25% Maximum amount outstanding at any month end $6,000 $5,000 9,000 Average outstanding balance 834 813 355 Weighted average interest rate paid 5.93% 5.70% 6.17% Securities sold under agreements to repurchase Balance at December 31, $16,000 $29,688 $22,000 Weighted average interest rate at year end 5.72% 5.56% 5.77% Maximum amount outstanding at any month end 16,000 30,067 23,553 Average outstanding balance 11,236 23,161 10,827 The Company's bank subsidiary has informal arrangements with various correspondents providing short-term credit for liquidity requirements; such informal lines aggregated $12 million at December 31, 1997. NOTE 9 - Earnings per Share The reconciliation of the numerators and denominators of the basic and diluted earnings per share (EPS) computations are as follows: For the year ended December 31, 1997 - ----------------------------------------------------------- Net Per share income Shares amount - ----------------------------------------------------------- Net income and basic EPS $5,114 2,508 $2.04 =========== Effect of stock option dilutive shares 132 - ----------------------------------------------- Diluted EPS $5,114 2,640 $1.94 =========================================================== For the year ended December 31, 1996 - -------------------------------------------------------- Per Net share income Shares amount - ---------------------------------------------------------- Net income and basic EPS $4,291 2,481 $1.73 =========== Effect of stock option dilutive shares 141 - ---------------------------------------------- Diluted EPS $4,291 2,622 $1.64 ========================================================== For the year ended December 31, 1995 - ---------------------------------------------------------- Per Net share income Share amount - ---------------------------------------------------------- Net income and basic EPS $3,024 2,381 $1.27 =========== Effect of stock option dilutive shares 103 - ----------------------------------------------------------- Diluted EPS $3,024 2,484 $1.22 =========================================================== NOTE 10 - Income Taxes Income tax expense for the years ended December 31, 1997, 1996 and 1995 consists of the following: (dollars in thousands) 1997 1996 1995 - ----------------------------------------------------------- Current: Federal $3,208 $2,271 $2,108 State 921 806 373 - ----------------------------------------------------------- Total current 4,129 3,077 2,481 - ----------------------------------------------------------- Deferred: Federal (281) 145 (81) State (75) (24) (5) - ----------------------------------------------------------- Total deferred (356) 121 (86) - ----------------------------------------------------------- Income taxes $3,773 $3,198 $2,395 =========================================================== Total income tax expense differed from the amount computed by applying the U. S. federal income tax rates in years ended December 31, 1997, 1996 and 1995 of 34% to income before income taxes as a result of the following: (dollars in thousands) 1997 1996 1995 - ----------------------------------------------------------- Computed "expected " tax expense $3,021 $2,546 $1,842 California franchise tax, net of federal income tax 558 516 368 Amortization of intangible assets 142 167 230 Federal tax-exempt investment income (42) (46) (42) Other 94 15 (3) - ----------------------------------------------------------- Income taxes $3,773 $3,198 $2,395 =========================================================== The tax effects of temporary differences that gave rise to significant portions of the deferred tax assets and deferred tax liabilities at December 31, 1997 and 1996, are presented below: (dollars in thousands) 1997 1996 - ----------------------------------------------------------- Deferred tax assets: Provision for possible loan losses $1,421 $1,133 Purchase accounting adjustments 181 226 Foreclosure income 43 43 State taxes 297 247 Deferred compensation 112 98 Other 157 63 - ----------------------------------------------------------- Total gross deferred tax assets 2,211 1,810 - ----------------------------------------------------------- Deferred tax liabilities: Securities available for sale 70 41 Depreciation and amortization 88 43 - ----------------------------------------------------------- Total gross deferred tax liabilites 158 84 - ----------------------------------------------------------- Net deferred tax assets $2,053 $1,726 =========================================================== Amounts for the current year are based upon estimates and assumptions as of the date of this report and could vary significantly from amounts shown on the tax returns as filed. Accordingly, the variances from the amounts previously reported for 1996 are primarily as a result of adjustments to conform to tax returns as filed. Deferred tax assets related to purchase accounting adjustments include the tax effect of fair market value adjustments of the assets and liabilities of businesses acquired. The Company believes that the net deferred tax asset is realizable through sufficient taxable income within the carryback periods and the current year's taxable income. NOTE 11 - Detail of Other Expense Other expense for the years ended December 31, 1997, 1996 and 1995 consists of the following: (dollars in thousands) 1997 1996 1995 - ----------------------------------------------------------- Amortization of core deposit intangibles and goodwill $473 $499 $569 Data processing 441 554 458 Business promotion 369 365 314 Client services 345 247 247 Legal and professional fees 331 369 476 Directors' fees and costs 226 219 239 Stationery and supplies 183 183 180 Advertising 171 236 186 Regulators' assessments 109 72 283 Loan and collection 104 151 215 Net cost of other real estate owned (72) (48) 45 Other 780 569 506 - ---------------------------------------------------------- Total $3,460 $3,416 $3,718 =========================================================== NOTE 12 - Stock Option Plan During 1996 the shareholders of the Company approved the 1996 Stock Option Plan (the "Plan"), which replaced the then existing two stock option plans. The 1996 Stock Option Plan is described below. The Company applies APB Opinion No. 25 and related Interpretations in accounting for the Plan. Accordingly, no compensation cost has been recognized for its Plan. Had