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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
[X] Quarterly Report PURSUANT TO Section 13 or 15(d) of the SECURITIES
Exchange Act of 1934
For the quarterly period ended June 30, 2002
or
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period from ______ to ______
Commission file number: 0-19231
REDWOOD EMPIRE BANCORP
(Exact name of registrant as specified in its charter)
California 68-0166366
(State or other jurisdiction of (IRS Employer
incorporation or organization) Identification No.)
111 Santa Rosa Avenue, Santa Rosa, California 95404-4905
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (707) 573-4800
Indicate by check mark whether the Registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes X No _
At August 7, 2002, there were 3,489,840 shares of the Registrant's common stock
outstanding.
This page is page 1 of 40 pages.
REDWOOD EMPIRE BANCORP
AND
SUBSIDIARIES
Index
Page
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
Consolidated Statements of Operations
Three and Six Months Ended June 30, 2002 and 2001.............................3
Consolidated Balance Sheets
June 30, 2002 and December 31, 2001...........................................5
Consolidated Statements of Cash Flows
Six Months Ended June 30, 2002 and 2001.......................................6
Notes to Consolidated Financial Statements....................................8
Item 2. Management's Discussion and Analysis
of Financial Condition and Results of Operations.............................13
Item 3. Quantitative and Qualitative Disclosures
About Market Risk............................................................35
PART II. OTHER INFORMATION
Item 2. Changes in Securities and Use of Proceeds......................................38
Item 4. Submission of Matters to a Vote of Security Holders............................38
Item 6. Exhibits and Reports on Form 8-K...............................................38
SIGNATURES.....................................................................................40
This page is page 2 of 40 pages.
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
REDWOOD EMPIRE BANCORP AND SUBSIDIARIES
Consolidated Statements of Operations
(dollars in thousands except per share data)
(unaudited)
Three Months Ended Six Months Ended
June 30, June 30,
2002 2001 2002 2001
--------------------------------------------------------
Interest income:
Interest and fees on loans $6,486 $6,967 $12,703 $14,356
Interest on investment securities 1,128 1,212 2,216 2,599
Interest on federal funds sold 120 263 224 540
--------------------------------------------------------
Total interest income 7,734 8,442 15,143 17,495
Interest expense:
Interest on deposits 2,132 3,333 4,294 6,933
Interest on other borrowings 279 283 537 435
--------------------------------------------------------
Total interest expense 2,411 3,616 4,831 7,368
--------------------------------------------------------
Net interest income 5,323 4,826 10,312 10,127
Provision for loan losses --- --- --- ---
--------------------------------------------------------
Net interest income after provision for loan losses 5,323 4,826 10,312 10,127
Noninterest income:
Service charges on deposit accounts 308 266 622 535
Merchant draft processing, net 1,197 1,019 2,376 1,832
Loan servicing income 81 80 135 157
Net realized gains on
investment securities available for sale --- --- 35 ---
Other income 207 187 443 393
--------------------------------------------------------
Total noninterest income 1,793 1,552 3,611 2,917
Noninterest expense:
Salaries and employee benefits 2,302 1,989 4,348 4,221
Occupancy and equipment expense 533 503 1,057 992
Other 1,069 940 2,237 1,869
--------------------------------------------------------
Total noninterest expense 3,904 3,432 7,642 7,082
--------------------------------------------------------
Income before income taxes 3,212 2,946 6,281 5,962
Provision for income taxes 1,187 1,178 2,309 2,407
--------------------------------------------------------
Net income $2,025 $1,768 $3,972 $3,555
========================================================
Total comprehensive income $2,697 $1,754 $4,409 $4,009
========================================================
(Continued)
This page is page 3 of 40 pages.
REDWOOD EMPIRE BANCORP AND SUBSIDIARIES
Consolidated Statements of Operations
(dollars in thousands except per share data)
(unaudited)
(Continued)
Three Months Ended Six Months Ended
June 30, June 30,
2002 2001 2002 2001
--------------------------------------------------------------
Basic earnings per common share:
Net income $.58 $.49 $1.14 $.92
Weighted average shares - basic 3,491,000 3,621,000 3,495,000 3,850,500
Diluted earnings per common share:
Net income $.56 $.47 $1.10 $.90
Weighted average shares - diluted 3,617,000 3,733,500 3,624,000 3,967,500
See Notes to Consolidated Financial Statements.
(Concluded)
This page is page 4 of 40 pages.
REDWOOD EMPIRE BANCORP AND SUBSIDIARIES
Consolidated Balance Sheets
(dollars in thousands)
June 30, December 31,
2002 2001
----------------- -----------------
(unaudited)
Assets:
Cash and due from banks $22,714 $19,596
Federal funds sold 34,863 4,653
----------------- -----------------
Cash and cash equivalents 57,577 24,249
Investment securities:
Held to maturity (fair value of $16,797 and $17,635) 16,326 17,402
Available for sale, at fair value (amortized cost of $57,484 and
$46,433) 59,227 47,573
----------------- ----------------
Total investment securities 75,553 64,975
Mortgage loans held for sale 313 ---
Loans:
Residential real estate mortgage 93,698 101,175
Commercial real estate mortgage 140,020 121,456
Commercial 69,464 70,438
Real estate construction 43,152 46,501
Installment and other 12,223 12,567
Less net deferred loan fees (695) (488)
----------------- -----------------
Total portfolio loans 357,862 351,649
Less allowance for loan losses (7,586) (7,580)
----------------- -----------------
Net loans 350,276 344,069
Premises and equipment, net 2,960 2,636
Mortgage servicing rights, net 4 4
Cash surrender value of life insurance 3,530 3,443
Other assets and interest receivable 10,346 9,366
----------------- -----------------
Total assets $500,559 $448,742
================= =================
Liabilities and Shareholders' equity:
Deposits:
Noninterest bearing demand deposits $106,578 $86,969
Interest-bearing transaction accounts 120,020 121,457
Time deposits one hundred thousand and over 91,816 112,638
Other time deposits 126,737 76,348
----------------- -----------------
Total deposits 445,151 397,412
Short-term borrowings 5,823 3,870
Trust preferred securities 10,000 10,000
Other liabilities and interest payable 11,038 10,773
----------------- -----------------
Total liabilities 472,012 422,055
Shareholders' equity:
Preferred stock, no par value; authorized 2,000,000 shares;
none issued and outstanding --- ---
Common stock, no par value; authorized 10,000,000 shares;
issued and outstanding: 3,494,840 and 3,530,135 shares 12,193 12,373
Retained earnings 15,256 13,653
Accumulated other comprehensive income, net of tax 1,098 661
----------------- -----------------
Total shareholders' equity 28,547 26,687
----------------- -----------------
Total liabilities and shareholders' equity $500,559 $448,742
================= =================
See Notes to Consolidated Financial Statements.
This page is page 5 of 40 pages.
REDWOOD EMPIRE BANCORP AND SUBSIDIARIES
Consolidated Statements of Cash Flows
(in thousands)
(unaudited)
Six Months Ended
June 30,
2002 2001
---------------------------------
Cash flows from operating activities:
Net income $3,972 $3,555
Adjustments to reconcile net income to net cash
from operating activities:
Depreciation and amortization, net 45 33
Loans originated for sale (608) ---
Proceeds from sale of loans held for sale 300 ---
Net realized gains on securities available for sale (35) ---
Net realized gains on sale of loans held for sale (5) ---
Change in other assets and interest receivable (1,240) (467)
Change in other liabilities and interest payable 265 395
Other, net --- 30
---------------------------------
Total adjustments (1,278) (9)
---------------------------------
Net cash from operating activities 2,694 3,546
Cash flows from investing activities:
Net change in loans (5,952) (10,134)
Purchases of investment securities available for sale (24,255) (18,758)
Purchases of investment securities held to maturity (358) (1,326)
Proceeds from sales of investment securities available for sale 5,079 ---
Maturities of investment securities available for sale 8,101 19,965
Maturities or calls of investment securities held to maturity 1,561 11,256
Purchases of premises and equipment, net (685) (267)
Proceeds from sale of other real estate owned --- 512
---------------------------------
Net cash from investing activities (16,509) 1,248
Cash flows from financing activities:
Net change in noninterest bearing demand deposits 19,609 (2,921)
Net change in interest bearing transaction accounts (1,437) (4,595)
Net change in time deposits 29,567 (1,017)
Net change in short-term borrowings 1,953 1,842
Issuance of trust preferred securities --- 10,000
Repurchases of common stock (1,146) (14,451)
Cash dividends paid (1,403) (371)
---------------------------------
Net cash from financing activities 47,143 (11,513)
---------------------------------
Net change in cash and cash equivalents 33,328 (6,719)
Cash and cash equivalents at beginning of period 24,249 43,927
---------------------------------
Cash and cash equivalents at end of period $57,577 $37,208
=================================
(Continued)
This page is page 6 of 40 pages.
REDWOOD EMPIRE BANCORP AND SUBSIDIARIES
Consolidated Statements of Cash Flows
(in thousands)
(unaudited)
(Continued)
Six Months Ended
June 30,
2002 2001
---------------- ---------------
Supplemental Disclosures:
Cash paid during the period for:
Interest expense $4,701 $6,965
Income taxes 2,393 2,535
See Notes to Consolidated Financial Statements.
(Concluded)
This page is page 7 of 40 pages.
REDWOOD EMPIRE BANCORP AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Unaudited)
1. Basis of Presentation
The accompanying unaudited consolidated financial statements should be read
in conjunction with the consolidated financial statements and related notes
contained in Redwood Empire Bancorp's 2001 Annual Report to Shareholders. The
statements include the accounts of Redwood Empire Bancorp ("Redwood," and with
its subsidiaries, the "Company"), and its wholly owned subsidiaries, National
Bank of the Redwoods ("NBR" or the "Bank") and Redwood Statutory Trust I
("RSTI"). All significant inter-company balances and transactions have been
eliminated. The financial information contained in this report reflects all
adjustments, which, in the opinion of management, are necessary for a fair
presentation of the results of the interim periods. All such adjustments are of
a normal recurring nature. The results of operations and cash flows for the six
months ended June 30, 2002 are not necessarily indicative of the results that
may be expected for the year ending December 31, 2002.
