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SECURITIES & EXCHANGE COMMISSION
Washington D.C. 20549

FORM 10-K

[ X ] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934.

[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

FOR THE FISCAL YEAR ENDED DECEMBER 31, 2004

COMMISSION FILE NUMBER 0-30106

PACIFIC CONTINENTAL CORPORATION
(Exact name of registrant as specified in its charter)
 

 
OREGON
93-1269184
 
(State of Incorporation)
(IRS Employer Identification No)

111 West 7th Avenue
Eugene, Oregon 97401
(Address of principal executive offices)

(541) 686-8685
(Registrant’s telephone number)

Securities registered pursuant to 12(b) of the Act: None

Securities registered pursuant to 12(g) of the Act:
No Par Value Common Stock

Check 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 ___

Check if there is no disclosure of delinquent filers in response to item 405 of Regulation S-K contained in this form, and no disclosure will be contained, to the best of the registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this form 10-K or any amendment to this Form 10-K. ( X )

Indicate by check mark whether the Registrant is an accelerated filer (as defined by Exchange Act Rule 12b-2).
Yes X  No __

The aggregate market value of the voting stock held by non-affiliates of the Registrant at June 30, 2004 (the last business day of the most recent second quarter) was $96,865,902 based on the closing price as quoted on the NASDAQ National Market on that date.

The number of shares outstanding of each of the registrant’s classes of common stock, as of February 16, 2005, was 8,695,523 shares of no par value Common Stock.

DOCUMENTS INCORPORATED BY REFERENCE

Part III incorporates by reference information from the registrant’s definitive proxy statement for the 2005 annual meeting of shareholders.



PACIFIC CONTINENTAL CORPORATION
FORM 10-K
ANNUAL REPORT
TABLE OF CONTENTS

 
PART 1  
  
Page
 
Item 1: 
3
       
 
Item 2: 
14
       
 
Item 3: 
15
       
 
Item 4: 
15
       
 
PART II 
    
       
 
Item 5: 
15
     
       
 
Item 6: 
17
       
 
Item 7: 
18
     
       
 
Item 7a: 
28
       
 
Item 8: 
31
       
 
Item 9: 
53
     
       
 
Item 9a: 
54
       
 
Item 9b: 
55
       
 
PART III 
(Items 10 through 13 are incorporated by reference from
 
   
Pacific Continental Corporation’s definitive proxy statement for the
 
   
annual meeting of shareholders scheduled for April 19, 2005)
  
       
 
Item 10: 
55
 
Item 11: 
55
       
 
Item 12: 
56
     
       
 
Item 13: 
56
       
 
Item 14: 
56
       
 
Item 15: 
56
     
       
   
58

  



PART I

ITEM 1. Business
General

Pacific Continental Corporation (the “Company” or the “Registrant”) is an Oregon corporation and registered bank holding company located in Eugene, Oregon. The Company was organized on June 7, 1999, pursuant to a holding company reorganization of Pacific Continental Bank, its wholly owned subsidiary.

The Company’s principal business activities are conducted through its full-service commercial bank subsidiary, Pacific Continental Bank (the “Bank”), an Oregon state-chartered bank with deposits insured by the Federal Deposit Insurance Corporation (“FDIC”). At December 31, 2004, the Bank had facilities in seven Oregon cities and operated ten full-service offices and two consumer finance lending offices.

Results

For the year ended December 31, 2004, the operations of the Company on a combined basis earned net income of $7.9 million or $0.90 per diluted share. At December 31, 2004, the consolidated equity of the Company was $49.4 million with 8.7 million shares outstanding and a book value of $5.71 per share. Total assets were $516.7 million. Loans, including loans held for sale, net of allowance for loan losses, were $453.8 million at December 31, 2004 and represented 88% of total assets. Deposits totaled $403.8 million at year-end 2004. For more information regarding the Company’s results, see “Management’s Discussion and Analysis of Financial Condition and Results of Operation” and “Financial Statements and Supplementary Data” in sections 7 and 8 of this Form 10-K.

THE BANK
 
General

The Bank commenced operations on August 15, 1972. At December 31, 2004, the Bank operated ten banking offices and two consumer finance lending offices in Oregon. The Bank specializes in meeting the deposit and lending needs of community-based businesses, professional service groups and not-for-profit organizations. More information on the Bank and its banking services can be found on its website www.therightbank.com. The Bank operates under the banking laws of the State of Oregon and the rules and regulations of the FDIC.

Primary Market Area

The Bank’s markets consist of Lane, Multnomah, Washington, and Clackamas Counties in the State of Oregon and Clark County in Southwest Washington State. The Bank has ten full-service offices and two consumer finance offices. The Bank has seven full-service offices and one consumer finance lending office in Lane County, two full-service offices in Washington County, one full-service office in Multnomah County and one consumer finance office in Coos County. Within Lane County, the Bank has its administrative office and four branch offices and one consumer finance lending office in Eugene, one branch office in Springfield, and one branch office in Junction City. Within Washington County, the Bank has a branch office in Beaverton and one branch office in Tualatin. Within Multnomah County, the Bank has one branch office in Portland. Within Coos County, the Bank has one consumer finance lending office.

Competition

The Bank competes with a number of commercial banks, savings banks, and credit unions. Commercial banking within the State of Oregon is highly competitive for both deposits and loans. The Bank differentiates itself by providing superior levels of service for its selected client base. The Bank focuses on community-based businesses, professional service groups, and not-for-profit organizations in addition to local construction lending.

Services Provided

Lending Activities

The Bank emphasizes two areas of lending within its primary market area: loans to community-based businesses, professional service groups, not-for-profit organizations and loans to builders for the construction of commercial facilities and single-family residences.

Commercial loans, secured and unsecured, are made primarily to professionals, community-based businesses, and not-for-profit organizations operating in primary service areas. These loans are available for general operating purposes, acquisition of fixed assets, purchases of equipment and machinery, financing of inventory and accounts receivable, and other business purposes. The Bank also originates Small Business Administration (“SBA”) loans and has a preferred lender status with the SBA.

Within its primary markets, the Bank also concentrates on construction loan financing for commercial facilities and for pre-sold, custom, and speculative home construction. The major thrust of residential construction lending is for the construction of single-family residences. The Bank also finances requests for duplexes and other multi-family residences.

Fixed-rate and variable rate residential mortgage loans are offered through the Bank’s mortgage loan department. Most residential mortgage loans originated are sold in the secondary market along with the mortgage loan servicing rights.

The Bank makes secured and unsecured loans to individuals for various purposes including purchases of automobiles, mobile homes, boats, and other recreational vehicles, home improvements, education, and personal investment.

The Bank offers credit card services to its business customers. The Bank uses an outside vendor for credit card processing. In addition, the Bank provides merchant bankcard processing services to the Bank’s business customers through an outside processor.

The Board of Directors has approved specific lending policies and procedures for the Bank and management is responsible for implementation of the policies. The lending policies and procedures include guidelines for loan term, loan-to-value ratios, collateral appraisals, and interest rates. The loan policies also vest varying levels of loan authority in management, the Bank’s Loan Committee, and the Board of Directors. Bank management monitors lending activities through management meetings, weekly loan committee meetings, monthly reporting, and periodic review of loans by third-party contractors.

The Bank has a Consumer Finance Division and operates under the business name Pacific Continental Finance. At December 31, 2004, this division had approximately $9.1 million in outstanding loans. This division of the Bank makes primarily secured loans to individuals for various purposes including automobiles, mobile homes, boats, and home improvements or home equity loans. A small percentage of loans made by this division are unsecured. The majority of loans made by the Consumer Finance Division are classified as sub-prime lending and have yields appropriate to the credit risk assumed.

Deposit Services

The Bank offers a full range of deposit services that are typically available in most banks and savings banks, including checking accounts, savings, money market accounts, and time deposits. The transaction accounts and time deposits are tailored to the Bank’s primary market area at rates competitive with those offered in the area. Additional deposits are generated through national networks for institutional deposits. All deposit accounts are insured by the FDIC to the maximum amount permitted by law.

The Bank has invested in image technology for the processing of checks. The Bank was the first financial institution in Lane, Multnomah, Clackamas, and Washington Counties to offer this service. In addition, the Bank allows 24-hour customer access to deposit and loan information via telephone and on-line cash management products.

Other Services

The Bank provides other traditional commercial and consumer banking services, including safe deposit services, debit and ATM cards, ACH transactions, savings bonds, cashier’s checks, travelers checks, notary services and others. The Bank is a member of the Star and Plus ATM networks and utilizes an outside processor for the processing of these automated transactions.

Employees

At December 31, 2004, the Bank employed 190 full-time equivalent employees. None of these employees are represented by labor unions. A number of benefit programs are available to eligible employees, including group medical plans, paid sick leave, paid vacation, group life insurance, 401(k) plans, and stock option plans.

Supervision and Regulation

General

We are extensively regulated under federal and state law. These laws and regulations are primarily intended to protect depositors, not shareholders. The discussion below describes and summarizes certain statutes and regulations. These descriptions and summaries are qualified in their entirety by reference to the particular statute or regulation. Changes in applicable laws or regulations may have a material effect on our business and prospects. Our operations may also be affected by changes in the policies of banking and other government regulators. We cannot accurately predict the nature or extent of the possible future effects on our business and earnings of changes in fiscal or monetary policies, or new federal or state laws and regulations.

Federal Bank Holding Company Regulation

General. The Company is a bank holding company as defined in the Bank Holding Company Act of 1956, as amended, and is therefore subject to regulation, supervision and examination by the Federal Reserve. In general, the Bank Holding Company Act limits the business of bank holding companies to owning or controlling banks and engaging in other activities closely related to banking. The Company must file reports with the Federal Reserve and must provide it with such additional information as it may require. Holding Company Bank Ownership. The Bank Holding Company Act requires every bank holding company to obtain the prior approval of the Federal Reserve before (1) acquiring, directly or indirectly, ownership or control of any voting shares of another bank or bank holding company if, after such acquisition, it would own or control more than 5% of such shares, (2) acquiring all or substantially all of the assets of another bank or bank holding company, or (3) merging or consolidating with another bank holding company.
Holding Company Control of Nonbanks. With some exceptions, the Bank Holding Company Act also prohibits a bank holding company from acquiring or retaining direct or indirect ownership or control of more than 5% of the voting shares of any company which is not a bank or bank holding company, or from engaging directly or indirectly in activities other than those of banking, managing or controlling banks, or providing services for its subsidiaries. The principal exceptions to these prohibitions involve certain non-bank activities that, by statute or by Federal Reserve regulation or order, have been identified as activities closely related to the business of banking or of managing or controlling banks.
Transactions with Affiliates. Subsidiary banks of a bank holding company are subject to restrictions imposed by the Federal Reserve Act on extensions of credit to the holding company or its subsidiaries, on investments in their securities and on the use of their securities as collateral for loans to any borrower. These regulations and restrictions may limit the Company’s ability to obtain funds from the Bank for its cash needs, including funds for payment of dividends, interest and operational expenses.
 
Tying Arrangements. We are prohibited from engaging in certain tie-in arrangements in connection with any extension of credit, sale or lease of property or furnishing of services. For example, with certain exceptions, neither the Company nor its subsidiaries may condition an extension of credit to a customer on either (1) a requirement that the customer obtain additional services provided by us or (2) an agreement by the customer to refrain from obtaining other services from a competitor.
Support of Subsidiary Banks. Under Federal Reserve policy, the Company is expected to act as a source of financial and managerial strength to the Bank. This means that the Company is required to commit, as necessary, resources to support the Bank. Any capital loans a bank holding company makes to its subsidiary banks are subordinate to deposits and to certain other indebtedness of those subsidiary banks. State Law Restrictions. As an Oregon corporation, the Company is subject to certain limitations and restrictions under applicable Oregon corporate law. For example, state law restrictions in Oregon include limitations and restrictions relating to lending limits related to individual borrowers, indemnification of directors, distributions to shareholders, transactions involving directors, officers or interested shareholders, maintenance of books, records, and minutes, and observance of certain corporate formalities.

Federal and State Regulation of Pacific Continental Bank

General. The Bank is an Oregon commercial bank operating in Oregon with deposits insured by the FDIC. As a result, the Bank is subject to supervision and regulation by the Oregon Department of Consumer and Business Services and the FDIC. These agencies have the authority to prohibit banks from engaging in what they believe constitute unsafe or unsound banking practices.

Community Reinvestment. The Community Reinvestment Act requires that, in connection with examinations of financial institutions within their jurisdiction, the Federal Reserve or the FDIC evaluate the record of the financial institution in meeting the credit needs of its local communities, including low and moderate income neighborhoods, consistent with the safe and sound operation of the institution. These factors are also considered in evaluating mergers, acquisitions and applications to open a branch or facility.

Insider Credit Transactions. Banks are also subject to certain restrictions imposed by the Federal Reserve Act on extensions of credit to executive officers, directors, principal shareholders or any related interests of such persons. Extensions of credit (1) must be made on substantially the same terms, including interest rates and collateral as, and follow credit underwriting procedures that are not less stringent than, those prevailing at the time for comparable transactions with persons not covered above and who are not employees, and (2) must not involve more than the normal risk of repayment or present other unfavorable features. Banks are also subject to certain lending limits and restrictions on overdrafts to insiders. A violation of these restrictions may result in the assessment of substantial civil monetary penalties, the imposition of a cease and desist order, and other regulatory sanctions.

Regulation of Management. Federal law (1) sets forth circumstances under which officers or directors of a bank may be removed by the institution's federal supervisory agency; (2) places restraints on lending by a bank to its executive officers, directors, principal shareholders, and their related interests; and (3) prohibits management personnel of a bank from serving as a director or in other management positions of another financial institution whose assets exceed a specified amount or which has an office within a specified geographic area.

Safety and Soundness Standards. Federal law imposes upon banks certain non-capital safety and soundness standards. These standards cover internal controls, information systems and internal audit systems, loan documentation, credit underwriting, interest rate exposure, asset growth, compensation, fees and benefits, such other operational and managerial standards as the agency determines to be appropriate, and standards for asset quality, earnings and stock valuation. An institution that fails to meet these standards must develop a plan acceptable to its regulators, specifying the steps that the institution will take to meet the standards. Failure to submit or implement such a plan may subject the institution to regulatory sanctions.


 
 

Interstate Banking And Branching

The Riegle-Neal Interstate Banking and Branching Efficiency Act of 1994 ("Interstate Act") permits nationwide interstate banking and branching under certain circumstances. This legislation generally authorizes interstate branching and relaxes federal law restrictions on interstate banking. Currently, bank holding companies may purchase banks in any state, and states may not prohibit these purchases. Additionally, banks are permitted to merge with banks in other states, as long as the home state of neither merging bank has opted out under the legislation. The Interstate Act requires regulators to consult with community organizations before permitting an interstate institution to close a branch in a low-income area.
FDIC regulations prohibit banks from using their interstate branches primarily for deposit production. The FDIC has implemented a loan-to-deposit ratio screen to ensure compliance with this prohibition.

Oregon enacted "opting in" legislation in accordance with the Interstate Act provisions allowing banks to engage in interstate merger transactions, subject to certain "aging" requirements. Oregon restricts an out-of-state bank from opening de novo branches. However, once an out-of-state bank has acquired a bank within the state, either through merger or acquisition of all or substantially all of the bank's assets, the out-of-state bank may open additional branches within the state.

Deposit Insurance

The Bank’s deposits are currently insured to a maximum of $100,000 per depositor through the Bank Insurance Fund administered by the FDIC. The Bank is required to pay deposit insurance premiums, which are assessed semiannually and paid quarterly. The premium amount is based upon a risk classification system established by the FDIC. Banks with higher levels of capital and a low degree of supervisory concern are assessed lower premiums than banks with lower levels of capital or a higher degree of supervisory concern.

The FDIC is also empowered to make special assessments on insured depository institutions in amounts determined by the FDIC to be necessary to give it adequate assessment income to repay amounts borrowed from the U.S. Treasury and other sources or for any other purpose the FDIC deems necessary.

Dividends

The principal source of the Company’s cash reserves is dividends received from the Bank. The payment of dividends is subject to government regulation, in that regulatory authorities may prohibit banks and bank holding companies from paying dividends in a manner that would constitute an unsafe or unsound banking practice. In addition, a bank may not pay cash dividends if doing so would reduce the amount of its capital below that necessary to meet minimum applicable regulatory capital requirements. State laws also limit a bank's ability to pay dividends.

Capital Adequacy

Regulatory Capital Guidelines. Federal bank regulatory agencies use capital adequacy guidelines in the examination and regulation of bank holding companies and banks. The guidelines are “risk-based,” meaning that they are designed to make capital requirements more sensitive to differences in risk profiles among banks and bank holding companies.

Tier I and Tier II Capital. Under the guidelines, an institution’s capital is divided into two broad categories, Tier I capital and Tier II capital. Tier I capital generally consists of common stockholders’ equity, surplus and undivided profits. Tier II capital generally consists of the allowance for loan losses, hybrid capital instruments, and subordinated debt. The sum of Tier I capital and Tier II capital represents an institution’s total capital. The guidelines require that at least 50% of an institution’s total capital consist of Tier I capital.

Risk-based Capital Ratios. The adequacy of an institution’s capital is gauged primarily with reference to the institution’s risk-weighted assets. The guidelines assign risk weightings to an institution’s assets in an effort to quantify the relative risk of each asset and to determine the minimum capital required to support that risk. An institution’s risk-weighted assets are then compared with its Tier I capital and total capital to arrive at a Tier I risk-based ratio and a total risk-based ratio, respectively. The guidelines provide that an institution must have a minimum Tier I risk-based ratio of 4% and a minimum total risk-based ratio of 8%.

Leverage Ratio. The guidelines also employ a leverage ratio, which is Tier I capital as a percentage of average total assets, less intangibles. The principal objective of the leverage ratio is to constrain the maximum degree to which a bank holding company may leverage its equity capital base. The minimum leverage ratio is 3%; however, for all but the most highly rated bank holding companies and for bank holding companies seeking to expand, regulators expect an additional cushion of at least 1% to 2%.

Prompt Corrective Action. Under the guidelines, an institution is assigned to one of five capital categories depending on its total risk-based capital ratio, Tier I risk-based capital ratio, and leverage ratio, together with certain subjective factors. The categories range from “well capitalized” to “critically undercapitalized.” Institutions that are "undercapitalized" or lower are subject to certain mandatory supervisory corrective actions.
 
Corporate Governance and Accounting Legislation

Sarbanes-Oxley Act of 2002. The Sarbanes-Oxley Act of 2002 (the “Act”) addresses, among other things, accounting fraud and corporate governance matters. The Act establishes a new accounting oversight board to enforce auditing standards and restricts the scope of services that accounting firms may provide to their public company audit clients. In addition, it also (i) requires chief executive officers and chief financial officers to certify to the accuracy of periodic reports filed with the Securities and Exchange Commission (the “SEC”); (ii) imposes new disclosure requirements regarding internal controls, off-balance-sheet transactions, and pro forma (non-GAAP) disclosures; (iii) accelerates the time frame for reporting of insider transactions and periodic disclosures by public companies; and (iv) requires companies to adopt and disclose information about corporate governance practices, including whether or not they have adopted a code of ethics for senior financial officers and whether the audit committee includes at least one "audit committee financial expert.”