compensation cost for the Plan been determined consistent with SFAS No. 123, the Company's net income and earnings per share would have been adjusted to the pro forma amounts for options granted for the years 1997, 1996 and 1995 indicated below: (dollars in thousands) 1997 1996 1995 - --------------------------------------------------------- Net income: As reported $5,114 $4,291 $3,024 Pro forma 4,850 4,224 2,947 - --------------------------------------------------------- Net income per share: Basic, as reported $2.04 $1.73 $1.27 Basic, pro forma 1.93 1.70 1.24 - --------------------------------------------------------- Diluted, as reported $1.94 $1.64 $1.22 Diluted, pro forma 1.84 1.61 1.19 - --------------------------------------------------------- The above amounts include the impact on net income and net income per share for options granted during the years 1995, 1996 and 1997; such amounts would have been substantially different if options granted prior to 1995 had been included in the computation. The fair value of each option grant is estimated on the date of grant using the Black-Scholes option-pricing model with the following weighted-average assumptions used for grants in the following years: Assumptions: 1997 1996 1995 - ---------------------------- --------- --------- ---------- Dividend yield 1.3% 1.9% 1.6% Volatility 53% 50% 55% Risk free interest rates 6.4% 6.3% 6.5% Expected lives (years) 6.5 8.2 8.2 The 1996 Stock Option Plan provides that either incentive stock options or nonstatutory stock options may be granted to certain key employees or directors to purchase authorized, but unissued, Common Stock of the Company. Shares may be purchased at a price not less than the fair market value of such stock on the date of the grant. All stock options become exercisable 40% one year after the date of grant and 20% in each of the following three years. They expire no later than ten years after the date of the grant. The Plan provides that outside directors will automatically receive a nonstatutory option covering 5,000 shares annually at an exercise price equal to 100% of the market price of the Common Stock on the date of grant. The 1996 Stock Option Plan replaced the previous two plans which had similar provisions. Any options granted under the prior plans which expire without being exercised, the corresponding common shares shall become available for awards under the Plan (6,710 shares became available under this provision). The number of shares subject to outstanding options under these plans was 153,025 as of December 31, 1997. Activity under the stock plans is as follows: Weighted Number Average of Exercise Options Shares Price - ---------------------------------------------------------- Balances, December 31, 1994 260,471 $5.34 Granted 140,125 9.28 Cancelled (8,300) 8.08 Exercised (70,987) 5.14 - ----------------------------------------------------------- Balances, December 31, 1995 321,309 7.03 - ----------------------------------------------------------- Granted 93,560 16.48 Cancelled (9,640) 11.58 Exercised (152,711) 5.29 - ----------------------------------------------------------- Balances, December 31, 1996 252,518 11.40 Granted 100,070 25.60 Cancelled (15,075) 15.70 Exercised (23,553) 8.76 - ----------------------------------------------------------- Balances, December 31, 1997 313,960 $15.92 =========================================================== The weighted-average fair value of options granted during 1997, 1996 and 1995 was $13.28, $6.22 and $4.32 respectively. The following table summarizes options outstanding and exercisable at December 31, 1997: - -------------------------------------------------------------------------------- Range of Weighted Average Weighted ----------------------------- Average Exercise Shares Contractual Exercise Shares Exercise Price Outstanding Life Price Exercisable Price - -------------------------------------------------------------------------------- $4.25-9.13 28,800 5.75 $6.88 25,400 $6.73 11.50-11.50 110,120 7.56 9.35 64,960 9.35 13.38-14.31 8,975 8.13 13.64 2,325 13.56 16.38-16.38 53,000 8.42 16.38 20,000 16.38 16.75-23.88 31,765 8.88 19.50 6,994 18.87 24.00-24.88 11,800 9.31 24.33 ---- ---- 25.00-25.00 57,000 9.17 25.00 7,000 25.00 25.38-39.81 12,500 9.81 35.89 ---- ---- - -------------------------------------------------------------------------------- $4.25-39.81 313,960 8.14 $15.92 126,679 $11.51 ======= ======= NOTE 13 - Commitments and Contingent Liabilities In the normal course of business, there are outstanding commitments, such as commitments to extend credit, which are not reflected in the consolidated financial statements. These commitments involve, to varying degrees, credit risk in excess of the amount recognized as either an asset or liability in the consolidated balance sheet. The Company controls the credit risk through its credit approval process. The same credit policies are used when entering into such commitments. Management does not anticipate any loss from such commitments. As of December 31, 1997, amounts committed to extend credit under normal lending agreements aggregated approximately $93 million for undisbursed loan commitments and approximately $12 million for commitments under unused standby letters of credit and other guarantees. The Bank utilizes various financial instruments with off-balance sheet risk to reduce its exposure to fluctuations in interest rates. These financial instruments involve, to varying degrees, credit and interest rate risk in excess of the amount recognized as either an asset or liability in the statement of financial position. The credit risk is the possibility that a loss may occur because a party to a transaction fails to perform according to the terms of the contract. Interest rate risk is the possibility that future changes in market prices will cause a financial instrument to be less valuable or more onerous. The Bank attempts to control the credit risk arising from these instruments through its credit approval process and through the use of risk control limits and monitoring procedures. Interest rate risk is managed by various asset and liability methods including the utilization of interest rate hedging vehicles. Also at December 31, 1997, the Bank had outstanding an interest rate floor in the amount of $10 million for a remaining period of approximately 16 months. The Bank has paid a