Certain reclassifications were made to prior period financial statements to
conform to current period presentations.
For purposes of reporting cash flows, cash and cash equivalents include
cash on hand, amounts due from banks, federal funds sold and repurchase
agreements with original maturities of 90 days or less. Federal funds sold and
repurchase agreements are generally for one day periods.
2. Earnings per Share
Basic earnings per share excludes dilution and is computed by dividing
income available to common shareholders by the weighted average number of common
shares outstanding for the period. Diluted earnings per share reflects the
potential dilution that could occur if securities or other contracts to issue
common stock were exercised or converted into common stock or resulted in the
issuance of common stock that then shared in the earnings of the Company.
On September 20, 2001, the Company announced a three-for-two stock split of
its outstanding shares of common stock. Earnings per share information for all
periods presented give effect to the stock split.
This page is page 8 of 40 pages.
The following table reflects the Company's pertinent earnings per share
data. The weighted average shares outstanding have been restated to give effect
to the 2001 three-for-two stock split.
Three Months Ended
June 30,
2002 2001
-------------------------- -------------------------
Basic Diluted Basic Diluted
------------ ------------- ----------- -------------
(in thousands, except per share data)
Earnings per common share:
Net income $2,025 $2,025 $1,768 $1,768
Earnings per share .58 .56 .49 .47
Weighted average common shares outstanding 3,491,000 3,617,000(1) 3,621,000 3,733,500(1)
1) The weighted average common shares outstanding include the dilutive effects
of common stock options of 126,000 and 112,500 for the three months ended
June 30, 2002 and June 30, 2001.
Six Months Ended
June 30,
2002 2001
-------------------------- -------------------------
Basic Diluted Basic Diluted
------------ ------------- ----------- -------------
(in thousands, except per share data)
Earnings per common share:
Net income $3,972 $3,972 $3,555 $3,555
Earnings per share 1.14 1.10 .92 .90
Weighted average common shares outstanding 3,495,000 3,624,000(1) 3,850,500 3,967,500(1)
1) The weighted average common shares outstanding include the dilutive effects
of common stock options of 129,000 and 117,000 for the six months ended
June 30, 2002 and June 30, 2001.
3. Comprehensive Income
The Company's total comprehensive earnings presentation is as follows:
Three Months Ended Six Months Ended
June 30, June 30,
2002 2001 2002 2001
------------------------------------------------
(in thousands)
Net income as reported $2,025 $1,768 $3,972 $3,555
Other comprehensive income (net of tax):
Change in unrealized holding
gain/(losses)
on available for sale securities 672 (14) 459 454
Reclassification adjustment --- --- (22) ---
----------------------- -----------------------
Total comprehensive income $2,697 $1,754 $4,409 $4,009
======================= =======================
This page is page 9 of 40 pages.
4. Subsequent Event - Common Stock Dividend
On July 8, 2002, the Board of Directors declared a quarterly cash dividend
of 20 cents per share on the Company's Common Stock. The dividend was payable on
July 30, 2002 to shareholders of record on July 18, 2002.
5. Business Segments
The Company operates in two principal business segments: core community
banking and merchant card services. The Company's core community banking segment
includes commercial, commercial real estate, construction and permanent
residential lending along with all treasury and depository activities. The
Company's merchant card services industry group provides credit card settlement
services for approximately 48,000 merchants throughout the United States.
The condensed income statements and average assets of the individual
segments are set forth in the table below. The information in this table is
derived from the internal management reporting system used by management to
measure the performance of the segments and the Company. The management
reporting system assigns balance sheet and income statement items to each
segment based on internal management accounting policies. Net interest income is
determined by the Company's internal funds transfer pricing system, which
assigns a cost of funds or credit for funds to assets or liabilities based on
their type, maturity or repricing characteristics. Noninterest income and
expense directly attributable to a segment are assigned to that business. Total
other operating expense, including indirect costs, such as overhead, operations
and technology expense, are allocated to the segments based on an evaluation of
costs for product or data processing. All amounts other than allocations of
interest and indirect costs are derived from third parties. The provision for
credit losses is allocated based on the required reserves and the net
charge-offs for each respective segment. The Company allocates depreciation
expense without allocating the related depreciable asset to that segment.
Summary financial data by business segment for the indicated periods is as
follows:
For the quarter ended June 30, 2002
-----------------------------------------------
Merchant
Community Card Total
Banking Services Company
-----------------------------------------------
(in thousands)
Total interest income $7,734 $ --- $7,734
Total interest expense 2,395 16 2,411
Interest income/(expense) allocation (176) 176 ---
-----------------------------------------------
Net interest income 5,163 160 5,323
Provision for loan losses --- --- ---
Total other operating income 596 1,197 1,793
Total other operating expense 3,261 643 3,904
-----------------------------------------------
Income before income taxes 2,498 714 3,212
Provision for income taxes 923 264 1,187
-----------------------------------------------
Net income $1,575 $450 $2,025
===============================================
Total Average Assets $455,964 $27,906 $483,870
===============================================
This page is page 10 of 40 pages.
For the quarter ended June 30, 2001
----------------------------------------------
Merchant
Community Card Total
Banking Services Company
----------------------------------------------
(in thousands)
Total interest income $8,442 $ --- $8,442
Total interest expense 3,614 2 3,616
Interest income/(expense) allocation (263) 263 ---
----------------------------------------------
Net interest income 4,565 261 4,826
Provision for loan losses --- --- ---
Total other operating income 533 1,019 1,552
Total other operating expense 2,896 536 3,432
----------------------------------------------
Income before income taxes 2,202 744 2,946
Provision for income taxes 880 298 1,178
----------------------------------------------
Net income $1,322 $446 $1,768
==============================================
Total Average Assets $418,208 $25,653 $443,861
==============================================
For the six months ended June 30, 2002
----------------------------------------------
Merchant
Community Card Total
Banking Services Company
----------------------------------------------
(in thousands)
Total interest income $15,143 $ --- $15,143
Total interest expense 4,813 18 4,831
Interest income/(expense) allocation (332) 332 ---
----------------------------------------------
Net interest income 9,998 314 10,312
Provision for loan losses --- --- ---
Total other operating income 1,235 2,376 3,611
Total other operating expense 6,349 1,293 7,642
----------------------------------------------
Income before income taxes 4,884 1,397 6,281
Provision for income taxes 1,797 512 2,309
----------------------------------------------
Net income $3,087 $885 $3,972
==============================================
Total Average Assets $449,566 $27,310 $476,876
==============================================
For the six months ended June 30, 2001
----------------------------------------------
Merchant
Community Card Total
Banking Services Company
----------------------------------------------
(in thousands)
Total interest income $17,495 $ --- $17,495
Total interest expense 7,363 5 7,368
Interest income/(expense) allocation (574) 574 ---
----------------------------------------------
Net interest income 9,558 569 10,127
Provision for loan losses --- --- ---
Total other operating income 1,085 1,832 2,917
Total other operating expense 5,999 1,083 7,082
----------------------------------------------
Income before income taxes 4,644 1,318 5,962
Provision for income taxes 1,875 532 2,407
----------------------------------------------
Net income $2,769 $786 $3,555
==============================================
Total Average Assets $418,849 $25,125 $443,974
==============================================
This page is page 11 of 40 pages.
6. Common Stock Repurchases and Trust Preferred Issuance
In January and February 2001, the Company's Board of Directors authorized
the repurchase of up to 10% of the Company's total shares outstanding, or
427,500 shares in January 2001 and 385,500 shares in February 2001, as adjusted
for the three-for-two stock split announced September 20, 2001, of which all
shares have been repurchased. In August 2001, the Company announced a third
authorization to repurchase an additional 355,500 shares, as adjusted for the
three-for-two stock split announced September 20, 2001. To date, 102,686 shares
have been repurchased, as adjusted for the three-for-two stock split announced
September 20, 2001. Under the repurchase program, the Company plans to purchase
shares from time to time on the open market and/or in privately negotiated
transactions. The first two repurchase authorizations were funded in part with
proceeds received from a $10,000,000 pooled trust preferred securities offering
concluded on February 22, 2001. The financing, which qualifies for tier 1
capital treatment, for up to 25% of total tier 1 capital, bears an interest rate
of 10.20% and is due in 30 years. Debt issuance costs, which amounted to
approximately $300,000, are being amortized over the life of the offering.
7. Real Estate Investment Trust
On January 15, 2002, NBR formed NBR Real Estate Investment Trust, a
Maryland Real Estate Investment Trust. The entity was formed to hold NBR's real
estate secured loans and to better organize NBR's marketing and origination of
real estate secured lending.
8. New Accounting Pronouncements
The Financial Accounting Standards Board (FASB) recently issued Statement
of Financial Accounting Standards (SFAS) No. 145 and No. 146. SFAS No. 145
applies for years beginning after May 14, 2002 and may be adopted sooner. SFAS
No. 145 covers extinguishments of debt and leases, and includes some minor
technical corrections. Under previous accounting guidance, gains or losses from
extinguishments of debt were always treated as extraordinary items. Under SFAS
No. 145 they will no longer be considered extraordinary, except under very
limited conditions. Upon adoption of SFAS No. 145, any prior gains and losses
from extinguishments of debt must be reclassified as ordinary gains and losses.
Under SFAS No. 145, if a capital lease is modified to become an operating lease,
it will be accounted for as a sale-leaseback, by following the accounting
guidance of SFAS No. 98, instead of being accounted for as a new lease. SFAS No.
146 covers accounting for costs associated with exit or long-lived asset
disposal activities, such as restructurings, consolidation or closing of
facilities, lease termination costs or employee relocation or severance costs.
SFAS No. 146 replaces Emerging Issues Task Force (EITF) 94-3, and is to be
applied prospectively to exit or disposal activities initiated after December
31, 2002, and may be adopted sooner. A company may not restate its previously
issued financial statements. SFAS No. 146 requires exit or long-lived asset
disposal costs to be recognized as an expense when the liability is incurred and
can be measured at fair value, rather than at the date of making a commitment to
an exit or disposal plan. Management does not expect the effects of the future
adoptions of SFAS No.
