-----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, Szo22C3rD8L4DTiOvzGK+EEf3tzf1E/aqVRUK/x88VFVDrP5CddZqcswMMRlnmBN aKVk0rH3lV/SS8zrMl7qaA== 0000801443-99-000001.txt : 19990322 0000801443-99-000001.hdr.sgml : 19990322 ACCESSION NUMBER: 0000801443-99-000001 CONFORMED SUBMISSION TYPE: 10-K PUBLIC DOCUMENT COUNT: 2 CONFORMED PERIOD OF REPORT: 19981231 FILED AS OF DATE: 19990319 FILER: COMPANY DATA: COMPANY CONFORMED NAME: ORANGE NATIONAL BANCORP CENTRAL INDEX KEY: 0000801443 STANDARD INDUSTRIAL CLASSIFICATION: NATIONAL COMMERCIAL BANKS [6021] IRS NUMBER: 330190684 STATE OF INCORPORATION: CA FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-K SEC ACT: SEC FILE NUMBER: 000-15365 FILM NUMBER: 99569102 BUSINESS ADDRESS: STREET 1: 1201 E KATELLA AVE CITY: ORANGE STATE: CA ZIP: 92667 BUSINESS PHONE: 7147714000 MAIL ADDRESS: STREET 1: 1201 EAST KATELLA AVENUE STREET 2: P O BOX 6040 CITY: ORANGE STATE: CA ZIP: 92867 10-K 1 SECURITIES AND EXCHANGE COMMISSION Washington D.C 20549 FORM 10-K X ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the Fiscal Year Ended December 31, 1998 OR TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from....................................... to............................................. Commission File No. 33-8743 ORANGE NATIONAL BANCORP (Exact Name of Registrant as Specified in Charter) 1201 East Katella Avenue Orange, California 92867 California (714) 771-4000 33-0190684 (State of Incorporation) (Address and Telephone Number (I.R.S. Employer of Principal Executive Offices) Identification No.) Securities registered pursuant to Section 12(b) of the Act: None Securities registered pursuant to Section 12(g) of the Act: Common Stock (Title of Class) Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter periods that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes X No Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K 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 shares held by nonaffiliates of the Registrant was $37,097,336 as of February 28,1999. The aggregate market value of the voting shares held by nonaffiliates includes all stockholders except officers and directors and was computed based on a market price of $27.63 per share. 2,000,171 Shares of Common Stock were outstanding at February 28, 1999. DOCUMENTS INCORPORATED BY REFERENCE Part III of this Form 10-K incorporates by reference portions of the Proxy Statement to be filed with the Securities and Exchange Commission in connection with the Annual Meeting of Shareholders to be held on May 17, 1999. ORANGE NATIONAL BANCORP 1998 ANNUAL REPORT ON FORM 10-K TABLE OF CONTENTS PART I Item 1. Business 3 Item 2. Properties 18 Item 3. Legal Proceedings 19 Item 4. Submissions of Matters to a Vote of Security Holders 19 PART II Item 5. Market for Registrant's Common Equity and Related Stockholder Matters 19 Item 6. Selected Financial Data 21 Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations 22 Item 7A. Quantitative and Qualitative Disclosures About Market Risk 27 Item 8. Financial Statements and Supplementary Data 28 Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosures 28 PART III Item 10. Directors and Executive Officers of the Registrant 29 Item 11. Executive Compensation 29 Item 12. Security Ownership of Certain Beneficial Owners and Management 29 Item 13. Certain Relationships and Related Transactions 29 PART IV Item 14. Exhibits, Financial Statement Schedules, and Reports on Form 8-K 30 Signatures 31 Index to Exhibits 33 PART I ITEM 1. BUSINESS General Orange National Bancorp ("Bancorp" or "Company") was organized and incorporated as a bank holding company under the laws of the State of California on July 28, 1986. The Company acquired all the outstanding capital stock of Orange National Bank ("Bank") in a one-bank holding company organization at the direction of the Board of Directors of the Bank. The Company commenced operations as a bank holding company within the definition of the Bank Holding Company Act of 1956, as amended, and is subject to the supervision and regulation of the Board of Governors of the Federal Reserve System. The Bank became a wholly- owned subsidiary of the Bancorp on January 16, 1987, with the approval of the Office of the Comptroller of the Currency ("OCC") and the Federal Reserve Board ("FRB"). The Bank was organized and chartered as a national banking association on October 31, 1979 and opened for business on that date. Substantially all consolidated operating earnings and net earnings are presently derived from banking related activities. Such banking related activities would continue to represent the Company's primary source of operating earnings and net earnings for the foreseeable future. The Bank currently has six branch offices located throughout Orange County, California. Narrative Description of Business The Company is engaged in the ownership of one commercial bank. The Company does not consider its business to be seasonal nor to be dependent upon a single customer or a few customers. Thus, the loss of any one customer would not have a material adverse effect upon the Company or its subsidiary. Neither the Company nor its subsidiary operate outside the United States nor derive revenues from customers located outside of the United States. The Bank offers a full range of commercial banking services, including the acceptance of demand, money-market, savings and time deposits; and the origination of commercial, real estate, Small Business Administration, personal, equity, home improvement, automobile, installment and term loans; and letters and lines of credit. The Bank also offers travelers' checks, safe deposit boxes, notary public, international banking and other customary bank services to its customers, except trust services. The lobby of each branch is open from 9:00 a.m. to 5:00 p.m., Monday through Thursday and 9:00 a.m. through 6:00 p.m. on Friday. Selected branches are open on Saturday. Each branch has an automated teller machine ("ATM") that is included on several national ATM networks. In addition, drive-up services are available at three branch offices. The Federal Deposit Insurance Corporation ("FDIC") insures the deposits of the Bank up to a maximum of $100,000, subject to certain limitations. The Bank is a member of the Federal Reserve System. The Bank currently does not issue MasterCard or VISA credit cards, but honors merchant drafts under both types of cards. The principal sources of the Bank's income are interest income and fees from the Bank's loan portfolio, interest income on the Bank's investments and gains on sales of loans. These sources comprised 66.8%, 20.5% and 3.0%, respectively, of the Bank's total income for 1998. Other sources of income include fees on deposit accounts and other customer services. Distribution of Assets, Liabilities, and Stockholders' Equity The following schedule presents the average balances of the Company's asset, liability, and stockholders' equity accounts and the distribution percentage of each item based on total average assets. Average balances were computed using the average daily balances for the years ended December 31:
1998 1997 1996 Dollars Percent Dollars Percent Dollars Percent (dollars in thousands) Assets Cash and due from banks $ 19,665 7.8% $ 23,212 10.5% $ 20,415 9.4% Securities 27,700 11.0 26,134 11.8 44,937 20.7 Federal funds sold 54,177 21.5 29,362 13.3 29,725 13.7 Loans 139,521 55.4 131,077 59.4 109,802 50.7 Less allowance for credit losses (1,580) (0.6) (1,488) (0.7) (1,487) (0.7) Net loans 137,941 54.8 129,589 58.7 108,315 50.0 Premises and equipment, net 5,510 2.2 5,187 2.4 5,382 2.5 Other assets 6,875 2.7 7,193 3.3 7,998 3.7 Total assets $251,868 100.0% $220,677 100.0% $216,772 100.0% Liabilities and stockholders' equity Liabilities Deposits: Noninterest bearing demand $ 84,499 33.5% $ 76,444 34.6% $ 67,662 31.2% Money market demand and NOW 103,142 41.0 91,931 41.7 101,562 46.9 Savings 12,186 4.8 11,485 5.2 12,420 5.7 Time 28,088 11.2 19,423 8.8 15,969 7.4 Total deposits 227,915 90.5 199,283 90.3 197,613 91.2 Other liabilities 2,097 0.8 1,793 0.8 1,381 0.6 Total liabilities 230,012 91.3 201,076 91.1 198,994 91.8 Stockholders' equity: Common stock 7,950 3.2 7,770 3.5 7,594 3.5 Retained earnings 13,906 5.5 11,831 5.4 10,184 4.7 Total stockholders' equity 21,856 8.7 19,601 8.9 17,778 8.2 Total liabilities and stockholders' equity $251,868 100.0% $220,677 100.0% $216,772 100.0%
Interest Income Rates Average interest-earning assets, their yields and amounts earned by category are presented in the following chart for the years ended December 31. Amounts outstanding are the average daily balances for the respective years, including nonaccrual loans. Yields and amounts earned include loan origination fees. The Company does not have tax- exempt income bonds or notes in its securities portfolio.
1998 1997 1996 (dollars in thousands) Securities: Average outstanding $27,700 $26,134 $44,937 Average yield 5.78% 6.02% 5.85% Amount of interest earned $1,602 $1,573 $2,627 Federal funds sold: Average outstanding $54,177 $29,362 $29,725 Average yield 5.32% 5.44% 5.23% Amount of interest earned $2,881 $1,598 $1,555 Loans: Average outstanding $139,521 $131,077 $109,802 Average yield 10.49% 10.44% 10.67% Amount of interest and fees earned $14,633 $13,686 $11,712 Total interest-earning assets: Average outstanding $221,398 $186,573 $184,464 Average yield 8.63% 9.04% 8.62% Amount of interest earned $19,116 $16,857 $15,894
Interest Expense Rates The following table presents the Company's average interest-bearing deposits, the average rate paid on such deposits and the amounts paid or accrued for the years indicated. Amounts outstanding are the average daily balances outstanding for the years ended December 31:
1998 1997 1996 (dollars in thousands) NOW and money market (1): Average outstanding $103,142 $91,931 $101,562 Average rate paid 2.44% 2.34% 2.47% Amount of interest paid or accrued $2,517 $2,154 $2,510 Savings: Average outstanding $12,186 $11,485 $12,420 Average rate paid 2.01% 2.02% 2.00% Amount of interest paid or accrued $245 $232 $249 Time: Average outstanding $28,088 $19,423 $15,969 Average rate paid 5.00% 4.98% 4.76% Amount of interest paid or accrued $1,403 $967 $760 Total interest-bearing liabilities: Average outstanding $143,416 $122,839 $129,951 Average rate paid 2.90% 2.73% 2.71% Amount of interest paid or accrued $4,165 $3,353 $3,519 Net yield on interest-earning assets 6.75% 7.24% 6.71% (1) NOW and money markets include only interest-bearing transaction accounts.
Rate/Volume Analysis of Net Interest Income The following table presents the cause and amounts of change in interest income and expense for the years ended December 31:
1998 over 1997 (1) 1997 over 1996 (1) Volume Rate Total Volume Rate Total (dollars in thousands) Increase (decrease) in: Interest income: Investment securities $ 94 $ (65) $ 29 $(1,099) $ 45 $(1,054) Federal funds sold 1,351 (68) 1,283 (19) 62 43 Loans 882 65 947 2,269 (295) 1,974 Total interest income $2,327 $( 68) $2,259 $ 1,151 $(188) $ 963 Interest expense: Money market deposits $ 263 $ 100 $ 363 $ (238) $(118) $ (356) Savings deposits 14 (1) 13 (19) 2 (17) Time deposits 431 5 436 164 43 207 Total interest expense $ 708 $ 104 $ 812 $ (93) $ (73) $ (166) Net interest income $1,619 $ (172) $1,447 $ 1,244 $(115) $ 1,129 (1) The variance not solely due to rate or volume is allocated to the rate variance. Nonaccrual loans have been included in this analysis. Loan fees of $1.0 million, $1.1 million and $1.0 million for 1998, 1997, and 1996, respectively, have been included in this analysis. The Company does not have tax-exempt income bonds or notes in its securities portfolio.
Securities The Bank's Board of Directors reviews all securities transactions on a monthly basis. There are no securities from a single issuer other than securities of the U.S. Government, Agencies and corporations whose aggregate market value is greater than 10% of stockholders' equity. The Bank does not invest in derivative financial instruments. The Bank purchases mortgage-backed securities of investment grade only. The following schedule summarizes the amounts and the distribution of the Bank's held-to-maturity securities as of December 31:
1998 1997 1996 Amortized Market Amortized Market Amortized Market Cost(1) Value Cost(1) Value Cost(1) Value (dollars in thousands) Mortgage-backed securities $17,640 $17,691 $9,037 $8,972 $10,937 $10,844 (1) Held-to-maturity securities are stated at amortized cost (i.e., cost adjusted for amortization of premium and accretion of discount.)
The following schedule summarizes the available-for-sale securities as of December 31:
1998 1997 1996 Amortized Market Amortized Market Amortized Market Cost (2) Value Cost (2) Value Cost (2) Value (dollars in thousands) U.S. Treasury securities and obligations of other U.S. Government agencies and Corporations $14,503 $14,512 $8,992 $8,976 $28,992 $28,899 Mortgage-backed securities 25,241 25,226 - - - - Other 911 911 170 170 174 174 Total available -for-sale securities $40,655 $40,649 $9,162 $9,146 $29,166 $29,073 (2) Available-for-sale securities are stated at fair value with unrealized gains and losses being reported as an adjustment to stockholders' equity net of the related tax effect.
Maturity of Securities The following table summarizes the maturities of the Company's securities and their weighted average yield as of December 31, 1998:
Carrying Market Average Amount(1) Value Yield(2) (dollars in thousands) Mortgage-backed securities (3) $42,866 $42,917 5.85% U.S. Treasury Securities and obligations of U.S. Government Agencies and corporations: Due within one year 9,000 9,000 5.31% Due after one year but within five years 5,512 5,512 5.75% Other 911 911 6.00% Total securities $58,289 $58,340 5.67% (1) Held-to-maturity securities are stated at amortized cost (i.e., cost adjusted for amortization of premiums and accretion of discounts). Available-for-sale securities are recorded at fair value. (2) Weighted average yield is the computed using the investment yield and the amortized cost of securities. (3) Mortgage-backed securities are not scheduled for maturities due to the periodic principal payments received and unknown amount of expected prepayments.