fixed premium for which it will receive, through May 10, 1999, the amount of interest on $10 million based on the difference of 7% and Prime when Prime is less than 7%. This will protect the Bank against decreases in its net income when Prime decreases to less than 7%. The current fair market value of the floor is approximately $1. The Company is obligated under its lease agreement for 95 South Market Street under a noncancelable operating lease through September 2004. The lease is subject to periodic adjustment based on changes in the CPI. The following table shows future minimum payments under the lease as of December 31, 1997: - ------------------------------------------------------------ Years Ending December 31,(in thousands) - ------------------------------------------------------------ 1998-2002 ($236 each year) $1,180 Thereafter 413 - ------------------------------------------------------------ Total minimum lease payments $1,593 ============================================================ Total minimum lease payments to be received under noncancelable operating subleases at December 31, 1997 are approximately $1.3 million; these payments are not reflected in the above table. There is ordinary routine litigation incidental to the business pending against the Company but, in the opinion of management, liabilities (if any) arising from such claims will not have a material effect upon the consolidated financial statements of the Company. NOTE 14 - Fair Value of Financial Instruments SFAS No. 107, "Disclosures about Fair Value of Financial Instruments," requires the Company disclosure of estimated fair values for its financial instruments. Fair value estimates, methods and assumptions, set forth below for the Company's financial instruments, are made solely to comply with the requirements of SFAS No. 107 and should be read in conjunction with the consolidated financial statements and notes thereto in this Annual Report. Fair values are based on estimates or calculations at the transaction level using present value techniques in instances where quoted market prices are not available. Because broadly traded markets do not exist for most of the Company's financial instruments, the fair value calculations attempt to incorporate the effect of current market conditions at a specific time. Fair valuations are management's estimates of the values, and they are often calculated based on current pricing policy, the economic and competitive environment, the characteristics of the financial instruments, and other such factors. These calculations are subjective in nature, involve uncertainties and matters of significant judgment and do not include tax ramifications; therefore, the results cannot be determined with precision, substantiated by comparison to independent markets and may not be realized in an actual sale or immediate settlement of the instruments. The fair valuations have not been updated since year end; therefore, the valuations may have changed significantly since that point in time. The Company has not included certain material items in its disclosure, such as the value of the long-term relationships with the Company's deposit customers, since these intangibles are not financial instruments. There may be inherent weaknesses in any calculation technique, and changes in the underlying assumptions used, including discount rates and estimates of future cash flows, could significantly affect the results. For all these reasons, the aggregation of the fair value calculations presented herein do not represent, and should not be construed to represent, the underlying value of the Company. The following table presents a summary of the Company's financial instruments, as defined by SFAS No. 107 as of December 31, 1997 and 1996: (dollars in thousands) 1997 1996 - ---------------------------------------------------------------------------------------------------------------------------- Carrying Fair Carrying Fair Financial assets Value Value Value Value - ---------------------------------------------------------------------------------------------------------------------------- Cash and due from banks $22,825 $22,825 $20,208 $20,208 Money market investments 2,700 2,700 19,800 19,807 Investment securities 62,042 62,148 63,116 63,275 Loans, net 224,479 224,430 194,622 193,438 Accrued interest receivable 1,838 1,838 1,735 1,735 Financial liabilities - ---------------------------------------------------------------------------------------------------------------------------- Deposits 270,345 270,444 245,213 245,348 Federal funds purchased, securities sold under repurchase agreements and other borrowings 16,576 16,583 30,286 30,318 Off-balance sheet Financial Instruments - ---------------------------------------------------------------------------------------------------------------------------- Interest rate floor contract purchased 13 1 22 8
The methodology and assumptions utilized to estimate the fair value of the Company's financial instruments, not previously discussed above, are described below: Financial instruments with fair value approximate to carrying value - The carrying value of cash and due from banks, money market investments, accrued interest receivable, noninterest-bearing demand accounts, interest-bearing checking, money market and savings deposit accounts, accrued interest receivable and expense approximates fair value due to the short-term nature of these financial instruments. Investment securities - The estimated fair values of securities by type are based on quoted market prices when available. Loans - The carrying amount of loans is net of unearned fee income and the reserve for possible loan losses. The fair valuation calculation process differentiates loans based on their financial characteristics, such as product classification, loan category, pricing features and remaining maturity. Prepayment estimates are evaluated by product and loan rate. Discount rates presented in the paragraphs below have a wide range due to the Company's mix of fixed and variable rate products. The fair value of loans is calculated by discounting contractual cash flows using discount rates that reflect the Company's current pricing for loans with similar characteristics and remaining maturity. Most of the discount rates applied to these loans were between 10.6% and 11.2% at December 31, 1997. Additionally, the allowance