The Act also requires the SEC, based on certain enumerated factors, to regularly and systematically review corporate filings. To deter wrongdoing, the Act: (i) subjects bonuses issued to top executives to disgorgement if a restatement of a company's financial statements was due to corporate misconduct; (ii) prohibits an officer or director misleading or coercing an auditor; (iii) prohibits insider trades during pension fund “blackout periods”; (iv) imposes new criminal penalties for fraud and other wrongful acts; and (v) extends the period during which certain securities fraud lawsuits can be brought against a company or its officers.

As a publicly reporting company, we are subject to the requirements of the Act and related rules and regulations issued by the SEC and NASDAQ. In 2004, we were required for the first time to comply with the requirements of Section 404 of the Act regarding the Company’s system of internal controls over financial reporting, and such compliance resulted in a significant expense for the Company. We anticipate that we will continue to incur additional expense involving ongoing compliance with Section 404 of the Act and the related rules and regulations issued by the SEC and NASDAQ.

Anti-terrorism Legislation

USA Patriot Act of 2001. The Uniting and Strengthening America by Providing Appropriate Tools Required to Intercept and Obstruct Terrorism Act of 2001 (“USA Patriot Act”) is intended to combat terrorism. Among other things, the USA Patriot Act (1) prohibits banks from providing correspondent accounts directly to foreign shell banks; (2) imposes due diligence requirements on banks opening or holding accounts for foreign financial institutions or wealthy foreign individuals (3) requires financial institutions to establish an anti-money-laundering compliance program, and (4) eliminates civil liability for persons who file suspicious activity reports. The Act also increases governmental powers to investigate terrorism, including expanded government access to account records. The Department of the Treasury is empowered to administer and make rules to implement the Act. While we believe the USA Patriot Act may, to some degree, affect our record keeping and reporting expenses, we do not believe that the Act will have a material adverse effect on our business and operations.
 
Financial Services Modernization

Gramm-Leach-Bliley Act of 1999. The Financial Services Modernization Act of 1999, also known as the Gramm-Leach-Bliley Act, brought about significant changes to the laws affecting banks and bank holding companies. Generally, the Act (i) repealed the historical restrictions on preventing banks from affiliating with securities firms, (ii) provided a uniform framework for the activities of banks, savings institutions and their holding companies, (iii) broadened the activities that may be conducted by national banks and banking subsidiaries of bank holding companies, (iv) provided an enhanced framework for protecting the privacy of consumer information and (v) addressed a variety of other legal and regulatory issues affecting both day-to-day operations and long-term activities of financial institutions.
 
Bank holding companies that qualify and elect to become financial holding companies can engage in a wider variety of financial activities than permitted under previous law, particularly with respect to insurance and securities underwriting activities. In addition, in a change from previous law, bank holding companies will be in a position to be owned, controlled or acquired by any company engaged in financially related activities, so long as the company meets certain regulatory requirements. The Act also permits national banks (and, in states with wildcard statutes, certain state banks), either directly or through operating subsidiaries, to engage in certain non-banking financial activities.

We do not believe that the act will negatively affect our operations in the short term. However, to the extent the legislation permits banks, securities firms and insurance companies to affiliate, the financial services industry may experience further consolidation. This consolidation could result in a growing number of larger financial institutions that offer a wider variety of financial services than we currently offer, and these companies may be able to aggressively compete in the markets we currently serve.

Effects Of Government Monetary Policy

Our earnings and growth are affected not only by general economic conditions, but also by the fiscal and monetary policies of the federal government, particularly the Federal Reserve. The Federal Reserve can and does implement national monetary policy for such purposes as curbing inflation and combating recession, but its open market operations in U.S. government securities, control of the discount rate applicable to borrowings from the Federal Reserve, and establishment of reserve requirements against certain deposits, influence the growth of bank loans, investments and deposits, and also affect interest rates charged on loans or paid on deposits. The nature and impact of future changes in monetary policies and their impact on us cannot be predicted with certainty.


 

Statistical Information

Selected Quarterly Information

The following chart contains data for the last eight quarters ending December 31, 2004. All data, except per share data, is in thousands of dollars.

YEAR
  
2004
  
2003
  
QUARTER
 
Fourth
  
Third
  
Second
  
First
  
Fourth
  
Third
  
Second
  
First
  
Interest income
  
$
8,235
  
$
7,492
  
$
6,894
  
$
6,714
  
$
6,809
  
$
6,501
  
$
6,742
  
$
6,477
  
Interest expense
    
1,341
    
1,100
    
1,012
    
1,020
    
1,049
    
1,065
    
1,102
    
1,093
  
Net interest income
    
6,894
    
6,392
    
5,972
    
5,694
    
5,760
    
5,436
    
5,640
    
5,384
  
Provision for loan loss
    
200
    
125
    
75
    
100
    
100
    
0
    
200
    
600
  
Noninterest income
    
1,102
    
1,132
    
1,152
    
1,077
    
1,116
    
1,297
    
1,167
    
1,366
  
Noninterest expense
    
4,201
    
4,065
    
3,898
    
3,877
    
3,879
    
3,744
    
3,779
    
3,800
  
Net income
    
2,219
    
2,058
    
1,948
    
1,724
    
1,795
    
1,847
    
1,743
    
1,446
  
                                                   
PER COMMON
                                                  
SHARE DATA
                                                  
Net income (basic) (1)
  
$
0.26
  
$
0.24
  
$
0.22
  
$
0.20
  
$
0.21
  
$
0.22
  
$
0.20
  
$
0.18
  
Cash dividends (1)
  
$
0.06
  
$
0.064
  
$
0.064
  
$
0.064
  
$
.06
  
$
.054
  
$
.054
  
$
.054
  

(1) All current year and prior year per share data has been retroactively adjusted for 4-for-3 and 5-for-4 stock splits in September 2003 and September 2004, respectively.

Investment Portfolio

The following chart contains information regarding the Company’s investment portfolio. All of the Company’s investment securities are accounted for as available-for-sale and are reported at estimated market value. The difference between estimated fair value and amortized cost, net of deferred taxes, is a separate component of stockholders’ equity.

INVESTMENT PORTFOLIO
  
ESTIMATED MARKET VALUE
  
(dollars in thousands)
  
       
   
December 31,
  
   
2004
  
2003
  
2002
  
US Treasury, US Government agencies and corporations,
          
and agency mortgage-backed securities
  
$
6,390
  
$
6,477
  
$
1,047
  
Obligations of states and political subdivisions
    
3,059
    
2,993
    
118
  
Other mortgage-backed securities & corporate notes
    
18,109
    
20,559
    
9,680
  
Total
  
$
27,558
  
$
30,029
  
$
10,845
  


 

The following chart presents the amount of each investment category by maturity date and includes a weighted average yield for each period. Mortgage-backed securities have been classified based on their December 31, 2004 projected average life.

SECURITIES AVAILABLE-FOR-SALE
  
DECEMBER 31, 2004
  
(dollars in thousands)
  
                                   
           
After One
  
After Five
          
           
Year But
  
Years But
          
   
Within
 
Within
  
Within
  
After
  
   
One Year
  
Five Years
  
Ten Years
  
Ten Years
  
   
Amount
  
Yield
  
Amount
  
Yield
  
Amount
  
Yield
  
Amount
  
Yield
  
US Treasury, US
Government agencies
    
                                           
and agency mortgage-
                                                  
backed securities
  
$
1,761
    
3.39
%
$
19,058
    
3.85
%
$
3,679
    
4.23
%
  
-
    
-
  
Obligations of states and
                                                  
political subdivisions
    
-
    
-
  
$
1,471
    
3.87
%
$
1,192
    
3.36
%
$
397
    
3.05
%
Total
  
$
1,761
    
3.39
%
$
20,529
    
3.85
%
$
4,871
    
4.02
%
$
397
    
3.05
%

Loan Portfolio

The following tables contain information related to the Company’s loan portfolio, including loans held for sale, for the five-year period ending December 31, 2004.

LOAN PORTFOLIO
  
(dollars in thousands)
  
       
   
December 31,
 
   
2004
  
2003
  
2002
  
2001
  
2000
  
                       
Loan Portfolio
                      
Commercial Loans
  
$
107,538
  
$
89,127
  
$
94,345
  
$
63,058
  
$
54,798
  
Real Estate Loans
    
341,111
    
255,150
    
222,727
    
169,776
    
159,481
  
Loans held for sale
    
2,072
    
1,958
    
5,546
    
1,924
    
814
  
Consumer Loans
    
10,380
    
11,424
    
9,579
    
9,454
    
10,582
  
     
461,101
    
357,659
    
332,197
    
244,212
    
225,675
  
Deferred loan origination fees
    
(2,061
)
  
(1,582
)
  
(1,394
)
  
(1,111
)
  
(1,081
)
     
459,040
    
356,077
    
330,803
    
243,101
    
224,594
  
Allowance for loan loss
    
(5,224
)
  
(5,225
)
  
(4,403
)
  
(3,418
)
  
(2,149
)
   
$
453,816
  
$
350,852
  
$
326,400
  
$
239,683
  
$
222,445
  


 


 
The following table presents loan portfolio information by loan category related to maturity and repricing sensitivity. Variable rate loans are included in the time frame in which the interest rate on the loan could be first adjusted. Nonperforming loans totaling $1,217 are included. Loans held for sale of $2,072 are included in the Real Estate category.
 
MATURITY AND REPRICING DATA FOR LOANS
  
December 31, 2004
  
(dollars in thousands)
  
                   
   
Commercial
  
Real Estate
  
Consumer
  
Total
  
Three months or less
  
$
77,542
  
$
138,945
  
$
4,542
  
$
221,029
  
Over three months through 12 months
    
1,145
    
5,153
    
1,882
    
8,180
  
Over 1 year through 3 years
    
9,225
    
59,642
    
1,382
    
70,249
  
Over 3 years through 5 years
    
12,388
    
48,759
    
1,133
    
62,280
  
Over 5 years through 15 years
    
7,238
    
90,684
    
1,441
    
99,363
  
Total loans
  
$
107,538
  
$
343,183
  
$
10,380
  
$
461,101
  

Loan Concentrations

At December 31, 2004, residential construction loans totaled $67,938 and represented 14.73% of outstanding loans. In addition, at December 31, 2004, unfunded loan commitments for residential construction totaled approximately $19,008. At year end there were no nonaccrual loans and no impaired loans in this industry. No other single industry group represents more than 10% of outstanding loans. Approximately 74% of the Bank’s loans are secured by real estate. The granular nature of the portfolio, both from industry mix and loan size, continues to disburse risk concentration.

Loans in the hotel/motel industry have contracted to less than 6% of the total loan portfolio at December 31, 2004, a reduction from 6% at the previous fiscal year end. There were no foreclosed or non-accrual hotel/motel properties remaining as of year end. At December 31, 2004, one restructured loan in this industry totaled $1,896 and is performing according to the restructured terms of the loan. Subsequent to the end of the year, this restructured loan returned to full amortization at market interest rates and is no longer classified as restructured. All other hotel/motel loans are performing according to their contractual terms. In view of the uncertainties in the hotel/motel industry, the Company continues to carefully monitor loans made by the Bank in this industry.

   
December 31,
 
   
2004
  
2003
  
2002
  
2001
  
2000
  
                       
Nonperforming Assets
                      
Nonaccrual loans
  
$
1,004
  
$
1,506
  
$
6,176
  
$
6,049
  
$
490
  
90 or more days past due and still accruing
    
213
    
545
   
359
    
953
    
155
  
Total nonperforming loans
    
1,217
    
2,051
    
6,535
    
7,002
    
645
  
Government guarantees
    
(101
)
  
(233
)
  
(1,563
)
  
(1,020
)
  
0
  
Net nonperforming loans
    
1,116
    
1,818
    
4,972
    
5,982
    
645
  
Foreclosed assets
    
262
    
411
    
864
    
0
    
385
  
Total nonperforming assets
  
$
1,378
  
$
2,229
  
$
5,836
  
$
5,982
  
$
1,030
  
                                 
Nonperforming assets as a percentage of
                               
of total assets
    
0.27
%
  
0.52
%
  
1.54
%
  
1.93
%
  
0.35
%

If interest on nonaccrual loans had been accrued, such income would have been approximately $98, $159, and $446, respectively, for years 2004, 2003 and 2002.

Allowance for Loan Loss

The following chart presents information about the Company’s allowances for loan loss. The Company does not allocate the allowance among specific loan types or categories. Management evaluates the allowance monthly and considers the amount to be adequate to absorb possible loan losses.

ALLOWANCE FOR LOAN LOSS
  
(dollars in thousands)
  
                       
   
December 31,
 
   
2004
  
2003
  
2002
  
2001
  
2000
  
Allowance for loan losses
                      
Balance at beginning of year
  
$
5,225
  
$
4,403
  
$
3,418
  
$
2,149
  
$
2,448
  
Charges to the allowance
                                
Real estate loans
    
(79
)
  
(843
)
  
(4,138
)
  
(54
)
  
(336
)
Consumer loans
    
(269
)
  
(104
)
  
(123
)
  
(99
)
  
(208
)
Commercial
   
(168
)
  
(238
)
  
(542
)
  
(121
)
  
(1,185
)
Total charges to the allowance
    
(516
)
  
(1,185
)
  
(4,803
)
  
(274
)
  
(1,729
)
Recoveries against the allowance
                                
Real estate loans
    
73
    
799
    
49
    
8
    
48
  
Consumer loans
    
54
    
15
    
10
    
29
    
7
  
Commercial
    
70
    
103
    
69
    
51
    
35
  
Total recoveries against the allowance
    
197
    
917
    
128
    
88
    
90
  
                                 
Acquisition
    
0
    
190
    
0
    
0
    
0
  
Provisions
    
500
    
900
    
5,660
    
1,455
    
1,340
  
Unfunded commitments *
    
(182
)
  
0
    
0
    
0
    
0
  
Balance at end of the year
  
$
5,224
  
$
5,225
  
$
4,403
  
$
3,418
  
$
2,149
  
                                 
Net charge offs as a percentage of total average loans
    
0.08
%
  
0.08
%
  
1.62
%
  
0.08
%
  
0.72
%
* Allowance for unfunded commitments is presented as part of the other liabilities in the balance sheet.

During 2004, the Bank recorded a provision for loan losses of $500 of which $182 was reserved for unfunded loan commitments and recorded in other liabilities. The continued reductions in the loan loss provision over the last two years reflected improving quality of the loan portfolio and related reduction in nonperforming loans. At December 31, 2004, the recorded investment in certain loans totaling $2,799 (net of government guarantees), were considered impaired. Impaired loans at December 31, 2004 consist of $903 in nonaccrual loans and one restructured motel/hotel loan totaling $1,896. A specific related valuation of $510 is provided for these loans and is included in the $5,224 ending allowance at December 31, 2004.

Deposits

Deposits represent a significant portion of the Company’s liabilities. Average balance and average rates paid by category of deposit is included in Table I, Average Balance Analysis of Net Interest Earnings, within the Company’s “Management’s Discussion and Analysis of Financial Condition and Results of Operations” included later in this report. The chart below details the Company’s time deposits at December 31, 2004. The Company does not have any foreign deposits. Variable rate deposits are listed by first repricing opportunity.

 


TIME DEPOSITS
  
(dollars in thousands)
  
               
   
Time Deposits
  
Time Deposits
     
   
of $100,000
 
of less than
  
Total
  
   
Or more
 
$100,000
 
Time Deposits
  
Three months or less
  
$
10,615
  
$
6,665
  
$
17,280
  
Over three months through twelve months
    
11,148
    
7,224
    
18,372
  
Over one year through three years
    
3,312
    
5,212
    
8,524
  
Over three years
    
6,039
    
1,645
    
7,684
  
   
$
31,114
  
$
20,746
  
$
51,860
  

Short-term Borrowings

The Company uses short-term borrowings to fund fluctuations in deposits and loan demand. The Company’s only subsidiary, Pacific Continental Bank, has access to both secured and unsecured overnight borrowing lines. At December 31, 2004, the Bank had available unsecured and secured borrowing lines totaling $188,000. At December 31, 2004, available unsecured borrowing lines with various correspondent banks and a secured line with the Federal Reserve Bank of San Francisco totaling $59,500 ($49,210 available at December 31, 2004). The Federal Home Loan Bank of Seattle (FHLB) also provides a secured borrowing line using a blanket pledge of commercial real estate loans. The Bank’s FHLB borrowing limit at December 31, 2004 was 25% of assets or $129,100 and subject to sufficient collateral and stock investment.

SHORT-TERM BORROWINGS
  
(dollars in thousands)
  
               
   
2004
  
2003
  
2002
  
Federal Funds Purchased & FHLB Cash Management Advances
                    
Average interest rate
                    
At year end
    
2.75
%
  
1.10
%
  
1.60
%
For the year
    
2.46
%
  
1.59
%
  
2.00
%
Average amount outstanding for the year
  
$
12,596
  
$
4,066
  
$
3,735
  
Maximum amount outstanding at any month end
  
$
31,790
  
$
21,710
  
$
15,000
  
Amount outstanding at year end
  
$
31,790
  
$
0
  
$
9,000
  
  
ITEM 2 Properties

The principal properties of the registrant are comprised of the banking facilities owned by the Bank. The Bank operates ten full service facilities and two consumer finance offices. The Bank and Bank subsidiaries own a total of six buildings and owns the land under four of the buildings. Significant properties owned by the Bank are as follows:

1)  
Three-story building and land with approximately 30,000 square feet located on Olive Street in Eugene, Oregon. The Bank occupies the entire building.

2)  
Building with approximately 4,000 square feet located on West 11th Avenue in Eugene, Oregon. The building is on leased land.

3)  
Building and land with approximately 8,000 square feet located on High Street in Eugene, Oregon.
 
4)  
Three-story building and land with approximately 31,000 square feet located in the Gateway area of Springfield, Oregon. The Bank occupies approximately 5,500 square feet of the first floor and leases out or is seeking to lease out the remaining space.

5)  
Building and land with approximately 3,500 square feet located in Beaverton, Oregon.

6)  
Building and land with approximately 2,000 square feet located in Junction City, Oregon.

The Bank leases facilities for branch offices in Portland, Oregon and Tualatin, Oregon, two branch offices and one consumer finance lending office located in Eugene, Oregon, and one consumer finance office in Coos Bay, Oregon. In addition, the Bank leases a portion of an adjoining building to the High Street office for administrative and training functions. Management considers all owned and leased facilities adequate for current and anticipated future use.

Subsequent to the end of the year, the bank entered into an agreement to purchase a building and land for a new office in the Portland Metropolitan area. The purchase is expected to close prior to the end of the first quarter 2005.

ITEM 3 Legal Proceedings

As of the date of this report, neither the Company nor the Bank or any of its subsidiaries is party to any material pending legal proceedings, including proceedings of governmental authorities, other than ordinary routine litigation incidental to the business of the Bank.


ITEM 4 Submissions of Matters to a Vote of Security Holders

There were no matters submitted to a vote of security holders during the fourth quarter of 2004.

PART II

ITEM 5 Market for Company’s Common Equity, Related Stockholder Matters and Purchases of Equity Securities
         

Issuer Purchases of Securities

The Company did not repurchase any shares of its common stock during the fourth quarter of 2004. The Company had no sales of securities during the past three years, other than those pursuant to its stock option plans.

