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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
(Mark One)
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE
ACT OF 1934 For the fiscal year ended December 31, 2004 or
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the transition period from _______________________________________ to
000-50914
_______________________
(Commission File Number)
BRIDGE CAPITAL HOLDINGS
______________________________________________________
(Exact name of registrant as specified in its charter)
CALIFORNIA 80-0123855
_______________________________ _______________________________________
(State or other jurisdiction of (I.R.S. Employer Identification Number)
incorporation or organization)
55 ALMADEN BOULEVARD, SAN JOSE, CA 95113
____________________________________________________________
(Address of principal executive offices, including zip code)
Registrant's telephone number, including area code: (408) 423-8500
Securities registered pursuant to Section 12 (b) of the Act:
Name of each exchange
Title of each class on which registered
___________________ _____________________
None None
Securities registered pursuant to Section 12 (g) of the Act:
Title of each class
__________________________
Common Stock, no par value
Bridge Capital Holdings (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 and (2) has been subject to such filing requirements for the past 90
days. Yes [ ] No [X] .
Indicate by checkmark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [X]
Indicate by checkmark whether registrant is an accelerated filer (as
defined by in Rule 12b-2 of the Act). Yes [ ] No [X]
The aggregate market value of the voting stock held by non-affiliates of
Bridge Bank, N.A., the registrant's predecessor, was $68,620,970 as of June 30,
2004.
As of January 21, 2005, Bridge Bank, N.A. had 6,097,697, shares of common
stock outstanding.
Documents incorporated by reference: The Bank's Proxy Statement for its
2005 Annual Meeting of Shareholders is incorporated herein by reference in Part
III, Items 10 through 14.
1
FORWARD-LOOKING STATEMENTS
IN ADDITION TO THE HISTORICAL INFORMATION, THIS ANNUAL REPORT CONTAINS CERTAIN
FORWARD-LOOKING INFORMATION WITHIN THE MEANING OF SECTION 27A OF THE SECURITIES
ACT OF 1933, AS AMENDED, AND SECTION 21E OF THE SECURITIES EXCHANGE ACT OF 1934,
AS AMENDED, AND WHICH ARE SUBJECT TO THE "SAFE HARBOR" CREATED BY THOSE
SECTIONS. THE READER OF THIS ANNUAL REPORT SHOULD UNDERSTAND THAT ALL SUCH
FORWARD-LOOKING STATEMENTS ARE SUBJECT TO VARIOUS UNCERTAINTIES AND RISKS THAT
COULD AFFECT THEIR OUTCOME. THE COMPANY'S ACTUAL RESULTS COULD DIFFER MATERIALLY
FROM THOSE SUGGESTED BY SUCH FORWARD-LOOKING STATEMENTS. SUCH RISKS AND
UNCERTAINTIES INCLUDE, AMONG OTHERS, (1) COMPETITIVE PRESSURE IN THE BANKING
INDUSTRY INCREASES SIGNIFICANTLY; (2) CHANGES IN THE INTEREST RATE ENVIRONMENT
REDUCES MARGINS; (3) GENERAL ECONOMIC CONDITIONS, EITHER NATIONALLY OR
REGIONALLY, ARE LESS FAVORABLE THAN EXPECTED, RESULTING IN, AMONG OTHER THINGS,
A DETERIORATION IN CREDIT QUALITY; (4) CHANGES IN THE REGULATORY ENVIRONMENT;
(5) CHANGES IN BUSINESS CONDITIONS AND INFLATION; (6) COSTS AND EXPENSES OF
COMPLYING WITH THE INTERNAL CONTROL PROVISIONS OF THE SARBANES-OXLEY ACT AND OUR
DEGREE OF SUCCESS IN ACHIEVING COMPLIANCE; (7) CHANGES IN SECURITIES MARKETS,
(8) FUTURE CREDIT LOSS EXPERIENCE; (9) CIVIL DISTURBANCES OR TERRORIST THREATS
OR ACTS, OR APPREHENSION ABOUT POSSIBLE FUTURE OCCURANCES OF ACTS OF THIS TYPE;
AND (10) THE INVOLVEMENT OF THE UNITED STATES IN WAR OR OTHER HOSTILITIES.
THEREFORE, THE INFORMATION IN THIS ANNUAL REPORT SHOULD BE CAREFULLY CONSIDERED
WHEN EVALUATING THE BUSINESS PROSPECTS OF THE COMPANY.
FORWARD-LOOKING STATEMENTS ARE GENERALLY IDENTIFIABLE BY THE USE OF TERMS SUCH
AS "BELIEVE", "EXPECT", "INTEND", "ANTICIPATE", "ESTIMATE", "PROJECT", "ASSUME,"
"PLAN," "PREDICT," "FORECAST," "IN MANAGEMENT'S OPINION," "MANAGEMENT CONSIDERS"
OR SIMILAR EXPRESSIONS. WHEREVER SUCH PHRASES ARE USED, SUCH STATEMENTS ARE AS
OF AND BASED UPON THE KNOWLEDGE OF MANAGEMENT, AT THE TIME MADE AND ARE SUBJECT
TO CHANGE BY THE PASSAGE OF TIME AND/OR SUBSEQUENT EVENTS, AND ACCORDINGLY SUCH
STATEMENTS ARE SUBJECT TO THE SAME RISKS AND UNCERTAINTIES NOTED ABOVE WITH
RESPECT TO FORWARD-LOOKING STATEMENTS.
ALL OF THE COMPANY'S OPERATIONS AND MOST OF ITS CUSTOMERS ARE LOCATED IN
CALIFORNIA. OTHER EVENTS, INCLUDING THOSE OF SEPTEMBER 11, 2001, HAVE INCREASED
THE UNCERTAINTY RELATED TO THE NATIONAL AND CALIFORNIA ECONOMIC OUTLOOK AND
COULD HAVE AN EFFECT ON THE FUTURE OPERATIONS OF THE COMPANY OR ITS CUSTOMERS,
INCLUDING BORROWERS. THE COMPANY DOES NOT UNDERTAKE, AND SPECIFICALLY DISCLAIMS
ANY OBLIGATION, TO UPDATE ANY FORWARD-LOOKING STATEMENTS TO REFLECT OCCURRENCES
OR UNANTICIPATED EVENTS OR CIRCUMSTANCES AFTER THE DATE OF SUCH STATEMENTS.
2
PART 1
ITEM 1. BUSINESS
GENERAL
On July 26, 2000 an Application to Obtain a National Banking Charter
and Federal Deposit Insurance was filed with the Comptroller of the Currency
(the "Comptroller") and with the Federal Deposit Insurance Corporation (the
"FDIC"). The Comptroller approved the Application on November 17, 2000 and the
FDIC approved the Bank's Application for Federal Deposit Insurance. On December
6, 2000, the Bank's Articles of Association and Organizers' Certificate were
adopted by the Bank's organizers, which established the Bank's corporate
existence. There are no predecessors to the Bank.
The Bank commenced operations on May 14, 2001. The Bank engages in
general commercial banking business, and accepts checking and savings deposits,
makes commercial, real estate, auto and other installment and term loans, and
provides other customary banking services. The Bank attracts the majority of its
loan and deposit business from the residents and numerous small and middle
market businesses and professional firms located in Santa Clara County. Its
headquarters office is located at 55 Almaden Boulevard, San Jose, California
95113.
In 2002, the Bank opened a full-service branch office in Palo Alto and
established a U.S. Small Business Administration Lending Group that includes a
regional loan production office in Sacramento county. Also, it launched Bridge
Capital Finance Group, a factoring and asset-based lending division with a loan
production office in Santa Clara. During the year ended December 31, 2003, the
Bank opened an office in downtown San Jose and established a U.S. Small business
Administration regional loan production office in San Diego county.
On October 1, 2004, Bridge Bank, National Association (the "bank")
announced completion of a bank holding company structure which was approved by
shareholders at the Bank's annual shareholders' meeting held on May 20, 2004.