for loan losses was applied against the estimated fair value of loans to recognize future defaults of contractual cash flows. Fair value for nonperforming loans is based on discounting estimated cash flows using a rate commensurate with the risk associated with the estimated cash flows, or underlying collateral values, where appropriate. Deposits - The fair value of certificates of deposit and other time deposits is calculated based on the discounted value of contractual cash flows. The discount rate is estimated using the rates currently offered for like deposits with similar remaining maturities. Other short-term borrowings - A reasonable estimate of the fair value of federal funds sold is the carrying amount because of the relatively short period of time between the origination of the instrument and its expected maturity. The fair value of the Company's securities sold under repurchase agreements is calculated based on the discounted value of contractual cash flows. The discount rate is estimated using the rates currently offered for such instruments with similar remaining maturities. Commitment to extend credit - The majority of the Company's commitments to extend credit carry variable and current market interest rates if converted to loans. Because these commitments are generally unassignable by either the Company or the borrower, they only have value to the Company and the borrower. The estimated fair value approximates the recorded deferred fee amounts and is excluded from the table. Derivative financial instruments - The fair value of the interest rate floor generally reflects the estimated amounts the Company would receive based upon dealer quotes, to terminate such agreements at the reporting date.
NOTE 15 - SJNB Financial Corp. (Parent Company Only) The following are the financial statements of SJNB Financial Corp. (parent company only): - ---------------------------------------------------------------------------------------------------------------------------- Balance Sheets December 31, 1997 and 1996 (dollars in thousands) 1997 1996 - ---------------------------------------------------------------------------------------------------------------------------- Assets Cash and equivalents $176 $1,050 Investment in the Bank 32,662 30,061 Other assets 321 94 - ---------------------------------------------------------------------------------------------------------------------------- Total assets $33,159 $31,205 ============================================================================================================================ Liabilities and Shareholders' Equity Total liabilities ----- ----- - ---------------------------------------------------------------------------------------------------------------------------- Common stock, no par value; authorized, 20,000 shares issued and outstanding, 2,493 shares in 1997 and 2,571 shares in 1996 $18,800 $20,880 Retained earnings 14,254 10,263 Net unrealized gain on securities available for sale 105 62 - ---------------------------------------------------------------------------------------------------------------------------- Total shareholders' equity 33,159 31,205 - ---------------------------------------------------------------------------------------------------------------------------- Total liabilities and shareholders' equity $33,159 $31,205 ============================================================================================================================ - ---------------------------------------------------------------------------------------------------------------------------- Statements of Income Years Ended December 31, 1997, 1996 and 1995 (dollars in thousands) 1997 1996 1995 - ---------------------------------------------------------------------------------------------------------------------------- Equity in undistributed income of the Bank $2,557 $4,343 $3,010 Reduction of provision for possible loan losses ----- ----- $57 Cash dividend received from Bank 2,600 ----- ----- Interest income and fees on loans 13 23 123 Other expense (84) (110) (156) - ---------------------------------------------------------------------------------------------------------------------------- Income before taxes 5,086 4,256 3,034 Income tax benefit (expense) 28 35 (10) - ---------------------------------------------------------------------------------------------------------------------------- Net income $5,114 $4,291 $3,024 ============================================================================================================================ - ---------------------------------------------------------------------------------------------------------------------------- Statements of Cash Flows Years Ended December 31, 1997, 1996 and 1995 (dollars in thousands) 1997 1996 1995 - ---------------------------------------------------------------------------------------------------------------------------- Cash flows from operating activities: Net income $5,114 $4,291 $3,024 Adjustments to reconcile net income to net cash provided by (used in) operating activities: Recovery of provision for possible loan losses ---- ---- (57) (Increase) decrease in other assets (19) 423 ---- (Decrease) increase in liabilities ---- (15) 10 Equity in undistributed income of the Bank (5,157) (4,343) (3,010) - ---------------------------------------------------------------------------------------------------------------------------- Net cash used in operating activities (62) 356 (33) - ---------------------------------------------------------------------------------------------------------------------------- Cash flows from investing activities: Decrease in loans, net ---- ---- 512 Cash dividend received from Bank 2,600 ---- ---- Cash dividend (1,123) (826) (504) Common stock repurchased (2,495) ---- (145) Stock options exercised 206 810 351 - ---------------------------------------------------------------------------------------------------------------------------- Net cash (used in) provided by investing activities (812) (16) 214 - ---------------------------------------------------------------------------------------------------------------------------- Net (decrease) increase in cash and equivalents (874) 340 181 Cash and equivalents at beginning of year 1,050 710 529 - ---------------------------------------------------------------------------------------------------------------------------- Cash and equivalents at end of year $176 $1,050 $710 ============================================================================================================================