Dividends

The Company pays cash dividends on a quarterly basis, typically in March, June, September and December of each year. The Board of Directors considers the dividend amount quarterly and takes a broad perspective in its dividend deliberations including a review of recent operating performance, capital levels, and growth projections. The board also considers dividend payout ratios, dividend yield, and other financial metrics in setting the quarterly dividend. Adjusting for the September 2004 stock split, the Company declared and paid cash dividends of $0.252 per share for the year 2004. That compares to cash dividends of $0.216 paid during 2003, also adjusted for the stock split.

 


Equity Compensation Plan Information

 
Year Ended December 31, 2004  
 
Number of Shares to be Issued Upon Exercise of Outstanding Options, Warrants and Rights (1)
Weighted-Average Exercise Price of Outstanding Options, Warrants and Rights
Number of Shares Remaining Available for Future Issuance Under Equity Compensation Plans (1)
Equity compensation plans approved by security holders
 
1,006,542
 
$ 10.37
 
776,401
       
Equity compensation plans not approved by security holders
 
0
 
$0
 
0

(1)  
Consists of shares that are outstanding and shares available for future issuance under the respective plans. The material terms of the plans are described above. All figures have been adjusted to reflect the September 2004,
5-for-4 stock split.

Market Information

The Company’s common stock trades on the NASDAQ National Market under the symbol PCBK. At February 16, 2005, the Company had 8,695,523 shares of common stock outstanding held by approximately 1,350 shareholders.

The high, low and closing sales prices (based on daily closing price) for the last eight quarters are shown in the table below. All prices have been adjusted retroactively to reflect the 5-for-4 and 4-for-3 stock split declared in September 2004 and September 2003, respectively.

YEAR
      
2004
              
2003
          
QUARTER
  
Fourth
  
Third
  
Second
  
First
  
Fourth
  
Third
  
Second
  
First
  
Market value:
                                                  
High
  
$
16.74
  
$
15.19
  
$
12.80
  
$
12.48
  
$
12.71
  
$
12.00
  
$
9.33
  
$
9.60
  
Low
    
14.40
    
12.26
    
10.88
    
11.42
    
10.70
    
9.12
    
8.73
    
8.46
  
Close
    
15.75
    
14.94
    
12.38
    
12.38
    
12.71
    
10.78
    
9.15
    
8.84
  



 

ITEM 6 Selected Financial Data

Selected financial data for the past five years is shown in the table below.
$ in thousands, except for per share data


 
   
2004
  
2003
  
2002
  
2001
  
2000
  
For the year
                      
Net interest income
  
$
24,952
  
$
22,220
  
$
19,689
  
$
18,520
  
$
17,262
  
Provision for loan losses
  
$
500
  
$
900
  
$
5,660
  
$
1,455
  
$
1,340
  
Noninterest income
  
$
4,463
  
$
4,946
  
$
4,200
  
$
3,611
  
$
2,824
  
Noninterest expense
  
$
16,041
  
$
15,202
  
$
12,594
  
$
11,371
  
$
10,885
  
Income taxes
 
$
4,925
  
$
4,233
  
$
2,181
  
$
3,582
  
$
3,053
  
Net income
  
$
7,948
  
$
6,831
  
$
3,454
  
$
5,722
  
$
4,808
  
Cash dividends
  
$
2,164
  
$
1,841
  
$
1,610
  
$
1,401
  
$
1,225
  
                                 
Per common share data (1)
                                
Net income:
                                
Basic
  
$
0.93
  
$
0.81
  
$
0.41
  
$
0.69
  
$
0.58
  
Diluted
  
$
0.90
  
$
0.79
  
$
0.41
  
$
0.67
  
$
0.58
  
Cash dividends
  
$
0.25
  
$
0.22
  
$
0.19
  
$
0.17
  
$
0.15
  
Market value, end of year
  
$
15.75
  
$
12.71
  
$
8.70
  
$
7.62
  
$
4.84
  
                                 
At year end
                                
Assets
  
$
516,630
  
$
425,799
  
$
379,846
  
$
309,548
  
$
294,124
  
Loans, less allowance for loan loss
  
$
453,817
  
$
350,852
  
$
326,400
  
$
239,683
  
$
222,445
  
Deposits
  
$
403,791
  
$
356,099
  
$
309,909
  
$
248,328
  
$
250,104
  
Shareholders' equity
  
$
49,392
  
$
42,234
  
$
36,698
  
$
35,604
  
$
30,370
  
                                 
Average for the year
                                
Assets
  
$
463,509
  
$
402,195
  
$
337,258
  
$
299,721
  
$
288,589
  
Earning assets
  
$
431,374
  
$
369,574
  
$
305,763
  
$
270,702
  
$
260,419
  
Loans, less allowance for loan loss
  
$
398,739
  
$
342,192
  
$
284,614
  
$
234,441
  
$
224,119
  
Deposits
  
$
379,619
  
$
329,157
  
$
271,765
  
$
238,856
  
$
239,197
  
Interest paying liabilities
  
$
290,571
  
$
256,442
  
$
211,745
  
$
195,529
  
$
195,214
  
Shareholders' equity
  
$
46,043
  
$
39,758
  
$
36,117
  
$
33,882
  
$
28,626
  
                                 
Financial ratios
                                
Return on average:
                                
Assets
    
1.71
%
  
1.70
%
  
1.02
%
  
1.91
%
  
1.67
%
Shareholders' equity
    
17.26
%
  
17.18
%
  
9.56
%
  
16.89
%
  
16.79
%
Average shareholders' equity/average assets
    
9.93
%
  
9.89
%
  
10.71
%
  
11.30
%
  
9.92
%
Dividend payout ratio
    
27.23
%
  
26.95
%
  
46.61
%
  
24.48
%
  
25.47
%
Risk-based capital:
                                
Tier I capital
    
10.19
%
  
10.95
%
  
10.23
%
  
12.71
%
  
12.30
%
Tier II capital
    
11.29
%
  
12.20
%
  
11.47
%
  
13.98
%
  
13.17
%
                                 
(1) Per common share data is retroactively adjusted to reflect the 5-for-4 stock split , 4-for-3 stock split,
                                
and 10% stock dividend of 2004, 2003, and 2001, respectively.
                                


 


ITEM 7 Management’s Discussion and Analysis of Financial Condition and Results of Operations

The following discussion is intended to provide a more comprehensive review of the Company’s operating results and financial condition than can be obtained from reading the Consolidated Financial Statements alone. The discussion should be read in conjunction with the audited financial statements and the notes included later in this report. All numbers, except per share data, are expressed in thousands of dollars.

In addition to historical information, this report contains certain "forward-looking statements" within the meaning of the Private Securities Litigation Reform Act of 1995 (“PSLRA”). This statement is included for the express purpose of availing Pacific Continental Corporation of the protections of the safe harbor provisions of the PSLRA. The forward-looking statements contained in this report are subject to factors, risks, and uncertainties that may cause actual results to differ materially from those projected. Important factors that might cause such material differences include, but are not limited to, those discussed in this section of the report. In addition, the following items are among the factors that could cause actual results to differ materially from the forward-looking statements in this report: general economic conditions, including their impact on capital expenditures; business conditions in the banking industry; recent world events and their impact on interest rates, businesses and customers; the regulatory environment; new legislation; heightened national security risks including acts of terrorism and potential for war; vendor quality and efficiency; employee retention factors; rapidly changing technology and evolving banking industry standards; competitive standards; competitive factors, including increased competition with community, regional, and national financial institutions; fluctuating interest rate environments; and similar matters. Readers are cautioned not to place undue reliance on these forward-looking statements, which reflect management's analysis only as of the date of the statement. Pacific Continental Corporation undertakes no obligation to publicly revise or update these forward-looking statements to reflect events or circumstances that arise after the date of this report. Readers should carefully review the risk factors described in this and other documents we file from time to time with the Securities and Exchange Commission.

HIGHLIGHTS

   
 
2004
  
 
2003
  
% Change
2004 vs. 2003
  
 
2002
  
% Change
2003 vs. 2002
  
Operating revenue
  
$
29,415
  
$
27,166
    
8
%
$
25,439
    
7
%
Net income
  
$
7,948
  
$
6,831
    
16
%
$
3,454
    
98
%
                                 
Earnings per share
                                
Basic
  
$
0.93
  
$
0.81
    
15
%
$
0.41
    
98
%
Diluted
  
$
0.90
  
$
0.79
    
14
%
$
0.41
    
93
%
Assets, period-end
  
$
516,630
  
$
425,799
    
21
%
$
379,846
    
12
%
Deposits, period-end
  
$
403,791
  
$
356,099
    
13
%
$
309,099
    
15
%
                                 
Return on assets
    
1.71
%
  
1.70
%
        
1.02
%
      
Return on equity
    
17.26
%
  
17.18
%
        
9.56
%
      

Per share data for 2004 and all prior years was retroactively adjusted to reflect the 5-for 4 and 4-for-3 stock splits declared during September 2004 and September 2003, respectively.

The Company earned $7,948 in 2004 compared to $6,831 in 2003. Operating revenue growth of 8%, combined with a decrease in the provision for loan losses were key elements for the improvement in 2004 earnings when compared to 2003. Operating revenue (net interest income plus noninterest income) growth was driven by a 17% increase in average earning assets resulting in a 12% increase in net interest income. The provision for loan losses for 2004 was $500 compared to $900 for the year 2003 due to improved credit quality in the loan portfolio and reductions in nonperforming assets.
 
The Company earned $6,831 in 2003 compared to $3,454 in 2002. Operating revenue growth of 14% combined with a significant decrease in the provision for loan losses were key elements to the improvement in 2003 earnings when compared to 2002. Operating revenue growth was driven by a 21% increase in earning assets and an 18% increase in noninterest income due primarily from growth in revenues from the origination and sales of residential mortgages. The provision for loan losses for 2003 was $900 compared to $5,600 for the year 2002. The large provision for loan losses in 2002 was primarily due to problem loans in the hotel/motel industry.

Period-end assets and deposits at December 31, 2004 showed growth rates of 21% and 13%, respectively over year end 2003. Core deposits, which are defined as demand deposits, interest checking, money market accounts, and local time deposits, constitute 95% of December 31, 2004 outstanding deposits. Demand deposits were $132,249 or 33% of total deposits at year-end December 31, 2004.

During 2005, the Company believes the following factors could impact reported financial results:

§  
We are asset sensitive and a continued increase in market interest rates during 2005 is expected to positively impact the Bank’s net interest margin and increase net interest income in the short term. Conversely, a decline in market interest rates would have a negative impact.

§  
Ability to grow core deposits to fund expected loan growth during 2005.

§  
The local and regional economy and its effect on loan demand, the credit quality of existing clients with lending relationships, and vacancy rates of commercial real estate properties, since a significant portion of our loan portfolio is secured by real estate.

§  
Long-term interest rates and their impact on residential construction, residential mortgage lending, and refinancing activities of existing homeowners.

§  
Increased expenses related to personnel costs and the rising costs of providing employee benefits, plus staffing, consulting, audit fees, and other expense related to ongoing compliance with Section 404 of Sarbannes-Oxley Act and FDICIA.

§  
Planned expansion of new offices in the Portland Metropolitan area.

Subsequent Event: Subsequent to December 31, 2004, the Bank entered into a definitive agreement to purchase a building and land in Portland, Oregon for a new office location. This purchase is expected to close prior to the end of the first quarter at a total price of $1,750. The building will require substantial remodeling, and the new office is expected to open during the third quarter 2005.

RESULTS OF OPERATIONS

Net Interest Income

The largest component of the Company’s earnings is net interest income. Net interest income is the difference between interest income derived from earning assets, principally loans, and the interest expense associated with interest bearing liabilities, principally deposits. The volume and mix of earning assets and funding sources, market rates of interest, demand for loans, and the availability of deposits affect net interest income.

Two tables follow which analyze the change in net interest income for 2004, 2003, and 2002. Table I, Average Balance, Analysis of Net Interest Earnings, provides information with regard to average balances of assets and liabilities, as well as associated dollar amounts of interest income and interest expense, relevant average yields or rates, and net interest income as a percent of average earning assets. Table II, Analysis of Changes in Interest Income and Interest Expense, shows the increase (decrease) in the dollar amount of interest income and interest expense and the differences attributable to changes in either volume or rates. Changes not solely due to volume or rate are allocated to rate.

2004 Compared to 2003

Net interest income for 2004 was $24,952, an increase of $2,732 or 12% over 2003 net interest income of $22,220. For the year 2004, the net interest margin as a percentage of earning assets decreased by 23 basis points, from 6.01% in 2003 to 5.78%.

Short-term market interest rates were stable during the first six months of 2004 and were at a 45 year low. Beginning on June 30, 2004, the Federal Reserve began to take measured steps to increase short-term market rates during the last half of 2004. During the last half of 2004, the short-term market interest rates moved up on five occasions in 25 basis point increments for a total increase of 125 basis points. During this period, the prime-lending rate increased from 4.00% to 5.25%. The Bank’s net interest margin did not immediately benefit from the increase in the prime-rate as approximately $90,000 of the Bank’s variable rate loan portfolio had active floors above the calculated rate. The 25 basis point increase in the prime-lending rate in November 2004 removed all active loan floors on variable rate loans. As a result, the Bank’s net interest margin improved during the fourth quarter to 5.87%. That compares to net interest margins of 5.78%, 5.74%, and 5.74% for the first, second, and third quarters of 2004, respectively.


Interest and fees earned on earnings assets during 2004 increased by $2,896 or 11% over 2003. Referring to Table II, total interest income and fees improved by $4,577 due to increased earnings asset volumes, which was partially offset by a $1,681 decline in interest income due to lower yields on earning assets. Average earning assets for 2004 were $431,374, a 17% increase over 2003 average earning asset levels. Growth in earning assets was primarily attributable to loan growth as average loans net of the allowance for loan losses for the year 2004 were up $56,547 or 17% over 2003. Referring to Table I, earning asset yields declined by 36 basis points, from 7.18% in 2003 to 6.82% in 2004. Yields on loans and securities available for sale contributed to the overall decline in earning asset yields during 2004. The yield on average loans, which make up 92% of earning asset volumes, were primarily responsible for the decline in earning asset yields during 2004. Loan yields for 2004 were 7.13%, a decline of 43 basis points from loan yields of 7.56% recorded during 2003. The decline in loan yields is reflective of fixed rate loans booked during the prolonged low interest rate environment during the past two years, combined with active floors on variable rate loans above the calculated rate.

Interest expense on interest-bearing liabilities during 2004 increased by $164 or 4% over 2003. Referring to Table I, overall, average interest-bearing liabilities in 2004 increased by $34,128 or 13% over 2003, while the average rate paid on interest-bearing liabilities dropped by 14 basis points from 1.68% to 1.54%. Referring to Table II interest expense increased by $59 due to the change in the mix and increased volumes of interest-bearing liabilities. Table I also indicates that interest expense for the year increased an additional $105 due to rate as a result of the increase in short-term market interest rates during the last half of 2004. Table II shows the increase in the volume and the increase in the rate on money market and NOW accounts were primarily responsible for the increased interest expense during 2004. Referring to Table I the 2004 average volume of money market and NOW accounts increased $38,155 or 27% over 2003, while the rate on these deposits increased 17 basis points from 0.93% in 2003 to 1.10% in 2004. A portion of the increase in interest expense due to increased volume and rate of money market and NOW accounts was offset by a decline in volume and rate of time deposits. Referring to Table I, average time deposits in 2004 were $10,351 or 16% below 2003 and the rate paid on time deposits dropped by 31 basis points from 2.42% in 2003 to 2.11% in 2004. Table II shows that the decline in volume and rate for the time deposit category reduced noninterest expense in 2004 by $251 and $166, respectively, or a total of $417. The decline in time deposit volume was primarily national time deposits that matured during 2004 and were not renewed. The decline in the rate on time deposits is reflective of the lag effect on time deposit rates in a rising rate environment. Although market interest rates moved up during the last six months of the year, time deposit rates remained low as many of these deposits were booked during the prolonged low interest rate environment during 2003 and the first half of 2004.


 

The Company’s net interest margin benefited from growth in noninterest-bearing deposits. For the year 2004, average noninterest-bearing deposits grew by $20,503 or 20% over 2003. Average nonninterest-bearing deposits funded 27% of total assets. At December 31, 2004, total noninterest bearing deposits were $132,249 and accounted for 33% of total outstanding deposits.

The Bank’s interest rate risk model indicates the Bank is asset sensitive meaning that loans will reprice faster than interest-bearing liabilities, thus in a rising interest rate environment, the net interest margin will expand. While short-term interest rates increased 125 basis points during the last half of 2004 and are expected to continue to increase during the first half of 2005, long-term interest rates have remained stable creating a flattening of the yield curve. At December 31, 2004, the Bank has approximately $200,000 of variable rate loans (approximately 44% of the total loan portfolio), none with active floors, which will reprice immediately with any increase in short-term market interest rates. However, maturing fixed rate loans during 2005 will continue to reprice at relatively low yields as long-term interest rates have not moved upward in tandem with short-term rates. In addition, approximately $90,000 of the Bank’s money market and NOW accounts are tied to the 91-day Treasury bill. The 91-day Treasury bill rate has been moving in advance of increases in the fed funds rate, which increases the Bank’s cost of funds in advance of increases in the prime-lending rate. Considering these factors, the Bank’s net interest margin is expected to decline in the first quarter of 2005 when compared to the fourth quarter of 2004, but should stabilize or improve as historically lower cost core deposits grow and stabilize or lower the Bank’s cost of funds.

2003 Compared to 2002

Net interest income for 2003 was $22,220, an increase of $2,531 or 13% over 2002 net interest income of $19,689. For the year 2003, the net interest margin as a percentage of earning assets decreased by 43 basis points, from 6.44% in 2002 to 6.01% in 2003.

Market interest rates were at a 45 year low for most of 2003. Short-term market rates were relatively stable for most of 2003, with the exception of a 25 basis point drop in short-term rates, which lowered the overnight fed funds borrowing rate and the prime-lending rate in June 2003. As a result of the drop in the prime-lending rate in June, 2003, the Company experienced compression of its net interest margin during the last half of the year. The net interest margin averaged 6.20% for the first six months of 2003 as compared to 5.83% for the last six months of 2003. During 2003, earning asset yields declined as new loans were booked at low interest rates and existing loans repriced or renewed at lower interest rates, while the Company’s cost of funds remained relatively stable. The stability in the Company’s cost of funds was due to deposits, specifically interest checking, savings, and money market accounts, which were priced at their practiical floors in the low interest rate environment. The high level of liquidity during the last six months of 2003 also negatively impacted the Company’s net interest margin for the year. During the last six month of 2003, the Company had excess funds averaging $15,000, which were sold overnight or placed in short-term investments. These short-term investments had an average yield of approximately 1.00%, which lowered earning asset yields in the last half the year, contributing to some of the margin compression.