Loan Portfolio A major part of the Bank's objective is serving the credit needs of customers in Orange County and surrounding areas. Credit decisions are based upon the judgement of the Bank's lending personnel and Loan Committee. The legal lending limit to each customer is restricted to a percentage of the Bank's total capital, the exact percentage depends on the nature of the particular loan and the collateral involved. Credit risk is inherent to any loan portfolio and it is the management of this risk, which defines the quality of the portfolio. The Bank has a policy to obtain collateral for loans under most circumstances. The Bank has a highly diversified portfolio, a solid underwriting process, a loan review program and an active loan service function which management believes serves to minimize the possibility of material loss in the loan portfolio. The three general areas in which the Bank has directed virtually all of its lending activities are (a) real estate loans, (b) commercial loans, and (c) loans to individuals. These three categories accounted for 63.8%, 28.2%, and 7.8%, respectively, of the Bank's loan portfolio as of December 31, 1998. Commercial real estate loans are originated for terms of up to 25 years. Commercial loans are primarily funded to small- and medium-sized businesses for terms ranging from 30 days to 5 years. Consumer installment loans are for a maximum term of 48 months on unsecured loans and for a term of the depreciable life of tangible property used as collateral on secured loans. Variable interest rate loans comprise 64% of the loan portfolio as of December 31, 1998. The Bank had standby letters of credit of $0.5 million and commitments to extend credit of $23.9 million as of December 31, 1998. The Bank presently has sufficient liquidity to fund all loan commitments. The Bank originates loan commitments that are unsecured. The Bank had funded unsecured loans to companies or individuals of $1.9 million with unfunded unsecured commitments of $3.9 million as of December 31, 1998. The Bank has a lending policy to obtain collateral whenever available or desirable, subject to the degree of risk the Bank is willing to undertake. The allowance for credit losses is established through a provision for credit losses charged to expense. Loans are charged against the allowance for credit losses when management believes that collectibility of the principal is unlikely. The allowance is an amount that management believes will be adequate to absorb estimated losses on existing loans that may become uncollectible, based on evaluation of the collectibility of loans and prior loan loss experience. This evaluation also takes into consideration such factors as changes in the nature and volume of the loan portfolio, overall portfolio quality, review of specific problem loans, and current economic conditions that may affect the borrower's ability to pay. While management uses the best information available to make its evaluation, future adjustments to the allowance may be necessary if there are significant changes in economic or other conditions. In addition, the OCC periodically reviews the Company's allowance for credit losses as an integral part of their normal recurring examination process, and may require the Company to make additions to the allowance based on their judgment about information available to them at the time of their examinations. A loan is impaired when it is probable the creditor will be unable to collect all contractual principal and interest payments due in accordance with terms of the loan agreement. Impaired loans are measured based on the present value of expected future cash flows discounted at the loan's effective interest rate or, as a practical expedient, at the loan's observable market price or the fair value of the collateral if the loan is collateral dependent. The amount of impairment, if any, and any subsequent changes are included in the allowance for credit losses Loan Portfolio Composition The composition of the Bank's loan portfolio (all domestic) as of December 31 is presented in the following table:
1998 1997 1996 1995 1994 (dollars in thousands) Dollars Real estate: Commercial $ 86,049 $ 78,534 $ 64,611 $ 61,891 $61,881 Construction 5,074 118 1,412 242 2,286 Commercial and industrial 40,217 44,301 44,766 41,361 40,976 Loans to individuals 11,180 10,586 10,256 10,343 9,384 Other 241 122 152 1,207 177 Total loans 142,761 133,661 121,197 115,044 114,704 Unearned net loan fees and premiums (1,097) (891) (837) (807) (536) Allowance for credit losses (1,524) (1,581) (1,369) (1,513) (1,465) Total, net $140,140 $131,189 $118,991 $112,724 $112,703 Unsecured loans, included in table above $1,901 $3,910 $2,836 $4,753 $3,743 Percentages Real estate: Commercial 60.2% 58.8% 53.3% 53.8% 53.9% Construction 3.6 0.1 1.2 0.2 2.0 Commercial and industrial 28.2 33.1 36.9 36.0 35.7 Loans to individuals 7.8 7.9 8.5 9.0 8.2 Other 0.2 0.1 0.1 1.0 0.2 Total loans 100.0% 100.0% 100.0% 100.0% 100.0%
Loan Maturities and Sensitivity to Changes in Interest Rates The following table presents the repricing and maturities of the Bank's loan portfolio by category as of December 31, 1998. In addition, the table presents the distribution between those loans with predetermined (fixed) interest rates and those with variable (floating) interest rates maturing after one year. Floating rate loans generally fluctuate with changes in the prime interest rate. The table excludes unearned net loan fees and premiums of $1,097,000.
After one but Within one within five After year (1) years five years Total (dollars in thousands) Real estate: Commercial $47,267 $11,443 $27,339 $86,049 Construction 5,074 - - 5,074 Commercial and industrial 36,044 3,752 421 40,217 Loans to individuals 10,039 1,141 - 11,180 Other 241 - - 241 $98,665 $16,336 $27,760 $142,761 Distribution between fixed and floating interest rates after one year: Fixed interest rates $14,602 $27,760 $42,362 Floating interest rates 1,734 - 1,734 $16,336 $27,760 $44,096 (1) Demand loans and overdrafts are included in the "within one year" column with scheduled repayments reported in the periods in which the final payments are due.
Credit Risk Management The Bank manages its loan portfolio through a process designed to assure acceptable quality of loans entering the portfolio and to bring any potential losses or potential defaults in existing loans to the attention of the appropriate management personnel. Each lending officer has primary responsibility to conduct credit and documentation reviews of the loans for which he is assigned. The Bank's Senior Vice President and Senior Credit Officer are responsible for general supervision of the loan portfolio and adherence by the loan officers to the loan policies of the Bank. The Bank currently engages an outside consulting firm to periodically review the loan portfolio to provide suggested risk rating of selected loans. Bank management reviews the suggested ratings along with all other available information to properly monitor the loan portfolio, including all loan evaluations made during periodic examinations by the OCC. In accordance with the Bank's loan policies, management presents a written report to the Bank's Board of Directors at its monthly meeting. The Directors review the delinquency report listing of all loans 30 days or more past due and the watch list report including loans having increased credit risk, both delinquency and other factors, over the rest of the portfolio. Additionally, the Directors review a monthly report including all loans originated the prior month. As previously noted, the Bank maintains an allowance for credit losses to provide for potential losses in the loan portfolio. Additions to the allowance for credit losses are charged to operations in the form of a provision for possible credit losses. All loans that are judged to be uncollectible are charged against the allowance while any recoveries are credited to the allowance. The allowance for credit losses is maintained at a level determined by management to be adequate, based on the performance of loans in the Bank's portfolio, evaluation of collateral for such loans, the prospects or worth of the prospective borrowers or guarantors, and such other factors which, in the Bank's judgement, deserve consideration in the estimation of possible losses. The allowance for credit losses is established and maintained after analyzing loans identified by management with certain unfavorable features affixing a risk of loss attributable to each loan. An inherent risk of loss in accordance with industry standards and economic conditions is then allocated to specific loan pools and to the remainder of the portfolio on an aggregate basis. The following table presents information with respect to loans that were accounted for on a nonaccrual basis or contractually past due 90 days or more as to interest or principal payments, or restructured as of December 31:
1998 1997 1996 1995 1994 (dollars in thousands) Loans on non-accrual basis $1,631 $2,447 $2,464 $3,055 $3,163 Loans past due 90 days or more and still accruing interest 76 660 7 33 158 Troubled debt restructuring, not included above - - - - - Total $1,707 $3,107 $2,471 $3,088 $3,321
If all such loans had been current in accordance with their original terms during the year ended December 31, 1998, the gross interest income would have been approximately $382,000. The amount of interest income included in earnings on these nonaccrual loans was $203,000 in 1998. Loans are generally placed on nonaccrual status when principal or interest payments are past due 90 days or more. Certain loans are placed on nonaccrual status earlier if there is reasonable doubt as to the collectibility of interest or principal. Loans that are in the renewal process, have sufficient collateral, or are in the process of collection continue to accrue interest. Management has no knowledge of any additional loans not disclosed in this section on nonaccrual, past due, or troubled debt restructuring that may be potential problem loans. The Bank has no loans to foreign borrowers. The Company has quantified its impaired loans in Note 4 of the Notes to the Consolidated Financial Statements. Loans on nonaccrual status are greater than the total impaired loans because the collateral value of certain nonaccrual loans are large enough that management believes all principal and interest will be collected on those loans and therefore do not meet the definition of impaired. A loan is impaired when it is probable the creditor will be unable to collect all contractual principal and interest payments due in accordance with the terms of the loan agreement. Impaired loans are valued primarily at the fair value of the underlying collateral. There were no loan concentrations exceeding 10% of the total loan portfolio and no other interest-bearing assets that would be required to be in the paragraphs above, if such assets were classified as loans as of December 31, 1998, 1997, 1996, 1995 and 1994. The following table presents loans outstanding, charge-offs, recoveries on loans previously charged-off, the allowance for credit losses, and pertinent ratios during the years ended and as of December 31:
1998 1997 1996 1995 1994 (dollars in thousands) Average gross loans $139,521 $131,077 $109,802 $114,820 $114,718 Total gross loans at end of period $142,761 $133,661 $120,360 $114,237 $114,168 Allowance for loan losses: Balance, beginning of period $1,581 $1,369 $1,513 $1,465 $1,524 Charge-offs: Commercial and industrial 78 14 252 302 459 Real estate construction - - - - - Commercial real estate 121 44 125 70 25 Installment - 8 10 16 4 199 66 387 388 488 Recoveries: Commercial and industrial 41 122 30 63 129 Leases - - - 45 - Commercial real estate 1 9 8 8 - Installment - 7 - - 2 42 138 38 116 131 Net charge-offs (recoveries) 157 (72) 349 272 357 Additions charged to operations 100 140 205 320 298 Balance, end of period $1,524 $1,581 $1,369 $1,513 $1,465 Net charge-offs (recoveries) during the period to average gross loans outstanding during year 0.11% (0.05%) 0.32% 0.24% 0.31%
The Bank has allocated the allowance for credit losses to provide for the possibility of losses being incurred within loan categories as of December 31 are set forth in the table below:
1998 1997 1996 1995 1994 Percent Percent Percent Percent Percent Of Loan Of Loan Of Loan Of Loan Of Loan Cate- Allow Cate- Allow Cate- Allow Cate- Allow Cate- Allow gory -ance gory -ance gory -ance gory -ance gory -ance (dollars in thousands) Real estate: Commer- cial 60.2% $1,296 58.8% $1,265 53.3% $ 959 53.8% $ 594 53.9% $ 468 Constru- ction 3.6 - 0.1 - 1.2 9 0.2 3 2.0 124 Commer- cial and indust- rial 28.2 217 33.1 298 36.9 343 36.0 831 35.7 744 Loans to indiv -iduals 7.8 11 7.9 18 8.5 58 9.0 62 8.2 108 Other 0.2 - 0.1 - 0.1 - 1.0 23 0.2 21 100.0% $1,524 100.0% $1,581 100.0% $1,369 100.0% $1,513 100.0% $1,465
Included in the Bank's allocation of its allowance for credit losses are specific reserves on certain identified loans and general reserves for unknown potential losses. Management classifies loans through its internal loan review system that uses an independent third party reviewer and review of loans from its regulators. None of these classifications indicate trends or uncertainties, which will materially impact future operating results, liquidity, or capital resources. The allowance provides for the potential adverse effects of current economic conditions. However, the full effects of the economy on the loan portfolio cannot be predicted with any certainty. See discussion in Item 7 - Management's Discussion and Analysis of Financial Condition and Results of Operations. Any loans which management doubts the ability of borrowers to comply with loan repayment terms are provided for in the allowance. Summary of Deposits Deposits are currently the Bank's sole source of funds. The Bank can obtain additional funds when needed to meet occasional declines in deposits or other short-term liquidity needs, through the overnight purchase of federal funds. However, the Bank does not currently use these sources of funds. Generally, the Bank has funds in excess of the needs for its deposit withdrawals or short-term liquidity needs and it, therefore, sells federal funds to other financial institutions or invests in short-term securities. The Bank's deposits are attracted primarily from individuals and commercial enterprises. The Bank also attracts some deposits from municipalities and other government agencies. The Bank does not have foreign deposits, brokered deposits or variable rate fixed-term deposits. The Bank does not expect to obtain future deposits through the use of brokered deposits. The Bank had noninterest-bearing demand deposits of $99.9 million, interest-bearing NOW and money market accounts of $113.9 million, time deposits for individuals and corporations of $33.3 million, and savings of $13.3 million as of December 31, 1998. The Company had interest-bearing deposits of 61.6% and 57.4% of total deposits as of December 31, 1998 and 1997, respectively. While the Bank does not experience material repeated seasonal fluctuations in deposit levels, the Bank's relative growth in deposits and loans may be affected by seasonal and economic changes, which, in turn, may impact liquidity. The Bank has a deposit concentration from five customers of $43,048,000 as of December 31, 1998. Management believes it has sufficient liquidity to meet loan commitments and deposit demands. The following table sets forth information regarding the Bank's average balances of deposits, as a percentage of average total deposits and average interest paid by category for the years ended December 31:
MMDA Total Demand and NOW Savings Time Deposits (dollars in thousands) 1998 Average balance $84,499 $103,142 $12,186 $28,088 $227,915 Percent of total 37.1% 45.3% 5.3% 12.3% 100.0% Average interest rate paid 0.0% 2.4% 2.0% 5.0% 1.8% 1997 Average balance $76,444 $91,931 $11,485 $19,423 $199,283 Percent of total 38.4% 46.1% 5.8% 9.7% 100.0% Average interest rate paid 0.0% 2.3% 2.0% 5.0% 1.7% 1996 Average balance $67,662 $101,562 $12,420 $15,969 $197,613 Percent of total 34.2% 51.4% 6.3% 8.1% 100.0% Average interest rate paid 0.0% 2.5% 2.0% 4.8% 1.8%
The following table indicates the amount and maturity of the Bank's time certificates of deposit over $100,000 as of December 31, 1998:
Percent of Balance Total (dollars in thousands) Less than three months $16,217 84.9% Three months through six months 936 4.9 Six months through twelve months 1,728 9.1 Over twelve months 211 1.1 Total time certificates of deposit over $100,000 $19,092 100.0%
Return on Equity and Assets The following table indicates the key financial ratios of the Company for the years ended December 31:
1998 1997 1996 Profitability ratios: Rate of return on average total assets 1.32% 1.45% 1.02% Rate of return on average stockholders' equity 15.24% 16.32% 12.38% Capital ratios: Cash dividend payment ratio to net earnings 41.74% 25.73% 32.60% Average stockholders' equity to average total assets 8.68% 8.88% 8.20%