The bank holding company, formed as a California corporation, is named Bridge
Capital Holdings (the "company"). Information in this report dated prior to
September 30, 2004 is for Bridge Bank, N.A.
Bridge Capital Holdings was formed for the purpose of serving as the
holding company for Bridge Bank and is supervised by the Board of Governors of
the Federal Reserve System. Effective October 1, 2004, Bridge Capital Holdings
acquired 100% of the voting shares of Bridge Bank, National Association. As a
result of the transaction, the former shareholders of Bridge Bank received one
share of common stock of Bridge Capital Holdings for every one share of common
stock of Bridge Bank owned.
Prior to the share exchange, the common stock of the Bank had been
registered with the Office of Comptroller of the Currency. As a result of the
share exchange, common stock of Bridge Capital Holdings is now considered
registered with the Securities and Exchange Commission. Future filings will be
made with the SEC rather than the Office of the Comptroller of the Currency and
will be available on the SEC's website, HTTP://WWW.SEC.GOV as well as on the
Company's website http://www.bridgebank.com.
The Bank provides the local business and professional community with
banking services tailored to the unique needs of the Silicon Valley. The Bank
does not intend to offer trust services initially or for the foreseeable future,
but it will attempt to make such services available to the Bank's customers
through correspondent institutions. The deposits of the Bank are insured by the
FDIC, up to applicable limits, and the Bank is a member of the Federal Reserve
System.
In addition, the Bank provides some specialized services to its
customers. These services include courier deposit services to key locations or
customers throughout the Bank's service area, Small Business Administration
(SBA) loans, factoring and asset-based loans and Internet banking. The Bank
3
reserves the right to change its business plan at any time and no assurance can
be given that, if the Bank's proposed business plan is followed, it will prove
successful.
At December 31, 2004, the Bank had total assets of approximately $402
million, total gross loans of $295 million and total deposits of approximately
$352 million. At December 31, 2004, the Company had 80 full-time equivalent
employees.
DEPOSITS
The Bank offers a wide range of deposit accounts designed to attract
small and medium size commercial businesses as well as business professionals
and retail customers, including a complete line of checking and savings
products, including passbook savings, "Money Market Deposit" accounts which
require minimum balances and frequency of withdrawal limitations, NOW accounts,
and bundled accounts. Other accounts offered by the Bank include term
certificates of deposit.
Other deposit services include a full complement of convenience
oriented services, including direct payroll and social security deposit,
post-paid bank-by-mail, and Internet banking, including on-line access to
account information. However, at this time, the Bank does not open accounts
through the Internet. Any plans to offer online account opening must be approved
in advance by the Comptroller. No assurance can be given that, if applied for,
such approval will be obtained.
As the Bank has no automated teller machines, the Bank may refund all
or portion of transaction charges incurred by its customers for their use of
another bank's ATM. The majority of the Bank's deposits are obtained from
businesses located in the Bank's primary service area.
LENDING ACTIVITIES
The Bank engages in a full range of lending products designed to meet
the specialized needs of its customers, including commercial lines of credit and
term loans, constructions loans, equipment loans, and mortgage loans.
Additionally, the Bank extends accounts receivable, factoring and inventory
financing to qualified customers. Loans are also offered through the Small
Business Administration guarantee loan programs, both the 7(a) and 504 programs
(described below under "Item7. Management's Discussion and Analysis of Financial
Condition and Results of Operations--FINANCIAL CONDITION AND EARNING
ASSETS--Loan Portfolio").
The Bank finances real estate construction projects, primarily for the
construction of owner occupied and 1 to 4 unit residential developments and
commercial buildings under $3 million in loan size.
The Bank directs its commercial lending principally toward businesses
whose demands for credit fall within the Bank's lending limit. In the event
there are customers whose commercial loan demands exceed the Bank's lending
limits, the Bank seeks to arrange for such loans on a participation basis with
other financial institutions.
The Bank also extends lines of credit to individual borrowers, and
provides homeowner equity loans, home improvement loans, auto financing, credit
and debit cards and overdraft/cash reserve accounts.
BUSINESS HOURS
In order to attract loan and deposit business, the Bank maintains lobby
hours currently between 9:00 a.m. and 5:00 p.m. Monday through Friday.
For additional information concerning the Bank, see Selected Financial
Data under Item 6 on page 11.
4
COMPETITION
The banking business in Santa Clara County, as it is elsewhere in
California, is highly competitive, and each of the major branch banking
institutions has one or more offices in the Bank's service area. The Bank
competes in the marketplace for deposits and loans, principally against these
banks, independent community banks, savings and loan associations, thrift and
loan companies, credit unions, mortgage banking companies, and non-bank
institutions such as mutual fund companies and investment brokerage firms that
claim a portion of the market.
Larger banks may have a competitive advantage because of higher lending
limits and major advertising and marketing campaigns. They also perform
services, such as trust services, international banking, discount brokerage and
insurance services, which the Bank is not authorized or prepared to offer
currently. The Bank has made arrangements with its correspondent banks and with
others to provide such services for its customers. For borrowers requiring loans
in excess of the Bank's legal lending limit, the Bank has offered, and intends
to offer in the future, such loans on a participating basis with its
correspondent banks and with other independent banks, retaining the portion of
such loans which is within its lending limit. As of December 31, 2004, the
Bank's unsecured legal lending limit to a single borrower and such borrower's
related parties was $7,080,000 based on regulatory capital of $43,058,000.
However, for risk management purposes, the Bank has established internal
policies, which at present provide lending limits that are less than the Bank's
legal lending limit.
The Bank's business is concentrated in its service area, which
primarily encompasses Santa Clara County, and also includes, to a lesser extent,
the contiguous areas of Alameda, San Mateo and Santa Cruz counties. During 2002,
the Bank established an SBA loan production office in Sacramento county and
during 2003, a SBA loan production office in San Diego county.
In order to compete with major financial institutions in its primary
service area, the Bank uses to the fullest extent possible the flexibility that
is accorded by its independent status. This includes an emphasis on specialized
services, local promotional activity, and personal contacts by the Bank's
officers, directors and employees. The Bank also seeks to provide special
services and programs for individuals in its primary service area who are
employed in the agricultural, professional and business fields, such as loans
for equipment, furniture, and tools of the trade or expansion of practices or
businesses.
Banking is a business that depends on interest rate differentials. In
general, the difference between the interest rate paid by the Bank to obtain its
deposits and its other borrowings and the interest rate received by the Bank on
loans extended to its customers and on securities held in the Bank's portfolio
comprises the major portion of the Bank's earnings.
Commercial banks compete with savings and loan associations, credit
unions, other financial institutions and other entities for funds. For instance,
yields on corporate and government debt securities and other commercial paper
affect the ability of commercial banks to attract and hold deposits. Commercial
banks also compete for loans with savings and loan associations, credit unions,
consumer finance companies, mortgage companies and other lending institutions.
The interest rate differentials of the Bank, and therefore its
earnings, are affected not only by general economic conditions, both domestic
and foreign, but also by the monetary and fiscal policies of the United States
as set by statutes and as implemented by federal agencies, particularly the
Federal Reserve Board. This agency can and does implement national monetary
policy, such as seeking to curb inflation and combat recession, by its open
market operations in United States government securities, adjustments in the
amount of interest free reserves that banks and other financial institutions are
required to maintain, and adjustments to the discount rates applicable to
borrowing by banks from the Federal Reserve Board. These activities influence
the growth of bank loans, investments and deposits and also affect interest
rates charged on loans and paid on deposits.
5
SUPERVISION AND REGULATION
INTERSTATE BANKING
The Riegle-Neal Interstate Banking and Branching Efficiency Act of 1994
(the "Interstate Banking Act") regulates the interstate activities of banks and
bank holding companies and establishes a framework for nationwide interstate
banking and branching. Since June 1, 1997, a bank in one state has generally
been permitted to merge with a bank in another state without the need for
explicit state law authorization. However, states were given the ability to
prohibit interstate mergers with banks in their own state by "opting-out"
(enacting state legislation applying to all out-of-state banks prohibiting such
mergers) prior to June 1, 1997.