This page is page 12 of 40 pages.
145 and SFAS No. 146 to be material to the Company's consolidated financial
position or results of operations.
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
Forward-Looking Information
This Quarterly Report on Form 10-Q includes forward-looking information
which is subject to the "safe harbor" created by Section 27A of the Securities
Act of 1933, as amended, and Section 21E of the Securities Act of 1934, as
amended. These forward-looking statements (which involve the Company's plans,
beliefs and goals, refer to estimates, projections or expectations or use
similar terms) involve certain risks and uncertainties that could cause actual
results to differ materially from those in the forward-looking statements. Such
risks and uncertainties include, but are not limited to, the following factors
(many of which are beyond the Company's ability to control):
o Competitive pressure in the banking industry and changes in the
regulatory and legislative environment.
o Changes in the interest rate environment and volatility of rate
sensitive loans and deposits.
o A decline in the health of the economy nationally or regionally which
could reduce the demand for loans or reduce the value of real estate
collateral securing most of the Company's loans or reduce the volume
of the Company's merchant credit card processing business.
o Uncertainty regarding the economic outlook resulting from the
terrorist attacks on September 11, 2001.
o Credit quality deterioration, which could cause an increase in the
provision for loan losses.
o Dividend restrictions.
o Regulatory discretion.
o Material losses in the Company's merchant credit card processing
business from merchant or card holder fraud or merchant business
failure and the ability of the Company to comply with the rules and
regulations of the major credit card associations, such as Visa and
Mastercard, as described under "Certain Important Considerations for
Investors" in this report.
o Asset/liability repricing risks and liquidity risks.
o Changes in the securities markets.
This page is page 13 of 40 pages.
o A decline in the health of the Northern California economy as a result
of shortages of electrical power or increases in energy costs.
o Certain operational risks involving data processing systems or fraud.
Any forward-looking statements made by the Company are intended to provide
investors with additional information with which they may assess the Company's
future potential. All forward-looking statements are based on assumptions about
an uncertain future and are based on information available at the date such
statements are issued. The Company undertakes no obligation to revise or
publicly release the results of any revision to these forward-looking
statements. For additional information concerning risks and uncertainties
related to the Company and its operations, please refer to the Company's Annual
Report on Form 10-K for the year ended December 31, 2001 and "Certain Important
Considerations for Investors" herein.
The following sections discuss significant changes and trends in financial
condition, capital resources and liquidity of the Company from December 31, 2001
to June 30, 2002. Significant changes and trends in the Company's results of
operations for the three and six months ended June 30, 2002, compared to the
same period in 2001, are also discussed.
Summary of Financial Results
The Company reported net income of $2,025,000 ($.56 per diluted share) for
the three months ended June 30, 2002 as compared to $1,768,000 ($.47 per diluted
share) for the same period in 2001, an increase of $257,000 in net income or
15%. This increase is due to an increase of $241,000 in noninterest income and
an increase of $497,000 in net interest income, partially offset by an increase
of $472,000 in noninterest expense. In addition, net income increased due to a
decline in the Company's effective tax rate from 39.99% for the quarter ended
June 30, 2001 to 36.96% for the quarter ended June 30, 2002. For further
information, see "Income Taxes" in this section.
Net income for the six months ended June 30, 2002 was $3,972,000 ($1.10 per
diluted share) as compared to $3,555,000 ($.90 per diluted share) for the same
period in 2001, an increase of $417,000 in net income or 12%. This increase is
due to an increase of $694,000 in noninterest income and an increase of $185,000
in net interest income, partially offset by an increase of $560,000 in
noninterest expense.
On September 20, 2001, the Company announced a three-for-two stock split of
its outstanding shares of common stock. Earnings per share information for all
periods presented give effect to the stock split.
This page is page 14 of 40 pages.
Net Interest Income
Net interest income increased from $4,826,000 in the second quarter of 2001
to $5,323,000 in the second quarter of 2002, which represents an increase of
$497,000 or 10%. The increase in net interest income was driven by an increase
in average earning assets of $38,282,000 from $415,645,000 for the quarter ended
June 30, 2001 to $453,927,000 for the quarter ended June 30, 2002. The net
interest margin for the second quarter of 2002 also improved to 4.70% from 4.66%
one year ago.
Net interest income for the six months ended June 30, 2002 was $10,312,000,
which represents an increase of $185,000 when compared to the same period one
year ago. The Company's net interest margin decreased to 4.64% for the six
months ended June 30, 2002, as compared to 4.91% for the six months ended June
30, 2001. The decline in net interest margin during the six-month period of 2002
is due to the lower interest rate environment and the full six month impact of
the Company's February 22, 2001 trust preferred debt financing. For further
discussion of this matter, see 'Trust Preferred Securities' in this section.
For the three months ended June 30, 2002, yield on earning assets decreased
to 6.83% from 8.15% for the same period one year ago. The decrease in yield on
earning assets is due to a decline in the general interest rate environment.
Despite the decline in interest rates, average portfolio loans increased
$32,509,000 or 10%, when compared to the same quarter in 2001. Average
commercial real estate loans increased $29,196,000 or 29% and average
installment and other loans increased $3,372,000 or 33% for the three months
ended June 30, 2002 as compared to the three months ended June 30, 2001.
For the six months ended June 30, 2002, yield on earning assets decreased
to 6.82% as compared to 8.48% for the six months ended June 30, 2001. While the
Company has seen average earning assets grow to $447,790,000 for the six months
ended June 30, 2002, as compared to $416,066,000 for the six months ended June
30, 2001, the decline in yield on earning assets is attributable to the decline
in the general interest rate environment. Average portfolio loans increased
$31,065,000 or 10% when compared to the same period in 2001. Average commercial
real estate loans increased $26,940,000 or 27% and average installment and other
loans increased $4,241,000 or 45% for the six months ended June 30, 2002 as
compared to the six months ended June 30, 2001.
Yield paid on interest bearing liabilities decreased to 2.78% and 2.82% for
the three and six months ended June 30, 2002 as compared to 4.51% and 4.65% for
the same periods one year ago. This decline is attributable to a lower interest
rate environment as discussed above.
With the increase in average earning assets in the first six months of
2002, the Company's funding levels also increased as average interest bearing
liabilities increased $25,390,000 or 8% as compared to the same period one year
ago. The average balance of time deposits increased $21,789,000 during the first
six months of 2002 as compared to the same period one year ago. The growth in
time deposits in 2002 is a result of the Company's efforts to fund earning asset
growth and build its deposit portfolio. In addition to growth in interest
bearing deposits, average non interest bearing demand deposits increased
$11,684,000 or 13% for the quarter ended June 30, 2002 when compared to the same
quarter one year ago.
This page is page 15 of 40 pages.
The following is an analysis of the Company's net interest margin for the
indicated periods:
Three months ended Three months ended
June 30, 2002 June 30, 2001
------------------------------------- ------------------------------------
Average % Average %
(dollars in thousands) Balance Interest Yield/Rate Balance Interest Yield/Rate
------------------------------------- ------------------------------------
Commercial loans $70,320 $1,204 6.87% $73,152 $1,664 9.12%
Real estate-mortgage loans 93,107 1,673 7.21 93,736 1,923 8.23
Real estate-commercial loans 131,313 2,542 7.76 102,117 2,263 8.89
Construction loans 43,499 902 8.32 40,294 934 9.30
Installment and other 13,743 163 4.76 10,371 183 7.08
Deferred loan fees (659) --- --- (856) --- ---
----------------------- ----------------------
Portfolio loans 351,323 6,484 7.40 318,814 6,967 8.77
Mortgage loans held for sale 147 2 5.46 --- --- ---
Investments 76,050 1,128 5.95 74,546 1,212 6.52
Federal funds sold 26,407 120 1.82 22,285 263 4.73
----------------------- ----------------------
Total earning assets (1) $453,927 7,734 6.83 $415,645 8,442 8.15
============= =============
Interest bearing transaction
accounts $122,311 $446 1.46 $123,727 782 2.54
Time deposits 211,333 1,686 3.20 184,540 2,551 5.54
Other borrowings 13,960 279 8.02 13,211 283 8.59
----------------------- ----------------------
Total interest-bearing
liabilities $347,604 2,411 2.78% $321,478 3,616 4.51%
============= =============
----------- ----------
Net interest income $5,323 $4,826
=========== ==========
Net interest income to
earning assets 4.70% 4.66%
This page is page 16 of 40 pages.
Six months ended Six months ended
June 30, 2002 June 30, 2001
----------------------------------- -----------------------------------
Average % Average %
(dollars in thousands) Balance Interest Yield/Rate Balance Interest Yield/Rate
----------------------------------- -----------------------------------
Commercial loans $69,838 $2,402 6.94% $70,773 $3,409 9.71%
Real estate-mortgage loans 95,087 3,382 7.17 95,820 3,932 8.28
Real estate-commercial loans 127,225 4,835 7.66 100,285 4,452 8.95
Construction loans 44,547 1,765 7.99 43,300 2,202 10.26
Installment and other 13,683 316 4.66 9,442 361 7.71
Deferred loan fees (591) --- --- (896) --- ---
------------------------ ------------------------
Portfolio loans 349,789 12,700 7.32 318,724 14,356 9.08
Mortgage loans held for sale 91 3 6.65 --- --- ---
Investments 72,523 2,216 6.16 76,235 2,599 6.87
Federal funds sold 25,387 224 1.78 21,107 540 5.16
------------------------ ------------------------
Total earning assets (1) $447,790 15,143 6.82 $416,066 17,495 8.48
============== ==============
Interest bearing transaction
accounts $123,343 868 1.42 $123,907 1,630 2.65
Time deposits 207,837 3,426 3.32 186,048 5,303 5.75
Other borrowings 14,064 537 7.70 9,899 435 8.86
------------------------ ------------------------
Total interest-bearing
liabilities $345,244 4,831 2.82% $319,854 7,368 4.65%
============== ==============
----------- -----------
Net interest income $10,312 $10,127
=========== ===========
Net interest income to
earning assets 4.64% 4.91%
(1) Nonaccrual loans are included in the calculation of the average balance of
earning assets (interest not accrued is excluded).