Competition The banking business in southern California and the market areas served by the Bank are highly competitive with respect to both loans and deposits and are dominated by a relatively small number of major banks with many offices operating over a wide geographic area. The Bank is one of several locally owned independent banks located in the Bank's primary service area. The Bank also competes for loans and deposits with other commercial banks, including many which are much larger than the Bank, as well as with savings and loan associations, finance companies, credit unions, brokerage houses and other financial institutions. Larger commercial banks offer certain services (such as trust and investment services) which the Bank does not offer directly (but some of which it offers indirectly through correspondent institutions). Such banks also have substantially higher lending limits than the Bank has or will have due to their larger capital base. The growth of money market funds and quasi-financial institutions, such as certain activities of retailers and other which are not subject to the same regulatory controls, also presents a source of competition for the Bank. With the decline in interest rates, depositors have been seeking alternative investments to earn higher yields than the Bank is currently paying. In order to compete with the other financial institutions in its primary service area, the Bank relies principally upon local promotional activities, personal contact by its officers, directors, employees, and stockholders, extended hours, and specialized services. For customers whose loan demands exceed the Bank's lending limit, the Bank has attempted and will continue in the future to attempt to arrange for such loans on a participation basis with other banks. The Bank also assists customers requiring other services not offered by the Bank in obtaining such services from its correspondent banks. Supervision and Regulation The Company is subject to the regulation of the Federal Reserve Bank Holding Company Act of 1956, as amended, and the Board of Governors of the Federal Reserve System. The Bank is subject to the regulation of the FDIC and the OCC. Among other regulations, the OCC establishes minimum capital requirements, which the Bank exceeds as of December 31, 1998. From time to time, legislation is enacted which has the effect of increasing the cost of doing business, limiting or expanding permissible activities or affecting the competitive balance between banks and other financial institutions. Proposals to change the laws and regulations governing the operations and taxation of banks and other financial institutions are frequently made in Congress, in the California legislature and before various bank regulatory agencies. The likelihood of any major changes and the impact such changes might have on the Bancorp and the Bank is impossible to predict. Certain of the potentially significant changes, which have been enacted recently by Congress and others, which are currently under consideration by Congress or various regulatory or professional agencies are discussed below. On October 1, 1998, the FDIC adopted two new rules governing minimum capital levels that FDIC-supervised banks must maintain against the risks to which they are exposed. The first rule makes risk-based capital standards consistent for two types of credit enhancements (i.e., recourse arrangements and direct credit substitutes) and requires different amounts of capital for different risk positions in asset securitization transactions. The second rule permits limited amounts of unrealized gains on equity securities to be recognized for risk-based capital purposes. The Bank may apply these rules on September 1, 1998. In August 1997, Governor Wilson of California signed Assembly Bill 1432 ("AB1432") which provides for certain changes in the banking laws of California. Effective January 1, 1998 AB1432 eliminates the provisions regarding impairment of contributed capital and the assessment of shares when there is an impairment of capital. AB1432 now allows the DFI to close a bank, if the DFI finds that the bank's tangible shareholders' equity is less than 3% of the bank's total assets or $1 million. AB1432 also moved administration of the Local Agency Program from the California Department of Financial Institutions to the California State Treasurer's office. The Economic Growth and Regulatory Paperwork Reduction Act (the "1996 Act") as part of the Omnibus Appropriations Bill was enacted on September 30, 1996 and includes many banking related provisions. The most important banking provision is the recapitalization of the Savings Association Insurance Fund ("SAIF"). The 1996 Act provides for a one time assessment, payable on November 30, 1996, of approximately 65 basis points per $100 of deposits of SAIF insured deposits including SAIF insured deposits which were assumed by banks in acquisitions of savings associations. For the years 1997 through 1999 the banking industry will assist in the payment of interest on Financing Corporation ("FICO") bonds that were issued to help pay for the clean up of the savings and loan industry. Banks will pay approximately 1.3 cents per $100 of deposits for this special assessment, and after the Year 2000, banks will pay approximately 2.4 cents per $100 of deposits until the FICO bonds mature in 2017. There is a three-year moratorium on conversions of SAIF deposits to Bank Insurance Fund ("BIF") deposits. The 1996 Act also has certain regulatory relief provisions for the banking industry. Lender liability under the Superfund is eliminated for lenders who foreclose on property that is contaminated provided that the lenders were not involved with the management of the entity that contributed to the contamination. There is a five-year sunset provision for the elimination of civil liability under the Truth in Savings Act. The FRB and Department of Housing and Urban Development are to develop a single format for Real Estate Settlement Procedures Act and Truth in Lending Act ("TILA") disclosures. TILA disclosures for adjustable mortgage loans are to be simplified. Significant revisions are made to the Fair Credit Reporting Act ("FCRA") including requiring that entities which provide information to credit bureaus conduct an investigation if a consumer claims the information to be in error. Regulatory agencies may not examine for FCRA compliance unless there is a consumer complaint investigation that reveals a violation or where the agency otherwise finds a violation. In the area of the Equal Credit Opportunity Act, banks that self-test for compliance with fair lending laws will be protected from the results of the test provided that appropriate corrective action is taken when violations are found. During 1996, new federal legislation amended the Comprehensive Environmental Response, Compensation, and Liability Act ("CERCLA") and the underground storage tank provisions of the Resource Conversation 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 (the "Act") (Cal. Civil Code '' 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. On September 28, 1995, Assembly Bill 1482 (known as the Caldera, Weggeland, and Killea California Interstate Banking and Branching Act of 1995 and referred to herein as "CIBBA") was enacted which allows for early interstate branching in California. Under the federally enacted Riegle-Neal Interstate Banking and Branching Efficiency Act of 1994 ("IBBEA"), discussed in more detail below, individual states could "opt-out" of the federal law that would allow banks on an interstate basis to engage in interstate branching by merging out-of-state banks with host state banks after June 1, 1997. In addition under IBBEA, individual states could also "opt-in" and allow out-of-state banks to merge with host state banks prior to June 1, 1997. The host-state is allowed under IBBEA to impose certain nondiscriminatory conditions on the resulting depository institution until June 1, 1997. California, in enacting CIBBA, authorizes out-of-state banks to enter California by the acquisition of or merger with a California bank that has been in existence for at least five years. Section 3824 of the California Financial Code ("Section 3824") as added by CIBBA provides for the election of California to "opt-in" under IBBEA allowing interstate bank merger transactions prior to July 1, 1997 of an out-of-state bank with a California bank that has been in existence for at least five years. The early "opt in" has the reciprocal effect of allowing California banks to merge with out-of- state banks where the states of such out-of-state banks have also "opted in" under IBBEA. The five-year age limitation is not required when the California bank is in danger of failing or in certain other emergency situations. Under IBBEA, California may also allow interstate branching through the acquisition of a branch in California without the acquisition of an entire California bank. Section 3824 provides an express prohibition against interstate branching through the acquisition of a branch in California without the acquisition of the entire California bank. IBBEA also has a provision allowing states to "opt-in" with respect to permitting interstate branching through the establishment of de novo or new branches by out-of-state banks. Section 3824 provides that California expressly prohibits interstate branching through the establishment of de novo branches of out-of-state banks in California, or in other words, California did not "opt-in" this aspect of IBBEA. CIBBA also amends the California Financial Code to include agency provisions to allow California banks to establish affiliated insured depository institution agencies out-of-state as allowed under IBBEA. Other provisions of CIBBA amend the intrastate branching laws, govern the use of shared ATM's, and amend intrastate branch acquisition and bank merger laws. Another banking bill enacted in California in 1995 was Senate Bill 855 (known as the State Bank Parity Act and is referred to herein as the "SBPA"). SBPA went into effect on January 1, 1996, and its purpose is to allow a California state bank to be on a level playing field with a national bank by the elimination of certain disparities and allowing the DFI authority to implement certain changes in California banking law which are parallel to changes in national banking law such as closer conformance of California's version of Regulation O to the FRB's version of Regulation O and certain other changes including allowing the repurchase of stock with the prior written consent of the DFI. On September 29, 1994, IBBEA was enacted which has eliminated many of the current restrictions to interstate banking and branching. IBBEA permits full nationwide interstate banking to adequately capitalized and adequately managed bank holding companies beginning September 29, 1995 without regard to whether such transaction is expressly prohibited under the laws of any state. IBBEA's branching provisions permit full nationwide interstate bank merger transactions to adequately capitalized and adequately managed banks beginning June 1, 1997. However, states retain the right to completely opt out of interstate bank mergers and to continue to require that out-of-state banks comply with the states' rules governing entry. The states that opt out must enact a law after September 29, 1994 and before June 1, 1997 that (i) applies equally to all out-of-state banks and (ii) expressly prohibits merger transactions with out-of- state banks. States that opt out of allowing interstate bank merger transactions will preclude the mergers of banks in the opting out state with banks located in other states. In addition, banks located in states that opt out are not permitted to have interstate branches. States can also "opt in" which means states can permit interstate branching earlier than June 1, 1997. The laws governing interstate banking and interstate bank mergers provide that transactions, which result in the bank holding company or bank controlling or holding in excess of ten percent of the total deposits nationwide or thirty percent of the total deposits statewide, will not be permitted except under certain specified conditions. However, any state may waive the thirty- percent provision for such state. In addition, a state may impose a cap of less than thirty percent of the total amount of deposits held by a bank holding company or bank provided such cap is not discriminatory to out-of-state bank holding companies or banks. On September 23, 1994, the Riegle Community Development and Regulatory Improvement Act of 1994 (the "1994 Act") was enacted which covers a wide range of topics including small business and commercial real estate loan securitization, money laundering, flood insurance, consumer home equity loan disclosure and protection as well as the funding of community development projects and regulatory relief. The major items of regulatory relief contained in the 1994 Act include an examination schedule that has been eased for the top rated banks and will be every 18 months for CAMEL 1 banks with less than $250 million in total assets and CAMEL 2 banks with less than $100 million in total assets (the $100 million amount was amended to $250 million by the 1996 Act discussed above). The 1994 Act amends Federal Deposit Insurance Corporation Improvement Act of 1991 with respect to the Section 124, the mandate to the federal banking agencies to issue safety and soundness regulations, including regulations concerning executive compensation allowing the federal banking regulatory agencies to issue guidelines instead of regulations. Further regulatory relief is provided in the 1994 Act, as each of the federal regulatory banking agencies, including the National Credit Union Administration Board, is required to establish an internal regulatory appeals process for insured depository institutions within 6 months. In addition, the Department of Justice 30 day waiting period for mergers and acquisitions is reduced by the 1994 Act to 15 days for certain acquisitions and mergers. In the area of currency transaction reports, the 1994 Act requires the Secretary of the Treasury to allow financial institutions to file such reports electronically. The 1994 Act also requires the Secretary of the Treasury to publish written rulings concerning the Bank Secrecy Act, and staff commentary on Bank Secrecy Act regulations must also be published on an annual basis. The procedures for forming a bank holding company have also been simplified. The formal application process for many holding company formations is now a simplified 30-day notice procedure. In addition, the Securities Act of 1933 has been amended by the 1994 Act to further simplify the securities issuance in connection with a bank holding company formation. 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. Certain other pending legislative proposals include bills to let banks 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. It is impossible to predict what effect the enactment of the above- mentioned legislation will have on the Bancorp, the Bank and on the financial institutions industry in general. Moreover, it is likely that other bills affecting the business of banks may be introduced in the future by the United States Congress or California legislature. Taxation The Company reports its income and expenses using the accrual method of accounting and uses the calendar year as its tax year for both federal income and state franchise tax purposes. The Company is subject to the federal income tax, under existing provisions of the Internal Revenue Code of 1986, as amended, in generally the same manner as other corporations. The Internal Revenue Service has examined through the Company's 1995 federal income tax return. The 1995 examination did not result in a material adjustment to the tax return or a material adverse affect on the financial statements. Employees The Bank had 117 full-time and 6 part-time employees, including 46 principal officers as of February 28, 1999. The Bank's employees are not represented by a union or covered by a collective bargaining agreement. The management of the Bank believes that, in general, its employee relations are good. ITEM 2. PROPERTIES The Bank and the Company's head office, including a branch office, is located in a two-story building located at 1201 East Katella Avenue, Orange, California. The Bank owns both the land and the building. This building is approximately 16,000 square feet of interior and exterior floor space and is located on a lot of approximately 55,000 square feet. The facility is in good condition and adequate for the Bank's present operations with adequate parking, an automated teller machine and drive-up teller stations. The Bank leases the premises at its five full-service branch offices. Each branch has an automated teller machine. Drive-up teller banking is available at two leased branches. The Bank also leases premises for administrative functions. The principal terms relating to premises currently leased by the Bank and the net book value of leasehold improvements as of December 31, 1998 are detailed below. None of the leases contain any unusual terms and all are "net" or "triple net" leases.
Expiration Square Monthly Renewal Net Book Office Location Date Feet Rental Options Value Branches 77 Plaza Square, Orange 04/30/08 9,443 $8,860 4 @ 5 yrs. $681,768 1800 West Katella Avenue, Orange 12/31/07 5,266 8,057 2 @ 5 yrs. 245,380 7510 East Chapman Avenue, Orange 09/30/04 3,300 10,599 2 @ 5 yrs. 115,733 800 Glenneyre, Laguna Beach 08/31/07 5,894 9,933 1 @ 5 yrs. 147,709 25255 Cabot Road, Laguna Hills 01/01/04 6,737 8,203 3 @ 5 yrs. 220,214 Administration 115 North Glassell Street, Orange 12/31/00 1,600 640 1 @ 5 yrs. 17,092 1249 East Katella Avenue, Orange 01/06/03 13,845 11,429 2 @ 5 yrs. 159,191 $1,587,087
ITEM 3. LEGAL PROCEEDINGS To the best of management's knowledge, there are no pending or threatened legal proceedings to which the Bank or the Company is or may become a party, which may have a materially adverse effect upon the Bank, the Company or their property. However, in the normal course of business, the Bank, or the Company may initiate actions to protect their interests and may occasionally be made a party to actions relating thereto seeking to recover damages from the Bank, or the Company. ITEM 4. SUBMISSION OF MATTER TO A VOTE OF SECURITY HOLDERS None PART II ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS Stock Market Information Shares of Company's common stock are traded on the National Association of Securities Dealers Automated Quotation system (NASDAQ), under the ticker symbol OGNB. Active traders for the stock are Everen Securities, 620 Newport Center Drive, Suite 1300, Newport Beach, California 92660 and Smith Barney, 650 Town Center Drive, Suite 100, Costa Mesa, California 92626. The following table summarizes the approximate high and low prices for the Company's common stock since the first quarter of 1996.