Since 1995, adequately capitalized and managed bank holding companies
have been permitted to acquire banks located in any state, subject to two
exceptions: first, a state may still prohibit bank holding companies from
acquiring a bank which is less than five years old; and second, no interstate
acquisition can be consummated by a bank holding company if the acquiror would
control more than 10% of the deposits held by insured depository institutions
nationwide or 30% or more of the deposits held by insured depository
institutions in any state in which the target bank has branches.
A bank may also establish and operate de novo branches in any state in
which the bank does not maintain a branch if that state has enacted legislation
to expressly permit all out-of-state banks to establish branches in that state.
Among other things, the Interstate Banking Act amended the Community
Reinvestment Act to require that in the event a bank has interstate branches,
the appropriate federal banking regulatory agency must prepare for that
institution a written evaluation of (i) the bank's record of CRA performance and
(ii) the bank's CRA performance in each applicable state. Interstate branches
are now prohibited from being used as deposit production offices. Also, a
foreign bank is permitted to establish branches in any state other than its home
state to the same extent that a bank chartered by the foreign bank's home state
may establish such branches.
The Caldera, Weggeland, and Killea California Interstate Banking and
Branching Act of 1995 (the "Caldera Weggeland Act") implemented important
provisions of the Interstate Banking Act discussed above and repealed
California's previous interstate banking laws, which were largely preempted by
the Interstate Banking Act. (Prior California law prohibited, among other
things, an out-of-state bank holding company from establishing a de novo
California bank except for the purpose of taking over the deposits of a closed
bank. This restriction has been eliminated.)
As indicated above, the Interstate Banking Act generally permits a bank
in one state to merge with a bank in another state without the need for explicit
state law authorization. However, the Caldera Weggeland Act expressly prohibits
a foreign (other state) bank which does not already have a California branch
office from (i) purchasing a branch office of a California bank (as opposed to
purchasing the entire bank) and thereby establishing a California branch office
or (ii) establishing a California branch on a de novo basis.
The Interstate Banking Act also requires, among other things, approval
of the state bank supervisor of the target bank's home state for interstate
acquisitions of banks by bank holding companies. The Caldera Weggeland Act
authorizes the Commissioner to approve such an interstate acquisition if the
Commissioner finds that the transaction is consistent with certain criteria
specified by law.
The changes effected by Interstate Banking Act and Caldera Weggeland
Act are expected to continue to increase competition in the environment in which
the Bank will operate to the extent that out-of-state financial institutions may
6
directly or indirectly enter the Bank's market areas. It appears that the
Interstate Banking Act has contributed to the accelerated consolidation of the
banking industry in that a number of the largest bank holding companies are
expanding into different parts of the country that were previously restricted.
While some large out-of-state banks have already entered the California market
as a result of this legislation, it is not possible to predict the precise
impact of this legislation on the Bank and the competitive environment in which
it operates.
REGULATION W
The Federal Reserve has adopted Regulation W to comprehensively
implement sections 23A and 23B of the Federal Reserve Act.
Sections 23A and 23B and Regulation W limit the risks to a bank from
transactions between the bank and its affiliates and limit the ability of a bank
to transfer to its affiliates the benefits arising from the bank's access to
insured deposits, the payment system and the discount window and other benefits
of the Federal Reserve system. The statute and rule impose quantitative and
qualitative limits on the ability of a bank to extend credit to, or engage in
certain other transactions with, an affiliate (and a nonaffiliate if an
affiliate benefits from the transaction). However, certain transactions that
generally do not expose a bank to undue risk or abuse the safety net are
exempted from coverage under Regulation W.
Historically, a subsidiary of a bank was not considered an affiliate
for purposes of Sections 23A and 23B, since their activities were limited to
activities permissible for the bank itself. The Gramm-Leach-Bliley Act
authorized "financial subsidiaries" that may engage in activities not
permissible for a bank. These financial subsidiaries are now considered
affiliates. Certain transactions between a financial subsidiary and another
affiliate of a bank are also covered by sections 23A and 23B under Regulation W.
Regulation W has certain exemptions, including:
o For state-chartered banks, an exemption for subsidiaries lawfully
conducting nonbank activities before issuance of the final rule.
o An exemption for extensions of credit by a bank under a general
purpose credit card where the borrower uses the credit to purchase
goods or services from an affiliate of the bank, so long as less than
25% of the aggregate amount of purchases with the card are purchases
from an affiliate of the bank (a bank that does not have nonfinancial
affiliates is exempt from the 25% test).
o An exemption for loans by a bank to a third party secured by
securities issued by a mutual fund affiliate of the bank (subject to a
number of conditions).
o Subject to a number of conditions, an exemption that would permit a
banking organization to engage more expeditiously in internal
reorganization transactions involving a bank's purchase of assets from
an affiliate.
The final rule contains new valuation rules for a bank's investments in, and
acquisitions of, affiliates.
The Federal Reserve expects examiners and other supervisory staff to
review intercompany transactions closely for compliance with the statutes and
Regulation W and to resolve any violations or potential violations quickly.
TYING ARRANGEMENTS AND TRANSACTIONS WITH AFFILIATED PERSONS
A bank is prohibited from tie-in arrangements in connection with any
extension of credit, sale or lease of property or furnishing of services. For
example, with some exceptions, a bank may not condition an extension of credit
on a promise by its customer to obtain other services provided by it, its
7
holding company or other subsidiaries (if any), or on a promise by its customer
not to obtain other services from a competitor.
Directors, officers and principal shareholders of the Bank, and the
companies with which they are associated, may have banking transactions with the
Bank in the ordinary course of business. Any loans and commitments to loan
included in these transactions must be made in compliance with the requirements
of applicable law, on substantially the same terms, including interest rates and
collateral, as those prevailing at the time for comparable transactions with
other persons of similar creditworthiness, and on terms not involving more than
the normal risk of collectibility or presenting other unfavorable features.
BANK HOLDING COMPANY ACT
The Company is registered as a bank holding company under the Bank
Holding Company Act of 1956, as amended ("BHCA"). As a bank holding company,
Capital Corp is subject to examination by the FRB. Pursuant to the BHCA, Capital
Corp is also subject to limitations on the kinds of businesses in which it can
engage directly or through subsidiaries. It may, of course, manage or control
banks. Generally, however, it is prohibited, with certain exceptions, from
acquiring direct or indirect ownership or control of more than five percent of
any class of voting shares of an entity engaged in nonbanking activities, unless
the FRB finds such activities to be "so closely related to banking" as to be
deemed "a proper incident thereto" within the meaning of the BHCA. As a bank
holding company, the Company may not acquire more than five percent of the
voting shares of any domestic bank without the prior approval of (or, for "well
managed" companies, prior written notice to) the FRB.
The BHCA includes minimum capital requirements for bank holding
companies. See section titled "Regulation and Supervision - Regulatory Capital
Requirements". Regulations and policies of the FRB also require a bank holding
company to serve as a source of financial and managerial strength to its
subsidiary banks. It is the FRB's policy that a bank holding company should
stand ready to use available resources to provide adequate capital funds to a
subsidiary bank during periods of financial stress or adversity and that it
should maintain the financial flexibility and capital-raising capacity needed to
obtain additional resources for assisting the subsidiary bank. Under certain
conditions, the FRB may conclude that certain actions of a bank holding company,
such as the payment of a cash dividend, would constitute an unsafe and unsound
banking practice.
"SOURCE OF STRENGTH" POLICY
According to FRB policy, bank holding companies are expected to act as
a source of financial strength to each subsidiary bank and to commit resources
to support such subsidiary.
SECURITIES AND EXCHANGE COMMISSION FILINGS
Under Section 13 of the Securities Exchange Act of 1934 ("Exchange
Act") and the SEC's rules, the Company must electronically file periodic and
current reports as well as proxy statements with the Securities and Exchange
Commission (the "SEC"). The Company electronically files the following reports
with the SEC: Form 10-K (Annual Report), Form 10-Q (Quarterly Report), and Form
8-K (Current Report). The Company may prepare additional filings as required.