Interest and fees earned on earnings assets during 2003 increased by $2,303 or 10% over 2002. Referring to Table II, total interest income and fees improved by $4,870 due to increased earnings asset volumes, which was partially offset by a $2,567 decline in interest income due to lower yields on earning assets. Average earning assets for 2003 were $369,599, a 21% increase over 2002 average earning asset levels. Nearly all of the growth in earning assets was attributable to loan growth as average loans net of the allowance for loan losses for the year 2003 were up $57,578 or 20% over 2002. Referring to Table I, earning asset yields declined by 74 basis points, from 7.92% in 2002 to 7.18% in 2003. Yields on loans, short-term investments, and securities available for sale contributed to the overall decline in earning asset yields during 2003. The yield on average loans, which make up 93% of earning asset volumes, were primarily responsible for the decline in earning asset yields during 2003. Loan yields for 2003 were 7.56%, a decline of 61 basis points from loan yields of 8.17% recorded during 2002. The decline in loan yields is reflective of the 25 basis point decline in market rates in June 2003, which lowered yields on existing loan clients, and new loans booked throughout 2003 lower interest rates.

At December 31, 2003, the Company had approximately $177,000 in variable rate loans or 50% of the total loan portfolio. Approximately $150,000 of variable rate loans had active interest rate floors at December 31, 2003. The high level of variable rate loans and the maturity structure of the Company’s liabilities, make the Company asset sensitive, meaning that its loans will reprice faster than liabilities as interest rates change.

Interest expense on interest-bearing liabilities during 2003 decreased by $230 or 5% from 2002. Referring to Table I, interest expense increased by $958 due to increased volumes, which was more than offset by a $1,188 decline in interest expense due to lower rates. Table II shows that average interest-bearing liabilities for 2003 increased by $44,696 or 21% over 2002, which increased interest expense for the year. Most of the increase in volume was attributable to growth in money market and NOW accounts. Rates paid on interest-bearing liabilities fell 46 basis points, from 2.14% in 2002 to 1.68% in 2003. Rates on every category of interest-bearing liabilities showed a decline in 2003 when compared to 2002.

The Company’s net interest margin benefited from growth in noninterest-bearing deposits. For the year 2003, average noninterest-bearing deposits grew by $16,704 or 19% over 2002. Average nonninterest-bearing deposits funded 26% of total assets. At December 31, 2003, total noninterest-bearing deposits were $125,576 and accounted for 35% of total outstanding deposits.



 
Table I
Average Balance Analysis of Net Interest Earnings
$ Thousands

   
 
  
2004 
      
 
  
2003 
          
2002 
      
   
Average
  
Interest
  
Average
  
Average
  
Interest
  
Average
  
Average
  
Interest
  
Average
  
   
Balance
  
Income/(Expense
  
Yield/(Cost)
  
Balance
  
Income/(Expense
  
Yield/(Cost)
  
Balance
  
Income/(Expense
  
Yield/(Cost)
  
Interest Earning Assets
                                      
Federal funds sold and interest
                                                        
bearing deposits in banks
  
$
1,248
  
$
16
    
1.24
%
$
8,354
  
$
79
    
0.95
%
$
4,042
  
$
68
    
1.68
%
Securities available for sale:
                                                        
Taxable (1)
  
$
30,009
  
$
936
    
3.12
%
$
18,459
  
$
554
    
3.00
%
$
17,108
  
$
903
    
5.28
%
Tax-exempt
  
$
1,378
  
$
50
    
3.61
%
$
594
  
$
22
    
3.71
%
                  
Loans, net of allowance for loan losses(2)(3)(4)
  
$
398,739
  
$
28,424
    
7.13
%
$
342,192
  
$
25,874
    
7.56
%
$
284,614
  
$
23,255
    
8.17
%
                                                         
Total interest earning assets
  
$
431,374
  
$
29,425
    
6.82
%
$
369,599
  
$
26,529
    
7.18
%
$
305,763
  
$
24,226
    
7.92
%
                                                         
Non Earning Assets
                                                        
Cash and due from banks
  
$
16,523
              
$
15,983
              
$
15,752
              
Premises and equipment
  
$
12,898
              
$
13,215
              
$
13,157
              
Interest receivable and other
  
$
2,714
              
$
3,398
              
$
2,586
              
Total non interest assets
  
$
32,135
              
$
32,596
              
$
31,495
              
                                                         
Total assets
  
$
463,509
              
$
402,195
              
$
337,258
              
                                                         
Interest Bearing Liabilities
                                                        
Money market and NOW accounts
  
$
178,815
    
($1,960
)
  
-1.10
%
$
140,660
    
($1,305
)
  
-0.93
%
$
116,836
    
($1,473
)
  
-1.26
%
Savings deposits
  
$
21,465
    
($130
)
  
-0.61
%
$
19,310
    
($128
)
  
-0.66
%
$
16,607
    
($134
)
  
-0.81
%
Time deposits
  
$
53,999
    
($1,142
)
  
-2.11
%
$
64,350
    
($1,558
)
  
-2.42
%
$
50,190
    
($1,515
)
  
-3.02
%
Federal funds purchased
  
$
12,596
    
($213
)
  
-1.69
%
$
4,066
    
($65
)
  
-1.59
%
$
3,735
    
($75
)
  
-2.00
%
Term borrowings
  
$
23,694
    
($1,028
)
  
-4.34
%
$
28,055
    
($1,251
)
  
-4.46
%
$
24,377
    
($1,340
)
  
-5.50
%
                                                         
Total interest bearing liabilities
  
$
290,569
    
($4,473
)
  
-1.54
%
$
256,441
    
($4,307
)
  
-1.68
%
$
211,745
    
($4,537
)
  
-2.14
%
                                                         
Non Interest Bearing Liabilities
                                                        
Demand deposits
  
$
125,339
              
$
104,836
              
$
88,132
              
Interest payable and other
  
$
1,558
              
$
1,160
              
$
1,264
              
Total non interest liabilities
  
$
126,897
              
$
105,996
              
$
89,396
              
Total liabilities
  
$
417,466
              
$
362,437
              
$
301,141
              
Stockholders' equity
  
$
46,043
              
$
39,758
              
$
36,117
              
Total liabilities and stockholders equity
  
$
463,509
              
$
402,195
              
$
337,258
              
                                                         
Net Interest Income
        
$
24,952
              
$
22,221
              
$
19,689
        
Net Interest Income as a Percent of Earning Assets
          
5.78
%
              
6.01
%
              
6.44
%
      
                                                         
(1) Federal Home Loan Bank stock is included in securities available for sale.
                                                        
(2) Nonaccrual loans have been included in average balance totals.
                                                        
(3) Interest income includes recognized loan origination fees of $1,295, $1,038, and $863 for the years-ended 2004, 2003, and 2002, respectively.
                                                        
(4) Total includes loans held for sale.
                                                        


 

Table II
Analysis of Changes in Interest Income and Interest Expense
Dollars in Thousands
 
                           
   
2004 compared to 2003
          
2003 compared to 2002
          
   
Increase (decrease) due to
          
Increase (decrease) due to
          
   
Volume
  
Rate
  
Net
  
Volume
  
Rate
  
Net
  
Interest earned on:
                          
Federal funds sold and interest
                                      
bearing deposits in banks
    
($67
)
$
4
    
($64
)
$
72
    
($61
)
$
12
  
Securities available-for-sale:
                                      
Taxable
  
$
347
  
$
35
  
$
382
  
$
71
    
($420
)
  
($349
)
Tax-exempt
  
$
22
  
$
6
  
$
28
  
$
22
  
$
0
  
$
22
  
Loans, net of allowance for loan losses
  
$
4,276
    
($1,725
)
$
2,550
  
$
4,705
    
($2,086
)
$
2,618
  
                                       
Total interest income
  
$
4,577
    
($1,681
)
$
2,896
  
$
4,870
    
($2,567
)
$
2,303
  
                                       
Interest paid on:
                                      
Money market and NOW accounts
    
($354
)
  
($301
)
  
($655
)
  
($300
)
$
468
  
$
168
  
Savings deposits
    
($14
)
$
12
    
($2
)
  
($22
)
$
29
  
$
7
  
Time deposits
  
$
251
  
$
166
  
$
417
    
($427
)
$
384
    
($43
)
Federal funds purchased
    
($136
)
  
($13
)
  
($148
)
  
($7
)
$
17
  
$
10
  
Term borrowings
  
$
194
  
$
29
  
$
224
    
($202
)
$
291
  
$
88
  
 
                                      
Total interest expense
    
($59
)
  
($107
)
  
($164
)
  
($958
)
$
1,189
  
$
230
  
                                       
Net interest income
  
$
4,518
    
($1,788
)
$
2,732
  
$
3,912
    
($1,380
)
$
2,532
  


 
Provision for Possible Loan Losses

Management provides for possible loan losses by maintaining an allowance. The level of the allowance is determined based upon judgments regarding the size and nature of the loan portfolio, historical loss experience, the financial condition of borrowers, the level of nonperforming loans, and current general economic conditions. Additions to the allowance are charged to expense. Loans are charged against the allowance when management believes the collection of principal is unlikely.

The provision for loan losses totaled $500 in 2004, $900 in 2003, and $5,660 in 2002. The lower provision for 2004 reflects improved credit quality in the Bank’s loan portfolio and reduction in the level of nonperforming assets throughout the year. The large provision in 2002 reflected identified risks in the Company’s loan portfolio and a general decline in economic conditions, which specifically affected the hotel/motel industry. Loan losses in the hotel/motel industry in 2002 included $4,064 related to two borrowers.
 
Nonperforming assets at December 31, 2004 were $1,378 or 0.27% of year-end assets. That compares to $2,229 of nonperforming assets at December 31, 2003 or 0.52% of year-end assets. At December 31, 2004, the Bank has a single commercial real estate property in foreclosed assets with a value of $262.

The allowance for loan losses for outstanding loans at December 31, 2004 was $5,224 (1.14% of outstanding loans) compared to $5,225 (1.47% of loans) and $4,403 (1.33% of loans) at years end 2003 and 2002, respectively. At December 31, 2004, the Bank also reserved $182 for possible losses on unfunded loan commitments, which is classified in other liabilities on the balance sheet. At December 31, 2004, the allowance for loan losses for outstanding loans was 468% of the total nonperforming loans compared to 287% at year-end December 31, 2003. The 2004 ending allowance includes $510 in specific allowance for impaired loans. At December 31, 2004, the Company had $2,799 of impaired loans (net of government guarantees) consisting of one restructured and performing loan of $1,896 and $903 of nonaccrual loans. Subsequent to the end of the year, the $1,896 restructured and performing impaired loan commenced to amortize at market interest rates and will no longer be classified as restructured or impaired as of the end of first quarter 2005. This loan had a specific allowance of $252. At December 31, 2003, the Company had $3,156 of impaired loans (net of government guarantees) with a specific allowance assigned of $628.

Net loan charge offs were $319 in 2004 compared to $268 in 2003, and $4,675 in 2002. Net charge offs during 2002 in the hotel/motel industry accounted for $4,064 or 87% of total charge offs for the year and related to two borrowers in the hotel/motel industry.

The reduction in the 2004 provision when compared to 2003 was accomplished despite significant growth in the loan portfolio and reflected improved credit quality and reductions in nonperforming loans. Going forward into 2005, the provision for loans losses will be more contingent on current economic and market conditions and additional loan growth as there is only limited benefit available from further improvement in the loan portfolio credit statistics. As a result, management expects the provision for loan losses to increase in 2005 when compared to 2004. Actual results may differ materially from projections.

Management believes that the allowance for loan losses is adequate for estimated loan losses in the portfolio at year-end based on management’s assessment of various factors including present past due and impaired loans, past history and loss experience, loan concentrations in specific industries, and current economic conditions.

Noninterest Income

Noninterest income is derived from sources other than fees and interest on earning assets. The Company’s primary sources of noninterest income are service charge fees on deposit accounts, merchant bankcard activity, income derived from mortgage banking services, and gains on the sale of loans.

2004 Compared to 2003

Noninterest income in 2004 was $4,463, down $483 or 10% from year 2003. The decline in noninterest income was attributable to two categories. Mortgage banking income and gains on sales of loans in 2004 decreased $618 or 38% from the previous year. Mortgage banking revenues accounted for $488 of the decline in this category as higher long term interest rates significantly reduced the level of refinancing. Gains on the sales of loans were down $130. During 2003, the Bank recorded a one-time gain on sales of loans of $130. There were no loan sales during 2004. In addition to the decline in mortgage banking revenues and gains on sales of loans, the Bank’s loan servicing income decreased by $58 due to an overall decline in the level of participated loans. Declines in these two noninterest income categories was partially offset by a $159 or 13% increase in other fee income, principally merchant bankcard processing revenues.

2003 Compared to 2002

Noninterest income in 2003 was $4,946, up $746 or 18% over year 2002. The majority of growth in noninterest income was attributable to three categories. Service charges on deposit accounts were up $249 or 19% due to an increase in the number of clients, increased fees on analyzed business accounts, and price increases on NSF/OD fees that went into effect during April 2003. Other fee income, principally merchant bankcard processing fees grew by $43 or 4% over 2002. During 2003, the Company converted to a new third party processor for its merchant bankcard processing. During the conversion process, revenue growth slowed as processing was temporarily being handled by two different processors, which increased interchange paid processing expense. Mortgage banking noninterest income and gains on sales of loans totaled $1,625 in 2003 compared to $924 for 2002, an improvement of $701 or 76%. Revenues from the originations of residential mortgages accounted for $594 of the increase as long-term interest rates fell sharply during 2003 creating a surge in new home sales and refinancing of existing mortgages. Gains on the sales of loans in 2003 were $130, up $107 from the $23 reported in 2002. Growth in these noninterest income categories was partially offset by a $102 decline in loan servicing income and a $149 decline in gains on sales of securities. The decline in loan servicing income was due to an overall decline in the level of sold loans. In addition, the early payoff of a participated loan resulted in a write down of $55 of a previously recorded servicing asset.

Noninterest Expense

Noninterest expense represents all expenses other than the provision for loan losses and interest costs associated with deposits and other interest-bearing liabilities. It incorporates personnel, premises and equipment, data processing and other operating expenses.

2004 Compared to 2003

Noninterest expense in 2004 was $16,041, an increase of $838 or 6% over the same period in 2003. Comparing 2004 to 2003, the largest increase was in personnel expense, which grew by $1,110 or 13% over the previous year, reflecting personnel costs for staff added during the last half 2003 and 2004 and increased group insurance expense. Staff additions were primarily related to expansion in the Portland market. Increased salaries, incentive compensation, 401k contribution and payroll taxes accounted for $851 of the increase in personnel expense for the year 2004 when compared to 2003. Increased group insurance costs, primarily medical insurance, accounted for $251 of the total increase in personnel expense. For the year 2004, group insurance expense was 41% above the previous year for the same period. Business development expense in 2004 was $1,017, a $194 or 24% increase as the Bank’s new branding campaign was implemented during the year. Growth in these noninterest expense categories was offset by a decrease in other real estate expense. Other real estate expense in 2004 declined by approximately $600 as 2003 included expenses related to write downs and operating losses associated with motel and hotel properties which were sold during 2003.

During 2004, the Company incurred incremental expenses totaling $91, primarily in the fourth quarter, related to compliance with Section 404 of Sarbannes-Oxley in terms of software, audit fees and professional consulting services. The incremental expense related to compliance with Section 404 does not include substantial staff time spent on this project.

For 2005, the Company expects the rate of expense growth to increase relative to 2004 due to planned staff increases, expansion plans in the Portland market, and increase audit fees and professional services.

2003 Compared to 2002

Noninterest expense in 2003 was $15,202, up $2,608 or 21% over 2002. Three categories of expenses accounted for $2,714 of the total expense increase for the year. Salaries accounted for $364 of the increase. However, salaries in 2002 reflect one-time executive severance expense of $443. Excluding this one-time expense from 2002, salaries were up $807 or 16% over last year and reflect staff additions during the last half of 2002 and the first half of 2003, primarily related to expansion in the Portland area market. Commissions paid to residential mortgage and construction lenders were up $274 over 2002 due to the higher volume of activity during 2003. Benefits and taxes in 2003 increased by $687 over 2002. Approximately $503 of the increase was due to incentive based compensation accruals, including the Bank’s estimated 401(k) contribution. For the year 2002, the Bank’s incentive based compensation and 401(k) match were significantly diminished as key financial goals were not met for the year. The remainder of the increase in benefits and taxes resulted from increased group insurance costs and payroll taxes. Premises and equipment expense in 2003 were up $359 or 25% over 2002. Expense related to premises accounted for $194 of the increase and reflected increased lease costs of the Bank’s KOIN Center office opened earlier this year. In addition, lease costs on the Coos Bay office of the Consumer Finance Division and increased lease costs on one of the Bank’s Eugene offices contributed to the increase. Equipment expense accounted for $165 of the increase and includes costs related to the Portland area market expansion and increased software maintenance expense on the Bank’s loan processing systems. The “other” expense category of noninterest expense was $3,359 for 2003, an increase of $1,030 or 44% over 2002. Other real estate expense related to operations and sales of three motel properties during 2003 accounted for $520 of the increase in the “other” expense category. In addition, repossession and collection expense related to problem loans accounted for $78 of the increase. Most of the remaining increase in the “other” expense category was in professional services, which was up $187 in 2003 compared to 2002. The professional services category includes legal fees, accounting fees, insurance expense, and consulting expenses.

LIQUIDITY

Liquidity is the term used to define the Company’s ability to meet its financial commitments. The Company maintains sufficient liquidity to ensure funds are available for both lending needs and the withdrawal of deposit funds. The Company derives liquidity primarily through core deposit growth, maturity of investment securities, and loan payments. Core deposits include demand, interest checking, money market, savings, and local time deposits. Additional liquidity and funding sources are provided through the sale of loans, sales of securities, access to national CD markets, and both secured and unsecured borrowings.

Core deposits at December 31, 2004 were 95% of total deposits compared to 93% at December 31, 2003. Loan growth during 2004 significantly outpaced the growth in core deposits. Outstanding loans grew by $102,850 during 2004 or 29%, while core deposits grew by $51,128 or 15%. Loan growth during the first half of 2004 was primarily funded by reducing overnight fed funds sold and core deposit growth. During the last six months of 2004, the Company relied on alternative funding sources, including overnight borrowed funds, Federal Home Loan Bank term advances, public deposits available from the State of Oregon, and national market time deposits.
 
The Company has deposit relationships with several large clients, which are closely monitored by Bank officers. At December 31, 2004, seven large deposit relationships with the Bank account for $79,459 or 20% of total deposits. The single largest client represented 8% of total deposits at December 31, 2004. The loss of this deposit relationship or other large deposit relationships could cause an adverse effect on short-term liquidity. The Company expects to maintain these relationships and believes it has sufficient sources of liquidity to mitigate the loss of one or more of these clients.

Borrowing lines have been established at various correspondent banks, the Federal Home Loan Bank of Seattle and with the Federal Reserve Bank of San Francisco. At year-end December 31, 2004, the Bank had borrowing lines totaling approximately $189,100 consisting of $129,100 with the Federal Home Loan Bank of Seattle, $57,000 with various correspondent banks, and $3,000 with the Federal Reserve Bank of San Francisco. The Federal Home Loan Bank borrowing line is limited to the amount of collateral pledged. At December 31, 2004, the Bank had approximately $132,000 in commercial real estate loans pledged as collateral (discounted collateral value of $105,000) for this line. The $3,000 borrowing line with the Federal Reserve Bank of San Francisco is also secured. The $57,000 in borrowing lines with correspondent banks are unsecured lines. At December 31, 2004, the Bank had $61,290 in borrowings outstanding and approximately $127,810 available on established lines. In addition, the Bank is part of the State of Oregon community bank time deposit program and at December 31, 2004 had $11,000 available from this source. The Bank’s loan portfolio also contains approximately $25,300 in guaranteed government loans, which can be sold on the secondary market.