NOTE 16- Regulatory Matters The Federal Reserve Board, the Comptroller of the Currency and the FDIC have issued substantially similar risk-based and leverage capital guidelines applicable to United States banking organizations. In addition, those regulatory agencies may from time to time require that a banking organization maintain capital above the minimum levels, whether because of its financial condition or actual or anticipated growth. The Federal Reserve Board risk-based guidelines define a two-tier capital framework. Tier 1 capital consists of common and qualifying preferred shareholders' equity, less certain intangibles and other adjustments. Tier 2 capital consists of subordinated and other qualifying debt, and the allowance for possible loan losses up to 1.25% of risk weighted assets. The total of Tier 1 and Tier 2 capital, less investments in unconsolidated subsidiaries, represents qualifying total capital, at least 50% of which must consist of Tier 1 capital. Risk-based capital ratios are calculated by dividing Tier 1 and total capital by risk-weighted assets. Assets and off-balance sheet exposures are assigned to one of four categories of risk-weights, based primarily on relative credit risk. The minimum tier 1 risk-based capital ratio is 4% and the minimum total risk-based capital ratio is 8%. The leverage capital ratio is determined by dividing Tier 1 capital by adjusted average total assets. Although the stated minimum leverage capital ratio is 3%, most banking organizations are required to maintain leveraged capital ratios of at least 100 to 200 basis points above the 3%. The table below summarizes the Tier 1 and total risk-based capital ratios and leverage capital ratios of the Company and the Bank as of the dates indicated: Risk-based and Leverage Capital Ratios (dollars in thousands) December 31, 1997 December 31, 1996 ---------------------------------------------------------------------- Company - Risk-based Amount Ratio Amount Ratio - ---------------------------------------------------------------------------------------------------------------------------- Tier 1 capital $29,167 11.28% $26,533 11.91% Tier 1 capital minimum requirement 10,344 4.00 8,910 4.00 ---------------------------------------------------------------------- Excess $18,823 7.28% $17,623 7.91% ====================================================================== Total capital $32,415 12.53% $29,333 13.17% Total capital minimum requirement 20,689 8.00 17,820 8.00 ---------------------------------------------------------------------- Excess $11,726 4.53% $11,513 5.17% ====================================================================== Risk-adjusted assets $258,608 $222,744 Company - Leverage - ---------------------------------------------------------------------------------------------------------------------------- Tier 1 capital $29,167 9.07% $26,533 9.28% Minimum leverage ratio requirement 12,870 4.00 11,438 4.00 ---------------------------------------------------------------------- Excess $16,297 5.07% $15,095 5.28% ====================================================================== Average total assets $321,747 $285,952 Bank - Risk-based - ---------------------------------------------------------------------------------------------------------------------------- Tier 1 capital $28,879 11.17% $25,389 11.40% Tier 1 capital minimum requirement 10,341 4.00 8,907 4.00 ---------------------------------------------------------------------- Excess $18,538 7.17% $16,482 7.40% ---------------------------------------------------------------------- Total capital $32,126 12.43% $28,187 12.66% Total capital minimum requirement 20,683 8.00 17,813 8.00 ---------------------------------------------------------------------- Excess $11,443 4.43% $10,374 4.66% ====================================================================== Risk-adjusted assets $258,533 $222,668 Bank - Leverage - ---------------------------------------------------------------------------------------------------------------------------- Tier 1 capital $28,879 8.97% $25,389 8.87% Minimum leverage ratio requirement 12,881 4.00 11,447 4.00 ---------------------------------------------------------------------- Excess $15,998 4.97% $13,942 4.87% ---------------------------------------------------------------------- Average total assets $322,014 $286,164
The Federal Deposit Insurance Corporation Improvement Act of 1991 ("FDICIA"), among other things, identifies five capital categories for insured depository institutions, (well capitalized, adequately capitalized, undercapitalized, significantly undercapitalized and critically undercapitalized) and requires the respective Federal regulatory agencies to implement systems for "prompt corrective action" for insured depository institutions that do not meet minimum capital requirements within such categories. FDICIA imposes progressively more restrictive constraints on operations, management and capital distributions, depending on the category in which an institution is classified. Failure to meet the capital guidelines could also subject a banking institution to capital raising requirements. An "undercapitalized" bank must develop a capital restoration plan and its parent holding company must guarantee the bank's compliance with the plan. The liability of the parent holding company under any such guarantee is limited to the lesser of 5% of the bank's assets at the time it became "undercapitalized" or the amount needed to comply with the plan. Furthermore, in the event of the bankruptcy of the parent holding company, such guarantee would take priority over the parent's general unsecured creditors. The various regulatory agencies have adopted substantially similar regulations that define the five capital categories identified by FDICIA, using the total risk-based capital, Tier 1 risk-based capital and leverage capital ratios as the relevant capital measures. Such regulations establish various degrees of corrective action to be taken when an institution is considered undercapitalized. Under the regulations, a "well capitalized" institution must have a Tier 1 capital ratio of at least 6%, a total capital ratio of at least 10% and