The SEC maintains an Internet site, http://www.sec.gov, at which all forms filed
electronically may be accessed. Our SEC filings are also available on our
website at http://www.bridgebank.com.
REGULATION OF THE BANK
The Bank is regulated and supervised by the Comptroller of the Currency
and is subject to periodic examination by the Comptroller. Deposits of the
Bank's customers are insured by the FDIC up to the maximum limit of $100,000,
and, as an insured bank, the Bank is subject to certain regulations of the FDIC.
8
As a national bank, the Bank is a member of the Federal Reserve System and is
also subject to the regulations of the Federal Reserve Board (the "FRB").
The regulations of those federal bank regulatory agencies govern most
aspects of the Bank's business and operations, including but not limited to,
requiring the maintenance of non-interest bearing reserves on deposits, limiting
the nature and amount of investments and loans which may be made, regulating the
issuance of securities, restricting the payment of dividends and regulating bank
expansion and bank activities. The Bank also is subject to the requirements and
restrictions of various consumer laws and regulations.
Statutes, regulations and policies affecting the banking industry are
frequently under review by Congress and by the federal and charged with
supervisory and examination authority over banking institutions. Changes in the
banking and financial services industry are likely to occur in the future. Some
of the changes may create opportunities for the Bank to compete in financial
markets with less regulation. However, these changes also may create new
competitors in geographic and product markets which have historically been
limited by law to insured depository institutions such as the Bank. Changes in
the statutes, regulations, or policies that affect the Bank cannot necessarily
be predicted and may have a material effect on the Bank's business and earnings.
In addition, the regulatory agencies which have jurisdiction over the Bank have
broad discretion in exercising their supervisory powers.
The OCC can pursue an enforcement action against the Bank for unsafe
and unsound practices in conducting its business, or for violations of any law,
rule or regulation or provision, any consent order with any agency, any
condition imposed in writing by the agency, or any written agreement with the
agency. Enforcement actions may include the imposition of a conservator or
receiver, cease-and-desist orders and written agreements, the termination of
insurance of deposits, the imposition of civil money penalties and removal and
prohibition orders against institution-affiliated parties.
In addition to the regulation and supervision outlined above, banks
must be prepared for judicial scrutiny of their lending and collection
practices. For example, some banks have been found liable for exercising
remedies which their loan documents authorized upon the borrower's default. This
has occurred in cases where the exercise of those remedies was determined to be
inconsistent with the previous course of dealing between the bank and the
borrower. As a result, banks must exercise caution, incur expense and face
exposure to liability when dealing with delinquent loans.
The following description of selected statutory and regulatory
provisions and proposals is not intended to be a complete description of these
provisions or of the many laws and regulations to which the Bank is subject, and
is qualified in its entirety by reference to the particular statutory or
regulatory provisions discussed.
A. Effect of State Law
The laws of the State of California also affect the Bank's business and
operations. For example, under 12 U.S.C. 36, as amended by the Riegle-Neal
Interstate Banking and Branching Efficiency Act of 1994, state laws regarding
community reinvestment, consumer protection, fair lending and establishment of
intrastate branches may affect the operations of national banks in states other
than their home states. On a similar basis, 12 U.S.C. 85 provides that state
law, in most circumstances, determines the maximum rate of interest which a
national bank may charge on a loan. As California law exempts all
state-chartered and national banks from the application of its usury laws,
national banks are also provided such an exemption by 12 U.S.C. 85.
B. Interstate Banking
The Riegle-Neal Interstate Banking and Branching Efficiency Act of 1994
(the "Interstate Banking Act") regulates the interstate activities of banks and
bank holding companies and establishes a framework for nationwide interstate
banking and branching. Since June 1, 1997, a bank in one state has generally
9
been permitted to merge with a bank in another state without the need for
explicit state law authorization. However, states were given the ability to
prohibit interstate mergers with banks in their own state by "opting-out"
(enacting state legislation applying to all out-of-state banks prohibiting such
mergers) prior to June 1, 1997.
Since 1995, adequately capitalized and managed bank holding companies
have been permitted to acquire banks located in any state, subject to two
exceptions: first, a state may still prohibit bank holding companies from
acquiring a bank which is less than five years old; and second, no interstate
acquisition can be consummated by a bank holding company if the acquiror would
control more than 10% of the deposits held by insured depository institutions
nationwide or 30% or more of the deposits held by insured depository
institutions in any state in which the target bank has branches.
A bank may also establish and operate de novo branches in any state in
which the bank does not maintain a branch if that state has enacted legislation
to expressly permit all out-of-state banks to establish branches in that state.
Among other things, the Interstate Banking Act amended the Community
Reinvestment Act to require that in the event a bank has interstate branches,
the appropriate federal banking regulatory agency must prepare for that
institution a written evaluation of (i) the bank's record of CRA performance and
(ii) the bank's CRA performance in each applicable state. Interstate branches
are now prohibited from being used as deposit production offices. Also, a
foreign bank is permitted to establish branches in any state other than its home
state to the same extent that a bank chartered by the foreign bank's home state
may establish such branches.
The Caldera, Weggeland, and Killea California Interstate Banking and
Branching Act of 1995 (the "Caldera Weggeland Act") implemented important
provisions of the Interstate Banking Act discussed above and repealed
California's previous interstate banking laws, which were largely preempted by
the Interstate Banking Act. (Prior California law prohibited, among other
things, an out-of-state bank holding company from establishing a de novo
California bank except for the purpose of taking over the deposits of a closed
bank. This restriction has been eliminated.)
As indicated above, the Interstate Banking Act generally permits a bank
in one state to merge with a bank in another state without the need for explicit
state law authorization. However, the Caldera Weggeland Act expressly prohibits
a foreign (other state) bank which does not already have a California branch
office from (i) purchasing a branch office of a California bank (as opposed to
purchasing the entire bank) and thereby establishing a California branch office
or (ii) establishing a California branch on a de novo basis.
The Interstate Banking Act also requires, among other things, approval
of the state bank supervisor of the target bank's home state for interstate
acquisitions of banks by bank holding companies. The Caldera Weggeland Act
authorizes the Commissioner to approve such an interstate acquisition if the
Commissioner finds that the transaction is consistent with certain criteria
specified by law.
10
The changes effected by Interstate Banking Act and Caldera Weggeland
Act are expected to continue to increase competition in the environment in which
the Bank will operate to the extent that out-of-state financial institutions may
directly or indirectly enter the Bank's market areas. It appears that the
Interstate Banking Act has contributed to the accelerated consolidation of the
banking industry in that a number of the largest bank holding companies are
expanding into different parts of the country that were previously restricted.
While some large out-of-state banks have already entered the California market
as a result of this legislation, it is not possible to predict the precise
impact of this legislation on the Bank and the competitive environment in which
it operates.
C. Change in Bank Control
The Bank Holding Company Act of 1956, as amended, and the Change in
Bank Control Act of 1978, as amended, together with regulations of the FRB and
the Comptroller, require that, depending on the particular circumstances, either
FRB approval must be obtained or notice must be furnished to the Comptroller and
not disapproved prior to any person or company acquiring "control" of a national
bank, such as the Bank, subject to exemptions for some transactions. Control is
conclusively presumed to exist if an individual or company (i) acquires 25% or
more of any class of voting securities of the bank or (ii) has the direct or
indirect power to direct or cause the direction of the management and policies
of the Bank, whether through ownership of voting securities, by contract or
otherwise; provided that no individual will be deemed to control the Bank solely
on accord of being director, officer or employee of the Bank. Control is
rebuttably presumed to exist if a person acquires 10% or more but less than 25%
of any class of voting securities and either the company has registered
securities under Section 12 of the Securities Exchange Act of 1934, as amended
(the "Exchange Act"), or no other person will own a greater percentage of that
class of voting securities immediately after the transaction.
D. Regulation W
The Federal Reserve has adopted Regulation W to comprehensively
implement sections 23A and 23B of the Federal Reserve Act.