CAPITAL RESOURCES

Capital is the shareholder’s investment in the Company. Capital grows through the retention of earnings and the issuance of new stock through the exercise of incentive options. Capital formation allows the Company to grow assets and provides flexibility in times of adversity.

Banking regulations require the Company to maintain minimum levels of capital. The Company manages its capital to maintain a “well capitalized” designation (the FDIC’s highest rating). At December 31, 2004, the Company’s total capital to risk weighted assets was 11.29%, compared to 12.20% at December 31, 2003.

In September 2004, the Company paid a 5-for-4 stock split to shareholders of record at October 15, 2004. All per share data and outstanding shares from prior periods has been restated to present consistent financial information.

The Company pays cash dividends on a quarterly basis, typically in March, June, September and December of each year. The Board of Directors considers the dividend amount quarterly and takes a broad perspective in its dividend deliberations including a review of recent operating performance, capital levels, and growth projections. The board also considers dividend payout ratios, dividend yield, and other financial metrics in setting the quarterly dividend. Adjusting for the September 2004 stock split, the Company declared and paid cash dividends of $0.252 per share for the year 2004. That compares to cash dividends of $0.216 paid during 2003, also adjusted for the stock split.

The Company projects that earnings retention and existing capital will be sufficient to fund anticipated asset growth, while maintaining a well-capitalized designation from the FDIC.

CRITICAL ACCOUNTING POLICIES

Companies may apply certain critical accounting policies requiring management to make subjective or complex judgments, often as a result of the need to estimate the effect of matters that are inherently uncertain. The Company considers its only material critical accounting policy to be the allowance for loans losses for outstanding loans and unfunded loan commitments. The allowance for outstanding loans is classified as a contra-asset account offsetting outstanding loans, and the allowance for unfunded commitments is classified as an other liability on the balance sheet. The allowance for loan losses is established through a provision for loan losses charged against earnings. The balance of the allowance for loan losses for outstanding loans and unfunded commitments are maintained at the amount management believes will be adequate to absorb known and inherent losses in the loan portfolio and commitments to loan funds. The appropriate balance of the allowance for loan losses is determined by applying loss factors to the credit exposure from outstanding loans and unfunded loan commitments. Estimated loss factors are based on subjective measurements including management’s assessment of the internal risk classifications, changes in the nature of the loan portfolios, industry concentrations, and the impact of current local, regional, and national economic factors on the quality of the loan portfolio. Changes in these estimates and assumptions are reasonably possible and may have a material impact on the Company’s consolidated financial statements, results of operations, or liquidity.

INFLATION

Substantially all of the assets and liabilities of the Company are monetary. Therefore, inflation has a less significant impact on the Company than does fluctuation in market interest rates. Inflation can lead to accelerated growth in noninterest expenses, which impacts net earnings. During the last two years, inflation, as measured by the Consumer Price Index, has not changed significantly. The effects of this inflation have not had a material impact on the Company.

ITEM 7A Quantitative and Qualitative Disclosures About Market Risk

The Company’s results of operations are largely dependent upon its ability to manage market risks. Changes in interest rates can have a significant effect on the Company’s financial condition and results of operations. The Company does not use derivatives such as forward and futures contracts, options, or interest rate swaps to manage interest rate risk. Other types of market risk such as foreign currency exchange rate risk and commodity price risk do not arise in the normal course of the Company’s business activities.

Interest rate risk generally arises when the maturity or repricing structure of the Company’s assets and liabilities differ significantly. Asset and liability management, which among other things addresses such risk, is the process of developing, testing and implementing strategies that seek to maximize net interest income while maintaining sufficient liquidity. This process includes monitoring contractual maturity and prepayment expectations together with expected repricing of assets and liabilities under different interest rate scenarios. Generally, the Company seeks a structure that insulates net interest income from large deviations attributable to changes in market rates.

Interest rate risk is managed through the monitoring of the Company’s balance sheet by subjecting various asset and liability categories to interest rate shocks and gradual interest rate movements over a one-year period of time. Interest rate shocks use an instantaneous adjustment in market rates of large magnitudes on a static balance sheet to determine the effect such a change in interest rates would have on the Company’s net interest income and capital for the succeeding twelve-month period. Such an extreme change in interest rates and the assumption that management would take no steps to restructure the balance sheet does limit the usefulness of this type of analysis. This type of analysis tends to provide a best-case or worst-case scenario. A more reasonable approach utilizes gradual interest rate movements over a one-year period of time to determine the effect on the Company’s net interest income.

The Company utilizes the services of the Federal Home Loan Bank’s asset/liability modeling software to determine the effect changes in interest rates have on net interest income. Interest rate shock scenarios are modeled in 100 basis point increments (plus or minus) in the federal funds rate. The more realistic forecast assumes a gradual interest rate movement of plus or minus 240 basis points change in the federal funds rate over a one-year period of time with rates moving up or down 60 basis points each quarter. The model used is based on the concept that all rates do not move by the same amount. Although certain assets and liabilities may have similar repricing characteristics, they may not react correspondingly to changes in market interest rates. In the event of a change in interest rates, prepayment of loans and early withdrawal of time deposits would likely deviate from those previously assumed. Increases in market rates may also affect the ability of certain borrowers to make scheduled principal payments.

The model attempts to account for such limitations by imposing weights on the differences between repricing assets and repricing liabilities within each time segment. These weights are based on the ratio between the amount of rate change of each category of asset or liability, and the amount of change in the federal funds rate. Certain non-maturing liabilities such as checking accounts and money market deposit accounts are allocated among the various repricing time segments to meet local competitive conditions and management’s strategies.

During 2004, the model indicated that the Company continued to be asset sensitive and projects rising margins in a rising rate environment and declining margins in a falling rate environment. The following tables show the estimated impact of interest rate changes on net interest income. Tables show results of Company supplied data for both the rate shock and gradual interest rate scenarios. The base figure of $24,952 used in both analyses represents actual net interest income for the year 2004. Due to the various assumptions used for this modeling, no assurance can be given that projections will reflect actual results.

Interest Rate Shock Analysis
Net Interest Income and Market Value Performance
($ in thousands)

 
Projected
  
Net Interest Income
  
 
Interest
  
Estimated
$ Change
% Change
  
 
Rate Change
  
Value
From Base
From Base
  
 
+200
  
$ 28,605
$ 3,653
14.64%
  
 
+100
  
26,816
1,864
7.47%
  
 
Base
  
24,952
0
0.00%
  
 
-100
  
22,913
(2,039)
(8.17)%
  
 
-200
  
20,731
(4,221)
(16.92)%
  



 

Gradual Interest Rate Movement Forecast
Net Interest Income and Market Value Performance
($ in thousands)

 
Projected
  
Net Interest Income
  
 
Interest
  
Estimated
$ Change
% Change
  
 
Rate Change
  
Value
From Base
From Base
  
 
Rising 2.40%
  
$ 27,719
$ 2,767
11.09%
  
 
Base
  
24,952
0
0.00%
  
 
Declining 2.40%
  
22,140
(2,812)
(11.27)%
  

Off Balance Sheet Contingencies

In the normal course of business, the Bank commits to extensions of credit and issues letters of credit. The Bank uses the same credit policies in making commitments to lend funds and conditional obligations as it does for other credit products. In the event of nonperformance by the customer, the Bank’s exposure to credit loss is represented by the contractual amount of the instruments. Commitments to extend credit are agreements to lend to a customer as long as there is no violation of any condition established by the contract. Since some commitments may expire without being drawn upon, the total commitment amounts do not necessarily represent future cash requirements. At December 31, 2004, the Bank had $130,808 in commitments to extend credit.

Letters of credit written are conditional commitments issued by the Bank to guarantee performance of a customer to a third party. The credit risk involved is essentially the same as that involved in extending loan facilities to customers. At December 31, 2004, the Bank had $3,687 in letters of credit and financial guarantees written.

Subsequent to December 31, 2004, the Bank entered into a definitive agreement to purchase a building and land in Portland, Oregon for a new office location. This purchase is expected to close prior to the end of the first quarter at a total price of $1,750. The building will require substantial remodeling, and the new office is expected to open during the third quarter 2005.

The Company has entered into employment agreements with two key executives, Hal Brown and Daniel Hempy. The agreements provide for a minimum aggregate annual base salaries of $330, plus performance adjustments, life insurance coverage, and other perquisites commonly found in such agreements. During 2004, Mr. Brown’s contract was extended one year and expires in 2007. Mr. Hempy’s agreement expires in 2005.

 


ITEM 8  Financial Statements and Supplementary Data

ZIRKLE, LONG, TRIGUEIRO & WARD, L.L.C.
CERTIFIED PUBLIC ACCOUNTANTS
Eugene, Oregon 97401






Report of Independent Registered Public Accounting Firm



The Board of Directors and Stockholders
Pacific Continental Corporation and Subsidiaries:


We have audited the accompanying consolidated balance sheets of Pacific Continental Corporation and Subsidiaries as of December 31, 2004 and 2003, and the related consolidated statements of income, changes in stockholders’ equity, and cash flows for each of the three years in the period ended December 31, 2004. We have also audited management’s assessment, included in management’s report at page 55, that the Company maintained effective control over financial reporting as of December 31, 2004, based on “criteria established in Internal Control - Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO)”. The Company’s management is responsible for these consolidated financial statements, for maintaining effective internal control over financial reporting, and for its assessment of the effectiveness of internal control over financial reporting. Our responsibility is to express an opinion on these consolidated financial statements, an opinion on management’s assessment, and an opinion of the effectiveness of the Company’s internal control over financial reporting based on our audits.

We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States of America). Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the consolidated financial statements are free of material misstatement and whether effective internal control over financial reporting was maintained in all material respects. Our audit of the financial statements included examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. The audit also included assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. Our audit of internal control over financial reporting included obtaining an understanding of internal control over financial reporting, evaluating management’s assessment, testing and evaluating the design and operating effectiveness of internal control, and performing such other procedures as we considered necessary in the circumstances. We believe that our audits provide a reasonable basis for our opinions.

A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles (GAAP). A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with GAAP, and that receipts and expenditures of the company are being made only in accordance with authorization of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.

In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Pacific Continental Corporation and Subsidiaries as of December 31, 2004 and 2003, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 2004 in conformity with accounting principles generally accepted in the United States of America. Also in our opinion, management’s assessment that the Company maintained effective internal control over financial reporting as of December 31, 2004, is fairly stated, in all material respects, based on “criteria established in Internal Control - Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO)”. Furthermore, in our opinion the Company maintained , in all material respects, effective control over financial reporting as of December 31, 2004, based on “criteria established in Internal Control - Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO)”.


Zirkle, Long, Trigueiro & Ward, L.L.C.



Eugene, Oregon
January 31, 2005

 

Pacific Continental Corporation and Subsidiaries
Consolidated Balance Sheets


       
December 31
      
       
2004
  
2003
  
               
ASSETS
            
               
Cash and due from banks
        
$
15,649,945
  
$
24,149,500
  
Federal funds sold
          
432,337
   
1,386,854
 
 
                    
 Total cash and cash equivalents
          
16,082,282
   
25,536,354
 
                     
Securities available-for-sale
          
27,557,731
   
30,028,736
 
Loans held for sale
          
2,072,351
   
1,957,670
 
Loans, less allowance for loan losses
          
451,744,165
   
348,894,225
 
Interest receivable
          
1,969,181
   
1,585,955
 
Federal Home Loan Bank stock
          
2,807,600
   
2,738,000
 
Property, net of accumulated depreciation
          
13,182,407
   
13,059,962
 
Other assets
          
1,214,655
   
1,997,734
 
                     
 Total assets
        
$
516,630,372
  
$
425,798,636
  
                     
LIABILITIES and STOCKHOLDERS' EQUITY
                    
                     
Liabilities:
                    
Deposits:
                    
Noninterest-bearing
        
$
132,249,496
  
$
125,575,941
  
Savings and interest-bearing demand
          
219,681,434
   
176,015,427
 
Time, $100,000 and over
          
31,114,564
   
27,961,396
 
Other time
          
20,745,813
   
26,546,306
 
                     
           
403,791,306
   
356,099,070
 
                     
Federal funds purchased
          
10,290,000
   
-
 
Federal Home Loan Bank borrowings
          
51,000,000
   
26,000,000
 
Accrued interest and other liabilities
          
2,157,009
   
1,465,716
 
                     
 Total liabilities
          
467,238,315
   
383,564,786
 
                     
Commitments and contingencies (Notes 5, 14 and 16)
                    
                     
Stockholders' equity:
                    
Common stock, no par value; 25,000,000 shares
                    
authorized; 8,655,535 and 8,487,234 shares
                    
outstanding in 2004 and 2003, respectively
          
28,076,125
   
26,619,206
 
Retained earnings
          
21,429,633
   
15,644,669
 
Accumulated other comprehensive income (loss)
          
(113,701
)
  
(30,025
)
                     
 Total stockholders' equity
          
49,392,057
   
42,233,850
 
                     
 Total liabilities and stockholders' equity
        
$
516,630,372
  
$
425,798,636
  
                     
The accompanying notes are an integral part of these consolidated financial statements.
                    
                     
                     
                     

 

Pacific Continental Corporation and Subsidiaries
Consolidated Statements of Income

   
Year Ended December 31
              
     
2004
    
2003
    
2002
  
                     
Interest income:
                    
Loans
  
$
28,423,964
  
$
25,873,514
  
$
23,255,130
  
Securities
    
892,503
   
450,394
   
750,841
 
Dividends on Federal Home Loan Bank stock
    
92,959
   
125,723
   
151,924
 
Federal funds sold
    
15,527
   
79,218
   
67,717
 
                     
     
29,424,953
   
26,528,849
   
24,225,612
 
                     
Interest expense:
                    
Deposits
    
3,232,397
   
2,993,536
   
3,122,561
 
Federal Home Loan Bank borrowings
    
1,027,525
   
1,250,700
   
1,339,723
 
Federal funds purchased
    
213,174
   
64,665
   
74,753
 
                     
     
4,473,096
   
4,308,901
   
4,537,037
 
                     
 Net interest income
    
24,951,857
   
22,219,948
   
19,688,575
 
                     
Provision for loan losses
    
500,000
   
900,000
   
5,660,000
 
                     
 Net interest income after provision for
                    
 loan losses
    
24,451,857
   
21,319,948
   
14,028,575
 
                     
Noninterest income:
                    
Service charges on deposit accounts
    
1,603,440
   
1,568,588
   
1,319,391
 
Other fee income, principally bankcard processing
    
1,409,283
   
1,250,400
   
1,206,873
 
Loan servicing
    
183,267
   
241,416
   
342,889
 
Mortgage banking income and gains on sales
                    
of loans
    
1,006,920
   
1,624,847
   
924,166
 
Gains (losses) on sales of securities
    
(12,820
)
  
-
   
149,390
 
Other
    
272,579
   
261,091
   
258,051
 
                     
     
4,462,669
   
4,946,342
   
4,200,760
 
                     
Noninterest expense:
                    
Salaries and employee benefits
    
9,963,554
   
8,853,739
   
7,528,777
 
Premises and equipment
    
1,881,202
   
1,800,442
   
1,441,393
 
Bankcard processing
    
475,639
   
365,709
   
487,585
 
Business development
    
1,017,214
   
823,273
   
807,550
 
Other
    
2,703,163
   
3,359,460
   
2,328,611
 
                     
     
16,040,772
   
15,202,623
   
12,593,916
 
                     
 Income before income taxes
    
12,873,753
   
11,063,667
   
5,635,419
 
                     
Provision for income taxes
    
4,925,000
   
4,233,000
   
2,181,000
 
                     
 Net income
  
$
7,948,752
  
$
6,830,666
  
$
3,454,419
  
                     
                     
Earnings per share:
                    
Basic
  
$
.93
  
$
.81
  
$
.41
  
Diluted
  
$
.90
  
$
.79
  
$
.41
  
                     
                     
The accompanying notes are an integral part of these consolidated financial statements.
                    



Pacific Continental Corporation and Subsidiaries
Consolidated Statements of Changes in Stockholders’ Equity
For the Years Ended December 31, 2004, 2003, and 2002
 

                                 
 
                      
Accumulated 
        
 
                      
Other 
        
   
Number 
    
Common
    
Retained
    
Comprehensive
        
 
    
ofShares 
    
Stock
    
Earnings
    
Income (Loss
)
  
Total
  
                                 
Balance, January 1, 2002
    
5,066,290
   $
25,772,809 
  
$
9,541,959
  
$
289,614
    $
35,604,382 
  
                                 
Net income
                
3,454,419
         
3,454,419
 
Other comprehensive income:
                                
Unrealized losses on securities
                      
(197,643
)
      
Reclassification of net gains realized
                      
(149,390
)
      
Deferred income taxes
                      
133,122
       
                                 
 Other comprehensive loss
                      
(213,911
)
  
(213,911
)
                                 
Comprehensive income
                            
3,240,508
 
Stock options exercised and related tax benefit
    
76,563
   
715,132
               
715,132
 
Cash dividends
                
(1,610,219
)
        
(1,610,219
)
Shares repurchased and retired
    
(102,405
)
  
(520,550
)
  
(730,719
)
        
(1,251,269
)
                                 
Balance, December 31, 2002
    
5,040,448
   
25,967,391
   
10,655,440
   
75,703
   
36,698,534
 
                                 
Net income
                
6,830,667
         
6,830,667
 
Other comprehensive income:
                                
Unrealized losses on securities
                      
(171,525
)
      
Deferred income taxes
                      
65,797
       
                                 
 Other comprehensive loss
                      
(105,728
)
  
(105,728
)
                                 
Comprehensive income
                            
6,724,939
 
Stock options exercised and related tax benefit
    
56,876
   
655,515
               
655,515
 
Stock split (4 shares for 3)
    
1,692,738
                         
Cash dividends
                
(1,841,438
)
        
(1,841,438
)
Shares repurchased and retired
    
(275
)
  
(3,700
)
              
(3,700
)
                                 
Balance, December 31, 2003
    
6,789,787
   
26,619,206
   
15,644,669
   
(30,025
)
  
42,233,850
 
                                 
Net income
                
7,948,752
         
7,948,752
 
Other comprehensive income:
                                
Unrealized losses on securities
                      
(148,568
)
      
Reclassification of net losses realized
                      
12,820
       
Deferred income taxes
                      
52,073
       
                                 
 Other comprehensive loss
                      
(83,675
)
  
(83,675
)
                                 
Comprehensive income
                            
7,865,077
 
Stock options exercised and related tax benefit
    
141,360
   
1,459,879
               
1,459,879
 
Stock split (5 shares for 4)
    
1,724,586
                         
Cash dividends
                
(2,163,789
)
        
(2,163,789
)
Shares repurchased and retired
    
(198
)
  
(2,960
)
              
(2,960
)
                                 
Balance, December 31, 2004
    
8,655,535
   
28,076,125
   
21,429,632
   
(113,700
)
  
49,392,057
 
                                 
                                 
The accompanying notes are an integral part of these consolidated financial statements.
                                