a leverage ratio of at least 5% and not be subject to a capital directive order. An "adequately capitalized" institution must have a Tier 1 capital ratio of at least 4%, or 3% in some cases. Under these guidelines, the Company and the Bank were considered well capitalized at December 31, 1997 and 1996. Banking agencies have recently adopted final regulations which mandate that regulators take into consideration concentrations of credit risk and risks from non-traditional activities, as well as an institution's ability to manage those risks, when determining the adequacy of an institution's capital. This evaluation will be made as part of the institution's regular safety and soundness examination. Banking agencies also have recently adopted final regulations requiring regulators to consider interest rate risk (when the interest rate sensitivity of an institution's assets does not match the sensitivity of its liabilities or its off-balance-sheet position) in evaluation of a bank's capital adequacy. Concurrently, banking agencies have proposed a methodology for evaluating interest rate risk. After gaining experience with the proposed measurement process, those banking agencies intend to propose further regulations to establish an explicit risk-based capital charge for interest rate risk. The ability of the Company to pay dividends largely depends upon the dividends paid to it by the Bank. There are legal limitations on the ability of the Bank to provide funds to the Company in the form of loans, advances or dividends. Under national banking law, without the prior approval of the Comptroller of the Currency, the Bank may not declare dividends in any calendar year that exceed the Bank's net profits for that year, as defined by statute, combined with its net retained profits, as defined, for the preceding two years. As of December 31, 1997, the Bank may initiate dividend payments without prior regulatory approval of up to $11.1 million. ITEM 9: CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE Not applicable. PART III ITEM 10: DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT Information concerning directors, executive officers, promoters and control persons and compliance with Section 16(a) of the Exchange Act is incorporated by reference to the text under the captions "Election of Directors," "Executive Compensation and Transactions with Directors and Officers" and "Section 16(a) Beneficial Ownership Reporting Compliance" in the Registrant's Proxy Statement for its 1997 Annual Meeting of Shareholders. ITEM 11: EXECUTIVE COMPENSATION Information concerning executive compensation is incorporated by reference to the text under the caption "Executive Compensation and Transactions with Directors and Officers" in the Registrant's Proxy Statement for its 1997 Annual Meeting of Shareholders. ITEM 12: SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT Information concerning security ownership of certain beneficial owners and management is incorporated by reference to the text under the caption "Security Ownership of Certain Beneficial Owners and Management" in the Registrant's Proxy Statement for its 1997 Annual Meeting of Shareholders. ITEM 13: CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS Information concerning certain relationships and related transactions is incorporated by reference to the text under the caption "Executive Compensation and Transactions with Directors and Officers" of the Registrant's Proxy Statement for its 1997 Annual Meeting of Shareholders PART IV ITEM 14: EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K (a) 1. All Financial Statements See Index to Financial Statements on page 31 hereof. (a) 2. Financial statements schedules required. None. (Information included in Financial Statements). (a) 3. Exhibits The following exhibits are filed as part of this report: Exhibit Number (2)a. The Plan of Acquisition and Merger by and between SJNB Financial Corp. and Business Bancorp (as amended) is hereby incorporated by reference to Annex A filed with Registration Statement on Form S-4, Amendment No. 2 Commission File No. 33-79874, filed with the Securities and Exchange Commission on August 3, 1994. 2)b. The Stock Acquisition Agreement by and among San Jose National Bank, Astra Financial Inc. and Thomas D. Griffin, dated November 17, 1995, and related side letters dated December 14, 1995 and January 5, 1996 are hereby incorporated by reference to Exhibit (2) b. of the Registrant's Annual Report on Form 10-KSB for the fiscal year ended December 31, 1995. 3(i). The Registrant's restated Articles of Incorporation are hereby incorporated by reference to Exhibit (3) b. of the Registrant's Annual Report on Form 10-K for the fiscal year ended December 31, 1988. (3)(ii). The Registrant's restated bylaws as o f February 28, 1996 are hereby incorporated by reference to Exhibit (3) b. of the Registrant's Quarterly Report on Form 10-QSB for the quarterly period ended June 30, 1996. *(10)a. The Registrant's Stock Option Plan including Amendments No. 1 and 2 is hereby incorporated by reference from Exhibit 4.1 of the Registrant's Registration Statement on Form S-8, as filed on October 4, 1989 and amended January 24, 1992 under Registration No. 33-31392. *(10)b. The form of Incentive Stock Option Agreement being utilized under the Stock Option Plan is hereby incorporated by reference from Exhibit 4.2 of Amendment No. 1 to the Registrant's Registration Statement on Form S-8, as filed on January 24, 1992, under Registration No. 33-31392. *(10)c. The form of Stock Option Agreement being utilized under the Stock Option Plan is hereby incorporated by reference from Exhibit 4.3 of Amendment No. 1 to the Registrant's Registration Statement on Form S-8, as filed on January 24, 1992, under Registration No. 33-31392. *(10)d. Amendment No. 3 to the Stock Option Plan is hereby incorporated by reference from Exhibit 4.4 of Amendment No. 1 to the Registrant's Registration Statement on Form S-8, as filed on January 24, 1992, under Registration No. 33-31392. *(10)e. Amendment No. 4 to the Stock Option Plan is hereby incorporated by reference from Exhibit 4.5 of Amendment No. 2 to the Registrant's Registration Statement on Form S-8, as filed on June 22, 1992, under Registration No. 33-31392. *(10)f. The Registrant's 1992 Employee Stock Option Plan is hereby incorporated by reference from Exhibit 4.1 of the