Sections 23A and 23B and Regulation W limit the risks to a bank from
transactions between the bank and its affiliates and limit the ability of a bank
to transfer to its affiliates the benefits arising from the bank's access to
insured deposits, the payment system and the discount window and other benefits
of the Federal Reserve system. The statute and rule impose quantitative and
qualitative limits on the ability of a bank to extend credit to, or engage in
certain other transactions with, an affiliate (and a nonaffiliate if an
affiliate benefits from the transaction). However, certain transactions that
generally do not expose a bank to undue risk or abuse the safety net are
exempted from coverage under Regulation W.
Historically, a subsidiary of a bank was not considered an affiliate
for purposes of Sections 23A and 23B, since their activities were limited to
activities permissible for the bank itself. The Gramm-Leach-Bliley Act
authorized "financial subsidiaries" that may engage in activities not
permissible for a bank. These financial subsidiaries are now considered
affiliates. Certain transactions between a financial subsidiary and another
affiliate of a bank are also covered by sections 23A and 23B under Regulation W.
Regulation W has certain exemptions, including:
o For state-chartered banks, an exemption for subsidiaries lawfully
conducting nonbank activities before issuance of the final rule.
o An exemption for extensions of credit by a bank under a general
purpose credit card where the borrower uses the credit to purchase
goods or services from an affiliate of the bank, so long as less than
25% of the aggregate amount of purchases with the card are purchases
from an affiliate of the bank (a bank that does not have nonfinancial
affiliates is exempt from the 25% test).
11
o An exemption for loans by a bank to a third party secured by
securities issued by a mutual fund affiliate of the bank (subject to a
number of conditions).
o Subject to a number of conditions, an exemption that would permit a
banking organization to engage more expeditiously in internal
reorganization transactions involving a bank's purchase of assets from
an affiliate.
The final rule contains new valuation rules for a bank's investments in, and
acquisitions of, affiliates.
The Federal Reserve expects examiners and other supervisory staff to
review intercompany transactions closely for compliance with the statutes and
Regulation W and to resolve any violations or potential violations quickly.
E. Tying Arrangements and Transactions with Affiliated Persons
A bank is prohibited from tie-in arrangements in connection with any
extension of credit, sale or lease of property or furnishing of services. For
example, with some exceptions, a bank may not condition an extension of credit
on a promise by its customer to obtain other services provided by it, its
holding company or other subsidiaries (if any), or on a promise by its customer
not to obtain other services from a competitor.
Directors, officers and principal shareholders of the Bank, and the
companies with which they are associated, may have banking transactions with the
Bank in the ordinary course of business. Any loans and commitments to loan
included in these transactions must be made in compliance with the requirements
of applicable law, on substantially the same terms, including interest rates and
collateral, as those prevailing at the time for comparable transactions with
other persons of similar creditworthiness, and on terms not involving more than
the normal risk of collectibility or presenting other unfavorable features.
F. Capital Adequacy Requirements
The Bank is subject to the Comptroller 's capital guidelines and
regulations governing capital adequacy for national banks. Additional capital
requirements may be imposed on banks based on market risk. The FDIC requires a
Tier 1 capital1/ ratio to total assets ratio of 8% for new banks during the
first three years of operation.
After the first three years of operations, the Comptroller requires a
minimum leverage ratio of 3% of Tier 1 capital to total assets for national
banks that have received the highest composite regulatory rating (a regulatory
measurement of capital, assets, management, earnings, liquidity and sensitivity
to risk) and that are not anticipating or experiencing any significant growth.
All other institutions will be required to maintain a leverage ratio of at least
100 to 200 basis points above the 3% minimum.
The Comptroller's regulations also require national banks to maintain a
minimum ratio of qualifying total capital to risk-weighted assets of 8.00%.
Risk-based capital ratios are calculated with reference to risk-weighted assets,
including both on and off-balance sheet exposures, which are multiplied by
certain risk weights assigned by the Comptroller to those assets. At least
one-half of the qualifying capital must be in the form of Tier 1 capital.
The risk-based capital ratio focuses principally on broad categories of
credit risk, and may not take into account many other factors that can affect a
bank's financial condition. These factors include overall interest rate risk
exposure; liquidity, funding and market risks; the quality and level of
earnings; concentrations of credit risk; certain risks arising from
__________________
1/ Tier 1 capital is generally defined as the sum of the core capital elements
less goodwill and certain intangibles. The following items are defined as core
capital elements: (i) common stockholders' equity; (ii) qualifying noncumulative
perpetual preferred stock and related surplus; and (iii) minority interests in
the equity accounts of consolidated subsidiaries.
12
nontraditional activities; the quality of loans and investments; the
effectiveness of loan and investment policies; and management's overall ability
to monitor and control financial and operating risks, including the risk
presented by concentrations of credit and nontraditional activities. The
Comptroller has addressed many of these areas in related rule-making proposals.
In addition to evaluating capital ratios, an overall assessment of capital
adequacy must take account of each of these other factors including, in
particular, the level and severity of problem and adversely classified assets.
For this reason, the final supervisory judgment on a bank's capital adequacy may
differ significantly from the conclusions that might be drawn solely from the
absolute level of the bank's risk-based capital ratio. The Comptroller has
stated that banks generally are expected to operate above the minimum risk-based
capital ratio. Banks contemplating significant expansion plans, as well as those
institutions with high or inordinate levels of risk, should hold capital
consistent with the level and nature of the risks to which they are exposed.
Further, the banking agencies have adopted modifications to the
risk-based capital regulations to include standards for interest rate risk
exposures. Interest rate risk is the exposure of a bank's current and future
earnings and equity capital arising from movements in interest rates. While
interest rate risk is inherent in a bank's role as a financial intermediary, it
introduces volatility to bank earnings and to the economic value of the bank.
The banking agencies have addressed this problem by implementing changes to the
capital standards to include a bank's exposure to declines in the economic value
of its capital due to changes in interest rates as a factor that the banking
agencies consider in evaluating an institution's capital adequacy. Bank
examiners consider a bank's historical financial performance and its earnings
exposure to interest rate movements as well as qualitative factors such as the
adequacy of a bank's internal interest rate risk management.
Finally, institutions with significant trading activities must measure
and hold capital for exposure to general market risk arising from fluctuations
in interest rates, equity prices, foreign exchange rates and commodity prices
and exposure to specific risk associated with debt and equity positions in the
trading portfolio. General market risk refers to changes in the market value of
on-balance-sheet assets and off-balance-sheet items resulting from broad market
movements. Specific market risk refers to changes in the market value of
individual positions due to factors other than broad market movements and
includes such risks as the credit risk of an instrument's issuer. The additional
capital requirements apply to institutions with trading assets and liabilities
equal to 10% or more of total assets or trading activity of $1 billion or more.
The federal banking agencies may apply the market risk regulations on a case by
case basis to institutions not meeting the eligibility criteria if necessary for
safety and soundness reasons.
The federal banking agencies will evaluate an institution in its
periodic examination on the degree to which changes in interest rates, foreign
exchange rates, commodity prices or equity prices can affect a financial
institution's earnings or capital. In addition, the agencies focus in the
examination on an institution's ability to monitor and manage its market risk,
and will provide management with a clearer and more focused indication of
supervisory concerns in this area.
Under certain circumstances, the Comptroller may determine that the
capital ratios for a national bank must be maintained at levels which are higher
than the minimum levels required by the guidelines. A national bank which does
not achieve and maintain required capital levels may be subject to supervisory
action by the Comptroller through the issuance of a capital directive to ensure
the maintenance of required capital levels. In addition, the Bank is required to
meet certain guidelines of the Comptroller concerning the maintenance of an
adequate allowance for loan and lease losses.