                                 





 
Pacific Continental Corporation and Subsidiaries
 
Consolidated Statements of Cash Flows


 
     Year Ended December 31              
     
2004
    
2003
    
2002
  
                     
Cash flows from operating activities:
                    
Net income
  
$
7,948,752
  
$
6,830,667
  
$
3,454,419
  
Adjustments to reconcile net income to net cash
                    
provided by operating activities:
                    
Depreciation
    
936,319
   
928,818
   
863,152
 
Amortization
    
411,782
   
340,861
   
48,450
 
Provision for loan losses
    
500,000
   
900,000
   
5,660,000
 
Losses of foreclosed assets
    
1,643
   
613,966
   
-
 
Deferred income taxes
    
44,000
   
(70,000
)
  
327,000
 
Gains on sales of loans
    
-
   
(129,950
)
  
-
 
(Gains) losses on sales of securities
    
12,820
   
-
   
(149,390
)
Stock dividends from Federal Home Loan Bank
    
(91,900
)
  
(125,500
)
  
(151,700
)
Change in:
                    
Interest receivable
    
(383,226
)
  
61,653
   
(237,786
)
Deferred loan fees
    
478,454
   
188,894
   
282,907
 
Capitalized loan servicing rights
    
50,633
   
(13,854
)
  
19,039
 
Loans held for sale
    
(114,681
)
  
2,110,182
   
(3,622,965
)
Accrued interest and other liabilities
    
242,401
   
226,673
   
(157,699
)
Income taxes payable
    
1,167,680
   
(132,629
)
  
(485,594
)
Other assets
    
23,040
   
(30,724
)
  
(3,503
)
                     
 Net cash provided by operating activities
    
11,227,717
   
11,699,057
   
5,846,330
 
                     
Cash flows from investing activities:
                    
Proceeds from sales and maturities of securities
    
8,126,633
   
10,749,973
   
16,447,917
 
Purchase of securities
    
(6,193,678
)
  
(30,445,782
)
  
(7,412,561
)
Loans made net of principal collections received
    
(103,131,306
)
  
(32,233,581
)
  
(88,882,993
)
Proceeds from sales of loans
    
595,153
   
8,064,258
   
3,242,465
 
Purchase of loans
    
(1,372,313
)
  
(107,729
)
  
(4,047,504
)
Acquisition
    
-
   
(6,863,160
)
  
-
 
Purchase of property
    
(1,058,764
)
  
(746,980
)
  
(799,217
)
Proceeds on sale of foreclosed assets
    
409,118
   
3,182,775
   
-
 
Improvements to foreclosed assets
    
-
   
-
   
(212,371
)
                     
 Net cash provided by investing activities
    
(102,625,157
)
  
(48,400,226
)
  
(81,664,264
)
                     
Cash flows from financing activities:
                    
Net increase in deposits
    
47,692,238
   
46,190,374
   
61,580,016
 
Change in federal funds purchased
    
31,790,000
   
(9,000,000
)
  
9,000,000
 
Change in Federal Home Loan Bank term borrowings
    
3,500,000
   
3,000,000
   
(1,000,000
)
Proceeds from stock options exercised
    
1,127,879
   
540,515
   
661,132
 
Dividends paid
    
(2,163,789
)
  
(1,841,438
)
  
(1,610,219
)
Repurchase of Company shares
    
(2,960
)
  
(3,700
)
  
(1,251,269
)
                     
 Net cash provided by financing activities
    
81,943,368
   
38,885,751
   
67,379,660
 
                     
Net increase (decrease) in cash and cash equivalents
    
(9,454,072
)
  
2,184,582
   
(8,438,274
)
                     
Cash and cash equivalents, beginning of year
    
25,536,354
   
23,351,772
   
31,790,046
 
                     
Cash and cash equivalents, end of year
  
$
16,082,282
  
$
25,536,354
  
$
23,351,772
  
                     
Supplemental information:
                    
Noncash investing and financing activities:
                    
Transfers of loans to foreclosed assets
  
$
262,071
  
$
3,343,866
  
$
651,266
  
Transfers of loans held for sale
    
-
   
1,478,871
   
11,077,383
 
Change in unrealized gain on securities, net of
                    
deferred income taxes 
    
83,675
   
105,728
   
(213,911
)
Cash paid during the year for:
                    
Income taxes
    
3,713,320
   
4,436,000
   
2,339,594
 
Interest
    
4,468,436
   
4,325,229
   
4,580,973
 


Pacific Continental Corporation and Subsidiaries
Notes to Consolidated Financial Statements




1. Summary of Significant Accounting Policies:

Principles of Consolidation - The consolidated financial statements include the accounts of Pacific Continental Corporation (the “Company”), a bank holding company, and its wholly-owned subsidiary, Pacific Continental Bank (the “Bank”) and the Bank’s wholly-owned subsidiaries, PCB Service Corporation (which owns and operates bank-related real estate) and PCB Loan Services Corporation (which owns and operates certain repossessed or foreclosed collateral). The Bank provides commercial banking, financing, mortgage lending and other services in Western Oregon and Southwest Washington. All significant intercompany accounts and transactions have been eliminated in consolidation.

Use of Estimates - The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements, and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. The most significant estimations made by management involve the calculation of the allowance for loan losses.

Cash and Cash Equivalents - For purposes of reporting cash flows, cash and cash equivalents include cash on hand, amounts due from or deposited with banks, interest-bearing balances due from banks, and federal funds sold. Generally, federal funds are sold for one-day periods.

The Bank is required to maintain certain reserves as defined by regulation. Such reserves totaling $1,213,000 were maintained in cash at December 31, 2004.

Securities Available-for-Sale - Securities available-for-sale are held for indefinite periods of time and may be sold in response to movements in market interest rates, changes in the maturity mix of bank assets and liabilities or demand on liquidity. The Bank classified all securities as available-for-sale throughout 2004 and 2003. Securities classified as available-for-sale are reported at estimated fair value, net of deferred taxes. The difference between estimated fair value and amortized cost is a separate component of stockholders’ equity (accumulated other comprehensive income). Fair values for these investment securities are based on market prices. Gains and losses on the sale of available-for-sale securities are determined using the specific-identification method. Management determines the appropriate classification of securities at the time of purchase.

Interest income on debt securities is included in income using the level yield method. Gains and losses on sales of securities are recognized on the specific identification basis.
 
Declines in fair value of individual available-for-sale securities below their cost that are other than temporary would result in write-downs of the individual securities to their fair value. The related write-downs would be included in earnings as realized losses. Management believes that all unrealized losses on investment securities at December 31, 2004 and 2003 are temporary.
 
Loans Held for Sale and Mortgage Banking Activities - The Bank originates residential real estate loans for resale in the secondary market. Sales are without recourse. Loans held for sale are carried at the lower of cost or market. Market value is determined on an aggregate loan basis.

Loans and Income Recognition - Loans are stated at the amount of unpaid principal, reduced by deferred loan origination fees, discounts associated with retained portions of loans sold, and an allowance for loan losses. Interest on loans is calculated using the simple-interest method on daily balances of the principal amount outstanding. Accrual of interest is discontinued on contractually delinquent loans when management believes, after considering economic and business conditions and collection efforts, that the borrower’s financial condition is such that collection of the interest is doubtful. Loan origination fees are amortized over the lives of the loans as adjustments to yield.

Allowance for Loan Losses - The allowance for loan losses is established through a provision for loan losses charged to expense. Loans are charged against the allowance for loan losses when management believes that the collectibility of the principal is unlikely. The allowance is an amount that management considers adequate to absorb possible losses on existing loans that may become uncollectible based on evaluations of the collectibility of loans and prior loss experience. The evaluations take into consideration such factors as changes in the nature of the loan portfolio, overall portfolio quality, review of specific loans, estimated value of underlying collateral, and current economic conditions that may affect the borrower’s ability to pay. This evaluation is inherently subjective as it requires estimates that are susceptible to significant subsequent revision as more information becomes available.

A loan is considered impaired when management believes that it is probable that all amounts will not be collected according to the contractual terms. An impaired loan is valued using the present value of expected cash flows discounted at the loan’s effective interest rate, the observable market price of the loan or the estimated fair value of the loan’s collateral or related guaranty. Loans deemed impaired are specifically allocated for in the allowance for loan losses. Interest income is subsequently recognized only to the extent cash payments are received.

Servicing - Servicing assets are recognized as separate assets when rights are retained on sales of loans. Capitalized servicing rights are reported in other assets and are amortized into noninterest income in proportion to, and over the period of, the estimated future net servicing income of the underlying loans. Servicing assets are evaluated for impairment based upon the fair value of the rights as compared to amortized cost. Fair value is determined based upon discounted cash flows using market-based assumptions. Servicing rights are not retained on residential real estate loans originated for sale.

Federal Home Loan Bank Stock - The investment in Federal Home Loan Bank (“FHLB”) stock is carried at par value, which approximates its fair value. As a member of the FHLB system, the Bank is required to maintain a minimum level of investment in FHLB stock based on specific percentages of its outstanding mortgages, total assets or FHLB advances. For 2004, the minimum required investment was approximately $2,212,600. The Bank may request redemption at par value of any stock in excess of the amount the Bank is required to hold.

Foreclosed Assets - Assets acquired through foreclosure, or deeds in lieu of foreclosure, are initially recorded at fair value at the date of foreclosure. Any excess of the loan’s balance over the fair value of its foreclosed collateral is charged to the allowance for loan losses.

Improvements to foreclosed assets are capitalized. Subsequent to foreclosure, management performs periodic valuations and the assets are carried at the lower of carrying amount or fair value less costs to sell. Write downs to net realizable value, if any, or any disposition gains or losses are included in noninterest expense.

Property - Property is stated at cost, net of accumulated depreciation. Additions, betterments and replacements of major units are capitalized. Expenditures for normal maintenance, repairs and replacements of minor units are charged to expense as incurred. Gains or losses realized from sales or retirements are reflected in operations currently.

Depreciation is computed by the straight-line method over the estimated useful lives of the assets. Estimated useful lives are 30 to 40 years for buildings, 3 to 10 years for furniture and equipment, and up to the lease term for leasehold improvements.
 

 
Goodwill - - Goodwill represents the excess of cost over the fair value of net assets acquired in a 2003 business combination. Goodwill is not subject to amortization but is tested annually for impairment.
 

Advertising - Advertising costs are charged to expense during the year in which they are incurred.

Income Taxes - Deferred tax assets and liabilities are recognized for the expected future tax consequences attributable to differences between financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred tax assets and liabilities are calculated using tax rates in effect for the year in which the differences are expected to reverse.

Stockholders’ Equity and Earnings Per Share - Basic earnings per share are computed by dividing net income by the weighted average number of shares outstanding during the period. Diluted earnings per share include the effect of common stock equivalents that would arise from the exercise of stock options discussed in Note 12. Weighted shares outstanding are adjusted retroactively for the effect of stock dividends.

Weighted average shares outstanding at December 31 are as follows:
 

   
2004
  
2003
  
2002
  
                     
Basic
    
8,572,526
   
8,437,431
   
8,391,108
 
Common stock equivalents
                    
attributable to stock options 
    
235,623
   
173,665
   
74,280
 
                     
Diluted
    
8,808,149
   
8,611,096
   
8,465,388
 
The Company repurchased and retired 102,405 shares of common stock costing $1,251,269 in 2002. The repurchase plan expired in 2002. During 2003 and 2004 only fractional shares have been repurchased.
 
Stock Option Plans - The Company applies the recognition and measurement principles of APB Opinion No. 25, Accounting for Stock Issued to Employees, and related Interpretations in accounting for its stock option plans. No stock-based employee compensation expense is reflected in net income as all option grants under those plans had an exercise price equal to the market value of the underlying common stock on the date of grant. The following table illustrates the effect on net income and earnings per share if the Company had applied the optional fair value recognition provisions of FASB Statement No. 123, Accounting for Stock-Based Compensation, to stock-based employee compensation.
 

   
Year Ended December 31
          
     
2004
    
2003
    
2002
  
                     
Net income - as reported
  
$
7,948,752
  
$
6,830,667
  
$
3,454,419
  
Deduct total stock-based
                    
employee compensation 
                    
expense determined under 
                    
fair value method for all 
                    
awards, net of related tax 
                    
effects 
    
(429,832
)
  
(380,542
)
  
(320,021
)
                     
Net income - pro forma
  
$
7,518,920
  
$
6,450,125
  
$
3,134,398
  
                     
Earnings per share:
                    
Basic - as reported
    
0.93
   
0.81
   
0.41
 
Basic - pro forma
    
0.88
   
0.76
   
0.37
 
                     
Diluted - as reported
    
0.90
   
0.79
   
0.41
 
Diluted - pro forma
    
0.85
   
0.75
   
0.37
 
 

 
The fair value of each option grant ($2.86, $2.86 and $2.42 in 2004, 2003 and 2002, respectively) is estimated on the date of the grant using the Black-Scholes option-pricing model with the following weighted average assumptions:
 


     
2004
    
2003
    
2002
  
                     
Dividend yield
    
1.91
%
  
2.81
%
  
3.09
%
Risk-free interest rate
    
3.23
%
  
4.00
%
  
3.98
%
Expected life
    
4 years
    
4 years
    
4.93 years
  
Expected volatility
    
22.57
%
  
33.90
%
  
40.54
%
 
Recently Issued Accounting Pronouncements - In December 2004, the FASB issued a statement, Shared-Based Payment, Statement 123(R), that addresses the accounting for share-based payment transactions (for example, stock options) in which an employer receives employee-services in exchange for equity securities of the company or liabilities that are based on the fair value of the company’s equity securities. This statement eliminates the use of the intrinsic value method of APB 25 and generally requires that such transactions be accounted for using a fair-value based method for recording compensation expense. The statement substantially amends SFAS No. 123. The statement is effective for interim periods beginning after June 15, 2005. When adopted in the third quarter of 2005, the Company expects to restate prior periods for comparability. Such adjustments should not differ significantly from the pro forma amounts reported in Note 1.

In March 2004, the FASB ratified the consensus reached by the Emerging Issues Task Force regarding issue 03-1, The Meaning of Other-Than-Temporary Impairment and Its Application to Certain Investments (“EITF 03-01”). The consensus provided guidance for determining when an investment is other-than-temporarily-impaired. The guidance was effective for periods beginning after June 15, 2004. On September 30, 2004, the FASB deferred the implementations of the recognition criteria of EITF 03-01 until the fourth quarter of 2004. Adoption of this standard did not affect the Company’s 2004 consolidated financial statements.

In December 2003, the Financial Accounting Standards Board (“FASB”) issued FASB Interpretation No. 46 (“FIN 46”), Consolidation of Variable Interest Entities, that addresses the consolidation rules to be applied to “variable interest entities”. The interpretation is effective for entities created after December 31, 2003. Adoption of this Interpretation did not affect the consolidated financial statements.


Reclassifications - The 2003 and 2002 figures have been reclassified where appropriate to conform with the financial statement presentation used in 2004. These reclassifications had no effect on previously reported net income.



2. Securities Available-for-Sale:

The amortized cost and estimated fair values of securities available-for-sale at December 31, 2004 are as follows:

                   
Securities in
 
Securities in
 
 
 
 
 
 
 
 
 
 
 
Continuous
 
Continuous
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Unrealized 
 
 
Unrealized
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Loss 
 
 
Loss
  
 
          
Gross 
    
Gross
    
Estimated
    
Position for
    
Position For
  
 
    
Amortized 
    
Unrealized
    
Unrealized
    
Fair
    
Less Than
    
12 Months
  
 
    
Cost 
    
Gains
    
Losses
    
Value
    
12 Months
    
or Longer
  
                                       
Unrealized Loss Positions
                                      
                                       
Obligations of U.S. Government
                                      
agencies 
  
$
5,485,975
  
$
-
  
$
65,960
  
$
5,420,015
  
$
5,420,015
  
$
-
  
Obligations of states and
                                      
political subdivisions 
    
2,910,592
   
-
   
54,169
   
2,856,423
   
2,426,182
   
430,241
 
Mortgage-backed securities
    
12,575,482
   
-
   
99,105
   
12,476,377
   
10,085,599
   
2,390,778
 
                                       
     
20,972,049
   
-
   
219,234
   
20,752,815
 
$
17,931,796
  
$
2,821,019
  
                                       
Unrealized Gain Positions
                                      
                                       
Obligations of U.S. Government
                                      
agencies 
    
961,876
   
7,814
   
-
   
969,690
             
Obligations of states and
                                      
political subdivisions 
    
203,000
   
-
   
-
   
203,000
             
Mortgage-backed securities
    
5,605,269
   
26,957
   
-
   
5,632,226
             
                                       
     
6,770,145
   
34,771
   
-
   
6,804,916
             
                                       
   
$
27,742,194
  
$
34,771
  
$
219,234
  
$
27,557,731
              

 
At December 31, 2004, 31 investment securities were in unrealized loss positions. The decline in value of these securities has resulted from increases in market interest rates during the second half of 2004. The projected average life of the securities portfolio is approximately four years. Although yields on these securities may be below market rates during that period, no loss of principal is expected.

The amortized cost and estimated fair values of securities available-for-sale at December 31, 2003 are as follows:


                           
 
          
Gross 
    
Gross
    
Estimated
  
 
    
Amortized 
    
Unrealized
    
Unrealized
    
Fair
  
 
    
Cost 
    
Gains
    
Losses
    
Value
  
                           
Obligations of U.S. Government agencies
  
$
6,501,178
  
$
5,737
  
$
29,453
  
$
6,477,462
  
Obligations of states and political subdivisions
    
3,018,186
   
17,618
   
42,985
 
$
2,992,819
  
Mortgage-backed securities
    
20,558,083
   
95,049
   
94,677
   
20,558,455
 
                           
   
$
30,077,447
  
$
118,404
  
$
167,115
  
$
30,028,736
  



The amortized cost and estimated fair value of securities at December 31, 2004 and 2003 by contractual maturity, are shown below. Expected maturities will differ from contractual maturities because issuers may have the right to call or prepay obligations.


     
2004
          
2003
        
 
          
Estimated 
          
Estimated
  
 
    
Amortized 
    
Fair
    
Amortized
    
Fair
  
   
Cost 
    
Value
    
Cost
    
Value
  
                           
Due in one year or less
  
$
-
  
$
-
  
$
-
  
$
-
  
Due after one year through 5 years
    
7,946,427
   
7,860,637
   
6,941,014
   
6,915,521
 
Due after 5 years through 15 years
    
1,615,016
   
1,588,488
   
2,578,350
   
2,554,760
 
Mortgage-backed securities
    
18,180,751
   
18,108,609
   
20,558,083
   
20,558,455
 
                           
   
$
27,742,194
  
$
27,557,734
  
$
30,077,447
  
$
30,028,736
  
Gross realized losses were $12,820 in 2004. No securities were sold in 2003. Gross realized gains and losses were $151,098 and $1,708, respectively, in 2002.
 
At December 31, 2004, mortgage-backed securities with amortized costs of $7,092,884 (estimated market values of $7,053,130) were pledged to secure certain Treasury and public deposits as required by law.