1998 1997 1996 Calendar Quarter High Low High Low High Low 1st quarter $25.750 $23.750 $15.125 $13.125 $12.50 $10.50 2nd quarter 31.250 25.125 18.000 13.750 15.00 11.75 3rd quarter 30.000 17.000 21.125 17.500 14.50 13.25 4th quarter 27.750 19.000 24.250 19.750 13.75 12.75
History of Cash and Stock Dividends and Stock Splits The Company has a history of paying cash dividends to its stockholders. In recent years, the Company has paid dividends quarterly. The following table summarizes the cash dividend history of the Company:
Cash Dividends Paid Year Per Share Total 1984 $0.09 $ 143,568 1985 0.10 166,320 1986 0.12 200,584 1987 0.16 250,730 1988 0.13 202,734 1989 0.17 267,329 1990 0.18 290,008 1991 - - 1992 0.30 485,130 1993 - - 1994 0.05 91,956 1995 0.25 473,947 1996 0.37 718,417 1997 0.42 823,974 1998 0.70 1,389,986
For comparative purposes, dividends per share for all years are computed after the effects of stock splits and stock dividends. The Company declared a three-for-two stock split on October 15, 1985, a 5% stock dividend on November 16, 1988, a three-for-two stock split on November 20, 1989, and a 5% stock dividend on July 31, 1995. The Company's ability to pay dividends is dependent upon the dividend payment it receives from its subsidiary Bank. Future dividend payments will depend on future profitability, meeting regulatory requirements and the outlook of economic conditions. The Company declared a $0.15 per common share quarterly dividend on January 20, 1999 to the stockholders of record as of February 11, 1999, paid on March 1, 1999. The Company had approximately 451 stockholders of record as of February 28, 1999. Transfer Agent and Registrar U.S Stock Transfer Corporation 1745 Gardena Avenue Glendale, CA 91204-2991 ITEM 6. SELECTED FINANCIAL DATA The selected financial data presented below as of and for the years ended December 31 is derived from and should be read in conjunction with the consolidated financial statements and the notes thereto of the Company which have been audited by McGladrey & Pullen, LLP, independent certified public accountants. The consolidated financial statements as of December 31, 1998 and 1997 and for the three years in the period ended December 31, 1998 and the report thereon of McGladrey & Pullen, LLP are included with Item 14 of this Form 10-K.
1998 1997 1996 1995 1994 (dollars in thousands, except for per share amounts) Financial condition Total assets $285,862 $242,279 $218,845 $207,928 $206,510 Loans, net 140,140 131,189 118,991 112,724 112,703 Deposits 260,334 218,792 198,364 188,991 190,406 Stockholders' equity 23,723 21,586 18,956 17,262 14,782 Results of operations Interest income $19,116 $16,857 $15,894 $16,571 $13,908 Net interest income 14,951 13,504 12,375 13,430 11,400 Provisions for possible credit losses 100 140 205 320 298 Other income 2,783 3,707 2,713 2,781 2,612 Other expense 12,157 11,776 11,547 12,187 11,962 Income from continuing operations 5,477 5,295 3,336 3,703 1,060 Loss from discontinued operations - - - - (225) Net earnings 3,330 3,198 2,201 2,524 835 Basic earnings per share $1.67 $1.63 $1.13 $1.31 $0.43 Dilutive earnings per share 1.64 1.60 1.13 1.30 0.43 Cash dividends per share 0.70 0.42 0.37 0.25 0.05 Weighted average number of common shares outstanding (in thousands) 1,989 1,961 1,944 1,932 1,931
Earnings per share from continuing operations in 1994 were $0.58. Earnings per share prior to 1995 are restated to reflect 5% stock dividends in 1995 ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Forward Looking Statements Certain statements in this filing, including without limitation statements containing the words "believes," "anticipates," "intends," "expects," "pro forma," and words of similar import, constitute forward-looking statements. Such forward-looking statements involve known and unknown risks, uncertainties and other factors that may cause the actual results, performance or achievements of the Company to be materially different from any future results, performance or achievements expressed or implied by such forward-looking statements. Such factors include, among others, the following: general economic conditions in the Company's market areas; variances in interest rates; changes in or amendments to regulatory authorities' capital requirements or other regulations applicable to the Company; increased competition for loans and deposits; and other factors referred to elsewhere in this filing. Given these uncertainties, shareholders are cautioned not to place undue reliance on forward-looking statements. The Company disclaims any obligation to update such factors which are not considered to be material or to publicly announce the result of any revisions to any of the forward-looking statements included herein which are not considered to be material to reflect future events or developments. Results of Operations Total interest income was $19.1 million in 1998, an increase of $2.2 million or 13.4% from the $16.9 million in 1997. Total interest income in 1997 increased $1.0 million or 6.1% from the $15.9 million in 1996. The average interest-earning assets were $221.4 million in 1998, an increase of $34.8 million, or 18.7% from the $186.6 million in 1997. The average interest-earning assets in 1997 increased $2.1 million or 1.1% from the $184.5 million in 1996. The average yield decreased in 1998 by 0.4% from 1997 and increased in 1997 by 0.4% from 1996. The increase in interest income in 1998 resulted from a larger average of interest-earning assets and partially offset by a lower general interest rate environment. A higher general interest rate environment existed in 1997. Interest income on loans was $14.6 million in 1998, an increase of $0.9 million or 6.9% from the $13.7 million in 1997. Total interest income on loans in 1997 increased $2.0 million or 16.9% from the $11.7 million in 1996. The increase in 1998 resulted from the increase in the average loan portfolio during 1998 in spite of lower long-term interest rates as compared to 1997 and interest collected on nonaccrual loans. The average loan portfolio was $139.5 million in 1998, an increase of $8.4 million or 6.4% from the $131.1 million in 1997. The yield on the loan portfolio was 10.5% in 1998, an increase of 0.1% from the 10.4% in 1997. The average loan portfolio in 1997 increased $21.3 million or 19.4% from the $109.8 million in 1996. The increase in the average loan portfolio resulted from continued loan demand during 1998 and 1997. The yield on loans changes with the movements in the prime rate as approximately 64% of the loan portfolio are based on variable rates. Interest income on securities was $1.6 million in both 1998 and 1997. Interest income on securities in 1997 decreased $1.0 million or 40.1% from the $2.6 million in 1996. Interest income on securities in 1998 remained unchanged from 1997 although the average size of the investment securities portfolio increased and interest rates were slightly lower. The average balance of securities was $27.7 million in 1998, an increase of $1.6 million or 6.0% from the $26.1 million in 1997. The yield on securities was 5.8% in 1998, a decrease of 0.2% from the 6.0% in 1997. The decrease in interest income from securities in 1997 resulted from the decrease in the average balance of securities and slightly higher yields. The average balance of securities in 1997 decreased $18.8 million or 41.8% from the $44.9 million in 1996. The yield on securities increased 0.2% in 1997 from 1996. Interest income on federal funds sold was $2.9 million in 1998, an increase of $1.3 million or 80.3% from the $1.6 million in 1997. Interest income on federal funds sold in 1997 remained unchanged at $1.6 million from 1996. The average balance in federal funds sold was $54.2 million in 1998, an increase of $24.8 million or 84.5% from the $29.4 million in 1997. The yield on federal funds sold was 5.3% in 1998, a decrease of 0.1% from the 5.4% in 1997. The interest income on federal funds sold remaining constant in 1997 and 1996 although the average balance of federal funds sold decreased and the yield increased slightly in 1997. The average balance in federal funds sold was $29.4 million in 1997, a decrease of $0.4 million or 1.2% from the $29.7 million in 1996. The yield on federal funds sold was 5.4% in 1997, an increase of 0.2% from the 5.2% in 1996. Interest expense was $4.2 million in 1998, an increase of $0.8 million or 24.2% from the $3.4 million in 1997. The increase resulted from an increase in interest-bearing deposits and a slight increase in deposit rates. The average interest-bearing deposits were $143.4 million in 1998, an increase of $20.6 million or 16.8% from the $122.8 million in 1997. The average rate paid on such deposits was 2.9% in 1998, an increase of 0.2% from the 2.7% in 1997. Interest expense was $3.4 million in 1997, a decrease of $0.1 million or 4.7% from the $3.5 million in 1996. The 1997 decrease resulted from a decrease in the average interest-bearing deposits and a very slight increase in deposit rates. The rate increase in 1997 was 0.02% over the 2.7% in 1996. The average interest-bearing deposits in 1997 decreased $7.2 million or 5.5% from the $130.0 million in 1996. The provision for credit losses was $100,000, $140,000 and $205,000 in 1998, 1997 and 1996, respectively. The decreased provision in 1998 from 1997 and 1996 reflect a higher quality loan portfolio resulting from an improved local economy in Orange County. The Company also experienced recoveries in 1998 and 1997 on amounts previously charged- off. These recoveries offset the need for additional provision. Management believes that the current allowance for credit losses is adequate to provide for potential losses in the portfolio. The current local economic outlook for 1999 is promising. However, assurance cannot be made and, accordingly, future provisions for credit losses cannot be estimated at this time. See Note 1 in the Notes to Consolidated Financial Statements. Other income was $2.8 million in 1998, a decrease of $0.9 million or 24.9% from the $3.7 million in 1997. The decrease in 1998 resulted from decreased gains on the sale of SBA loans and decreased service charges on deposits. Other income in 1997 increased $1.0 million or 36.6% from the $2.7 million in 1996. The increase in 1997 resulted from the increase in gains on the sale of SBA loans. Other expenses were $12.2 million in 1998, an increase of $0.4 million or 3.2% from the $11.8 million in 1997. The increase in other expenses in 1998 resulted from nonrecurring costs associated with the relocation of several offices. Other expenses in 1997 increased $0.3 million or 2.0% from the $11.5 million in 1996. The 1997 increase resulted from overall expense increases. Provision for income taxes was $2.1 million in both 1998 and 1997. The income tax provision in 1998 was computed at the full tax rate on higher pretax earnings, less certain permanent tax differences. The pretax earnings were $5.5 million in 1998, an increase of $0.2 million or 3.4% from the $5.3 million in 1997. The provision for income taxes in 1997 increased $1.0 million or 84.8% from the $1.1 million in 1996. A reduction of the valuation allowance on the deferred tax asset lowered the taxable expense by $0.2 million in 1996. The increase in 1997 resulted from higher pretax earnings and no reduction of a valuation allowance on the deferred tax asset. Through 1996, management determined that portions of the valuation allowance were no longer necessary as the deferred tax assets are considered to be more likely than not to be realized. Accordingly, the provision for income taxes is less than the amount computed at the federal statutory rate in 1996. See Note 8 in the Notes to Consolidated Financial Statements. The provisions in FASB Statement No. 109 and the effect of alternative minimum tax have the potential for producing, under certain conditions, significant distortions in future income tax provisions and the effective tax rate. Net earnings were $3.3 million in 1998, an increase of $0.1 million or 4.1% from the $3.2 million in 1997. The increase in 1998 resulted from increased net interest income of $1.4 million, and offset by decreased other income of $0.9 million and increased other expenses of $0.4 million. Net earnings increased $1.0 million or 45.3% from the $2.2 million in 1996. The increase in 1997 resulted from increased interest income of $1.0 million, increase gains on sale of SBA loans of $0.8 million, and offset by lower tax of $1.0 million. While management is optimistic about the future, the effects of future economic conditions on the collectibility of loans cannot be predicted with absolute certainty and its effects on future profitability cannot be determined. Financial Condition The Company experienced continued asset growth in 1998. Total assets were $285.9 million as of December 31, 1998, an increase of $43.6 million or 18.0% from the $242.3 million as of December 31, 1997. Total assets increased $23.5 million or 10.7% in 1997. Total interest-earning assets were $255.7 million as of December 31, 1998, an increase of $55.7 million or 27.9% from the $200.0 million as of December 31, 1997. Total interest-earning assets increased $15.3 million or 8.3% in 1997. The Company continues to focus its efforts on originating quality loans. The increases in the loan and investment securities portfolios were funded from the increase in deposits. The investment securities portfolio was $58.3 million as of December 31, 1998, an increase of $40.1 million or 220.6% from the $18.2 million as of December 31, 1997. The investment securities portfolio decreased $21.8 million or 54.6% in 1997. The increase in 1998 resulted from the large number of investment security purchases. The Company did not purchase investment securities in 1997 and early 1998 due to the flat yield curve. The Company believes securities are the best available investment after its liquidity needs are met through cash, cash due from banks and federal funds sold. Generally, mortgage backed securities are classified as either held-to-maturity or available-for- sale and U.S. Treasury and Agency securities are classified as available-for-sale. The market values increased slightly in 1998 resulting from lower short-term and long-term interest rates. The loan portfolio was $140.1 million as of December 31, 1998, an increase of $8.9 million or 6.8% from the $131.2 million as of December 31, 1997. The loan portfolio increased $12.2 million or 10.3% in 1997. The increase in 1998 resulted from continued loan demand, primarily SBA lending on commercial real estate. The quality of the loan portfolio continues to improve resulting from a healthier Orange County economy. Total deposits were $260.3 million as of December 31, 1998, an increase of $41.5 million or 19.0% from the $218.8 million as of December 31, 1997. Total deposits increased $20.4 million or 10.3% in 1997. The deposit increase between years reflects a general increase in balances maintained by large depositors. Credit Risk Management As previously noted, the Bank maintains an allowance for credit losses to provide for potential losses in the loan portfolio. Additions to the allowance for credit losses are charged to operations in the form of a provision for possible credit losses. All loans that are judged to be uncollectible are charged against the allowance while any recoveries are credited to the allowance. The allowance for credit losses is maintained at a level determined by management to be adequate, based on the performance of loans in the Bank's portfolio, evaluation of collateral for such loans, the prospects or worth of the prospective borrowers or guarantors, and such other factors which, in the Bank's judgement, deserve consideration in the estimation of possible losses. The allowance for credit losses is established and maintained after analyzing loans identified by management with certain unfavorable features affixing a risk of loss attributable to each loan. An inherent risk of loss in accordance with industry standards and economic conditions is then allocated to specific loan pools and to the remainder of the portfolio on an aggregate basis. Liquidity The Company maintains substantial liquid and other short-term assets to meet the funding of loan demand, deposit withdrawals and maturities, and operating costs. The Company currently meets its funding needs from its deposit base, and cash flow from operations, loan sales, and loan principal reductions. The loan-to-deposit ratio was 53.8% and 60.0% as of December 31, 1998 and 1997, respectively. The decrease of the loan-to-deposit ratio resulted from deposit growth exceeding loan demand. The ratio of liquid assets (cash, cash due from banks, interest-bearing deposits at financial institutions, federal funds sold, and investments with maturities of one year or less) to demand deposits was 39.3% and 44.5% as of December 31, 1998 and 1997, respectively. The decrease of the liquid asset ratio resulted from the increase in deposits being invested into loans and investment securities with maturities longer than one year. The Company has a relatively stable and significant base of core deposits. Thus, the Company has not used brokered deposits and avoids using other wholesale, highly rate-sensitive, short-term funds. The Company had five customers with an aggregate deposit of $43.0 million as of December 31, 1998. Other funding sources available to the Company include reduction of its federal funds sold, sale of its available-for-sale securities, increasing deposits, and borrowing on its established credit resources. The Company may borrow funds under securities sold with agreements to repurchase such securities that have not been pledged. The Company had unpledged securities of $52.3 million as of December 31, 1998. Liquidity needs may also be met through federal funds purchased from correspondent banks and/or direct borrowings from the Federal Reserve Bank. The Company has established Federal Funds borrowing lines with various banks up to $8.0 million. The Company has also established a borrowing capacity of $14.5 million with the FHLB. The Company would need to pledge certain defined collateral, consisting of loans and/or securities prior to borrowing from the FHLB. The Company has yet to use these facilities. Management believes the Bank has sufficient liquidity to meet its loan commitments, deposit withdrawals and operating costs. Capital Management Capital management requires that sufficient capital be maintained for anticipated growth and to provide depositors assurance that their funds are on deposit with a solvent institution. The Bank is subject to various regulatory capital requirements. The Bank must meet specific capital guidelines that involve qualitative measures of the Bank's assets and certain off-balance sheet items as calculated under regulatory accounting practices. The Bank's capital amounts and classification are also subject to qualitative judgments by the regulators about components, risk weightings and other factors. Tier I capital for the Bank under the regulations is defined as stockholders' equity before any unrealized gains or losses on its available-for-sale securities portfolio. Total capital is defined as Tier I capital plus the allowance for credit losses, subject to certain limitations. The table below sets forth the Bank's actual capital ratios, the minimum capital required for adequacy purposes and to be categorized as "well capitalized" for the capital ratios of total risk-based, Tier I risk- based and Tier I leverage. The Bank's capital ratios exceeded the "well capitalized" threshold prescribed in the rules of its principal federal regulator as of December 31, 1998.