The federal banking agencies, including the OCC, have adopted
regulations implementing a system of prompt corrective action under the Federal
Deposit Insurance Corporation Improvement Act ("FDICIA"). The regulations
establish five capital categories with the following characteristics: (1) "Well
capitalized," consisting of institutions with a total risk-based capital ratio
of 10% or greater, a Tier 1 risk-based capital ratio of 6% or greater and a
leverage ratio of 5% or greater and which are not operating under an order,
written agreement, capital directive or prompt corrective action directive; (2)
"Adequately capitalized," consisting of institutions with a total risk-based
13
capital ratio of 8% or greater, a Tier 1 risk-based capital of 4% or greater and
a leverage ratio of 4% or greater and which do not meet the definition of a
"well capitalized" institution; (3) "Undercapitalized," consisting of
institutions with a total risk-based capital ratio of less than 8%, a Tier 1
risk-based capital ratio of less than 4%, or a leverage ratio of less than 4%;
(4) "Significantly undercapitalized," consisting of institutions with a total
risk-based capital ratio of less than 6%, a Tier 1 risk-based capital ratio of
less than 3%, or a leverage ratio of less than 3%; and (5) "Critically
undercapitalized," consisting of institutions with a ratio of tangible equity to
total assets that is equal to or less than 2%.
The regulations establish procedures for the classification of
financial institutions within the capital categories, for filing and reviewing
capital restoration plans required under the regulations, and for the issuance
of directives by the appropriate regulatory agency, among other matters. See
"SUPERVISION AND REGULATION -- Prompt Corrective Action."
The appropriate federal banking agency, after notice and an opportunity
for a hearing, is authorized to treat a well capitalized, adequately capitalized
or undercapitalized insured depository institution as if it had a lower
capital-based classification if it is in an unsafe and unsound condition or
engaging in an unsafe and unsound practice. Thus, an adequately capitalized
institution can be subjected to the restrictions (described below) that are
imposed on undercapitalized institutions (provided that a capital restoration
plan cannot be required of the institution), and an undercapitalized institution
can be subjected to the restrictions (also described below) applicable to
significantly undercapitalized institutions. See "SUPERVISION AND REGULATION --
Prompt Corrective Action."
An insured depository institution cannot make a capital distribution
(as broadly defined to include, among other things, dividends, redemptions and
other repurchases of stock), or pay management fees to any person or persons
that control the institution, if it would be undercapitalized following the
distribution. However, a federal banking agency may (after consultation with the
FDIC) permit an insured depository institution to repurchase, redeem, retire or
otherwise acquire its shares if (i) the action is taken in connection with the
issuance of additional shares or obligations in at least an equivalent amount
and (ii) the action will reduce the institution's financial obligations or
otherwise improve its financial condition. An undercapitalized institution is
generally prohibited from increasing its average total assets, and is also
generally prohibited from making acquisitions, establishing new branches, or
engaging in any new line of business except under an accepted capital
restoration plan or with the approval of the FDIC. In addition, a federal
banking agency has authority with respect to undercapitalized depository
institutions to take any of the actions it is required to or may take with
respect to a significantly undercapitalized institution (as described below) if
it determines "that those actions are necessary to carry out the purpose" of
FDICIA.
The federal banking agencies have adopted a joint agency policy
statement to provide guidance on managing interest rate risk. The statement
indicates that the adequacy and effectiveness of a bank's interest rate risk
management process and the level of its interest rate exposures are critical
factors in the agencies' evaluation of the bank's capital adequacy. If a bank
has material weaknesses in its risk management process or high levels of
exposure relative to its capital, the agencies will direct it to take corrective
action. These directives may include recommendations or directions to raise
additional capital, strengthen management expertise, improve management
information and measurement systems, or reduce levels of exposure, or to
undertake some combination of these actions.
The federal banking agencies have also issued an interagency policy
statement that, among other things, establishes benchmark ratios of loan loss
reserves to specified classified assets. The benchmark established by the policy
statement is the sum of (a) 100% of assets classified loss; (b) 50% of assets
classified doubtful; (c) 15% of assets classified substandard; and (d) estimated
credit losses on other assets over the upcoming 12 months. This amount is
neither a "floor" nor a "safe harbor" level for an institution's allowance for
loan losses.
At December 31, 2004, the Bank is in compliance with the Comptroller's
risk-based and leverage ratios. See Footnote 14 to the Bank's Financial
Statements included under Item 8. of this Annual Report.
14
G. Payment of Dividends
The ability of the Company to make dividend payments is subject to
statutory and regulatory restrictions. FDIC policies generally preclude dividend
payments during the first three years of operation, allow cash dividends to be
paid only from net operating income, and do not permit dividends to be paid
until an appropriate allowance for loans and lease losses has been established
and overall capital is adequate. The FDIC requires that a depository institution
maintain a Tier 1 capital to assets ratio of not less than 8% during the first
three years of operation. See "SUPERVISION AND REGULATION - Capital Adequacy
Requirements."
After the first three years of operations, the Board of Directors of a
national bank may declare the payment of dividends depending upon the earnings,
financial condition and cash needs of the bank and general business conditions.
A national bank may not pay dividends from its capital. All dividends must be
paid out of net profits then on hand, after deducting losses and bad debts. A
national bank is further prohibited from declaring a dividend on its shares of
common stock until its surplus fund equals the amount of capital stock or until
10% of the bank's net profits of the preceding half year in the case of
quarterly or semiannual dividends, or the preceding two consecutive half-year
periods in the case of an annual dividend, are transferred to the surplus fund.
The approval of the Comptroller is required for the payment of dividends if the
total of all dividends declared by the bank in any calendar year would exceed
the total of its net profits of that year combined with its retained net profits
of the two preceding years, less any required transfers to surplus or a fund for
the retirement of any preferred stock.
In addition to the above requirements, guidelines adopted by the
Comptroller set forth factors which are to be considered by a national bank in
determining the payment of dividends. A national bank, in assessing the payment
of dividends, is to evaluate the bank's capital position, its maintenance of an
adequate allowance for loan and lease losses, and the need to revise or develop
a comprehensive capital plan.
The Comptroller also has broad authority to prohibit a national bank
from engaging in banking practices which it considers to be unsafe or unsound.
It is possible, depending upon the financial condition of the national bank in
question and other factors, that the Comptroller may assert that the payment of
dividends or other payments by a bank is considered an unsafe or unsound banking
practice and therefore, implement corrective action to address such a practice.
Accordingly, the future payment of cash dividends by the Company will
not only depend upon the Bank's earnings during any fiscal period but will also
depend upon the assessment of its Board of Directors of capital requirements and
other factors, including dividend guidelines and the maintenance of an adequate
allowance for loan and lease losses.
H. Community Reinvestment Act
Under the Community Reinvestment Act ("CRA") regulations, the federal
banking agencies determine a bank's CRA rating by evaluating its performance on
lending, service and investment tests, with the lending test being the most
important. The tests are applied in an "assessment context" that is developed by
the agency for the particular institution. The assessment context takes into
account demographic data about the community, the community's characteristics
and needs, the institution's capacities and constraints, the institution's
product offerings and business strategy, the institution's prior performance,
and data on similarly situated lenders. Since the assessment context for each
bank is developed by the bank regulatory agencies, a particular bank does not
know until it is examined whether its CRA programs and efforts have been
sufficient.
Institutions, like the Bank, with $250 million or more in assets are
required to compile and report data on their lending activities to measure the
performance of their loan portfolio. Some of this data is already required under
other laws, such as the Equal Credit Opportunity Act. Institutions have the
option of being evaluated for CRA purposes in relation to their own pre-approved
strategic plan. A strategic plan must be submitted to the institution's
15
regulator three months before its effective date and must be published for
public comment.
I. Audit Requirements
Depository institutions are required to have an annual examination of
their financial records. Depository institutions with assets greater than $500
million are required to have annual, independent audits and to prepare all
financial statements in compliance with generally accepted accounting
principles. Depository institutions are also required to have an independent
audit committee comprised entirely of outside directors, independent of the
institution's management.
The Bank's accounting and reporting policies conform with generally
accepted accounting principles and the practices prevalent in the banking
industry.