This page is page 17 of 40 pages.
The following table sets forth changes in interest income and interest
expense for each major category of interest-earning asset and interest-bearing
liability, and the amount of change attributable to volume and rate changes for
the three and six months ended June 30, 2002 and 2001. Changes not solely
attributable to rate or volume have been allocated proportionately to the change
due to volume and the change due to rate.
Three months ended
June 30, 2002 compared to the
three months ended June 30, 2001
----------------------------------------
Volume Rate Total
----------------------------------------
(in thousands)
Increase/(decrease) in interest income:
Commercial loans ($62) ($398) ($460)
Real estate-mortgage loans (13) (237) (250)
Real estate-commercial loans 590 (311) 279
Construction loans 71 (103) (32)
Installment and other 50 (70) (20)
Mortgage loans held for sale 2 --- 2
Investments 24 (108) (84)
Federal funds sold 42 (185) (143)
----------------------------------------
Total increase/(decrease) 704 (1,412) (708)
----------------------------------------
Increase/(decrease) in interest expense:
Interest-bearing transaction accounts (9) (327) (336)
Time deposits 330 (1,195) (865)
Other borrowings 16 (20) (4)
----------------------------------------
Total increase/decrease) 337 (1,542) (1,205)
----------------------------------------
Increase/(decrease) in net interest income $367 $130 $497
========================================
Six months ended June 30, 2002
compared to the six
months ended June 30, 2001
----------------------------------------
Volume Rate Total
----------------------------------------
(in thousands)
Increase/(decrease) in interest income:
Commercial loans ($44) ($963) ($1,007)
Real estate-mortgage loans (30) (520) (550)
Real estate-commercial loans 1,084 (701) 383
Construction loans 62 (499) (437)
Installment and other 128 (173) (45)
Mortgage loans held for sale 3 --- 3
Investments (122) (261) (383)
Federal funds sold 93 (409) (316)
----------------------------------------
Total increase/(decrease) 1,174 (3,526) (2,352)
----------------------------------------
Increase/ (decrease) in interest expense:
Interest-bearing transaction accounts (7) (755) (762)
Time deposits 564 (2,441) (1,877)
Other borrowings 165 (63) 102
----------------------------------------
Total increase/ (decrease) 722 (3,259) (2,537)
----------------------------------------
Increase/(decrease) in net interest income $452 ($267) $185
========================================
This page is page 18 of 40 pages.
Provision for Loan Losses
Due to the absence of significant net loan charge-offs, little change in
loan portfolio asset quality and the balance in the allowance for loan losses,
there was no provision for loan losses for the three and six months ended June
30, 2002 and 2001. For further information, see "Allowance for Loan Losses" and
"Nonperforming Assets" in this section.
Noninterest Income and Expense and Income Taxes
Noninterest Income
The following tables set forth the components of the Company's noninterest
income for the three and six months ended June 30, 2002, as compared to the same
period in 2001.
Three Months Ended
June 30, $ %
------------------------------
2002 2001 Change Change
------------ ------------- --------------------------
(dollars in thousands)
Service charges on deposit accounts $308 $266 $42 16%
Merchant draft processing, net 1,197 1,019 178 17
Loan servicing income 81 80 1 1
Other income 207 187 20 11
------------ ------------- -------------
Total noninterest income $1,793 $1,552 $241 16%
============ ============= =============
Noninterest income increased $241,000, or 16%, to $1,793,000 for the three
months ended June 30, 2002 when compared to $1,552,000 for the same period in
2001. During this period, such increase was primarily due to an increase of
$178,000 in merchant card net revenue, and an increase in service charges of
$42,000. The increase in merchant card net revenue is due to an increase in
processing revenue brought about by the Company's efforts to build its overall
merchant card services business through direct marketing efforts and new
independent sales organization (ISO) relationships.
Six Months Ended
June 30, $ %
------------------------------
2002 2001 Change Change
------------ ------------ ----------------------------
(dollars in thousands)
Service charges on deposit accounts $622 $535 $87 16%
Merchant draft processing, net 2,376 1,832 544 30
Loan servicing income 135 157 (22) (14)
Net realized gains on investment securities
available for sale 35 --- 35 ---
Other income 443 393 50 13
------------ ------------ --------------
Total noninterest income $3,611 $2,917 $694 24%
============ ============ ==============
This page is page 19 of 40 pages.
Noninterest income increased $694,000, or 24%, to $3,611,000 for the six
months ended June 30, 2002 when compared to $2,917,000 for the same period in
2001. During this period, such increase was primarily due to an increase of
$544,000 in merchant card net revenue, an increase in service charges of $87,000
and an increase in other income of $50,000. The increase in merchant card net
revenue is due to an increase in processing revenue, as discussed above.
Noninterest Expense
The following tables set forth the components of the Company's noninterest
expense during the three and six months ended June 30, 2002, as compared to the
same period in 2001.
Three Months Ended
June 30, $ %
-------------------------
2002 2001 Change Change
------------ ------------ ---------------------
(dollars in thousands)
Salaries and employee benefits $2,302 $1,989 $313 16 %
Occupancy and equipment expense 533 503 30 6
Other 1,069 940 129 14
-------------- ------------ -----------
Total noninterest expense $3,904 $3,432 $472 14 %
============== ============ ===========
Noninterest expense increased by $472,000, or 14%, to $3,904,000 during the
second quarter of 2002 as compared to $3,432,000 for the second quarter of 2001.
The increase in noninterest expense for the three-month period ended June 30,
2002, as compared to the same period ended June 30, 2001, was primarily
attributable to an increase in salaries and employee benefits of $313,000 and an
increase in other expense of $129,000. The increase in salaries and employee
benefits was primarily due to an increase in the number of full time equivalent
employees employed by the Company. At June 30, 2002, the number of full time
equivalent employees totaled 155 as compared to 145 at June 30, 2001. Other
expenses increased during the period partially as a result of computer system
improvements and expenses incurred in association with NBR Real Estate Trust, as
described below.
Six Months Ended
June 30, $ %
------------------------
2002 2001 Change Change
------------ ----------- ---------------------
(dollars in thousands)
Salaries and employee benefits $4,348 $4,221 $127 3%
Occupancy and equipment expense 1,057 992 65 7
Other 2,237 1,869 368 20
------------ ------------ -----------
Total noninterest expense $7,642 $7,082 $560 8%
============ ============ ===========
Noninterest expense increased by $560,000, or 8%, to $7,642,000 during the
six months ended June 30, 2002 as compared to $7,082,000 for the same period one
year ago. The increase in noninterest expense was due to an increase in salaries
and employee benefits of $127,000 and
This page is page 20 of 40 pages.
an increase in other expense of $368,000. The increase in salaries and employee
benefits was primarily due to the increase in the number of full time equivalent
employees, as described above. Other expenses increased during 2002 partially as
a result of technological improvements made to the Company's internal computer
systems and expenses incurred in association with the formation of NBR Real
Estate Investment Trust.
Income Taxes
The Company's effective tax rate varies with changes in the relative
amounts of its non-taxable income and nondeductible expenses. The effective tax
rate was 36.96% and 36.76% for the three and six months ended June 30, 2002, as
compared to 39.99% and 40.37% for the same periods in 2001. On January 15, 2002,
NBR formed NBR Real Estate Investment Trust, a Maryland Real Estate Investment
Trust. The entity was formed to hold NBR's real estate secured loans and to
better organize NBR's marketing and origination of real estate secured lending.
In addition, the favorable state income tax treatment on the income of this
trust resulted in a reduction of the Company's effective tax rate.
Business Segments
The Company operates in two principal product and service lines: core
community banking and merchant credit card services. The Company's core
community banking segment includes commercial, commercial real estate,
construction and permanent residential lending along with treasury and
depository activities. The Company's merchant card services industry group
provides credit card settlement services for approximately 48,000 merchants
throughout the United States.
Summary financial data by business segment for the indicated periods is as
follows:
For the quarter ended June 30, 2002
-----------------------------------------------
Merchant
Community Card Total
Banking Services Company
-----------------------------------------------
(in thousands)
Total interest income $7,734 $ --- $7,734
Total interest expense 2,395 16 2,411
Interest income/(expense) allocation (176) 176 ---
-----------------------------------------------
Net interest income 5,163 160 5,323
Provision for loan losses --- --- ---
Total other operating income 596 1,197 1,793
Total other operating expense 3,261 643 3,904
-----------------------------------------------
Income before income taxes 2,498 714 3,212
Provision for income taxes 923 264 1,187
-----------------------------------------------
Net income $1,575 $450 $2,025
===============================================
Total Average Assets $455,964 $27,906 $483,870
===============================================
This page is page 21 of 40 pages.