To Be Well Capitalized Under For Capital Prompt Corrective Actual Adequacy Purposes Action Provisions Amount Ratio Amount Ratio Amount Ratio (dollars in thousands) December 31, 1998 Total capital (to risk-weighted assets) $24,484 13.7% $14,314 8.0% $17,893 10.0% Tier I capital (to risk-weighted assets) 22,960 12.8% 7,157 4.0% 10,736 6.0% Tier I capital (to average assets) 22,960 8.4% 10,942 4.0% 13,678 5.0% December 31, 1997 Total capital (to risk-weighted assets) $22,563 13.9% $12,962 8.0% $16,202 10.0% Tier I capital (to risk-weighted assets) 20,982 13.0% 6,481 4.0% 9,721 6.0% Tier I capital (to average assets) 20,982 9.0% 9,368 4.0% 11,710 5.0%
Management believes that the Bank is properly and adequately capitalized, as evidenced by these ratios as of December 31, 1998. The most recent notification from the Office of the Comptroller of the Currency categorized the Bank as "well capitalized" as of June 30, 1997 under the regulatory framework for prompt corrective action. Off-Balance Sheet Analysis The contractual amounts associated with certain financial transactions are not recorded as assets or liabilities on the balance sheet. Off-balance sheet treatment is generally considered appropriate either where exchange of the underlying asset or liability has not occurred or is not assured, or where contractual amounts are used solely to determine cash flows to be exchanged. The Company's off-balance sheet financial instruments consist of commitments to extend credit and standby letters of credit. A majority of these commitments are with variable interest rates. Additional information about off-balance sheet financial instruments is provided in Note 10 of Notes to Consolidated Financial Statements. Impact of Inflation and Changing Prices The financial statements and related data presented herein have been prepared in accordance with generally accepted accounting principles, which require the measurement of financial position and operating results in terms of historical dollars without considering changes in the relative purchasing power of money over time due to inflation. Unlike most industrial companies, virtually all of the assets and liabilities of a financial institution are monetary in nature. As a result, interest rates have a more significant impact on a financial institution's performance than the effects of general levels of inflation. Interest rates do not necessarily move in the same direction or in the same magnitude as the price of goods and services. In the current interest rate environment, the liquidity and the maturity structure of the Company's assets and liabilities are critical to the maintenance of acceptable performance levels. Year 2000 Issue The "Year 2000 issue" results from the fact that many computer programs use only two digits to represent a year, such as "98" to represent "1998," which means that in the Year 2000 such programs could incorrectly treat the Year 2000 as the year 1900. This issue has grown in importance as the use of computers and microchips has become more pervasive throughout the economy, and interdependencies between systems have multiplied. The issue must be recognized as a business problem, rather than simply a computer problem, because of the way its effects could ripple through the economy. The Year 2000 issue could materially and adversely affect the Company either directly or indirectly. This could happen if any of its critical computer systems or equipment containing embedded logic fail, if the local infrastructure (electric power, phone system, or water system) fails, if its significant vendors are adversely impacted, or if its borrowers or depositors are adversely impacted by their internal systems or those of their customers or suppliers. Failure of the Company to complete testing and renovation of its critical systems on a timely basis could have a material adverse effect on the Company's financial condition and results of operations, as could Year 2000 problems faced by others with whom the Company does business. Federal banking regulators have responsibility for supervision and examination of banks to determine whether each institution has an effective plan for identifying, renovating, testing and implementing solutions for Year 2000 processing and coordinating Year 2000 processing capabilities with its customers, vendors and payment system partners. Bank examiners are also required to assess the soundness of a bank's internal controls and to identify whether further corrective action may be necessary to assure an appropriate level of attention to Year 2000 processing capabilities. The Company has a written plan to address its risks associated with the impact of the Year 2000. The plan directs the Company's Year 2000 compliance efforts under the framework of a five-step program mandated by the Federal Financial Institutions Examination Council ("FFIEC"). The FFIEC's five-step program consists of five phases: awareness, assessment, renovation, validation and implementation. In the awareness phase, which the Company has completed, the Year 2000 problem is defined and executive level support for the necessary resources to prepare the Company for Year 2000 compliance is obtained. In the assessment phase, which the Company has also completed, the size and complexity of the problem and details of the effort necessary to address the Year 2000 issues are assessed. Although the awareness and assessment phases are completed, the Company continues to evaluate new issues as they arise. In the renovation phase, which the Company has substantially completed, the required incremental changes to hardware and software components are installed. In the validation phase, which the Company has also substantially completed the initial phase, the hardware and software components are tested. In the implementation phase, changes to hardware and components are brought on line and re- testing of such changes are completed. The implementation phase is currently 60% complete, with an expected completion in April 1999. The Company is using both internal and external resources to identify, correct or reprogram, and test its systems for Year 2000 compliance. The Company has identified 25 vendor or software applications which management believes are material to its operations. Based on information received from its vendors and testing results, the Company believes that substantially all material applications of its operations are Year 2000 compliant as of December 31, 1998. The Company has not identified any material applications that the Company does not believe are fully Year 2000 compliant as of December 31, 1998. The Company is also making efforts to ensure that its customers, particularly its significant customers, are aware of the Year 2000 problem. The Company has either sent Year 2000 correspondence to, or met personally with its significant deposit and loan customers. A customer of the Company is deemed significant if the customer possesses either of the following characteristics: (1) total indebtedness to the Company of $500,000 or more, or (2) an average ledger deposit balance greater than $500,000. The Company has amended its credit authorization documentation to include consideration of the Year 2000 problem. The Bancorp assesses its significant customer's Year 2000 readiness and assigns the customer an assessment of "low," "medium" or "high" risk. Risk evaluation of the Company's significant customers was completed in September 1998. The Company evaluates any depositor or lending customer determined to have a high or medium risk on an ongoing basis. Currently, 2% of loan customers are considered high risk and are being monitored closely for progress. Substantially all deposit customers are either low risk or compliant, the exception being those loan customers considered high risk. It is impossible to quantify the total potential cost of Year 2000 problems or to determine the Company's worst-case scenario in the event the Company's Year 2000 remediation efforts or the efforts of those with whom it does business are not successful, due to the wide range of possible issues and large number of variables involved. In order to deal with the uncertainty associated with the Year 2000 problem, the Company has developed a contingency plan to address the possibility that efforts to mitigate the Year 2000 risk are not successful either in whole or part. These plans include but are not limited to manual processing of information for critical information technology systems and having increased cash on hand. The contingency plan will be validated, after which the appropriate implementation training will be scheduled. The Company incurred and expensed $0.1 million of Year 2000 costs through December 31, 1998. These Year 2000-related costs have been funded from the continuing operations of the Company. These costs were approximately 7% of the Company's 1998 information systems budget. The Company currently estimates its costs to complete its Year 2000 compliance at approximately $0.3 million. This estimate includes the cost of purchasing hardware and software licenses, the cost of the time of internal staff and the cost of consultants. Testing is not expected to add significant incremental costs. Current Accounting Developments In June 1998, FASB issued Statement of Financial Accounting Standards No. 133, "Accounting for Derivative Instruments and Hedging Activities" ("SFAS 133"). SFAS 133 establishes accounting and reporting standards for derivative instruments and hedging activities. SFAS 133 is effective for all fiscal quarters of fiscal years beginning after June 15, 1999. The Company does not invest in derivative instruments nor engage in hedging activities. Management does not believe the application of the Statement to transactions of the Bank that have been typical in the past will materially affect the Bank's financial position and results of operations. ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK Interest Rate Sensitivity The Company uses asset liability management on its balance sheet to minimize the exposure of interest rate movements on its net interest income. The principal function of asset liability management is to manage the interest rate risk in the balance sheet by maintaining a proper balance, match and mix between rate-sensitive interest-earning assets and rate-sensitive interest-bearing liabilities. The term "rate-sensitive" refers to those assets and liabilities that are "sensitive" to fluctuations in interest rates. When interest rates fluctuate, earnings may be affected in many ways as the interest rates of assets and liabilities change at different times or by different amounts. The Company minimizes its interest rate risk in the balance sheet by emphasizing the origination of variable interest rate loans that have the ability to reprice overnight and maintaining a high volume of federal funds sold to offset the deposits that may potentially reprice overnight. A repricing gap is the difference between total interest-earning assets and total interest-bearing liabilities available for repricing during a given time interval. A positive repricing gap exists when total interest-earning assets exceed total interest-bearing liabilities within a repricing period and a negative repricing gap exists when total interest-bearing liabilities are in excess of interest-earning assets within a repricing period. Generally, a positive repricing gap increases net interest income in a rising rate environment and decreases net interest income in a falling rate environment. A positive repricing gap may increase net interest income in a falling rate environment depending on the amount of the excess repricing gap and extent of the drop in interest rates. A negative repricing gap tends to increase net interest income in a falling rate environment and decrease net interest income in a rising rate environment. The net interest income of the Company will benefit from a rising rate environment based on the positive repricing gap. The following table displays the repricing period for interest- earning assets and interest-bearing liabilities and the related repricing gap as of December 31, 1998:
After one Due within Due within but within After 0-3 months 4-12 months five years five years (dollars in thousands) Interest-earning assets (1) $159,162 $6,500 $20,927 $69,124 Interest-bearing liabilities 152,016 7,037 1,404 2 Repricing gap 7,146 (537) 19,523 69,122 Cumulative repricing gap $ 7,146 $6,608 $26,131 $95,253 Cumulative gap as a percent of earning assets 2.8% 2.6% 10.2% 37.3% (1) Includes collateralized mortgage obligations in the one-year to five-year maturities based on the average expected lives.