J. Insurance Premiums and Assessments
The FDIC has authority to impose a special assessment on members of the
Bank Insurance Fund (the "BIF") to insure that there will be sufficient
assessment income for repayment of BIF obligations and for any other purpose
which it deems necessary. The FDIC is authorized to set semi-annual assessment
rates for BIF members at levels sufficient to maintain the BIF's reserve ratio
to a designated level of 1.25% of insured deposits. Congress has considered
various proposals to merge the BIF with the Savings Association Insurance Fund
or otherwise to require banks to contribute to the insurance funds for savings
associations. Adoption of any of these proposals might increase the cost of
deposit insurance for all banks, including the Bank.
Under FDICIA, the FDIC has developed a risk-based assessment system,
which provides that the assessment rate for an insured depository institution
will vary according to the level of risk incurred in its activities. An
institution's risk category is based upon whether the institution is well
capitalized, adequately capitalized or less than adequately capitalized. Each
insured depository institution is also to be assigned to one of three
"supervisory subgroups": Subgroup A institutions are financially sound
institutions with a few minor weaknesses; Subgroup B institutions are
institutions that demonstrate weaknesses which, if not corrected, could result
in significant deterioration; and Subgroup C institutions are institutions for
which there is a substantial probability that the FDIC will suffer a loss in
connection with the institution unless effective action is taken to correct the
areas of weakness. The FDIC assigns each BIF member institution an annual FDIC
assessment rate on BIF insured deposits.
K. Prompt Corrective Action
The FDIC has authority: (a) to request that an institution's primary
regulatory agency (in the case of the Bank, the OCC) take enforcement action
against it based upon an examination by the FDIC or the agency, (b) if no action
is taken within 60 days and the FDIC determines that the institution is in an
unsafe and unsound condition or that failure to take the action will result in
continuance of unsafe and unsound practices, to order that action be taken
against the institution, and (c) to exercise this enforcement authority under
"exigent circumstances" merely upon notification to the institution's primary
regulatory agency. This authority gives the FDIC the same enforcement powers
with respect to any institution and its subsidiaries and affiliates as the
primary regulatory agency has with respect to those entities.
An undercapitalized institution is required to submit an acceptable
capital restoration plan to its primary federal bank regulatory agency. The plan
must specify (a) the steps the institution will take to become adequately
capitalized, (b) the capital levels to be attained each year, (c) how the
institution will comply with any regulatory sanctions then in effect against the
institution and (d) the types and levels of activities in which the institution
will engage. The banking agency may not accept a capital restoration plan unless
16
the agency determines, among other things, that the plan "is based on realistic
assumptions, and is likely to succeed in restoring the institution's capital"
and "would not appreciably increase the risk . . . to which the institution is
exposed." A requisite element of an acceptable capital restoration plan for an
undercapitalized institution is a guaranty by its parent holding company that
the institution will comply with the capital restoration plan. Liability with
respect to this guaranty is limited to the lesser of (i) 5% of the institution's
assets at the time when it becomes undercapitalized and (ii) the amount
necessary to bring the institution into capital compliance with applicable
capital standards as of the time when the institution fails to comply with the
plan. The guaranty liability is limited to companies controlling the
undercapitalized institution and does not affect other affiliates. In the event
of a bank holding company's bankruptcy, any commitment by the bank holding
company to a federal bank regulatory agency to maintain the capital of a
subsidiary bank will be assumed by the bankruptcy trustee and entitled to
priority of payment over the claims of other creditors, including the holders of
the company's long-term debt.
FDICIA provides that the appropriate federal regulatory agency must
require an insured depository institution that is significantly
undercapitalized, or that is undercapitalized and either fails to submit an
acceptable capital restoration plan within the time period allowed by regulation
or fails in any material respect to implement a capital restoration plan
accepted by the appropriate federal banking agency, to take one or more of the
following actions: (a) sell enough shares, including voting shares, to become
adequately capitalized; (b) merge with (or be sold to) another institution (or
holding company), but only if grounds exist for appointing a conservator or
receiver; (c) restrict specified transactions with banking affiliates as if the
"sister bank" exception to the requirements of Section 23A of the Federal
Reserve Act did not exist; (d) otherwise restrict transactions with bank or
nonbank affiliates; (e) restrict interest rates that the institution pays on
deposits to "prevailing rates" in the institution's "region"; (f) restrict asset
growth or reduce total assets; (g) alter, reduce or terminate activities; (h)
hold a new election of directors; (i) dismiss any director or senior executive
officer who held office for more than 180 days immediately before the
institution became undercapitalized, provided that in requiring dismissal of a
director or senior executive officer, the agency must comply with procedural
requirements, including the opportunity for an appeal in which the director or
officer will have the burden of proving his or her value to the institution; (j)
employ "qualified" senior executive officers; (k) cease accepting deposits from
correspondent depository institutions; (l) divest nondepository affiliates which
pose a danger to the institution; (m) be divested by a parent holding company;
and (n) take any other action which the agency determines would better carry out
the purposes of the prompt corrective action provisions.
In addition to the foregoing sanctions, without the prior approval of
the appropriate federal banking agency, a significantly undercapitalized
institution may not pay any bonus to any senior executive officer or increase
the rate of compensation for a senior executive officer without regulatory
approval. If an undercapitalized institution has failed to submit or implement
an acceptable capital restoration plan the appropriate federal banking agency is
not permitted to approve the payment of a bonus to a senior executive officer.
Not later than 90 days after an institution becomes critically
undercapitalized, the institution's primary federal bank regulatory agency must
appoint a receiver or a conservator, unless the agency, with the concurrence of
the FDIC, determines that the purposes of the prompt corrective action
provisions would be better served by another course of action. Any alternative
determination must be documented by the agency and reassessed on a periodic
basis. Notwithstanding the foregoing, a receiver must be appointed after 270
days unless the FDIC determines that the institution has positive net worth, is
in compliance with a capital plan, is profitable or has a sustainable upward
trend in earnings, and is reducing its ratio of non-performing loans to total
loans, and unless the head of the appropriate federal banking agency and the
chairperson of the FDIC certify that the institution is viable and not expected
to fail.
The FDIC is required, by regulation or order, to restrict the
activities of critically undercapitalized institutions. The restrictions must
include prohibitions on the institution's doing any of the following without
prior FDIC approval: entering into any material transactions not in the usual
course of business, extending credit for any highly leveraged transaction;
engaging in any "covered transaction" (as defined in Section 23A of the Federal
17
Reserve Act) with an affiliate; paying "excessive compensation or bonuses"; and
paying interest on "new or renewed liabilities" that would increase the
institution's average cost of funds to a level significantly exceeding
prevailing rates in the market.
L. Potential Enforcement Actions; Supervisory Agreements
Under federal law, national banks and their institution-affiliated
parties may be the subject of potential enforcement actions by the OCC for
unsafe and unsound practices in conducting their businesses, or for violations
of any law, rule or regulation or provision, any consent order with any agency,
any condition imposed in writing by the agency or any written agreement with the
agency. Enforcement actions may include the imposition of a conservator or
receiver, cease-and-desist orders and written agreements, the termination of
insurance of deposits, the imposition of civil money penalties and removal and
prohibition orders against institution-affiliated parties.
M. Sarbanes-Oxley Act
The Sarbanes-Oxley Act of 2002 implements legislative reforms intended
to address corporate and accounting fraud. In addition to the establishment an
accounting oversight board to enforce auditing, quality control and
independence standards, the bill restricts provision of both auditing and
consulting services by accounting firms. To ensure auditor independence, any
non-audit services being provided to an audit client require pre-approval by
the company's audit committee members. In addition, the audit partners must be
rotated. The Act requires chief executive officers and chief financial
officers, or their equivalent, to certify to the accuracy of periodic reports
filed with the SEC, subject to civil and criminal penalties if they knowingly
or willfully violate this certification requirement. In addition, under the
Act, legal counsel will be required to report evidence of a material violation
of the securities laws or a breach of fiduciary duty by a company to its chief
executive officer or its chief legal officer, and, if such officer does not
appropriately respond, to report such evidence to the audit committee or other
similar committee of the board of directors or the board itself.