3. Loans:

Major classifications of loans at December 31 are as follows:


   
2004
  
2003
  
               
Commercial loans
  
$
107,537,680
  
$
89,128,212
  
Real estate loans
    
341,110,848
   
255,149,823
 
Consumer loans
    
10,380,565
   
11,424,015
 
               
     
459,029,093
   
355,702,050
 
Deferred loan origination fees
    
(2,060,949
)
  
(1,582,494
)
               
     
456,968,144
   
354,119,556
 
Allowance for loan losses
    
(5,223,979
)
  
(5,225,331
)
               
   
$
451,744,165
  
$
348,894,225
  
Scheduled maturities or repricing, if earlier, of loans at December 31, 2004 are as follows:


 Three months or less
  
$
218,956,729
  
 Three months to one year
    
8,180,447
 
 One year to three years
    
70,249,094
 
 Three years to five years
    
62,279,522
 
 Thereafter
    
99,363,301
 
         
   
$
459,029,093
  


Allowance for Loan Losses:


   
2004
  
2003
  
2002
  
                     
Balance, beginning of year
  
$
5,225,331
  
$
4,403,161
  
$
3,418,029
  
Provision charged to income
    
500,000
   
900,000
   
5,660,000
 
Loans charged against the allowance
    
(516,071
)
  
(1,185,426
)
  
(4,802,741
)
Recoveries credited to allowance
    
196,719
   
917,796
   
127,873
 
Reclassify unfunded loan commitments
    
(182,000
)
  
-
   
-
 
Acquisition
    
-
   
189,800
   
-
 
                     
Balance, end of year
  
$
5,223,979
  
$
5,225,331
  
$
4,403,161
  
Restructured and other loans considered impaired, including all nonaccrual loans, totaled $2,799,762, $3,168,458, and $6,509,336 at December 31, 2004 2003, and 2002 respectively. The specific valuation allowance for loan losses related to these impaired loans was approximately $510,000, $628,000 and $454,000 at December 31, 2004, 2003, and 2002 respectively. The average recorded investment in impaired loans was approximately $3,206,000, $4,594,000, and $5,870,000 in 2004, 2003, and 2002 respectively. Interest income recognized on impaired loans during 2004, 2003, and 2002 was approximately $120,000, $264,000, and $292,000 respectively. Additional interest income which would have been realized on nonaccrual loans if they had remained current and still accruing was approximately $98,000, $159,000 and $446,000 in 2004, 2003 and 2002, respectively. Loans contractually past due 90 days or more on which interest continued to accrue totaled approximately $213,000, $545,000, and $359,000 at December 31, 2004, 2003, and 2002 respectively.

A substantial portion of the loan portfolio is collateralized by real estate and is, therefore, susceptible to changes in local market conditions. Management believes that the loan portfolio is diversified among industry groups. At December 31, 2004, outstanding residential construction loans totaled approximately $67,938,000 and represented 14.7% of total outstanding loans. In addition, at December 31, 2004, unfunded loan commitments for residential construction totaled approximately $19,008,000. At year end there were no nonaccrual loans and no impaired loans in this industry. There are no other industry concentrations in excess of 8%. It is management’s opinion that the allowance for loan losses is adequate to absorb known and inherent risks in the loan portfolio. However, actual results may differ from estimates.


4. Loan Participations and Servicing:

In the normal course of business, the Bank has sold portions of loans to other institutions in order to extend the Bank’s lending capability or to mitigate risk. Servicing rights are retained for these loan participations. The unpaid principal balances of these serviced loans at December 31, 2004 and 2003 were $22,317,357 and $24,483,424, respectively. These loans are not included in the accompanying consolidated balance sheets.
 
The balance of capitalized loan servicing rights, net of valuation allowances, included in other assets was $27,856 and $78,490 at December 31, 2004 and 2003, respectively.
 



5. Property:

Property at December 31 consists of the following:


     
2004
    
2003
  
               
Land
  
$
2,480,664
  
$
2,053,664
  
Buildings and improvements
    
11,616,582
   
11,455,861
 
Furniture and equipment
    
6,068,397
   
5,617,737
 
               
     
20,165,643
   
19,127,263
 
Less accumulated depreciation
    
6,983,237
   
6,067,300
 
               
   
$
13,182,407
  
$
13,059,962
  
Subsequent Event - During January 2005, the Bank entered into a definitive agreement to purchase a building and land in Portland, Oregon for a new office location. This purchase is expected to close prior to the end of the first quarter at a total price of $1,750. The building will require substantial remodeling, and the new office is expected to open during the third quarter 2005.

Lease Commitments - The Bank leases certain facilities for office locations under noncancelable operating lease agreements expiring through 2020. Rent expense related to these leases totaled $366,716, $372,357 and $262,901 in 2004, 2003 and 2002, respectively.

Property Leased to Others - The Bank leases approximately 82% of its Springfield Gateway building to others under noncancelable operating lease agreements extending through 2011.

Future minimum payments required under these leases are:


            
Property
  
        
Lease
  
Leased
  
        
Commitments
  
to Others
  
                
     
2005
  
$
302,519
  
$
384,483
  
     
2006
    
281,283
   
340,273
 
     
2007
    
206,546
   
184,404
 
     
2008
    
113,053
   
164,275
 
     
2009
    
106,793
   
127,181
 
 
    
 Thereafter 
    
514,398
   
123,628
 
                     
         
$
1,524,592
  
$
1,324,244
  
 

 
6. Other Assets:


   
2004
  
2003
  
               
Foreclosed assets
    
262,071
   
410,761
 
Servicing asset
    
27,857
   
78,490
 
Deferred taxes
    
257,814
   
249,740
 
Income tax deposits
    
-
    
568,788
 
Goodwill
    
275,552
   
275,552
 
Prepaid expenses and other
    
391,362
   
414,403
 
               
   
$
1,214,656
  
$
1,997,734
  
               
 Acquisition

In April, 2003, the Bank acquired, for cash, the Coos Bay consumer finance office of CitiFinancial for $6,863,160. This office has been combined with Pacific Continental Finance, a division of the Bank. The allocation of the purchase price resulted in goodwill of $275,552, which is expected to be deductible over 15 years for income tax purposes. The acquisition was accounted for under the purchase method of accounting and, accordingly, the results of operations of the Coos Bay office have been included in the consolidated financial statements since the date of acquisition. Had this acquisition occurred on January 1, 2002, consolidated interest income and net income would not have been significantly different from the reported amounts for 2003 and 2002. 


7. Deposits:

Scheduled maturities or repricing of time deposits at December 31 are as follows:

 

   
2004
  
2003
  
           
Less than three months
  
$
17,279,958
  
$
15,331,192
  
Three months to one year
    
18,372,317
   
28,409,102
 
One to three years
    
8,524,511
   
9,497,715
 
Thereafter
    
7,683,591
   
1,269,693
 
               
   
$
51,860,377
  
$
54,507,702
  

8. Federal Funds Purchased:

The Bank has unsecured federal funds borrowing lines with correspondent banks totaling $57,000,000 at December 31, 2004 of which $10,290,000 (average interest rate of 2.75%) were borrowed against leaving $46,710,000 available. There were no borrowings against these lines at December 31, 2003.




9. Federal Home Loan Bank Borrowings:

Federal Home Loan Bank borrowings at December 31 are as follows:


   
2004
  
2003
  
           
Cash Management Advance, 2.35%
  
$
21,500,000
  
$
-
  
Due April 2004, 5.07%
    
-
   
3,000,000
 
Due May 2004, 5.35%
    
-
   
2,000,000
 
Due June 2004, 4.98%
    
-
   
5,000,000
 
Due July 2004, 5.16%
    
-
   
3,000,000
 
Due May 2005, 5.67%
    
1,000,000
   
1,000,000
 
Due June 2005, 5.26%
    
1,000,000
   
1,000,000
 
Due January 2006, 2.56%
    
1,000,000
   
1,000,000
 
Due December 2006, 3.28%
    
500,000
   
-
 
Due June 2007, 4.88%
    
4,000,000
   
4,000,000
 
Due July 2007, 4.45%
    
3,000,000
   
3,000,000
 
Due August 2007, 3.27%
    
5,000,000
   
-
 
Due September 2007, 3.23%
    
1,500,000
   
-
 
Due December 2007, 3.61%
    
1,000,000
   
1,000,000
 
Due February 2008, 3.26%
    
1,500,000
   
1,500,000
 
Due March 2008, 2.99%
    
500,000
   
500,000
 
Due August 2008, 3.75%
    
3,000,000
   
-
 
Due September 2008, 3.59%
    
1,500,000
   
-
 
Due December 2008, 3.69%
    
500,000
   
-
 
Due August 2009, 3.96 %
    
1,000,000
   
-
 
Due September 2009, 3.87%
    
2,500,000
   
-
 
Due December 2009, 3.96%
    
1,000,000
   
-
 
               
   
$
51,000,000
  
$
26,000,000
  
The Bank has a borrowing limit with the FHLB equal to 25% of total assets. At December 31, 2004, the borrowing line was approximately $129,100,000. At December 31, 2004, there was $51,000,000 borrowed on this line, including a $21,500,000 Cash Management Advance and $29,500,000 in term advances. The FHLB borrowing line is limited to discounted pledged collateral. FHLB stock, funds
on deposit with FHLB, and loans are pledged as collateral for borrowings from FHLB. At December 31, 2004, the Bank had pledged approximately $132,000,000 in real estate loans to the FHLB ($105,000,000 in discounted pledged collateral).

10. Income Taxes:

The provision for income taxes for the years ended December 31 consist of the following:


           
2004
  
2003
  
2002
  
                       
 Currently payable
  
:
                  
 Federal
      
 
 
$ 4,033,000
 
$ 3,567,000
 
$ 1,533,000
 
 State
      
 
  
848,000
 
736,000
 
321,000
 
                                 
                 
4,881,000
   
4,303,000
   
1,854,000
 
                                 
Deferred:
                                
Federal
                
36,000
   
(57,000
)
  
271,000
 
State
                
8,000
   
(13,000
)
  
56,000
 
                                 
                 
44,000
   
(70,000
)
  
327,000
 
                                 
Total provision for income taxes
              
$
4,925,000
  
$
4,233,000
  
$
2,181,000
  
The provision for deferred income taxes results from timing differences in the recognition of revenue and expenses for financial statement and tax purposes. The nature and tax effect of these differences for the years ended December 31are as follows:

   
2004
  
2003
  
2002
  
               
Loan fees and other loan basis adjustment
                    
differences between financial 
                    
statement and tax purposes 
  
$
92,618
  
$
52,827
  
$
133,511
  
Loan loss deduction for tax purposes
                    
more (less) than provision for financial 
                    
reporting purposes 
    
(89,962
)
  
(206,842
)
  
35,254
 
Depreciation deduction differences
                    
between financial statement and 
                    
tax purposes 
    
8,878
   
61,355
   
47,291
 
Federal Home Loan Bank stock dividends
    
35,249
   
39,544
   
47,912
 
Reserve for self-funded health insurance
    
(28,350
)
  
-
   
-
 
Other
    
25,567
   
(16,884
)
  
63,032
 
                     
   
$
44,000
  
$
(70,000
)
$
327,000
  

 
The provision for income taxes results in effective tax rates which are different than the federal income tax statutory rate. The nature of the differences for the years ended December 31 was as follows:


   
2004
  
2003
  
2002
  
                  
Expected federal income tax provision
                    
at 34% 
  
$
4,377,000
  
$
3,762,000
  
$
1,916,000
  
State income tax, net of federal income
                    
tax effect 
    
521,000
   
478,000
   
249,000
 
Deferred tax rate adjustments and other
    
27,000
   
(7,000
)
  
16,000
 
                     
Provision for income taxes
  
$
4,925,000
  
$
4,233,000
  
$
2,181,000
  
The tax benefit associated with stock option plans reduced taxes payable by $332,000, $115,000 and $54,000 at December 31, 2004, 2003 and 2002, respectively. Such benefit is credited to additional paid-in capital.

The components of deferred tax assets and liabilities at December 31 are as follows:

   
2004
  
2003
  
2002
  
               
Assets:
                    
Allowance for loan losses
  
$
1,390,044
  
$
1,301,122
  
$
1,045,096
  
Basis adjustments on loans
    
59,310
   
42,652
   
75,104
 
Reserve for self-funded insurance
    
28,350
   
-
   
-
 
Other
    
5,626
   
15,372
   
12,714
 
Net unrealized losses on securities
    
70,758
   
18,684
   
-
 
                     
 Total deferred tax assets
    
1,554,088
   
1,377,830
   
1,132,914
 
                     
Liabilities:
                    
Federal Home Loan Bank stock dividends
    
575,033
   
539,784
   
492,031
 
Excess tax over book depreciation
    
352,905
   
332,744
   
255,740
 
Net unrealized gains on securities
    
-
   
-
   
47,111
 
Other, principally loan origination costs
    
368,336
   
255,562
   
224,088
 
                     
 Total deferred tax liabilities
    
1,296,274
   
1,128,090
   
1,018,970
 
                     
Net deferred tax assets
 
$
257,814
  
$
249,740
  
$
113,944
  

 
Management believes that net deferred taxes will be recognized in the normal course of operations and, accordingly, net deferred tax assets have not been reduced by a valuation allowance.


11. Retirement Plan:

The Bank has a 401(k) profit sharing plan covering substantially all employees. The plan provides for employee and employer contributions. The total plan expenses, including employer contributions, were $503,586 $435,706 and $241,785 in 2004, 2003 and 2002, respectively.


12. Stock Option Plans:

The Company has Employee and Nonemployee Director Stock Option Plans that reserve shares of stock for issuance to employees and directors. Under the plans, the exercise price of each option must equal the greater of market price or net book value of the Company’s stock on the date of the grant, and the option’s maximum term is ten years. Vesting occurs over three- and four-year periods. Information with respect to options granted under the stock option plans, adjusted for stock splits and dividends, is as follows:


   
2004
      
2003
      
2002
      
 
          
Average 
          
Average
          
Average
  
 
    
Options 
    
Price
    
Options
    
Price
    
Options
    
Price
  
 
    
Outstanding 
    
Per Share
    
Outstanding
    
Per Share
    
Outstanding
    
Per Share
  
                                       
Balance, beginning of year
    
1,006,646
 
$
8.04
    
930,567
 
$
7.04
    
768,310
 
$
6.56
  
Grants:
                                      
Employees
    
223,299
   
15.91
   
240,095
   
11.39
   
306,000
   
7.65
 
Directors
    
45,000
   
12.24
   
6,666
   
11.28
   
53,333
   
8.31
 
Exercised
    
(167,975
)
  
6.71
   
(86,833
)
  
6.22
   
(127,605
)
  
5.18
 
Expired
    
(100,428
)
        
(83,849
)
        
(69,472
)
      
                                       
Balance, end of year
    
1,006,542
 
$
10.37
    
1,006,646
 
$
8.04
    
930,567
 
$
7.04
  
                                       
Options exercisable
                                      
at end of year 
    
444,938
         
409,771
         
356,832
       
                                       
Options available for
                                      
grant at end of year 
    
776,401
         
954,980
         
130,000
       
 
Outstanding options at December 31, 2004 are as follows:

 

 
    
Shares 
          
Price
        
 
    
Exercisable 
    
Total
    
Per Share
    
Expiration
  
                           
     
91,966
   
91,966
 
$
5.05
    
September 2005
  
     
127,060
   
167,575
 
$
7.66
    
August 2006
  
     
4,583
   
9,166
 
$
7.66
    
September 2006
  
     
22,222
   
33,334
 
$
7.02
    
June 2012
  
     
8,333
   
16,666
 
$
7.80
    
September 2012
  
     
125,844
   
213,762
 
$
8.31
    
December 2007
  
-
         
10,000
 
$
9.09
    
March 2008
  
     
2,803
   
10,929
 
$
9.15
    
June 2008
  
     
6,666
   
6,666
 
$
11.28
    
October 2008
  
     
44,211
   
178,179
 
$
11.82
    
November 2008
  
     
11,250
   
45,000
 
$
12.24
    
January 2009
  
-
         
12,500
 
$
12.44
    
April 2009
  
-
         
8,294
 
$
12.06
    
May 2009
  
-
         
2,500
 
$
15.08
    
October 2009
  
-
         
200,005
 
$
15.30
    
December 2009
  
                           
     
444,938
   
1,006,542
             


13. Transactions with Related Parties:

The Bank has granted loans to officers and directors and to companies with which they are associated. Such loans are made on substantially the same terms, including interest rates and collateral, as those prevailing at the time for comparable transactions with unrelated parties. Activity with respect to these loans during the year ended December 31 was as follows:


   
2004
  
2003
  
               
Balance, beginning of year
  
$
784,304
  
$
1,040,914
  
               
Additions or renewals
    
63,000
   
27,204
 
Amounts collected or renewed
    
(136,958
)
  
(283,814
)
               
Balance, end of year
  
$
710,346
  
$
784,304
  
In addition, there were $170,552 in commitments to extend credit to directors and officers at December 31, 2004, which are included as part of commitments in Note 14.

Real estate management fees of $24,956 and $31,786 were paid to director, Larry Campbell, during 2004 and 2003, respectively.


14. Financial Instruments with Off-Balance-Sheet Credit Risk:

In order to meet the financing needs of its clients, the Bank commits to extensions of credit and issues letters of credit. The Bank uses the same credit policies in making commitments and conditional obligations as it does for other products. In the event of nonperformance by the client, the Bank’s exposure to credit loss is represented by the contractual amount of the instruments. The Bank’s collateral policies related to financial instruments with off-balance-sheet risk conform with its general underwriting guidelines.

Commitments to extend credit are agreements to lend to a client as long as there is no violation of any condition established in the contract. Commitments generally have expiration dates or other termination clauses and may require payment of a fee. Since some of the commitments may expire without being drawn upon, the total commitment amounts do not necessarily represent future cash requirements.

Letters of credit written are conditional commitments issued by the Bank to guarantee the performance of a client to a third party. The credit risk involved in issuing letters of credit is essentially the same as that involved in extending loan facilities to clients.

Off-balance-sheet instruments at December 31 consist of the following:


     
2004
    
2003
  
               
Commitments to extend credit (principally
              
variable rate) 
  
$
130,808,454
  
$
101,033,184
  
Letters of credit and financial guarantees written
    
3,686,695
   
4,150,017
 



15. Fair Value Disclosures of Financial Instruments:

The following disclosures are made in accordance with provisions of SFAS No. 107, Disclosures About Fair Value of Financial Instruments. The use of different assumptions and estimation methods could have a significant effect on fair value amounts. Accordingly, the estimates of fair value herein are not necessarily indicative of the amounts that might be realized in a current market exchange.

The estimated fair values of the financial instruments at December 31 are as follows:


   
2004
      
2003
      
 
    
Carrying 
          
Carrying
        
 
    
Amount 
    
Fair Value
    
Amount
    
Fair Value
  
                           
Financial assets:
                          
Cash and cash equivalents
  
$
16,082,282
  
$
16,082,282
  
$
25,536,354
  
$
25,536,354
  
Securities
    
27,557,731
   
27,557,731
   
30,028,736
   
30,028,736
 
Loans held for sale
    
2,072,351
   
2,109,351
   
1,957,670
   
1,984,321
 
Loans, net of allowance
                          
 for loan losses
    
451,744,165
   
451,731,286
   
348,894,225
   
353,009,737
 
Interest receivable
    
1,969,181
   
1,969,181
   
1,585,955
   
1,585,955
 
Federal Home Loan
                          
 Bank stock
    
2,807,600
   
2,807,600
   
2,738,000
   
2,738,000
 
                           
Financial liabilities:
                          
Deposits
    
403,791,306
   
403,739,404
   
356,099,070
   
356,321,070
 
Federal funds purchased
    
10,290,000
   
10,290,000
   
-
   
-
 
Federal Home Loan
                          
 Bank borrowings
    
51,000,000
   
51,029,583
   
26,000,000
   
26,722,000
 
Accrued interest payable
    
117,457
   
117,457
   
112,797
   
112,797
 
Cash and Cash Equivalents - The fair value approximates carrying amount.