The Company had available-for-sale securities of $40.6 million recorded at market value as of December 31, 1998. The available-for- sale securities consist of collateralized mortgage obligations and medium-term government agency notes. The Company also had held-to- maturity securities of $17.6 million recorded at amortized cost as of December 31, 1998. The held-to-maturity securities are collateralized mortgage obligations that may be repaid without penalties. The value of these securities is subject to fluctuation based upon current long- term interest rates. The Company had $144.4 million of interest-earning assets and $127.2 million of interest-bearing demand and savings deposits as of December 31, 1998 that are able to reprice overnight. The estimated effect on net interest income for a 10% decrease from prevailing interest rates over a one-year period would be a decline of approximately $0.9 million. ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA The consolidated financial statements of the Company follow on pages F-1 to F-25. The Independent Auditor's Report is set forth on Page F-1. ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURES None PART III ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT For information concerning the directors and executive officers of the Bancorp, see "Election of Directors" included in the Bancorp's definitive proxy statement ("Proxy Statement"), which information is incorporated by reference. The Proxy Statement will be filed with the SEC within the time period specified by General Instruction G to Form 10-K. ITEM 11. EXECUTIVE COMPENSATION For information concerning management remuneration, see "Executive Compensation" included in the Proxy Statement, which information is incorporated herein by reference. ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT For information concerning security ownership of beneficial owners and management, see "Stock Ownership of Certain Beneficial Owners and Management" included in the Proxy Statement, which information is incorporated herein by reference. ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS For information concerning related party transactions, see "Certain Transactions" included in the Proxy Statement, which information is incorporated herein by reference. PART IV ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K The following financial statements of the Company and subsidiary are included in this Form 10-K. Page number references follow: Independent auditor's report F-1 Consolidated balance sheets as of December 31, 1998 and 1997 F-2 Consolidated statements of earnings for the three years ended December 31, 1998 F-3 Consolidated statements of comprehensive income for the three years ended December 31, 1998 F-4 Consolidated statements of stockholders' equity for the three years ended December 31, 1998 F-5 Consolidated statements of cash flows for the three years ended December 31, 1998 F-6 Notes to consolidated financial statements F-7 to F-25 Schedules All schedules are omitted as the information is not required, is not material, or is otherwise furnished. Exhibits See Index to exhibits at Page 33 of this Form 10-K Reports on Form 8-K The Company did not file reports on Form 8-K during the quarter ended December 31, 1998. Signatures Pursuant to the requirements of Section 13 or 25(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. ORANGE NATIONAL BANCORP By: /s/ KENNETH J. COSGROVE Date: MARCH 17, 1999 Kenneth J. Cosgrove, President and Chief Executive Officer By: /s/ ROBERT W. CREIGHTON Date: MARCH 17, 1999 Robert W. Creighton, Secretary and Chief Financial Officer By: /s/ JERRO M. OTSUKI Date: MARCH 17, 1999 Jerro M. Otsuki, Vice President and Controller Signatures 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 in the capacities and on the dates indicated. ORANGE NATIONAL BANCORP /s/ MICHAEL W. ABDALLA MARCH 17, 1999 Michael W. Abdalla Date Director /s/ MICHAEL J. CHRISTIANSON MARCH 17, 1999 Michael J. Christianson Date Director /s/ KENNETH J. COSGROVE MARCH 17, 1999 Kenneth J. Cosgrove Date Director /s/ ROBERT W. CREIGHTON MARCH 17, 1999 Robert W. Creighton Date Director Charles R. Foulger Date Director /s/ GERALD R. HOLTE MARCH 17, 1999 Gerald R. Holte Date Director /s/ JAMES E. MAHONEY MARCH 17, 1999 James E. Mahoney Date Director /s/ WAYNE F. MILLER MARCH 17, 1999 Wayne F. Miller Date Director /s/ SAN E. VACCARO MARCH 17, 1999 San E. Vaccaro Date Director INDEX TO EXHIBITS Exhibit No. 3.1 Registrant's Articles of Incorporation - filed as exhibit 3 to the Registrant's Registration Statement on Form S-4, File No. 33-8743, and are hereby incorporated by reference. 3.2 Registrant's Bylaws - filed as exhibit 3.1 to the Registrant's Registration Statement on Form S-1, File No. 33-13162, are hereby incorporated by reference. 10.1 Material contracts of the Bank were each filed as exhibits 10, 10.1, 10.3, 10.4, and 10.5 to the Registrant's Registration Statement on Form S-4, File No. 33-8743, and are hereby incorporated by reference. Material contracts of the Bank were each filed as exhibits 10.6 through 10.22 to the Registrant's 1997 Annual Report on Form 10-K, File No. 33-8743, and are hereby incorporated by reference. 21 Subsidiary of the Registrant - Orange National Bank, a National Banking Association. 23 Consent of Independent Accountants, page 34. 27 Financial Data Schedule, page 21. EXHIBIT 23.1 CONSENT OF INDEPENDENT ACCOUNTANTS To The Board of Directors Orange National Bancorp Orange, California We hereby consent to the incorporation of our report dated January 22, 1999, except for the last paragraph of Note 10, as to which the date is February 11, 1999, included in this Form 10-K in the previously filed Registration Statement of Orange National Bancorp on Form S-8 (No. 333-44741 and No. 0-15365). McGLADREY & PULLEN, LLP Anaheim, California March 17, 1999 INDEPENDENT AUDITOR'S REPORT To the Board of Directors Orange National Bancorp Orange, California We have audited the accompanying consolidated balance sheets of Orange National Bancorp and subsidiary as of December 31, 1998 and 1997, and the related consolidated statements of earnings, comprehensive income, stockholders' equity and cash flows for each of the three years in the period ended December 31, 1998. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Orange National Bancorp and subsidiary as of December 31, 1998 and 1997, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 1998, in conformity with generally accepted accounting principles. McGLADREY & PULLEN, LLP Anaheim, California January 22, 1999, except for the last paragraph of Note 10 as to which the date is February 11, 1999. ORANGE NATIONAL BANCORP CONSOLIDATED BALANCE SHEETS December 31, 1998 and 1997
1998 1997 (dollars in thousands) Assets Cash and cash equivalents (Note 2) $ 74,931 $ 81,147 Securities (Note 3): Held-to-maturity securities (fair value of $17,691 in 1998 and $8,972 in 1997) 17,640 9,037 Available-for-sale securities 40,649 9,146 Loans, net of allowance for credit losses of $1,524 in 1998 and $1,581 in 1997 (Notes 4, 5 and 12) 140,140 131,189 Premises and equipment, net (Note 6) 5,438 5,057 Other real estate owned, net (Note 5) - 126 Accrued interest receivable 1,212 985 Cash value of life insurance 5,021 4,808 Other assets (Note 8) 831 784 Total assets $285,862 $242,279 Liabilities Deposits (Note 7) $260,334 $218,792 Accrued interest payable and other liabilities 1,805 1,901 Total liabilities 262,139 220,693 Commitments and Contingencies (Notes 10 and 11) - - Stockholders' Equity (Notes 10, 11 and 13) Common stock, no par value or stated value; authorized 20,000,000 shares; issued and outstanding 1,996,788 in 1998 and 1,970,046 in 1997 8,036 7,864 Retained earnings 15,718 13,778 Accumulated other comprehensive income (loss) (31) (56) Total stockholders' equity 23,723 21,586 Total liabilities and stockholders' equity $285,862 $242,279 See Notes to Consolidated Financial Statements.
ORANGE NATIONAL BANCORP CONSOLIDATED STATEMENTS OF EARNINGS Years Ended December 31, 1998, 1997 and 1996
1998 1997 1996 (in thousands, except per share data) Interest Income: Loans $14,633 $13,686 $11,712 Securities 1,602 1,573 2,627 Federal funds sold 2,881 1,598 1,555 Total interest income 19,116 16,857 15,894 Interest Expense, deposits 4,165 3,353 3,519 Net interest income 14,951 13,504 12,375 Provision for Credit Losses (Note 5) 100 140 205 Net interest income after provision for credit losses 14,851 13,364 12,170 Other Income (Note 9) 2,783 3,707 2,713 Other Expenses (Notes 9 and 10) 12,157 11,776 11,547 Earnings before income taxes 5,477 5,295 3,336 Provision for Income Taxes (Note 8) 2,147 2,097 1,135 Net earnings (Note 11) $ 3,330 $ 3,198 $ 2,201 Basic earnings per share $ 1.67 $ 1.63 $ 1.13 Weighted average number of common shares outstanding (in thousands) 1,989 1,961 1,944 Diluted earnings per share $ 1.64 $ 1.60 $ 1.13 Weighted average number of common shares and diluted potential common shares (in thousands) 2,036 2,000 1,951 See Notes to Consolidated Financial Statements.
ORANGE NATIONAL BANCORP CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME Years Ended December 31, 1998, 1997 and 1996
1998 1997 1996 (dollars in thousands) Net earnings $3,330 $3,198 $2,201 Other comprehensive income: Unrealized gains (losses) on available-for-sale securities 10 68 (21) Reclassification adjustment for losses included in net earnings - 9 24 Reclassification adjustment for losses included in net earnings for securities transferred 35 40 73 Other comprehensive income before income taxes 45 117 76 Provision for income taxes 20 50 30 Other comprehensive income 25 67 46 Comprehensive income $3,355 $3,265 $2,247 See Notes to Consolidated Financial Statements.
ORANGE NATIONAL BANCORP CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY Years Ended December 31, 1998, 1997 and 1996
Accumulated Other Comprehensive Common Stock Retained Income Shares Amount Earnings (Loss) Total (in thousands, except per share data) Balance, December 31, 1995 1,934 $7,510 $9,920 $(169) $17,261 Net earnings - - 2,201 - 2,201 Cash dividend paid ($.37 per share) - - (718) - (718) Exercise of stock options 19 166 - - 166 Other comprehensive income - - - 46 46 Balance, December 31, 1996 1,953 7,676 11,403 (123) 18,956 Net earnings - - 3,198 - 3,198 Cash dividend paid ($.42 per share) - - (823) - (823) Exercise of stock options 17 188 - - 188 Other comprehensive income - - - 67 67 Balance, December 31, 1997 1,970 7,864 13,778 (56) 21,586 Net earnings - - 3,330 - 3,330 Cash dividend paid ($.70 per share) - - (1,390) - (1,390) Exercise of stock options 27 172 - - 172 Other comprehensive income - - - 25 25 Balance, December 31, 1998 1,997 $8,036 $15,718 $(31) $23,723 See Notes to Consolidated Financial Statements.
ORANGE NATIONAL BANCORP CONSOLIDATED STATEMENTS OF CASH FLOWS Years Ended December 31, 1998, 1997 and 1996
1998 1997 1996 (dollars in thousands) Cash Flows from Operating Activities Net earnings $ 3,330 $ 3,198 $ 2,201 Adjustments to reconcile net earnings to net cash provided by operating activities: Depreciation and amortization 553 504 537 Provision for credit losses 100 140 205 Deferred income taxes (benefits) 88 (111) (78) (Gain) on sale of loans (654) (1,374) (560) Provision for losses on other real estate owned - 11 160 Proceeds from loan sales 10,553 19,264 5,984 Origination of loans held for sale (9,898) (17,890) (5,424) (Increase) decrease in other assets (382) 374 (615) Gain on cash value of life insurance (213) (219) (183) Increase (decrease) in other liabilities (96) 376 435 Net cash provided by operating activities 3,381 4,273 2,662 Cash Flows from Investing Activities Proceeds from maturities of held-to-maturity securities 5,529 1,909 1,542 Purchase of held-to-maturity securities (14,132) - - Proceeds from sales and maturities of available-for-sale securities 23,667 19,986 36,565 Purchase of available-for-sale securities (55,125) - (38,482) Net increase in loans made to customers (9,084) (11,460) (7,274) Purchase of life insurance policies - (872) - Proceeds from sale of other real estate owned 158 1,431 1,396 Purchases of bank premises and equipment (934) (349) (223) Net cash provided by (used in) investing activities (49,921) 10,645 (6,476) Cash Flows from Financing Activities Net increase in deposits 41,542 20,428 9,372 Proceeds from exercise of stock options 172 188 166 Dividends paid (1,390) (823) (718) Net cash provided by financing activities 40,324 19,793 8,820 Increase (decrease) in cash and cash equivalents (6,216) 34,711 5,006 Cash and cash equivalents at beginning of year 81,147 46,436 41,430 Cash and cash equivalents at end of year $74,931 $81,147 $46,436 See Notes to Consolidated Financial Statements.