Registrant's Registration Statement on Form S-8, as filed on September 4, 1992, under Registration No. 33-51740. *(10)g. Amendment No. 1 to the 1992 Employee Stock Option Plan is hereby incorporated by reference to Exhibit (10) f. of the Registrant's Quarterly Report on Form 10-QSB for the quarterly period ended June 30, 1995. *(10)h. The form of Incentive Stock Option Agreement being utilized under the 1992 Employee Stock Option Plan is hereby incorporated by reference from Exhibit 4.2 of the Registrant's Registration Statement on Form S-8, as filed on September 4, 1992, under Registration No. 33-51740. *(10)i. The form of Stock Option Agreement being utilized under the 1992 Employee Stock Option Plan is hereby incorporated by reference from Exhibit 4.3 of the Registrant's Registration Statement on Form S-8, as filed on September 4, 1992, under Registration No. 33-51740. *(10)j. The Registrant's 1992 Director Stock Option Plan is hereby incorporated by reference from Exhibit (10) i. of the Registrant's Annual Report on Form 10-KSB for the fiscal year ended December 31, 1992. *(10)k. Amendment No. 1 to the 1992 Director Stock Option Plan is hereby incorporated by reference to Exhibit (10) i. of the Registrant's Quarterly Report on Form 10-QSB for the quarterly period ended June 30, 1995. *(10)l. The form of Stock Option Agreement being utilized under the 1992 Director Stock Option Plan is hereby incorporated by reference from Exhibit (10) j. of the Registrant's Annual Report on Form 10-KSB for the fiscal year ended December 31, 1992. *(10)m. The Registrant's 1996 Stock Option Plan is incorporated by reference to exhibit 99.1 of the Registrant's Form S-8 filed July 30, 1996. *(10)n. Agreement between James R. Kenny and SJNB Financial Corp. and San Jose National Bank dated March 27, 1996 is hereby incorporated by reference to Exhibit (10) m. of the Registrant's Quarterly Report on Form 10-QSB for the quarterly period ended March 31, 1996. *(10)o. Agreement between Eugene E. Blakeslee and SJNB Financial Corp. and San Jose National Bank dated March 27, 1996 is hereby incorporated by reference to Exhibit (10) n. of the Registrant's Quarterly Report on Form 10-QSB for the quarterly period ended March 31, 1996. (10)p. Systems Management Services Agreement by and between Systematics, Inc. and San Jose National Bank dated March 1, 1990, and amendments dated April 5, 1990, July 10, 1990 and January 27, 1992 are hereby incorporated by reference from Exhibit (10) g. of the Registrant's Annual Report on Form 10-K for the fiscal year ended December 31, 1991. (10)q. Agreement for Item Processing Services by and between Datatronix Financial Services and San Jose National Bank dated April 13, 1992 is hereby incorporated by reference from Exhibit (10) m. of the Registrant's Annual Report on Form 10-KSB for the fiscal year ended December 31, 1992. (10)r. Sublease dated April 5, 1982, for premises at 95 South Market Street, San Jose, CA is hereby incorporated by reference to Exhibit (10) n. of the Registrant's Annual Report on Form 10-KSB for the fiscal year ended December 31, 1994. (10)s. Sublease by and between McWhorter's Stationary and San Jose National Bank, dated July 6, 1995, and as amended August 11, 1995 and September 21, 1995, for premises at 95 South Market Street, San Jose CA is hereby incorporated by reference to Exhibit (10) o. of the Registrant's Quarterly Report on Form 10-QSB for the quarterly period ended September 30, 1995. (10)t. Sublease by and between Greater Unified Management Businesses, Inc. (d.b.a. as Logistics) and SJNB Financial Corp., dated January 15, 1996, and as amended March 19, 1996, for premises at 95 South Market Street, San Jose CA is hereby incorporated by reference to Exhibit (10) s. of the Registrant's Quarterly Form 10-QSB for the quarterly period ended March 31, 1996. (22) Subsidiary of Registrant. (23) Consent of KPMG Peat Marwick LLP. (27) Financial Data Schedule. * Indicates management contract or compensation plan or arrangement. (b) Reports on Form 8-K None. Pursuant to the requirements of Section 13 or 15(d) of the 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 6, 1998 SJNB Financial Corp. By: S/J.R. Kenny By: S/E.E. Blakeslee James R. Kenny Eugene E. Blakeslee President and Chief Executive Vice President & Executive Officer Chief Financial Officer 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. S/J.R. Kenny James R. Kenny President, Chief Executive Officer and Director March 6, 1998 S/E.E. Blakeslee Eugene E. Blakeslee Executive Vice President and Chief Financial Officer and Chief Accounting Officer March 6, 1998 S/R.S. Akamine Ray S. Akamine, Director March 6, 1998 S/R.A. Archer Robert A. Archer Chairman and Director March 6, 1998 S/A.B. Bruno Albert V. Bruno, Director March 6, 1998 S/R. Diridon Rod Diridon, Director March 6, 1998 S/F.J. Gorry F. Jack Gorry, Director March 6, 1998 S/A.K. Lund Arthur K. Lund, Director March 6, 1998 S/L. Oneal Louis Oneal, Director March 6, 1998 S/D. Rubino Diane Rubino, Director March 6, 1998 S/D.L. Shen Douglas L. Shen, Director March 6, 1998 S/G.S. Vandeweghe Gary S. Vandeweghe, Director March 6, 1998 SJNB Financial Corp. Form 10-K Exhibits December 31, 1997 The following exhibits are filed as part of this report: (2)a. The Plan of Acquisition and Merger by and between SJNB Financial Corp. and Business Bancorp (as amended) is hereby incorporated by reference to Annex A filed with Registration Statement on Form S-4, Amendment No. 2 Commission File No. 33-79874, filed with the Securities and Exchange Commission on August 3, 1994. (2)b. The Stock Acquisition Agreement by and among San Jose National Bank, Astra Financial Inc. and Thomas D. Griffin, dated November 17, 1995, and related side letters dated December 14, 1995 and January 5, 1996 are hereby incorporated by reference to Exhibit (2) b. of the Registrant's Annual Report on Form 10-KSB for the fiscal year ended December 31, 1995. (3)(i). The Registrant's restated Articles of Incorporation are hereby incorporated by reference to Exhibit (3) b. of the Registrant's Annual Report on Form 10-K for the fiscal year ended December 31, 1988. (3)(ii). The Registrant's restated bylaws as of February 28, 1996 are hereby incorporated by reference to Exhibit (3)b. of the Registrant's Quarterly Report on Form 10-QSB for the quarterly period ended June 30, 1996. *(10) a. The Registrant's Stock