Securities - - Fair value is based on quoted market prices. If a quoted market price is not available, fair value is estimated using quoted market prices from similar securities.

Loans Held for Sale - Fair value represents the anticipated proceeds from sale of the loans.

Loans - Fair value of fixed-rate loans is estimated by discounting the future cash flows using the current rates at which similar loans would be made to borrowers with similar credit ratings and for the same remaining maturities.

Deposits - - Fair value of demand, interest-bearing demand and savings deposits is the amount payable on demand at the reporting date. Fair value of time deposits is estimated using the interest rates currently offered for the deposits of similar remaining maturities. In accordance with provisions of SFAS No. 107, the estimated fair values of deposits do not take into account the benefit that results from low-cost funding such deposits provide.

Federal Funds Purchased - The carrying amount is a reasonable estimate of fair value because of the short-term nature of these borrowings.

Federal Home Loan Bank Borrowings - Fair value of Federal Home Loan Bank borrowings is estimated by discounting future cash flows at rates currently available for debt with similar terms and remaining maturities.

Off-Balance-Sheet Financial Instruments - The carrying amount and fair value are based on fees charged for similar commitments and are not material.



16. Commitments and Legal Contingencies:

The Company has entered into employment agreements with two key executives, Hal Brown and Daniel Hempy. The employment agreements provide for minimum aggregate annual base salaries of $330,000, plus performance adjustments, life insurance coverage, and other perquisites commonly found in such agreements. During 2004, Mr. Brown’s employment agreement was extended one year and expires in 2007. Mr. Hempy’s employment agreement expires in 2005.

Various legal claims arise from time to time in the normal course of business which, in the opinion of management, will have no material effect on the Company’s consolidated financial statements.


17. Regulatory Matters:

The Bank is subject to the regulations of certain federal and state agencies and receives periodic examinations by those regulatory authorities. In addition, the Bank is subject to various regulatory capital requirements administered by federal banking agencies. Failure to meet minimum capital requirements can initiate certain mandatory - and possibly additional discretionary - actions by regulators that, if undertaken, could have a direct material effect on the Bank’s financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the Bank must meet specific capital guidelines that involve quantitative measures of the Bank’s assets, liabilities, and certain off-balance-sheet items as calculated under regulatory accounting practices. The Bank’s capital amounts and classification are also subject to qualitative judgments by the regulators about components, risk weightings and other factors.

Quantitative measures established by regulation to ensure capital adequacy require the Bank to maintain minimum amounts and ratios of Total and Tier I capital to risk-weighted assets, and of Tier I capital to leverage assets. Management believes, as of December 31, 2004, that the Bank meets all capital adequacy requirements to which it is subject.

As of December 31, 2004, the most recent notification from the FDIC categorized the Bank as well capitalized. To be categorized as well capitalized, the Bank must maintain minimum Total risk-based, Tier I risk-based, and Tier I leverage ratios as set forth in the following table. There are no conditions or events since that notification that management believes have changed the institution’s category.

The Bank’s actual capital amounts and ratios are presented in the table (the Company’s capital ratios do not differ significantly from those of the Bank).


 
                             To Be Well        
 
                             Capitalized Under        
 
                 For Capital           
Prompt Corrective 
      
 
     Actual           
Adequacy Purposes
          
Action Provisions 
      
 
     Amount     
Ratio
    
Amount
    
Ratio
    
Amount
    
Ratio
  
                                       
As of December 31, 2004:
                                      
Total capital (to risk
                                      
 weighted assets)
  
$
53,861,279
    
11.29
%
$
38,166,400
    
8
%
$
47,708,000
    
10
%
Tier I capital (to risk
                                      
 weighted assets)
    
48,637,300
   
10.19
%
  
19,083,200
   
4
%
  
28,624,800
   
6
%
Tier I capital (to leverage
                                      
 assets)
    
48,637,300
   
9.71
%
  
20,034,440
   
4
%
  
25,043,050
   
5
%
                                       
As of December 31, 2003:
                                      
Total capital (to risk
                                      
 weighted assets)
  
$
46,260,473
    
12.20
%
$
30,363,200
    
8
%
$
37,954,000
    
10
%
Tier I capital (to risk
                                      
 weighted assets)
    
41,516,223
   
10.95
%
  
15,181,600
   
4
%
  
22,772,400
   
6
%
Tier I capital (to leverage
                                      
 assets)
    
41,516,223
   
9.82
%
  
16,903,360
   
4
%
  
21,129,200
   
5
%

18. Parent Company Financial Information:

Financial information for Pacific Continental Corporation (Parent Company only) is presented below:

BALANCE SHEETS
December 31


     
2004
    
2003
  
               
Assets:
              
Cash deposited with the Bank
  
$
265,907
  
$
222,094
  
Prepaid expenses
    
4,000
   
4,000
 
Deferred income taxes
    
323,000
   
246,000
 
Investment in the Bank, at cost plus equity
              
 in earnings
    
48,799,150
   
41,761,756
 
               
   
$
49,392,057
  
$
42,233,850
  
               
Liabilities and stockholders' equity:
              
Liabilities
  
$
-
  
$
-
  
Stockholders' equity
    
49,392,057
   
42,233,850
 
               
   
$
49,392,057
  
$
42,233,850
  

STATEMENTS OF INCOME
For the Periods Ended December 31


   
2004
  
2003
  
2002
  
                     
Income:
                    
Cash dividends from the Bank
  
$
1,280,000
  
$
1,625,000
  
$
1,405,000
  
Interest income
    
-
   
-
   
5,798
 
                     
     
1,280,000
   
1,625,000
   
1,410,798
 
                     
Expenses:
                    
Investor relations
    
61,937
   
65,596
   
81,005
 
Legal and registration expense
    
71,549
   
70,958
   
42,435
 
Personnel costs paid to Bank
    
63,781
   
50,585
   
32,483
 
                     
     
197,267
   
187,139
   
155,923
 
                     
 Income before income tax benefit
                    
 and equity in undistributed
                    
 earnings of the Bank
    
1,082,733
   
1,437,861
   
1,254,875
 
                     
Income tax benefit
    
77,000
   
72,000
   
58,000
 
Equity in undistributed earnings of the Bank
    
6,789,019
   
5,320,806
   
2,141,544
 
                     
 Net income
  
$
7,948,752
  
$
6,830,667
  
$
3,454,419
  

 

STATEMENTS OF CASH FLOWS
For the Periods Ended December 31

 

   
2004
  
2003
  
2002
  
               
Cash flows from operating activities:
                    
Net income
  
$
7,948,752
  
$
6,830,667
  
$
3,454,419
  
Adjustments to reconcile net income
                    
 to net cash provided by operating
                    
 activities:
                    
Equity in undistributed earnings of 
    
(6,789,069
)
  
(5,320,806
)
  
(2,141,544
)
 the Bank
                    
Prepaid expenses 
    
-
   
-
   
(1,500
)
Deferred income taxes 
    
(77,000
)
  
(72,000
)
  
(58,000
)
                     
 Net cash provided by operating
                    
 activities
    
1,082,683
   
1,437,861
   
1,253,375
 
                     
Cash flows from financing activities:
                    
Proceeds from stock options exercised
    
1,127,879
   
540,515
   
661,132
 
Dividends paid
    
(2,163,789
)
  
(1,841,438
)
  
(1,610,219
)
Shares repurchased and retired
    
(2,960
)
  
(3,700
)
  
(1,251,269
)
                     
 Net cash used in financing
                    
 activities
    
(1,038,870
)
  
(1,304,623
)
  
(2,200,356
)
                     
Net increase (decrease) in cash
    
43,813
   
133,238
   
(946,981
)
                     
Cash, beginning of period
    
222,094
   
88,856
   
1,035,837
 
                     
Cash, end of period
  
$
265,907
  
$
222,094
  
$
88,856
  


ITEM 9 Changes In and Disagreements with Accountants on Accounting and Financial Disclosure

 
The Audit Committee of the Board of Directors of the Company approved a change in auditors. At a meeting of the Audit Committee held on November 9, 2004, the Audit Committee appointed Moss Adams LLP to serve as the Company’s independent public accountants, effective January 1, 2005. Moss Adams LLP will replace Zirkle, Long, Trigueiro, & Ward, L.L.C. (“ZLT & W”). Pursuant to written notice dated November 8, 2004, ZLT & W declined to stand for re-appointment after completion of the current audit. ZLT & W completed the audit of the Company’s consolidated financial statements for the fiscal year ending December 31, 2004.
 
 
ZLT & W performed audits of the consolidated financial statements for the two years ended December 31, 2003 and 2002. Their reports did not contain an adverse opinion or a disclaimer of opinion and were not qualified or modified as to uncertainty, audit scope, or accounting principles.
 
 
During the two years ended December 31, 2003 and 2002 and from December 31, 2003 through November 8, 2004, the effective date of ZLT & W’s notice that it has declined to stand for re-appointment, there have been no disagreements between the Company and ZLT & W on any matter of accounting principles or practice, financial statement disclosure, or auditing scope of procedure, which disagreements would have caused ZLT & W to make reference to the subject matter of such disagreements in connection with its report.
 


 
During the two years ended December 31, 2003 and 2002, and from December 31, 2003 through November 8, 2004, the effective date of ZLT & W’s notice that it has declined to stand for re-appointment, ZLT & W did not advise the Company of any of the following matters:
 
 

 
1.
  
That the internal controls necessary for the Company to develop reliable financial statements did not exist;
 
    
2.
  
That information had come to ZLT & W’s attention that had led it to no longer be able to rely on management’s representations, or that had made it unwilling to be associated with the financial statements prepared by management;
 
    
3.
  
That there was a need to expand significantly the scope of the audit of the Company, or that information had come to ZLT & W’s attention during the two years ended December 31, 2003 and 2002, and from December 31, 2003 through November 8, 2004, that if further investigated: (i) may materially impact the fairness or reliability of either: a previously-issued audit report or underlying financial statements; or the financial statements issued or to be issued covering the fiscal periods subsequent to the date of the most recent financial statements covered by an audit report (including information that may prevent it from rendering an unqualified audit report on those financial statements), or (ii) may cause it to be unwilling to rely on management’s representations or be associated with the Company’s financial statements and that, due to its determination to not stand for re-appointment, or for any other reason, ZLT & W did not so expand the scope of its audit or conduct such further investigation; or
 
    
4.
  
That information had come to ZLT & W’s attention that it had concluded materially impacted the fairness or reliability of either: (i) a previously issued audit report or the underlying financial statements, or (ii) the financial statements issued or to be issued covering the fiscal period subsequent to the date of the most recent financial statements covered by an audit report (including information that, unless resolved to the accountant’s satisfaction, would prevent it from rendering an unqualified audit report on those financial statements), and that, due to ZLT & W’s determination to not stand for re-appointment, or for any other reason, the issue has not been resolved to ZLT & W’s satisfaction prior to its determination to not stand for re-appointment.
 

 
 
ZLT & W has furnished a letter to the SEC dated November 8, 2004 stating that it agrees with the above statements.
 
During the two years ended December 31, 2003 and 2002 and from January 1, 2004 through November 9, 2004, the date on which Moss Adams LLP was engaged to be the Company’s independent accountant, neither the Company nor anyone on its behalf had consulted Moss Adams LLP with respect to any accounting or auditing issues involving the Company. In particular, there was no discussion with the Company regarding the application of accounting principles to a specified transaction, the type of audit opinion that might be rendered on the financial statements, or any related item.


ITEM 9A Controls and Procedures

Evaluation of Disclosure Controls and Procedures

An evaluation was carried out under the supervision and with the participation of the Company’s management, including the Chief Executive Officer (“CEO”) and Chief Financial Officer (“CFO”), of the effectiveness of our disclosure controls and procedures, as required by Rule 13a-15(b) of the Securities Exchange Act of 1934. Based on that evaluation, the CEO and CFO have concluded that as of the end of the period covered by this report, our disclosure controls and procedures are effective to provide reasonable assurance that information required to be disclosed by us in reports that we file or submit under the Securities Exchange Act of 1934 is recorded, processed, summarized, and timely reported as provided in the SEC rules and forms. As a result of this evaluation, there were no significant changes in our internal control over financial reporting during the three months ended December 31, 2004 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

Management’s Report on Internal Control Over Financial Reporting

The management of the Company responsible for establishing and maintaining adequate internal control over financial reporting. This internal control system has been designed to provide reasonable assurance to the Company’s management and board of directors regarding the preparation and fair presentation of the Company’s published financial statements.

All internal control systems, no matter how well designed, have inherent limitations. Therefore, even those systems determined to be effective can provide only reasonable assurance with respect to financial statement preparation and presentation.

The management of Pacific Continental Corporation has assessed the effectiveness its internal control over financial reporting at December 31, 2004. To make this assessment, the Company used the criteria for effective internal control over financial reporting described in Internal Control - Integrated Framework, issued by the Committee of Sponsoring Organizations of the Treadway Commission. Based on this assessment, the Company believes that as of December 31, 2004, the internal control system over financial reporting met those criteria.

The Company’s independent auditors, Zirkle, Long, Trigueiro, & Ward, L.L.C, have issued an attestation report on the Company’s internal control over financial reporting. The attestation report can be found on pages 31 and 32 of this document.


ITEM 9b.  Other Information

None

PART III

ITEM 10  Directors and Executive Officers of the Company

The information regarding “Directors and Executive Officers of the Registrant” of the Bank is incorporated by reference from the sections entitled “ELECTION OF DIRECTORS—Nominees and Continuing Directors,” “SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT” and “COMPLIANCE WITH SECTION 16(a) FILING REQUIREMENTS” of the Company’s 2005 Annual Meeting Proxy Statement (the “Proxy Statement”).

Information regarding the Company’s Audit Committee financial expert appears under the section entitled “Information Regarding the Board of Directors and its Committees - Certain Committees of the Board” in the Company’s Proxy Statement and is incorporated by reference.

In September of 2003, consistent with the requirements of Sarbannes-Oxley, the Company adopted a Code of Ethics applicable to senior financial officers including the principal executive officer. There have been no changes in The Code of Ethics since that time. The Code of Ethics was filed as Exhibit 14 to the Company’s Annual Report on Form 10-K for the year-end December 31, 2003. The Code of Ethics can also be accessed electronically by visiting the Company’s website at www.therightbank.com.


ITEM 11  Executive Compensation

The information regarding “Executive Compensation” is incorporated by reference from the sections entitled “INFORMATION REGARDING THE BOARD OF DIRECTORS AND ITS COMMITTEES—Compensation of Directors,” and “EXECUTIVE COMPENSATION” of the Proxy Statement.

ITEM 12  Security Ownership of Certain Beneficial Owners and Management

The information regarding “Security Ownership of Certain Beneficial Owners and Management” is incorporated by reference from the sections entitled “ELECTION OF DIRECTORS—Nominees and Continuing Directors,” and “SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT” of the Proxy Statement.


ITEM 13  Certain Relationships and Related Transactions

The information regarding “Certain Relationships and Related Transactions” is incorporated by reference from the section entitled “Transactions with Management” of the Proxy Statement.


ITEM 14   Principal Accountant Fees and Services

For information concerning principal accountant fees and services as well as related pre-approval policies, see “Independent Public Auditors - Fees Paid to Independent Auditor” in the Company’s Proxy Statement, which is incorporated by reference.


ITEM 15 Exhibits and Financial Statement Schedules

(a)(2)   Financial Statement Schedules

All other schedules to the financial statements required by Regulation S-X are omitted because they are not applicable, not material, or because the information is included in the financial statements or related notes

(a)(3)   Exhibit Index

Exhibit
3.1  
Amended Articles of Incorporation (1)
3.2  
Amended Bylaws (1)
10.2  
1995 Incentive Stock Option Plan (2)
10.3  
1999 Employee Stock Option Plan (2)
10.4  
1995 Director’s Stock Option Plan (2)
10.5 1999 Director’s Stock Option Plan (2)
10.6  
Form of Executive Severance Agreement for Messrs. Hagstrom, Reynolds, and Hansen (2)
10.7 Executive Employment Agreement for Daniel J. Hempy (2)
10.8 Executive Employment Agreement for Hal Brown (3)
10.9 Executive Severance Agreement for Roger Busse (4)
14 Code of Ethics for Senior Financial Officers and
Principal Executive Officer (5)
23.1 Accountants Consent of Zirkle, Long, Triguiero, & Ward, L.L.C.
31.1 302 Certification, Hal Brown, President and Chief Executive Officer
31.2 302 Certification, Michael A. Reynolds, Senior Vice President and
Chief Financial Officer
32 Certifications Pursuant to 18 U.S.C. Section 1350




(1)  
Incorporated by reference to Exhibits 3.1 and 3.2 of the Company’s Quarterly Report on 10-Q for the Quarter ended March 31, 2004.

(2)  
Incorporated by reference to Exhibits 10.2, 10.3, 10.4, 10.5, and 10.6 of the Company’s Quarterly Report on 10-Q for the Quarter ended June 30, 1999.

(3)  
Incorporated by reference to Exhibit 10.1 of the Company’s Quarterly Report on 10-Q for the Quarter ended September 30, 2002.

(4)  
Incorporated by reference to Exhibit 10.8 of the Company’s Annual Report on 10-K for the year ended December 31, 2002.

(5)  
Incorporated by reference to Exhibit 14 of the Company’s Annual Report on 10-K for the year ended December 31, 2003.



 

 


SIGNATURES

Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned on March 4, 2005.

PACIFIC CONTINENTAL CORPORATION
(Company)



By: /s/ Hal Brown
Hal Brown
President and Chief Executive Officer

Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the Company and in the capacities indicated on the 4th day of March, 2005.

Principal Executive Officer



By  /s/ Hal Brown   President and Chief Executive Officer
Hal Brown   and Director

Principal Financial and Accounting Officer



By  /s/ Michael A. Reynolds   Executive Vice President and 
Michael A. Reynolds   Chief Financial Officer

Remaining Directors



By  /s/ Robert A. Ballin   Director and 
Robert A. Ballin   Chairman of the Board



By  /s/ Donald G. Montgomery   Director  By  /s/ Michael D. Holzgang  Director
Donald G. Montgomery   Vice Chairman  Michael D. Holzgang



By  /s/ Donald A. Bick   Director By  /s/ Ronald F. Taylor  Director
Donald A. Bick      Ronald F. Taylor



By  /s/ Larry G. Campbell   Director By  /s/ Donald L. Krahmer  Director
Larry G. Campbell      Donald L. Krahmer, Jr.


By  /s/ Michael Holcomb   Director  By /s/ John H. Rickman   Director
Michael Holcomb     John H. Rickman