For the quarter ended June 30, 2001
------------------------------------------------
Merchant
Community Card Total
Banking Services Company
------------------------------------------------
(in thousands)
Total interest income $8,442 $ --- $8,442
Total interest expense 3,614 2 3,616
Interest income/(expense) allocation (263) 263 ---
------------------------------------------------
Net interest income 4,565 261 4,826
Provision for loan losses --- --- ---
Total other operating income 533 1,019 1,552
Total other operating expense 2,896 536 3,432
------------------------------------------------
Income before income taxes 2,202 744 2,946
Provision for income taxes 880 298 1,178
------------------------------------------------
Net income $1,322 $446 $1,768
================================================
Total Average Assets $418,208 $25,653 $443,861
================================================
For the six months ended June 30, 2002
----------------------------------------------
Merchant
Community Card Total
Banking Services Company
----------------------------------------------
(in thousands)
Total interest income $15,143 $ --- $15,143
Total interest expense 4,813 18 4,831
Interest income/(expense) allocation (332) 332 ---
----------------------------------------------
Net interest income 9,998 314 10,312
Provision for loan losses --- --- ---
Total other operating income 1,235 2,376 3,611
Total other operating expense 6,349 1,293 7,642
----------------------------------------------
Income before income taxes 4,884 1,397 6,281
Provision for income taxes 1,797 512 2,309
----------------------------------------------
Net income $3,087 $885 $3,972
==============================================
Total Average Assets $449,566 $27,310 $476,876
==============================================
For the six months ended June 30, 2001
----------------------------------------------
Merchant
Community Card Total
Banking Services Company
----------------------------------------------
(in thousands)
Total interest income $17,495 $ --- $17,495
Total interest expense 7,363 5 7,368
Interest income/(expense) allocation (574) 574 ---
----------------------------------------------
Net interest income 9,558 569 10,127
Provision for loan losses --- --- ---
Total other operating income 1,085 1,832 2,917
Total other operating expense 5,999 1,083 7,082
----------------------------------------------
Income before income taxes 4,644 1,318 5,962
Provision for income taxes 1,875 532 2,407
----------------------------------------------
Net income $2,769 $786 $3,555
==============================================
Total Average Assets $418,849 $25,125 $443,974
==============================================
This page is page 22 of 40 pages.
Community Banking
The Community Banking segment's income before income tax increased for the
three and six months ended June 30, 2002 when compared to the same period in
2001. The increase was primarily due to an increase in net interest income. Net
interest income increased $598,000 and $440,000 for the three and six months
ended June 30, 2002, principally due to an increase in earning assets, offset by
a decline in the general interest rate environment and the issuance of pooled
trust preferred debt securities, which have been fully allocated to the
Community Banking segment. The Company increased its loan portfolio during the
first six months of 2002 through renewed marketing efforts. For the quarter
ended June 30, 2002, total average portfolio loans were $351,323,000, up 10%
from $318,814,000 for the quarter ended June 30, 2001.
Merchant Card Services
The Company's merchant credit card segment earned $450,000 and $885,000 for
the three and six months ended June 30, 2002 compared to $446,000 and $786,000
for the same periods in 2001. The increase in the unit's net income was due to
an increase in processing revenue brought about by the Company's efforts to
build its overall merchant card services business through direct marketing
efforts and new independent sales organization (ISO) relationships. The merchant
credit card segment's net income comprised approximately 22% of the Company's
consolidated net income for the three and six months ended June 30, 2002 as
compared to 25% and 22% for the same periods one year ago.
The Company bears certain risks associated with its merchant credit card
processing business. Due to a contractual obligation between NBR and Visa and
MasterCard, NBR stands in the place of the merchant in the event that a merchant
refuses or is unable to pay charge-backs from cardholders. As a result of this
obligation, NBR may incur losses associated with its merchant credit card
processing business. Accordingly, NBR has established a reserve to provide for
losses associated with charge-back losses. Such reserve, which totaled
$1,251,000 and $1,240,000 as of June 30, 2002 and 2001, was estimated based upon
industry loss data as a percentage of transaction volume throughout each year,
historical losses incurred by the Company and management's evaluation regarding
merchant and ISO risk. The Company utilizes the services of ISOs to acquire
merchants as customers. The provision for charge-back losses, which is included
in the financial statements as a reduction in merchant draft processing income,
was $49,000 and $108,000 for the three and six months ended June 30, 2002, as
compared to $54,000 and $74,000 for the same periods ended June 30, 2001. For
further discussion, see "Certain Important Considerations for Investors" in this
section.
This page is page 23 of 40 pages.
The following table summarizes the Company's merchant card allowance for
charge-back losses for the periods indicated:
Three months ended Six months ended
June 30, June 30,
2002 2001 2002 2001
--------------------------------------------------
(in thousands)
Beginning allowance $1,233 $1,266 $1,212 $1,276
Provision for losses 49 54 108 74
Recoveries 3 33 11 79
Charge-offs (34) (113) (80) (189)
------------------------- ------------------------
Ending allowance $1,251 $1,240 $1,251 $1,240
========================= ========================
Investment Securities
Total investment securities increased to $75,553,000, as of June 30, 2002,
compared to $64,975,000 as of December 31, 2001. The Company's average federal
funds sold position was $25,387,000 for the first six months of 2002 as compared
to $21,107,000 for the same period in 2001. Growth of the investment securities
portfolio and the Company's overnight investment position was driven by the need
to invest proceeds from the Company's deposit growth.
Loans
Total loans increased to $357,862,000 at June 30, 2002 compared to
$351,649,000 at December 31, 2001. The Company's residential loan portfolio has
experienced substantial paydown activity during the first six months of 2002.
Despite this paydown activity, the Company continues to focus on growth in the
overall loan portfolio through marketing efforts and a general expansion of
businesses within the Company's market area. Commercial real estate loans
increased $18,564,000 to $140,020,000, at June 30, 2002, compared to
$121,456,000 at December 31, 2001.
The following table summarizes the composition of the loan portfolio at
June 30, 2002 and December 31, 2001:
June 30, 2002 December 31, 2001
---------------------------- -----------------------------
Amount % Amount %
---------------------------- -----------------------------
(dollars in thousands)
Residential real estate mortgage $93,698 26% $101,175 29%
Commercial real estate mortgage 140,020 40 121,456 34
Commercial 69,464 19 70,438 20
Real estate construction 43,152 12 46,501 13
Installment and other 12,223 3 12,567 4
Less net deferred loan fees (695) --- (488) ---
---------------------------- -----------------------------
Total portfolio loans 357,862 100% 351,649 100%
========== ============
Less allowance for loan losses (7,586) (7,580)
------------------- ------------------
Net loans $350,276 $344,069
=================== ==================
This page is page 24 of 40 pages.
Allowance for Loan Losses
The allowance for loan losses is established through charges to earnings in
the form of the provision for loan losses. Loan losses are charged to, and
recoveries are credited to, the allowance for loan losses. The provision for
loan losses is determined after considering various factors such as loan loss
experience, current economic conditions, maturity of the portfolio, size of the
portfolio, industry concentrations, borrower credit history, the existing
allowance for loan losses, independent loan reviews, current charges and
recoveries to the allowance for loan losses and the overall quality of the
portfolio, as determined by management, regulatory agencies and independent
credit review consultants retained by the Company.
The Company's allowance for loan losses is based on specific and formula
allocations to the Company's loan portfolio. Specific allocations of the
allowance for loan losses are made to identified problem loans where management
has identified significant conditions or circumstances related to a given loan,
which management believes indicates the probability that a loss may occur. The
specific allocations are increased or decreased through management's
reevaluation on a quarterly basis of the status of the particular problem loans.
Loans which do not receive a specific allocation receive an allowance allocation
based on a formula, represented by a percentage factor based on underlying
collateral, type of loan, historical charge-offs, general economic conditions
and other qualitative factors.
The following table summarizes changes in the Company's allowance for loan
losses for the indicated periods:
Three months ended Six months ended
June 30, June 30
------------------------- --------------------------
2002 2001 2002 2001
------------------------- --------------------------
(dollars in thousands)
Beginning allowance for loan losses $7,549 $7,696 $7,580 $7,674
Provision for loan losses --- --- --- ---
Charge-offs --- (2) (45) (2)
Recoveries 37 10 51 32
------------------------- --------------------------
Ending allowance for loan losses $7,586 $7,704 $7,586 $7,704
========================= ==========================
Net charge-offs/(recoveries) to average
loans (annualized) (0.04%) (0.01%) (0.01%) (0.02%)
The allowance for loan losses as a percentage of total loans decreased
slightly from 2.16%, at December 31, 2001, to 2.12% at June 30, 2002. The growth
in the Company's loan portfolio is primarily comprised of commercial real estate
loans that generally bear a lower credit risk than construction or commercial
loans. Accordingly, under the Company's loan loss reserve methodology, such
loans generally receive a lower loan loss reserve allocation as compared to
commercial or construction loans.
This page is page 25 of 40 pages.
Nonperforming Assets
The following table summarizes the Company's nonperforming assets at the
dates indicated:
June 30, December 31,
2002 2001
---------------- ---------------
(dollars in thousands)
Nonaccrual loans $1,765 $2,892
Accruing loans past due 90 days or more 616 ---
Restructured loans 280 284
---------------- ---------------
Total nonperforming loans 2,661 3,176
Other real estate owned --- ---
---------------- ---------------
Total nonperforming assets $2,661 $3,176
================ ===============
Nonperforming assets to total assets 0.53% 0.71%
Nonperforming assets have decreased slightly from $3,176,000 or .71% of
total assets, as of December 31, 2001, to $2,661,000 or .53% of total assets as
of June 30, 2002. The decrease was attributable to a decrease of $1,127,000 in
nonaccrual loans during this period.
At June 30, 2002, nonperforming loans consist of loans to 12 borrowers, 4
of which have balances in excess of $100,000. The two largest have recorded
balances of $632,000 and $463,000. One property is secured by commercial real
estate, the other by commercial property. Based on information currently
available, management believes that adequate reserves are included in the
allowance for loan losses to cover any loss exposure that may result from these
loans.
At June 30, 2002, the Company did not have any properties classified as
other real estate owned.
Although the volume of nonperforming assets will depend in part on the
future economic environment, there is one loan relationship which totals
approximately $947,000 as of June 30, 2002, compared to three loan relationships
totaling approximately $1,921,000 at December 31, 2001, about which management
has serious doubts as to the ability of the borrower to comply with the present
repayment terms. This loan may become a nonperforming asset based on the
information presently known about possible credit problems of the borrower.
At June 30, 2002, the Company's total recorded investment in impaired loans
(as defined by SFAS 114 and 118) was $2,661,000, of which $2,381,000 relates to
the recorded investment in loans for which there is a related allowance for loan
losses of $243,000. The remaining $280,000 in impaired loans did not require a
specific allowance for loan losses.
This page is page 26 of 40 pages.