Option Plan including Amendments No. 1 and 2 is hereby incorporated by reference from Exhibit 4.1 of the Registrant's Registration Statement on Form S-8, as filed on October 4, 1989 and amended January 24, 1992 under Registration No.33-31392. *(10)b. The form of Incentive Stock Option Agreement being utilized under the Stock Option Plan is hereby incorporated by reference from Exhibit 4.2 of Amendment No. 1 to the Registrant's Registration Statement on Form S-8, as filed on January 24, 1992, under Registration No. 33-31392. *(10)c. The form of Stock Option Agreement being utilized under the Stock Option Plan is hereby incorporated by reference from Exhibit 4.3 of Amendment No. 1 to the Registrant's Registration Statement on Form S-8, as filed on January 24, 1992, under Registration No. 33-31392. *(10) d. Amendment No.3 to the Stock Option Plan is hereby incorporated by reference from Exhibit 4.4 of Amendment No. 1 to the Registrant's Registration Statement on Form S-8, as filed on January 24, 1992, under Registration No. 33-31392. *(10) e. Amendment No. 4 to the Stock Option Plan is hereby incorporated by reference from Exhibit 4.5 of Amendment No. 2 to the Registrant's Registration Statement on Form S-8, as filed on June 22, 1992, under Registration No. 33-31392. *(10) f. The Registrant's 1992 Employee Stock Option Plan is hereby incorporated by reference from Exhibit 4.1 of the Registrant's Registration Statement on Form S-8, as filed on September 4, 1992, under Registration No. 33-51740. *(10) g. Amendment No. 1 to the 1992 Employee Stock O ption Plan is hereby incorporated by reference to Exhibit (10) f. of the Registrant's Quarterly Report on Form 10-QSB for the quarterly period ended June 30, 1995. *(10) h. The form of Incentive Stock Option Agreement being utilized under the 1992 Employee Stock Option Plan is hereby incorporated by reference from Exhibit 4.2 of the Registrant's Registration Statement on Form S-8, as filed on September 4, 1992, under Registration No. 33-51740. *(10)i. The form of Stock Option Agreement being utilized under the 1992 Employee Stock Option Plan is hereby incorporated by reference from Exhibit 4.3 of the Registrant's Registration Statement on Form S-8, as filed on September 4, 1992, under Registration No. 33-51740. *(10)j. The Registrant's 1992 Director Stock Option Plan is hereby incorporated by reference from Exhibit (10) i. of the Registrant's Annual Report on Form 10-KSB for the fiscal year ended December 31, 1992. *(10) k. Amendment No. 1 to the 1992 Director Stock Option Plan is hereby incorporated by reference to Exhibit (10) i. of the Registrant's Quarterly Report on Form 10-QSB for the quarterly period ended June 30, 1995. *(10)l. The form of Stock Option Agreement being utilized under the 1992 Director Stock Option Plan is hereby incorporated by reference from Exhibit (10) j. of the Registrant's Annual Report on Form 10-KSB for the fiscal year ended December 31, 1992. *(10)m. The Registrant's 1996 Stock Option Plan is incorporated by reference to exhibit 99.1 of the Registrant's Form S-8 filed July 30, 1996. *(10) n. Agreement between James R. Kenny and SJNB Financial Corp. and San Jose National Bank dated March 27, 1996 is hereby incorporated by reference to Exhibit (10) m. of the Registrant's Quarterly Report on Form 10-QSB for the quarterly period ended March 31, 1996. *(10) o. Agreement between Eugene E. Blakeslee and SJNB Financial Corp. and San Jose National Bank dated March 27, 1996 is hereby incorporated by reference to Exhibit (10) n. of the Registrant's Quarterly Report on Form 10-QSB for the quarterly period ended March 31, 1996. (10)p. Systems Management Services Agreement by and between Systematics, Inc. and San Jose National Bank dated March 1, 1990, and amendments dated April 5, 1990, July 10, 1990 and January 27, 1992 are hereby incorporated by reference from Exhibit (10) g. of the Registrant's Annual Report on Form 10-K for the fiscal year ended December 31, 1991. (10)q. Agreement for Item Processing Services by and between Datatronix Financial Services and San Jose National Bank dated April 13, 1992 is hereby incorporated by reference from Exhibit (10) m. of the Registrant's Annual Report on Form 10-KSB for the fiscal year ended December 31, 1992. (10)r. Sublease dated April 5, 1982, for premises at 95 South Market Street, San Jose, CA is hereby incorporated by reference to Exhibit (10) n. of the Registrant's Annual Report on Form 10-KSB for the fiscal year ended December 31, 1994. (10)s. Sublease by and between McWhorter's Stationary and San Jose National Bank, dated July 6, 1995, and as amended August 11, 1995 and September 21, 1995, for premises at 95 South Market Street, San Jose CA is hereby incorporated by reference to Exhibit (10) o. of the Registrant's Quarterly Report on Form 10-QSB for the quarterly period ended September 30, 1995. (10)t. Sublease by and between Greater Unified Management Businesses, Inc. (d.b.a. as Logistics) and SJNB Financial Corp., dated January 15, 1996, and as amended March 19, 1996, for premises at 95 South Market Street, San Jose CA is hereby incorporated by reference to Exhibit (10) s. of the Registrant's Quarterly Form 10-QSB for the quarterly period ended March 31, 1996. (22) Subsidiary of Registrant. (23) Consent of KPMG Peat Marwick LLP. (27) Financial Data Schedule. * Indicates management contract or compensation plan or arrangement. EX-23 2 CONSENT OF INDEPENDENT AUDITORS The Board of Directors SJNB Financial Corp.: We consent to incorporation by reference in the registration statement (No. 33-31392) on Form S-8 of SJNB Financial Corp. of our report dated July 15, 1998, relating to the consolidated balance sheets of SJNB Financial Corp. and subsidiary as of December 31, 1997 and 1996 and the related consolidated statements of income, shareholders' equity and cash flows for each of the years in the three-year period ended December 31, 1997, which report appears in the December 31, 1997 annual report on Form 10-K of SJNB Financial Corp. s/KPMG Peat Marwick San Jose, CA March 6, 1998 EX-27 3 FDS --
9 Year Dec-31-1997 Dec-31-1997 22,825 0 2,700 0 48,305 13,737 13,843 228,972 (4,493) 324,919 270,345 16,000 5,415 0 0 0 18,800 14,359 324,919 22,732 4,515 (9) 27,238 7,995 8,749 18,489 705 (47) 9,910 8,887 8,887 0 0 5,114 1.94 1.94 .065 360 1 63 0 4,005 288 71 4,493 3,732 0 761
-----END PRIVACY-ENHANCED MESSAGE-----