Note 1. Summary of Significant Accounting Policies Principles of consolidation and basis of presentation The consolidated financial statements include the accounts of Orange National Bancorp and its wholly-owned subsidiary Orange National Bank ("Bank"). These entities are collectively referred to herein as the Company. The Bank provides a full range of banking services to its commercial and consumer customers through six branches located in Orange County, California. All significant intercompany balances and transactions have been eliminated in consolidation. Use of estimates in the preparation of financial statements The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosures of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. Cash and cash equivalents The Company includes cash on hand, cash due from banks, time deposits and federal funds sold in its definition of cash and cash equivalents for purposes of balance sheet presentation and reporting the statement of cash flows. Held-to-maturity securities Securities classified as held-to-maturity are those debt securities the Company has both the intent and ability to hold to maturity regardless of changes in market conditions, liquidity needs or changes in general economic conditions. These securities are carried at cost adjusted for amortization of premiums and accretion of discounts, computed using the interest method over their contractual lives. The sale of a security within three months of its maturity date or after at least 85% of the principal outstanding has been collected is considered a maturity for purposes of classification and disclosure. Available-for-sale securities Securities classified as available-for-sale are those debt securities that the Company intends to hold for an indefinite period of time, but not necessarily to maturity. Any decision to sell a security classified as available-for-sale would be based on various factors, including significant movements in interest rates, changes in the maturity mix of the Company's assets and liabilities, liquidity needs, regulatory capital considerations, and other similar factors. Securities available-for-sale are carried at fair value. Unrealized gains or losses, net of the related deferred tax effect, are reported as comprehensive income. Realized gains or losses, computed using the cost of the specific securities sold, are included in earnings. Securities transfers Transfers of debt securities into the held-to-maturity classification from the available-for-sale classification are made at fair value on the date of transfer. The unrealized holding gains or losses on the date of transfer are retained as a separate component of stockholders' equity and in the carrying value of the held-to-maturity securities. Such amounts are amortized over the remaining contractual lives of the securities using the interest method. Loans Loans are stated at the amount of unpaid principal reduced by undisbursed loan funds, unearned loan fees and allowance for credit losses. Interest on loans is accrued as earned using the simple- interest method on principal amounts outstanding, only if deemed collectible. Loan origination and commitment fees together with certain direct loan origination costs are deferred, and the net deferral amount is amortized as an adjustment to the yield on loans over their contractual lives. Collateral is obtained on substantially all loans. Such collateral is primarily first trust deeds on property. The accrual of interest on loans is discontinued when, in management's opinion, the borrower may be unable to meet payments as they become due, generally at 90 days past due. When an interest accrual is discontinued, all unpaid accrued interest is reversed. Generally, interest income is not subsequently recognized until all principal and interest amounts are received, and future principal and interest payments are expected to be collected. A loan is considered impaired when, in management's opinion, it is probable the creditor will be unable to collect all contractual principal and interest payments due in accordance with the terms of the loan agreement. Impaired loans are measured based on the present value of expected future cash flows discounted at the loan's effective interest rate or, as a practical expedient, at the loan's observable market price or the fair value of the collateral if the loan is collateral dependent. The amount of impairment, if any, and any subsequent changes are included in the allowance for credit losses. Allowance for credit losses The allowance for credit losses is established through a provision for credit losses charged to expense. Loans are charged against the allowance for credit losses when management believes that collectibility of the principal is unlikely. The allowance is an amount that management believes will be adequate to absorb estimated losses on existing loans that may become uncollectible, based on evaluation of the collectibility of loans and prior loan loss experience. This evaluation also takes into consideration such factors as changes in the nature and volume of the loan portfolio, overall portfolio quality, review of specific problem loans, and current economic conditions that may affect the borrower's ability to pay. While management uses the best information available to make its evaluation, future adjustments to the allowance may be necessary if there are significant changes in economic or other conditions. In addition, the Office of the Comptroller of the Currency, as an integral part of their examination process, periodically reviews the Company's allowance for credit losses, and may require the Company to make additions to the allowance based on their judgment about information available to them at the time of their examinations. Sale of loans The Company sells the guaranteed portion of small business administration loans in the secondary market to provide funds for additional lending and to generate servicing income. Under such agreements, the Company continues to service the loans and the buyer receives the principal collected together with interest. Loans held for sale are valued at the lower of cost or market value. Gains and losses on sales of loans are calculated on a predetermined formula in compliance with Statement of Financial Accounting Standards No. 125, "Accounting for Transfers and Servicing of Financial Assets and Extinguishment of Liabilities" ("SFAS 125") based on the difference between the selling price and the cost of the loans sold. Any inherent risk of loss on loans is transferred to the buyer at the date of sale on the portion of the loan sold. However, the Company maintains the risk on the portion retained. The Company has issued various representations and warranties associated with the sale of loans. These representations and warranties may require the Company to repurchase loans for a period of 90 days after the date of sale as defined per the applicable sales agreement. The Company did not experience losses during the years ended December 31, 1998, 1997 and 1996 regarding these representations and warranties. Premises and equipment Premises and equipment are stated at cost less accumulated depreciation and amortization. Depreciation is computed using the straight-line method over the following estimated useful lives: Buildings and leasehold improvements - 4 to 28 years; furniture and equipment - 3 to 10 years. Improvements to leased property are amortized over the lesser of the term of the lease or life of the improvements. Other real estate owned Other real estate owned ("OREO") represents properties acquired through foreclosure or other proceedings. OREO is held for sale and is recorded at the lower of the carrying amounts of the related loans or the estimated fair value of the properties less estimated costs of disposal. Any write-down to estimated fair value less cost to sell at the time of transfer to OREO is charged to the allowance for credit losses. Properties are evaluated regularly by management with any further reductions of the carrying amount to the estimated fair value less estimated costs to dispose charged to the reserve for OREO losses as necessary. Depreciation is recorded on each OREO after such properties have been owned for one year. Depreciation and additions to or reductions from valuation allowances are recorded in income. Income taxes Deferred taxes are provided on an asset and liability method whereby deferred tax assets are recognized for deductible temporary differences and operating loss and tax credit carryforwards, and deferred tax liabilities are recognized for taxable temporary differences. Temporary differences are the differences between the reported amounts of assets and liabilities and their tax bases. Deferred tax assets are reduced by a valuation allowance when management determines that it is more likely than not that some portion or all of the deferred tax assets will not be realized. Deferred tax assets and liabilities are adjusted for the effects of changes in tax laws and rates on the date of enactment. Stock-based compensation The Company has adopted Statement of Financial Accounting Standards No. 123 "Accounting for Stock-Based Compensation" ("SFAS 123"). SFAS 123 establishes financial accounting and reporting standards for stock- based compensation plans. The Company has elected to continue accounting for stock-based employee compensation plans in accordance with Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees," ("APB No. 25") and related Interpretations, as SFAS 123 permits, and to follow the pro forma net earnings, pro forma earnings per share, and stock-based compensation plan disclosure requirements set forth in SFAS 123. Earnings per share The Company is required to present basic and diluted earnings per share amounts. Diluted per share amounts assume the conversion, exercise or issuance of all potential common instruments unless the effect is to reduce a loss or increase the earnings per common share from continuing operations. The weighted-average shares outstanding used to compute dilutive earnings per share include incremental shares from stock options of 46,708; 38,365; and 7,658; for the years ended December 31, 1998, 1997 and 1996, respectively. Current accounting development In June 1998, FASB issued Statement of Financial Accounting Standards No. 133, "Accounting for Derivative Instruments and Hedging Activities" ("SFAS 133"). SFAS 133 establishes accounting and reporting standards for derivative instruments and hedging activities. SFAS 133 is effective for all fiscal quarters of fiscal years beginning after June 15, 1999. The Company does not invest in derivative instruments nor engage in hedging activities. Note 2. Cash and cash equivalents Cash and cash equivalents consisted of the following as of December 31:
1998 1997 (dollars in thousands) Cash on hand $ 1,264 $ 1,827 Cash due from banks 16,277 27,820 Federal funds sold 57,390 51,500 $74,931 $81,147
The Company maintains amounts due from banks that exceed federally insured limits. The Company has not experienced any losses in such accounts. In addition, federal funds sold were placed with two financial institutions. The Company is required to maintain a reserve balance in cash or on deposit with the Federal Reserve Bank. The required and actual reserve balances maintained were $742,000 and $1,248,000 as of December 31, 1998, respectively. Note 3. Securities Carrying amounts and fair values of held-to-maturity securities are summarized as follows as of December 31:
Amortized Unrealized Unrealized Fair Cost Gains Losses Value (dollars in thousands) 1998 Mortgage-backed securities $17,640 $ 76 $(25) $17,691 1997 Mortgage-backed securities $ 9,037 $ - $(65) $ 8,972
Securities pledged as collateral on public deposits and treasury, tax and loan payments had a carrying amount of $5,999,000 and $5,748,000 at December 31, 1998 and 1997, respectively. Carrying amounts and fair values of available-for-sale securities are summarized as follows as of December 31:
Amortized Unrealized Unrealized Fair Cost Gains Losses Value (dollars in thousands) 1998 U.S. Treasury securities and obligations of other U.S. Government corporations and agencies $14,503 $12 $( 3) $14,512 Mortgage-backed securities 25,241 48 (63) 25,226 Other 911 - - 911 $40,655 $60 $(66) $40,649 1997 U.S. Treasury securities and obligations of other U.S. Government corporations and agencies $8,992 $11 $(27) $8,976 Other 170 - - 170 $9,162 $11 $(27) $9,146
The amortized cost and fair value of investment securities by contractual maturities as of December 31, 1998 are shown below. Maturities may differ from contractual maturities in mortgage-backed securities because the mortgages underlying the securities may be called or prepaid without any penalties. Therefore, maturity dates for these securities are not included in the following maturity summary:
Held-to-Maturity Available-for-Sale Amortized Fair Amortized Fair Cost Value Cost Value (dollars in thousands) Due in one year or less $ - $ - $ 9,003 $ 9,000 Due after one year through five years - - 5,500 5,512 Mortgage-backed securities 17,640 17,691 25,241 25,226 Other - - 911 911 $17,640 $17,691 $40,655 $40,649
Available-for-sale securities of $14,002,000 and $20,999,000 were sold resulting in gross realized (losses) of $(9,000) and $(24,000) in 1997 and 1996, respectively. The Company did not sell available-for- sale securities in 1998. Note 4. Loans The Company's loan portfolio consisted of the following as of December 31:
1998 1997 (dollars in thousands) Real estate loans Construction $ 5,074 $ 118 Commercial 86,049 78,534 91,123 78,652 Commercial and industrial loans 40,217 44,301 Loans to individuals 11,180 10,586 Other 241 122 142,761 133,661 Deduct Unearned net loan fees and premiums (1,097) (891) Allowance for credit losses (1,524) (1,581) $140,140 $131,189
Impaired loans Information about impaired loans is as follows as of and for the years ended December 31:
1998 1997 (dollars in thousands) Impaired loans requiring a related allowance for credit losses $ 877 $1,067 Impaired loans not requiring a related allowance for credit losses 554 249 Total impaired loans $1,431 $1,316 Related allowance for loan losses $ 224 $ 278 Average balance (based on month-end balances) $1,644 $1,201 Interest income recognized $ 161 $ 125
The Company is not committed to lend additional funds to debtors whose loans have been modified due to impairment. The Company had nonaccrual loans of $1,631,000 and $2,447,000 as of December 31, 1998 and 1997, respectively. Interest income that would have been earned on such nonaccrual loans had such loans performed according to their loan terms would have been $382,000, $325,000, and $492,000 (earnings per share effect of $0.19, $0.17, and $0.25) in 1998, 1997 and 1996, respectively. Management estimates that certain nonaccrual loans, which are not classified as impaired, will ultimately be collected in full in accordance with the original terms. Loans serviced The Company services loans for others totaling $57,875,000 and $64,764,000 as of December 31, 1998 and 1997, respectively, which are not included in the accompanying consolidated balance sheets. Loan concentration The Company grants commercial, residential and consumer loans to customers, substantially all of whom are middle-market businesses or residents. The Company's business is concentrated primarily in Orange County, California, and its loan portfolio includes a significant credit exposure to the real estate industry and local economy of this area. Real estate loans accounted for approximately 64% of total loans as of December 31, 1998. Substantially all of these loans are secured by first liens with an initial loan to value ratio of generally less than 75%. Note 5. Allowance for Credit Losses and Reserve for Other Real Estate Owned Activity of the allowance for credit losses is as follows:
1998 1997 1996 (dollars in thousands) Balance, beginning $1,581 $1,369 $1,513 Provision for credit losses 100 140 205 Recoveries of amounts charged off 42 138 38 Amounts charged off (199) (66) (387) Balance, ending $1,524 $1,581 $1,369
Activity of the reserve for other real estate owned is as follows:
1998 1997 1996 (dollars in thousands) Balance, beginning $ 17 $252 $301 Provision for losses on other real estate owned - 11 160 Disposal of other real estate owned (17) (246) (209) Balance, ending $ - $ 17 $252
Note 6. Premises and Equipment, net Premises and equipment are summarized as follows as of December 31:
1998 1997 (dollars in thousands) Land $1,100 $1,100 Buildings and leasehold improvements 4,982 4,531 Furniture and equipment 3,904 3,449 9,986 9,080 Less accumulated depreciation and amortization 4,548 4,023 $5,438 $5,057
Note 7. Deposits Deposits are summarized as follows as of December 31:
1998 1997 (dollars in thousands) Noninterest-bearing demand $ 99,875 $ 93,169 Interest-bearing: Demand 113,895 91,282 Savings 13,266 11,622 Time certificates of deposit of $100,000 or more 19,092 12,087 Other time 14,206 10,632 Total deposits $260,334 $218,792
Substantially all certificates of deposit as of December 31, 1998 mature within one year. The Company had five customers with an aggregate deposit of $43,048,000 as of December 31, 1998. Note 8. Income Taxes The cumulative tax effects of the primary temporary differences are summarized as follows as of December 31:
1998 1997 (dollars in thousands) Deferred tax assets: Credit loss allowances $ 386 $ 407 Deferred compensation accruals 346 278 Interest accruals 24 95 Acquired net operating loss carryforward 80 85 Unrealized loss on available-for-sale securities 18 38 Other real estate allowance - 7 State income taxes 187 204 Total deferred tax assets 1,041 1,114 Deferred tax liability, premises and equipment 731 696 Net deferred tax assets $ 310 $ 418
The Company did not record a valuation allowance on deferred tax assets in excess of deferred tax liabilities at December 31, 1998 and 1997, as management believes that the net deferred tax assets, as of December 31, 1998 and 1997, are more likely than not to be realized. The provision for income taxes consisted of the following:
1998 1997 1996 (dollars in thousands) Current tax expense $2,059 $2,208 $1,213 Deferred tax expense (benefit) 88 (111) (78) $2,147 $2,097 $1,135
The income tax provision differs from the amount of income tax determined by applying the U.S. federal income tax rate to pretax income as follows:
1998 1997 1996 (dollars in thousands) Computed "expected" tax expense $1,917 $1,853 $1,168 Increase (decrease) in income taxes resulting from: State income taxes, net of federal tax benefit 378 397 249 Change in valuation allowance - - (165) Cash value of life insurance (82) (97) (85) Other (66) (56) (32) $2,147 $2,097 $1,135
Note 9. Other income and expense Other income consisted of the following:
1998 1997 1996 (dollars in thousands) Service charges on deposit accounts $1,194 $1,262 $1,169 Fees for other customer services 367 593 616 Gain on sale of loans 654 1,374 560 Increase in cash value of life insurance 254 219 183 Other (Note 3) 314 259 185 $2,783 $3,707 $2,713