The Company's average recorded investment in impaired loans during the six
months ended June 30, 2002 and 2001 was $2,056,000 and $1,358,000. The increase
of $698,000 in the average recorded investment in impaired loans during the six
months ending June 30, 2002 compared to the same period one year ago was
primarily due to growth in nonperforming loans. Interest income recognized
during the periods that such loans were impaired for the six months ended June
30, 2002 was $32,000, as compared to $15,000 and $44,000 for the three and six
months ended June 30, 2001. There was no interest income recognized during the
three months ended June 30, 2002.
As of June 30, 2002, there was $1,765,000 of loans on which the accrual of
interest had been discontinued as compared to $2,892,000 at December 31, 2001.
During the three and six months ended June 30, 2002, interest due but excluded
from interest income on loans placed on nonaccrual status was $11,000 and
$47,000, as compared to $23,000 and $41,000 for the same periods one year ago.
There was no interest income received on nonaccrual loans during the three and
six months ended June 30, 2002, as compared to $2,000 and $5,000 during the
three and six months ended June 30, 2001.
Mortgage Repurchase Commitments
From time to time the Company may be required to repurchase mortgage loans
from mortgage loan investors as a result of breaches of representations and
warranties in the purchase agreement between the investor and the Company. The
Company may also be required to reimburse a mortgage loan investor for losses
incurred as a result of liquidating collateral, which had secured a mortgage
loan sold by the Company. Such representations and warranties include the
existence of a valid appraisal, status of borrower or fraud. In the first six
months of 2002, the Company was not required to repurchase any such loans. The
Company maintains a reserve for management's estimate of potential losses
associated with the repurchase of previously sold mortgage loans. During the
first quarter of 2002, the Company agreed to pay $33,000 for a settlement
related to disputed title issues. Reserves for such losses totaled $60,000 as of
June 30, 2002 and $93,000 as of December 31, 2001. The Company expects that it
may be required to repurchase loans in the future.
Investment in REMIC
In 1995, Allied Savings Bank ("Allied"), formerly a wholly owned subsidiary
of the Company which merged into NBR in 1997, sold a COFI ARM mortgage pool
whose carrying value was approximately $73,900,000 as part of a transaction that
resulted in creating a Real Estate Mortgage Investment Conduit ("REMIC"). The
REMIC issued three classes of mortgage pass-through mortgage certificates: A, B
and C. The sale transaction took place as a result of Allied selling 100%
interest in the COFI indexed ARM mortgage pool in exchange for cash of
$71,500,000 and a Class B certificate which represented the first loss position
with respect to any ultimate losses realized upon the liquidation of defaulted
mortgage loans in the pool. As part of the sale transaction, Allied retained the
servicing of the pool. The Class A and Class B certificates have sequential
rights to principal payments, such that Class B certificates shall only receive
principal payments after all Class A certificates are retired.
This page is page 27 of 40 pages.
The composition of the original certificate balances along with their
respective June 30, 2002 balances are as follows:
Original June 30, 2002
Certificate Certificate
Face Value Face Value
------------------------------
Class A $73,199,448 $3,192,642
Class B 3,249,067 3,196,478
Class C 100 100
------------------------------
Total pool $76,448,615 $6,389,220
==============================
Since inception the pool has realized losses of $52,590, which reduced the
original face value of the Class B certificate. Management believes that the
difference between the carrying amount of the Class B certificate of $3,172,374
and its face value of $3,196,478 is sufficient to absorb any future realized
losses in the pool.
Contractual Obligations and Commitments
The following table presents the Company's longer term, non-deposit
related, contractual obligations and commitments to extend credit to our
borrowers, in aggregate and by payment due dates.
June 30, 2002
----------------------------------------------------------------------
Less Than One Through Four Through After Five
One Year Three Years Five Years Years Total
----------------------------------------------------------------------
(in thousands)
Trust preferred securities $ --- $ --- $ --- $10,000 $10,000
Operating leases (premises) 1,362 1,467 429 273 3,531
----------------------------------------------------------------------
Total long-term debt
and operating leases $1,362 $1,467 $429 $10,273 $13,531
=========================================================
Commitments to extend credit 75,004
Standby letters of credit 373
--------------
Total contractual obligations
and commitments $88,908
==============
This page is page 28 of 40 pages.
Liquidity
Redwood's primary source of liquidity is dividends from NBR. Redwood's
primary uses of liquidity have historically been associated with common stock
repurchases, dividend payments made to common stock holders, interest payments
relating to Redwood's trust preferred securities and operating expenses. It is
Redwood's general policy to maintain liquidity at the parent level which
management believes to be consistent with the safety and soundness of the
Company as a whole. As of June 30, 2002, Redwood held $198,000 in deposits at
NBR.
Redwood's current cash dividend to its common shareholders is $.20 per
common share per quarter. Further, Redwood is required to make semi-annual
payments of interest at 10.2% on $10,000,000 of trust preferred securities
issued in 2001. Payment of these obligations is ultimately dependent on
dividends from NBR to Redwood. Federal regulatory agencies have the authority to
prohibit the payment of dividends by NBR to Redwood if a finding is made that
such payment would constitute an unsafe or unsound practice or if NBR would
become undercapitalized as a result. If NBR is restricted from paying dividends,
Redwood might be unable to pay dividends to its common shareholders. No
assurance can be given as to the ability of NBR to pay dividends to Redwood in
the future. The approval of the Office of the Comptroller of the Currency
("OCC"), is required for the payment of dividends if the total of all dividends
declared by a national bank in any calendar year would exceed the total of its
net profits of that year combined with its retained net profits of the two
preceding years, less any required transfers to surplus or a fund for the
retirement of any preferred stock. Due to this requirement, NBR obtained such
approval for its 2002 dividend plan from the OCC in January 2002.
During the first six months of 2002, NBR declared a dividend payable to
Redwood of $3,400,000. Management believes that as of June 30, 2002, the
Company's liquidity position was adequate for the operations of Redwood and NBR.
Although each entity within the consolidated Company manages its own
liquidity, the Company's consolidated cash flow can be divided into three
distinct areas: operating, investing and financing. For the six months ended
June 30, 2002, the Company received cash of $2,694,000 from operating activities
and $47,143,000 from financing activities, while using $16,509,000 in investing
activities.
Capital Resources
A strong capital base is essential to the Company's continued ability to
service the needs of its customers. Capital protects depositors and the FDIC
deposit insurance fund from potential losses and is a source of funds for the
substantial investments necessary for the Company to remain competitive. In
addition, adequate capital and earnings enable the Company to gain access to the
capital markets to supplement its internal growth of capital. Capital is
generated internally primarily through earnings retention.
This page is page 29 of 40 pages.
The Company and NBR are required to maintain minimum capital ratios defined
by various federal government regulatory agencies. The Board of Governors of the
Federal Reserve System and the OCC have each established capital guidelines,
which include minimum capital requirements. These regulations impose three sets
of standards: "risk-based", "leverage" and "tangible" capital.
Under the risk-based capital standard, assets reported on an institution's
balance sheet and certain off-balance sheet items are assigned to risk
categories, each of which is assigned a risk weight. This standard characterizes
an institution's capital as being "Tier 1" capital (defined as principally
comprising shareholders' equity, trust preferred securities, for up to 25% of
total tier 1 capital, and noncumulative preferred stock) and "Tier 2" capital
(defined as principally comprising the allowance for loan losses and
subordinated debt).
Under the leverage capital standard, an institution must maintain a
specified minimum ratio of Tier 1 capital to total assets, with the minimum
ratio ranging from 4% to 6%. The leverage ratio for the Company and NBR is based
on average assets for the quarter.
The following table summarizes the consolidated capital ratios and the
capital ratios of the principal subsidiaries at June 30, 2002 and December 31,
2001.
June 30, 2002 December 31, 2001
-------------------------------------- -----------------------------------
Well- Minimum Well- Minimum
Actual Capitalized Requirement Actual Capitalized Requirement
-------------------------------------- -----------------------------------
Company
Leverage 7.40% 5.00% 4.00% 7.46% 5.00% 4.00%
Tier 1 risk-based 9.24 6.00 4.00 9.52 6.00 4.00
Total risk-based 10.71 10.00 8.00 11.16 10.00 8.00
NBR
Leverage 7.47% 5.00% 4.00% 7.69% 5.00% 4.00%
Tier 1 risk-based 9.31 6.00 4.00 9.82 6.00 4.00
Total risk-based 10.57 10.00 8.00 11.08 10.00 8.00
In January and February 2001, the Company's Board of Directors authorized
the repurchase of up to 10% of the Company's total shares outstanding, or
427,500 shares in January 2001 and 385,500 shares in February 2001, as adjusted
for the three-for-two stock split announced September 20, 2001, of which all
shares have been repurchased. In August 2001, the Company announced a third
authorization to repurchase an additional 355,500 shares, as adjusted for the
three-for-two stock split announced September 20, 2001. To date, 102,686 shares
have been repurchased, as adjusted for the three-for-two stock split announced
September 20, 2001. Under the repurchase program, the Company plans to purchase
shares from time to time on the open market and/or in privately negotiated
transactions. The first two repurchase authorizations were funded in part with
proceeds received from a $10,000,000 pooled trust preferred securities offering
which concluded on February 22, 2001.
This page is page 30 of 40 pages.
Trust Preferred Securities
On February 22, 2001, Redwood Statutory Trust I ("RSTI"), a wholly owned
subsidiary of the Company, closed a pooled offering of 10,000 Capital Securities
with a liquidation amount of $1,000 per security. The proceeds of the offering
were loaned to the Company in exchange for junior subordinated debentures with
terms similar to the Capital Securities. The sole assets of RSTI are the junior
subordinated debentures of the Company and payments thereunder. The junior
subordinated debentures and the back-up obligations, in the aggregate,
constitute a full and unconditional guarantee by the Company of the obligations
of RSTI under the Capital Securities. Distributions on the Capital Securities
are payable semi-annually at the annual rate of 10.2% and are included in
interest expense in the consolidated financial statements. These securities are
considered Tier 1 capital (with certain limitations applicable) under current
regulatory guidelines. As of June 30, 2002, the outstanding principal balance of
the Capital Securities was $10,000,000. The principal balance of the Capital
Securities constitutes the trust preferred securities in the financial
statements.
The junior subordinated debentures are subject to mandatory redemption, in
whole or in part, upon repayment of the Capital Securities at maturity or their
earlier redemption at the liquidation amount. Subject to the Company having
received prior approval of the Federal Reserve, if then required, the Capital
Securities are redeemable prior to the maturity date of February 22, 2031, at
the option of the Company; on or after February 22, 2021 at par; or on or after
February 22, 2011 at a premium; or upon occurrence of specific events defined
within the trust indenture. The Company has the option to defer distributions on
the Capital Securities from time to time for a period not to exceed 10
consecutive semi-annual periods.
Certain Important Considerations for Investors
Merchant Credit Card Processing. The Company's profitability can be
negatively impacted should any of the Company's merchant credit card customers
be unable to pay on charge-backs from cardholders. Due to a contractual
obligation between the NBR and Visa and Mastercard, NBR stands in the place of
the merchant in the event that a merchant refuses, or is unable due to
bankruptcy or other reasons, to pay on charge-backs from cardholders. Management
has taken certain actions to decrease the risk of merchant bankruptcy associated
with its merchant credit card business. These steps include the discontinuance
of high-risk accounts. Charge-back exposure can also result from fraudulent
credit card transactions initiated by merchant customers. To mitigate merchant
fraud risk, the Company employs certain underwriting standards when accepting a
new merchant. Further, the Company monitors merchant activity for unusual
transactions. In addition, the Company bears the risk of merchant nonpayment of
applicable interchange, assessment and other fees. Failure by the merchants to
pay such fees may adversely affect the Company's revenues. The Company utilizes
ISOs to acquire merchant credit card customers. The Company's ability to
maintain and grow net revenue from its merchant credit card processing operation
is dependent upon maintaining and adding to these ISO relationships.
This page is page 31 of 40 pages.
Merchant credit card processing services are highly regulated by credit
card associations such as Visa. In order to participate in the credit card
programs, the Company must comply with the credit card association's rules and
regulations that may change from time to time. If the Company fails to comply
with these credit card association standards, the Company's status as a member
service provider and as a certified processor could be suspended or terminated.
During November 1999, Visa adopted several rule changes to reduce risks in
high-risk merchant credit card programs and these rule changes affect the
Company's merchant credit card business. The rule changes went into effect on
March 31, 2001. These changes included a requirement that a processor's reported
fraud ratios be no greater than three times the national average. At April 30,
2002 (the most recent period available from Visa), the Company's overall fraud
ratio was less than the Visa requirement. Other Visa changes included the
requirement that total processing volume in certain high-risk categories (as
defined by Visa) be less than 20% of total processing volume. At June 30, 2002,
the Company's total Visa transactions within these certain high-risk categories
were 3.33% of total Visa processing volume. Other changes Visa announced
included a requirement that weekly Visa volumes be less than 60% of an
institution's tangible equity capital, as well as a requirement that aggregate
charge-backs for the previous six months be less than 5% of the institution's
tangible equity capital or the aggregate charge-backs for the quarter be less
than .59% of the interchange count and .95% of the interchange amount. At June
30, 2002 the Company's weekly Visa volume was 50.39% of the Company's tangible
equity capital, and aggregate charge-backs for the previous six months were
5.33% of tangible equity capital and the aggregate charge-backs for the quarter
were .39% of the interchange count and .45% of the interchange amount. Merchant
credit card participants, such as the Company, must comply with these new Visa
rules by filing a compliance plan with Visa. At June 30, 2002, the Company is in
compliance with all rule changes that went into effect on March 31, 2001, based
on Visa's acceptance of the Company's compliance plan. Should the Company be
unable to comply with these rule changes, Visa will require collateral of one to
four times the shortfall.
Concentration of Lending Activities. Concentration of the Company's lending
activities in the real estate sector, including construction loans, could have
the effect of intensifying the impact on the Company of adverse changes in the
real estate market in the Company's lending areas. At June 30, 2002,
approximately 77% of the Company's loans were secured by real estate, of which
51% were secured by commercial real estate, including small office buildings,
owner-user office/warehouses, mixed use residential and commercial properties
and retail properties. Substantially all of the properties that secure the
Company's present loans are located in Northern and Central California. The
ability of the Company to continue to originate mortgage or construction loans
may be impaired by adverse changes in local or regional economic conditions,
adverse changes in the real estate market, increasing interest rates, or acts of
nature (including earthquakes, which may cause uninsured damage and other loss
of value to real estate that secures the Company's loans). In addition,
prolonged electrical power shortages or increases in energy costs in Northern
California may cause adverse changes in the Company's local economy. Due to the
concentration of the Company's real estate collateral, such events could have a
significant adverse impact on the value of such collateral and the Company's
earnings.
This page is page 32 of 40 pages.
Events of September 11. The terrorist attacks on the World Trade Center and
the Pentagon on September 11, 2001, have resulted in increased uncertainty
regarding the economic outlook. Past experience suggests that shocks to American
society of far less severity have resulted in a temporary loss of consumer and
business confidence and a reduction in the rate of economic growth. It is not
possible at this time to project the ultimate economic impact of these events.
However, any deterioration in either the U.S. or the California economy could
adversely affect the Company's financial condition and results of operations.
California Energy Crisis. Due to problems associated with the deregulation
of the electrical power industry in California, California utilities and other
energy industry participants have experienced difficulties with the supply and
price of electricity and natural gas. As a consequence of this situation, a
major California public utility in the gas and power business became the subject
of a voluntary bankruptcy proceeding. The California energy situation continues
to be fluid and subject to many uncertainties and a number of lawsuits and
regulatory proceedings have been commenced concerning various aspects of the
current energy situation. Although the situation has stabilized recently,
customers of the utilities were faced at times in 2001 with increased gas and
electric prices, power shortages and, in some cases, rolling blackouts. The
long-term impact of the energy crisis in California on the Company's markets and
business cannot be predicted, but could result in an economic slow-down. This
could have an adverse effect on the demand for new loans, the ability of
borrowers to repay outstanding loans, the value of real estate and other
collateral securing loans and, as a result, on the Company's financial condition
and results or operations.
Government Regulation. The Company and its subsidiaries are subject to
extensive federal and state governmental supervision, regulation and control.
Future legislation and government policy could adversely affect the financial
industry. Although the full impact of such legislation and regulation cannot be
predicted, future changes may alter the structure of, and competitive
relationship among, financial institutions.
Competition from Other Financial Institutions. The Company competes for
deposits and loans principally with major commercial banks, other independent
banks, savings and loan associations, savings banks, thrift and loan
associations, credit unions, mortgage companies, insurance companies and other
lending institutions. With respect to deposits, additional significant
competition arises from corporate and governmental debt securities, as well as
money market mutual funds. The Company also depends for its origination of
mortgage loans on independent mortgage brokers who are not contractually
obligated to do business with the Company and are regularly solicited by the
Company's competitors. Aggressive policies of such competitors have in the past
resulted, and may in the future result, in a decrease in the Company's volume of
mortgage loan originations and/or a decrease in the profitability of such
originations, especially during periods of declining mortgage loan origination
volumes. Several of the nation's largest savings and loan associations and
commercial banks have a significant number of branch offices in the areas in
which the Company conducts operations. Among the advantages possessed by the
larger of these institutions are their ability to make larger loans, finance
extensive advertising campaigns, access international money markets and
generally allocate their investment assets to regions of highest yield and
demand.
This page is page 33 of 40 pages.
In addition, the market in which the Company competes for merchant credit
card processing is intensely competitive and, in recent years, has been
characterized by increased consolidation. This consolidation has enabled certain
of the Company's competitors to have access to significant capital, management,
marketing and technological resources that are equal to or greater than those of
the Company, and there can be no assurance that the Company will be able to
continue to compete successfully with such other processors.
Critical Accounting Policies. The Company's financial statements are
presented in accordance with accounting principles generally accepted in the
United States of America (US GAAP). The financial information contained within
our financial statements is, to a significant extent, financial information that
is based on approximate measures of the financial effects of transactions and
events that have already occurred. A variety of factors could affect the
ultimate value that is obtained either when earning income, recognizing an
expense, recovering an asset or relieving a liability. Along with other factors,
we use historical loss factors to determine the inherent loss that may be
present in our loan and lease portfolio. Actual losses could differ
significantly from the historical loss factors that we use. Other estimates that
we use are fair value of our securities and expected useful lives of our
depreciable assets. We have not entered into derivative contracts for our
customers or for ourselves, which relate to interest rate, credit, equity,
commodity, energy, or weather-related indices. US GAAP itself may change from
one previously acceptable method to another method. Although the economics of
our transactions would be the same, the timing of events that would impact our
transactions could change.
Our most significant estimates are approved by our Management team, which
is comprised of our most senior officers. At each financial reporting period, a
review of these estimates is then presented to our Board of Directors.
As of June 30, 2002, other than previously disclosed on page 27, we have
not created any special purpose entities to securitize assets or to obtain
off-balance sheet funding. Although we have sold a number of loans in the past
two years, those loans have been sold to third parties without recourse, subject
to customary representations and warranties.
Impact of New Accounting Standards. The Financial Accounting Standards
Board (FASB) recently issued Statement of Financial Accounting Standards (SFAS)
No. 145 and No. 146. SFAS No. 145 applies for years beginning after May 14, 2002
and may be adopted sooner. SFAS No. 145 covers extinguishments of debt and
leases, and includes some minor technical corrections. Under previous accounting
guidance, gains or losses from extinguishments of debt were always treated as
extraordinary items. Under SFAS No. 145 they will no longer be considered
extraordinary, except under very limited conditions. Upon adoption of SFAS No.