Other expense consisted of the following:
1998 1997 1996 (dollars in thousands) Salaries, wages and employee benefits $ 6,138 $ 6,259 $ 6,098 Occupancy expense (Note 10) 1,330 1,134 1,153 Data processing expense (Note 10) 977 888 928 Furniture and equipment expense 754 704 633 Promotion expense 485 459 429 Legal and professional services 603 518 627 Insurance 260 241 182 Stationery and supplies 266 216 249 Telephone and postage 405 405 383 Other real estate owned (Note 5) 17 94 217 Other 922 858 648 $12,157 $11,776 $11,547
Note 10. Commitments, Contingencies and Subsequent Event Litigation In the normal course of business, the Company is involved with various legal proceedings. In the opinion of management, any liability resulting from such proceedings would not have a material adverse effect on the consolidated financial statements. Financial instruments with off-balance sheet risk The Company is party to financial instruments with off-balance sheet risk in the normal course of business to meet the financing needs of its customers. These financial instruments include commitments to extend credit and standby letters of credit. They involve, to varying degrees, elements of credit risk in addition to the amounts recognized on the consolidated balance sheets. Such financial instruments are recorded on the consolidated balance sheet upon funding. The Company's exposure to credit loss in the event of nonperformance by the other parties to the financial instrument for these commitments is represented by the contractual amounts of those instruments. The Company uses the same credit policies in making commitments and conditional obligations as it does for on-balance sheet instruments. The Company's exposure to off-balance sheet risk as of December 31 is summarized as follows:
1998 1997 (dollars in thousands) Commitments to extend credit $23,928 $25,087 Standby letters of credit 472 347 $24,400 $25,434
Commitments to extend credit Commitments to extend credit are agreements to lend to a customer provided that all conditions established in the contract have been met. Commitments generally have fixed expiration dates or other termination clauses and may require payment of a fee. Since many of the commitments are expected to expire without being drawn upon, the total commitment amounts do not necessarily represent future cash requirements. The Company evaluates each customer's creditworthiness on a case-by-case basis. If deemed necessary upon extension of credit, the amount of collateral obtained is based on management's credit evaluation of the counterparty. Collateral held varies, but may include accounts receivable, inventory, property and equipment, and income-producing commercial properties. The Company had undisbursed loan funds of $19,006,000 and $20,516,000 as of December 31, 1998 and 1997, respectively. Standby letters of credit Standby letters of credit are conditional commitments issued by the Company to guarantee the performance of a customer to a third party. Those guarantees are primarily issued to support public and private borrowing arrangements. The credit risk involved in issuing letters of credit is essentially the same as that involved in extending loan facilities to customers. Collateral held varies as specified above and is required in instances that the Company deems necessary. Substantially all of the standby letters of credit were collateralized at December 31, 1998. Lease commitments The Company leases certain branch facilities and equipment from nonaffiliates under operating leases expiring at various dates through December 2007. The following is a schedule of future minimum rental payments under these leases:
Amount (dollars in thousands) 1999 $ 688 2000 697 2001 704 2002 718 2003 612 Thereafter 1,684 $5,103
Rent expense under these leases and other month-to-month leases for the years ended December 31, 1998, 1997 and 1996, was $915,000, $824,000 and $790,000, respectively. Data processing commitment The Company has an existing contract with a data processing center to provide computer services through March 2001. The Company is subject to a penalty amount equal to 25% of the amounts that would have been paid to the center for the remainder of the contract term, should the Company terminate the contract prior to the expiration date. The expense under this contract for the years ended December 31, 1998, 1997 and 1996 was $977,000, $888,000 and $927,000, respectively. Subsequent event In January 1999, the Company declared a $0.15 per share dividend to stockholders of record as of the close of business on February 11, 1999, payable on March 1, 1999. Note 11. Employee Benefit Plans Stock Option Plans The Company maintains two compensatory incentive stock option plans in which options to purchase shares of the Company's common stock are granted at the Board of Directors' discretion to directors, certain management and other key personnel. The 1993 and 1997 Plans are authorized to grant a maximum of 193,106 shares and 414,250 shares of the Company's common stock, respectively. Purchase prices associated with the options are based on the fair market value of the Company's stock at the time the option is granted. The options, if not exercised, will expire 5 to 10 years from the date they were granted. Other pertinent information relating to the Plans follow:
1998 1997 1996 Under option, beginning of year 207,625 48,500 62,600 Granted 45,900 176,500 5,000 Exercised (26,742) (17,375) (19,100) Under option, end of year 226,783 207,625 48,500 Options exercisable, end of year 200,967 174,775 48,500 Available to grant, end of year 314,856 360,756 123,006 Weighted average price under option, end of year $19.69 $16.25 $6.32 Weighted average price of options exercisable, end of year $19.31 $16.12 $6.32 Weighted average price of options granted, during the year $27.50 $17.96 $9.92 Weighted average price of options exercised, during the year $6.43 $5.87 $8.67
Additional option information by Plan at December 31, 1998 is as follows:
Weighted Average Exercise Price Range Outstanding Exercisable Price 1993 Plan $ 5.79 1,050 - $ 5.79 1993 Plan $ 9.92 - $13.75 8,833 7,000 $11.58 1997 Plan $17.72 - $23.50 171,000 162,667 $18.10 1997 Plan $24.12 - $29.00 45,900 31,300 $27.50 226,783 200,967
The Company applies APB No. 25 and related Interpretations in accounting for its Plans. Accordingly, no compensation cost has been recognized. The Company has not issued any options to nonemployees. The Company's reported and pro forma net earnings and earnings per share are presented below. The pro forma amounts deduct the estimated compensation cost for the Company's stock option Plan based on the fair value at the grant dates for awards under this Plan and with the provisions of SFAS 123:
1998 1997 1996 (dollars in thousands, except per share data) Net earnings As reported $3,330 $3,198 $2,201 Pro forma 3,165 2,691 2,195 Basic earnings per share As reported $1.67 $1.63 $1.13 Pro forma 1.59 1.37 1.12 Diluted earnings per share As reported $1.64 $1.60 $1.13 Pro forma 1.55 1.35 1.12
The pro forma compensation cost for the fair value of the stock options granted was estimated using the Black-Scholes model. The assumptions used in the model by year are as follows:
1998 1997 1996 Expected volatility 12% to 31% 15% to 20% 12% to 15% Dividends as a percentage of stock price 2.6% 1.8% 2.8% Expected lives in years 4 4 4 Risk-free interest rates 4.5% 5.5% 5.4% Weighted average fair value per share of stock options granted $4.65 $4.69 $2.13
Salary deferral 401(k) plan The Company has a salary deferral 401(k) plan for all employees who have completed one year of service. The Bank contributed discretionary matching funds of $102,000 to the Plan in 1998, 1997 and 1996, respectively. Contingency contract The Company has contingency contracts with its Chief Executive Officer and Chief Financial Officer. The contract provides for a monthly payment of $13,000 over 179 months in the event that the Company experiences a merger, acquisition, or other act wherein they are not retained in similar positions with the surviving Company. Note 12. Loans and Other Transactions with Related Parties Stockholders of the Company, and officers and directors, including their families and companies of whom they are principal owners, are considered to be related parties. These related parties were loan customers of, and had other transactions with, the Company in the ordinary course of business. In management's opinion, these loans and transactions were on the same terms as those for comparable loans and transactions with nonrelated parties. The activity in such loans is as follows:
1998 1997 (dollars in thousands) Balance, beginning $2,479 $2,906 New loans 850 774 Repayments (1,126) (1,201) Balance, ending $2,203 $2,479
None of these loans are classified, past due, nonaccrual, or restructured to provide a reduction or deferral of interest or principal because of deterioration in the financial position of the borrower. Note 13. Regulatory Capital Requirements The subsidiary Bank is subject to various regulatory capital requirements administered by the federal banking agencies. Failure to meet minimum capital requirements can initiate certain mandatory, and possibly additional discretionary, actions by regulators that, if undertaken, could have a direct material effect on the Bank's financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the Bank must meet specific capital guidelines that involve qualitative measures of the Bank's assets, liabilities, and certain off-balance sheet items as calculated under regulatory accounting practices. The Bank's capital amounts and classification are also subject to qualitative judgments by the regulators about components, risk weightings, and other factors. Quantitative measures established by regulation to ensure capital adequacy require the Bank to maintain minimum amounts and ratios (set forth in the table below) of total and Tier I capital (as defined in the regulations) to risk-weighted assets (as defined), and of Tier I capital to average assets (as defined). Management believes that the Bank meets all capital adequacy requirements to which it is subject as of December 31, 1998. As of June 30, 1997, the most recent notification from the Office of the Comptroller of the Currency categorized the Bank as well capitalized under the regulatory framework for prompt corrective action. To be categorized as well capitalized the Bank must maintain minimum total risk-based, Tier I risk-based, Tier I leverage ratios as set forth in the table. There are no conditions or events occurring since that management believes have changed the institution's category. The Bank's actual capital amounts and ratios are presented in the following table:
To Be Well Capitalized Under For Capital Prompt Corrective Actual Adequacy Purposes Action Provisions Amount Ratio Amount Ratio Amount Ratio (dollars in thousands) As of December 31, 1998: Total Capital (to Risk Weighted Assets) $24,484 13.7% $14,314 8.0% $17,893 10.0% Tier I Capital (to Risk Weighted Assets) 22,960 12.8% 7,157 4.0% 10,736 6.0% Tier I Capital (to Average Assets) 22,960 8.4% 10,942 4.0% 13,678 5.0% As of December 31, 1997: Total Capital (to Risk Weighted Assets) $22,563 13.9% $12,962 8.0% $16,202 10.0% Tier I Capital (to Risk Weighted Assets) 20,982 13.0% 6,481 4.0% 9,721 6.0% Tier I Capital (to Average Assets) 20,982 9.0% 9,368 4.0% 11,710 5.0%
The Company's capital amounts and ratios are substantially the same as the amounts presented above. Note 14. Consolidated Statements of Cash Flows Information
1998 1997 1996 (dollars in thousands) Supplemental Cash Flow Information Cash payments for Interest $4,142 $3,318 $3,573 Income taxes $2,484 $2,113 $1,100 Non-cash investing activities Loans originated by the Company to finance the sale of other real estate owned $ - $1,023 $ 100 Loans foreclosed on by the Company $ 32 $ 145 $ 902
Note 15. Fair Values of Financial Instruments The fair values of the Company's financial instruments are as follows as of December 31:
1998 1997 Carrying Fair Carrying Fair Amount Value Amount Value (dollars in thousands) Financial Assets Cash and cash equivalents $ 74,931 $ 74,931 $ 81,147 $ 81,147 Securities 58,289 58,340 18,183 18,118 Loans, net 140,140 141,453 131,189 130,711 Accrued interest receivable 1,212 1,212 985 985 Financial Liabilities, deposits 260,334 260,222 218,792 218,700
Management uses its best judgment in estimating the fair value of the Company's financial instruments; however, there are inherent weaknesses in any estimation technique. Therefore, for substantially all financial instruments, the fair value estimates presented herein are not necessarily indicative of the amounts the Company could have realized in a sales transaction at either December 31, 1998 or 1997. The estimated fair value amounts for 1998 and 1997 have been measured as of their respective year ends, and have not been reevaluated or updated for purposes of these consolidated financial statements subsequent to those respective dates. As such, the estimated fair values of these financial instruments subsequent to the respective reporting dates may be different than the amounts reported at each year-end. The information in this Note should not be interpreted as an estimate of the fair value of the entire Company since a fair value calculation is only required for a limited portion of the Company's assets and liabilities. This disclosure of fair value amounts does not include the fair values of any intangibles, including core deposit intangibles or mortgage servicing rights. Due to the wide range of valuation techniques, assumptions used and the degree of subjectivity used in making the estimate, comparisons between the Company's disclosures and those of other banks may not be meaningful. The Company used the following methods and assumptions in estimating the fair value of its financial instruments: Cash and cash equivalents The carrying amounts for cash held, due from banks, interest bearing deposits and federal funds sold approximate their fair values. Securities Fair values for securities are based on quoted market prices when available. For certain mortgage-backed securities, the Company utilizes a broker to determine fair value. This broker obtains estimates of fair value from up to three pricing services that estimate fair value through a mapping process to other mortgage pools adjusted for interest rate, maturity, etc. There is no guarantee that the prices obtained for these methods can be realized upon ultimate sale of such securities. Loans The carrying values of variable-rate loans that reprice frequently and that have not experienced significant changes in credit risk approximate their fair values. At December 31, 1998 and 1997, variable rate loans comprised approximately 64% and 72%, respectively, of the loan portfolio. Fair values for all other loans are estimated based on discounted cash flows, using interest rates currently being offered for loans with similar terms to borrowers with similar credit quality. Prepayments prior to the repricing date are not expected to be significant. Loans are expected to be held-to-maturity and any unrealized gains or losses are not expected to be realized. Off-balance sheet instruments Fair values for off-balance sheet instruments (guarantees, letters of credit and lending commitments) are based on quoted fees currently charged to enter into similar agreements, taking into account the remaining terms of the agreements and the counterparties' credit standing. Deposit liabilities Fair values for savings and demand deposits equal their carrying amounts. The carrying amounts for variable-rate money market accounts approximate their fair values. Fair values for fixed-rate certificates of deposit are estimated using a discounted cash flow calculation that applies interest rates currently being offered on certificates to a schedule of aggregate expected monthly maturities on time deposits. Early withdrawals of fixed-rate certificates of deposit are not expected to be significant. Accrued interest receivable and payable The fair values of both accrued interest receivable and payable approximate their carrying amounts. Commitments The estimated fair value of fee income on letters of credit at December 31, 1998 and 1997 is insignificant. Interest rate risk The Company assumes interest rate risk (the risk that general interest rate levels will change) as a result of its normal operations. As a result, fair value of the Company's financial instruments will change when interest rate levels change and that change may be either favorable or unfavorable to the Company. Management attempts to match maturities of assets and liabilities to the extent believed necessary to minimize interest rate risk. However, borrowers with fixed rate obligations are less likely to prepay in a rising rate environment and more likely to prepay in a falling rate environment. Conversely, depositors who are receiving fixed rates are more likely to withdraw funds before maturity in a rising rate environment and less likely to do so in a falling rate environment. Management monitors rates and maturities of assets and liabilities and attempts to minimize interest rate risk by adjusting terms of new loans and deposits and by investing in securities with terms that mitigate the Company's overall interest rate risk. Note 16. Parent Company Only Condensed Statements Condensed Balance Sheets
1998 1997 (dollars in thousands) Assets Cash $ 616 $ 482 Investment in subsidiary 22,929 20,926 Other assets 178 178 $23,723 $21,586 Stockholders' Equity $23,723 $21,586
1998 1997 1996 (dollars in thousands) Condensed Statements of Earnings and Comprehensive Income Operating income, dividends from subsidiary $1,390 $ 823 $ 718 Expenses, professional fees (38) (39) (40) Earnings before equity in undistributed earnings of subsidiary 1,352 784 678 Equity in undistributed earnings of subsidiary 1,978 2,414 1,523 Net earnings 3,330 3,198 2,201 Other comprehensive income from subsidiary 25 67 46 Comprehensive income $3,355 $3,265 $2,247 Condensed Statements of Cash Flows Cash Flows from Operating Activities Net earnings $3,330 $3,198 $2,201 Adjustments to reconcile net earnings to net cash provided by operating activities: Equity in undistributed earnings of subsidiary (1,978) (2,414) (1,523) Net cash provided by operating activities 1,352 784 678 Cash Flows from Financing Activities Proceeds from exercise of stock options 172 188 166 Dividends paid (1,390) (823) (718) Net cash (used in) financing activities (1,218) (635) (552) Increase in cash and cash equivalents 134 149 126 Cash and cash equivalents Beginning 482 333 207 Ending $ 616 $ 482 $ 333
EX-27 2
9 0000801443 ORANGE NATIONAL BANCORP 1000 YEAR DEC-31-1998 JAN-01-1998 DEC-31-1998 17541 0 57390 0 40649 17640 17691 141664 1524 285862 260334 0 1805 0 0 0 8036 15687 285862 14633 1602 2881 19116 4165 4165 14951 100 0 12157 5477 5477 0 0 3330 1.67 1.64 8.63 1631 76 0 182 1581 199 42 1524 1524 0 0
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