145, any prior gains and losses from extinguishments of debt must be
reclassified as ordinary gains and losses. Under SFAS No. 145, if a capital
lease is modified to become an operating lease, it will be accounted for as a
sale-leaseback, by following the accounting guidance of SFAS No. 98, instead of
being accounted for as a new lease. SFAS No. 146 covers accounting for costs
associated with exit or long-lived asset disposal activities, such as
restructurings, consolidation or closing of facilities, lease termination costs
or employee relocation or severance costs. SFAS No. 146 replaces Emerging Issues
Task Force (EITF) 94-3, and is to be applied prospectively to exit or disposal
activities initiated after December 31, 2002, and may be adopted sooner. A
company may not restate its previously issued financial statements. SFAS No. 146
requires exit or long-lived asset disposal costs to be recognized as an
This page is page 34 of 40 pages.
expense when the liability is incurred and can be measured at fair value, rather
than at the date of making a commitment to an exit or disposal plan. Management
does not expect the effects of the future adoptions of SFAS No. 145 and SFAS No.
146 to be material to the Company's consolidated financial position or results
of operations.
Certifications Under Section 906 of the Sarbanes-Oxley Act of 2002
The certification by the Company's chief executive officer and chief
financial officer of this report on Form 10-Q, as required by section 906 of
the Sarbanes-Oxley Act of 2002 (18 U.S.C. Section 1350), has been submitted
to the Securities and Exchange Commission as additional correspondence
accompanying this report.
Item 3. Quantitative and Qualitative Disclosures About Market Risk
As a financial institution, the Company's primary component of market risk
is interest rate volatility. Fluctuation in interest rates will ultimately
impact both the level of income and expense recorded on a large portion of the
Bank's assets and liabilities, and the market value of all interest earning
assets and interest bearing liabilities, other than those which possess a short
term to maturity. Since virtually all of the Company's interest bearing
liabilities and all of the Company's interest earning assets are located at the
Bank (or in its wholly-owned subsidiary), virtually all of the Company's
interest rate risk exposure lies at the Bank level. As a result, all significant
interest rate risk management procedures are performed at the Bank level. Based
upon the nature of its operations, the Bank is not subject to foreign currency
exchange or commodity price risk. The Bank's real estate loan portfolio,
concentrated primarily within Northern California, is subject to risks
associated with the local economy. The Company does not own any trading assets.
The fundamental objective of the Company's management of its assets and
liabilities is to maximize the economic value of the Company while maintaining
adequate liquidity and an exposure to interest rate risk deemed by management to
be acceptable. Management believes an acceptable degree of exposure to interest
rate risk results from the management of assets and liabilities through
maturities, pricing and mix to attempt to neutralize the potential impact of
changes in market interest rates. The Bank's profitability is dependent to a
large extent upon its net interest income, which is the difference between its
interest income on interest-earning assets, such as loans and securities, and
its interest expense on interest-bearing liabilities, such as deposits and
borrowings. The Bank, like other financial institutions, is subject to interest
rate risk to the degree that its interest-earning assets reprice differently
than its interest-bearing liabilities. The Bank manages its mix of assets and
liabilities with the goals of limiting its exposure to interest rate risk,
ensuring adequate liquidity, and coordinating its sources and uses of funds.
This page is page 35 of 40 pages.
The Bank seeks to control its interest rate risk exposure in a manner that
will allow for adequate levels of earnings and capital over a range of possible
interest rate environments. The Bank has adopted formal policies and practices
to monitor and manage interest rate risk exposure. As part of this effort, the
Bank measures risk in three ways: repricing of earning assets and interest
bearing liabilities; changes in net interest income for interest rate shocks up
and down 200 basis points; and changes in the market value of equity for
interest rate shocks up and down 200 basis points.
The following table sets forth, as of June 30, 2002, the distribution of
repricing opportunities for the Company's earning assets and interest-bearing
liabilities, the interest rate sensitivity gap, the cumulative interest rate
sensitivity gap, the interest rate sensitivity gap ratio (i.e., earning assets
divided by interest-bearing liabilities) and the cumulative interest rate
sensitivity gap ratio.
After Three After Six After One
Within Months but Months but Year But
Three Within Six Within One Within After Five
Months Months Year Five Years Years Total
-----------------------------------------------------------------------
(Dollars in thousands)
Interest earning assets:
Federal funds sold $34,863 $ --- $ --- $ --- $ --- $34,863
Investment securities and other 2,892 6,857 11,197 39,943 14,664 75,553
Mortgage loans held for sale 313 --- --- --- --- 313
Loans 108,477 51,954 40,758 124,561 32,112 357,862
-----------------------------------------------------------------------
Total interest-earning assets 146,545 58,811 51,955 164,504 46,775 468,591
-----------------------------------------------------------------------
Interest-bearing liabilities:
Interest-bearing transaction accounts 120,020 --- --- --- --- 120,020
Time deposits 101,410 56,085 54,101 6,957 --- 218,553
Trust preferred securities --- --- --- --- 10,000 10,000
Short-term borrowings 5,823 --- --- --- --- 5,823
-----------------------------------------------------------------------
Total interest-bearing liabilities 227,253 56,085 54,101 6,957 10,000 354,396
-----------------------------------------------------------------------
Interest rate sensitivity gap ($80,708) $2,726 ($2,146) $157,548 $36,775
===========================================================
Cumulative interest rate sensitivity gap (80,708) (77,982) (80,128) 77,420 114,196
Interest rate sensitivity gap ratio 0.64 1.05 0.96 23.65 4.68
Cumulative interest rate sensitivity
gap ratio 0.64 0.72 0.76 1.22 1.32
The Company's gap position is substantially dependent upon the volume of
mortgage loans held in the portfolio. These loans generally have maturities
greater than five years; however, these loans have a repricing frequency of at
least quarterly and therefore are classified in the above table as repricing
within three months. Additionally, interest-bearing transaction accounts, which
consist of money market and savings deposit accounts, are classified as
repricing within three months. Some of these deposits may be repriced at
management's option, and therefore a decision not to reprice such deposits could
significantly alter the Company's net interest margin.
This page is page 36 of 40 pages.
Management expects that, in a declining interest rate environment, the
Company's net interest margin would be expected to decline, and, in an
increasing interest rate environment, the Company's net interest margin would
tend to increase. The Company has experienced greater mortgage lending activity
through mortgage refinancings and financing new home purchases as rates
declined, and may increase its net interest margins in an increasing rate
environment if more traditional commercial bank lending becomes a higher
percentage of the overall earning assets mix. There can be no assurance,
however, that under such circumstances the Company will experience the described
relationships to declining or increasing interest rates.
On a quarterly basis, NBR management prepares an analysis of interest rate
risk exposure. Such analysis calculates the change in net interest income and
the theoretical market value of the Bank's equity given a change in general
interest rates of 200 basis points up and 200 basis points down. All changes are
measured in dollars and are compared to projected net interest income and the
current theoretical market value of the Bank's equity. This theoretical market
value of the Bank's equity is calculated by discounting cash flows associated
with the Company's assets and liabilities. The following is a summary of
interest rate risk exposure as of June 30, 2002 as measured on a net interest
income basis and a market value of equity basis, given a change in general
interest rates of up to 200 basis points up and 200 basis points down.
June 30, 2002
-------------
Change in Annual Change in
Change in Interest Rate Net Interest Income Market Value of Equity
----------------------- ------------------- ----------------------
+200 $616,000 ($8,050,000)
+100 $390,000 ($3,771,000)
-100 ($734,000) $1,157,000
-200 ($2,224,000) $1,709,000
The model utilized by management to create the report presented above makes
various estimates at each level of interest rate change regarding cash flows
from principal repayments on loans and mortgage-backed securities and/or call
activity on investment securities. In addition, repricing these earning assets
and matured liabilities can occur in one of three ways: (1) the rate of interest
to be paid on an asset or liability may adjust periodically based on an index;
(2) an asset, such as a mortgage loan, may amortize, permitting reinvestment of
cash flows at the then-prevailing interest rates; or (3) an asset or liability
may mature, at which time the proceeds can be reinvested at current market rate.
Actual results could differ significantly from those estimates, which would
result in significant differences in the calculated projected change.
This page is page 37 of 40 pages.
PART II OTHER INFORMATION
Item 2. Changes in Securities and Use of Proceeds.
On February 22, 2001, the Company completed its $10,000,000 participation
in a pooled trust preferred securities offering. Issuance costs amounted to
approximately $300,000 and are being amortized over the 30-year life of the
securities. The Company, relying on Section 4(2), Rule 506 and Rule 903 of the
Securities Act of 1933, as amended, sold the securities directly to Preferred
Term Securities, Ltd. II, a Cayman Islands corporation. The proceeds have been,
and will continue to be, used for share repurchases and general corporate
purposes.
Item 4. Submission of Matters to a Vote of Security Holders
a) The Company held its Annual Meeting of Shareholders on May 21, 2002.
b) Proxies for the Annual Meeting were solicited pursuant to Regulation
14 under the Securities Exchange Act of 1934. There was no
solicitation in opposition to management's nominees for directors as
listed in the Company's proxy statement for the Annual Meeting.
c) The vote for the nominated directors was as follows:
Nominee For Withheld
------- --- --------
John H. Brenengen 2,913,361 5,498
Dana R. Johnson 2,916,375 2,484
Patrick W. Kilkenny 2,867,594 51,265
Gregory J. Smith 2,916,116 2,743
William B. Stevenson 2,916,239 2,620
The vote for ratifying the appointment of Crowe Chizek and Company LLP
as the Company's independent auditors was as follows:
For 2,909,941
Against 4,781
Abstain 4,137
Broker Non-Vote 566,898
Item 6. Exhibits and Reports on Form 8-K.
a) Exhibits.
None
This page is page 38 of 40 pages.
b) Reports on Form 8-K
1. Form 8-K filing dated April 18, 2002 announcing first quarter
2002 results.
2. Form 8-K filing dated April 5, 2002 announcing declaration of
quarterly dividend.
This page is page 39 of 40 pages.
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
REDWOOD EMPIRE BANCORP
(Registrant)
Date: 8/8/02 By: /s/ James E. Beckwith
------ ---------------------------------
James E. Beckwith
Executive Vice President,
Chief Financial Officer and
Chief Operating Officer
(Principal Financial Officer and
Duly Authorized Officer)
This page is page 40 of 40 pages.