Longer prison terms and increased penalties apply to corporate
executives who violate federal securities laws, the period during which certain
types of suits can be brought against a company or its officers is extended, and
bonuses issued to top executives prior to restatement of a company's financial
statements are subject to disgorgement if such restatement was due to corporate
misconduct. Executives are also prohibited from insider trading during
retirement plan "blackout" periods, and loans to company executives are
restricted. The Act accelerates the time frame for disclosures by public
companies, as they must immediately disclose any material changes in their
financial condition or operations. Directors and executive officers must also
provide information for most changes in ownership in a company's securities
within two business days of the change.
The Act also prohibits any officer or director of a company or any
other person acting under their direction from taking any action to fraudulently
influence, coerce, manipulate or mislead any independent public or certified
accountant engaged in the audit of the company's financial statements for the
purpose of rendering the financial statement's materially misleading. The Act
requires the SEC to prescribe rules requiring inclusion of an internal control
report and assessment by management in the annual report to stockholders. In
addition, the Act requires that each financial report required to be prepared in
accordance with (or reconciled to) accounting principles generally accepted in
the United States of America and filed with the SEC reflect all material
correcting adjustments that are identified by a "registered public accounting
firm" in accordance with accounting principles generally accepted in the United
States of America and the rules and regulations of the SEC.
A company's chief executive officer and chief financial officer are
each required to certify that the Company's quarterly and annual reports do not
contain any untrue statement of a material fact. The rules have several
requirements, including having these officers certify that: they are responsible
for establishing, maintaining and regularly evaluating the effectiveness of the
Bank's internal controls; they have made certain disclosures to the Bank's
18
auditors and the audit committee of the Board of Directors about the company's
internal controls; and they have included information in the Company's quarterly
and annual reports about their evaluation and whether there have been
significant changes in the Bank's internal controls or in other factors that
could significantly affect internal controls subsequent to the evaluation.
N. USA PATRIOT Act
In the wake of the tragic events of September 11th, on October 26,
2001, the President signed the Uniting and Strengthening America by Providing
Appropriate Tools Required to Intercept and Obstruct Terrorism (USA PATRIOT) Act
of 2001. Under the USA PATRIOT Act, financial institutions are subject to
prohibitions against specified financial transactions and account relationships
as well as enhanced due diligence and "know your customer" standards in their
dealings with foreign financial institutions and foreign customers. For example,
the enhanced due diligence policies, procedures, and controls generally require
financial institutions to take reasonable steps:
o To conduct enhanced scrutiny of account relationships to guard against
money laundering and report any suspicious transaction;
o To ascertain the identity of the nominal and beneficial owners of, and
the source of funds deposited into, each account as needed to guard
against money laundering and report any suspicious transactions;
o To ascertain for any foreign bank, the shares of which are not
publicly traded, the identity of the owners of the foreign bank, and
the nature and extent of the ownership interest of each such owner;
and
o To ascertain whether any foreign bank provides correspondent accounts
to other foreign banks and, if so, the identity of those foreign banks
and related due diligence information.
Under the USA PATRIOT Act, financial institutions were given 180 days
from enactment to establish anti-money laundering programs. The USA PATRIOT Act
sets forth minimum standards for these programs, including:
o The development of internal policies, procedures, and controls;
o The designation of a compliance officer;
o An ongoing employee training program; and
o An independent audit function to test the programs.
The Bank has adopted comprehensive policies and procedures to address
the requirements of the USA PATRIOT Act, and management believes that the Bank
is currently in compliance with the Act.
O. Gramm-Leach-Bliley Act
The Gramm-Leach-Bliley Act eliminated many of the barriers that
separated the insurance, securities and banking industries since the Great
Depression. The Gramm-Leach-Bliley Act is the result of a decade of debate in
the Congress regarding a fundamental reformation of the nation's financial
system. The law is subdivided into seven titles, by functional area.
The major provisions of the Gramm-Leach-Bliley Act are:
FINANCIAL HOLDING COMPANIES AND FINANCIAL ACTIVITIES. Title I establishes a
comprehensive framework to permit affiliations among commercial banks, insurance
companies, securities firms, and other financial service providers by revising
and expanding the BHC Act framework to permit a holding company system to engage
in a full range of financial activities through qualification as a new entity
known as a financial holding company.
19
Activities permissible for financial subsidiaries of national banks include, but
are not limited to, the following: (a) Lending, exchanging, transferring,
investing for others, or safeguarding money or securities; (b) Insuring,
guaranteeing, or indemnifying against loss, harm, damage, illness, disability,
or death, or providing and issuing annuities, and acting as principal, agent, or
broker for purposes of the foregoing, in any State; (c) Providing financial,
investment, or economic advisory services, including advising an investment
company; (d) Issuing or selling instruments representing interests in pools of
assets permissible for a bank to hold directly; and (e) Underwriting, dealing
in, or making a market in securities.
SECURITIES ACTIVITIES. Title II narrows the exemptions from the securities laws
previously enjoyed by banks.
INSURANCE ACTIVITIES. Title III restates the proposition that the states are the
functional regulators for all insurance activities, including the insurance
activities of federally-chartered banks, and bars the states from prohibiting
insurance activities by depository institutions.
PRIVACY. Under Title V, federal banking regulators were required to adopt rules
that have limited the ability of banks and other financial institutions to
disclose non-public information about consumers to nonaffiliated third parties.
These limitations require disclosure of privacy policies to consumers and, in
some circumstances, allow consumers to prevent disclosure of certain personal
information to a nonaffiliated third party. Under the rules, financial
institutions must provide:
* initial notices to customers about their privacy policies, describing
the conditions under which they may disclose nonpublic personal
information to nonaffiliated third parties and affiliates;
* annual notices of their privacy policies to current customers; and
* a reasonable method for customers to "opt out" of disclosures to
nonaffiliated third parties.
SAFEGUARDING CONFIDENTIAL CUSTOMER INFORMATION. Under Title V, federal banking
regulators were required to adopt rules requiring financial institutions to
implement a program to protect confidential customer information, and the
federal banking agencies have adopted guidelines requiring financial
institutions to establish an information security program.
The Bank implemented a security program appropriate to its size and
complexity and the nature and scope of its operations prior to the July 1, 2001
effective date of the regulatory guidelines, and since initial implementation
has, as necessary updated and improved that program.
COMMUNITY REINVESTMENT ACT SUNSHINE REQUIREMENTS. The federal banking agencies
have adopted regulations implementing Section 711 of Title VII, the CRA Sunshine
Requirements. The regulations require nongovernmental entities or persons and
insured depository institutions and affiliates that are parties to written
agreements made in connection with the fulfillment of the institution's CRA
obligations to make available to the public and the federal banking agencies a
copy of each agreement. The Bank is not a party to any agreement that would be
the subject of reporting pursuant to the CRA Sunshine Requirements.
The Bank intends to comply with all provisions of the
Gramm-Leach-Bliley Act and all implementing regulations as they become
effective.
M. Fair Credit Reporting
In 1970, the U. S. Congress the Fair Credit Reporting Act (the "FCRA")
in order to ensure the confidentiality, accuracy, relevancy and proper
utilization of consumer credit report information. Under the framework of the
FCRA, the United States has developed a highly advanced and efficient credit
reporting system. The information contained in that broad system is used by
financial institutions, retailers and other creditors of every size in making a
wide variety of decisions regarding financial transactions. Employers, and law
enforcement agencies have also made wide use of the information collected and
maintained in databases made possible by the FCRA. The FCRA affirmatively
20
preempts state law in a number of areas, including the ability of entities
affiliated by common ownership to share and exchange information freely, the
requirements on credit bureaus to reinvestigate the contents of reports in
response to consumer complaints, among others. By its terms, the preemption
provision of the FCRA will terminate as of December 31, 2003. Termination of the
preemption provisions could significantly impact the ability of the existing
credit bureau system to continue operating.
The Bank may incur additional costs, and be required to implement
additional costly procedures and systems in the event that the preemption
provisions of the FCRA terminate at the end of 2003, and California, or other
states, adopts legislation that would have the effect of prohibiting the
continued sharing of information such as that currently collected by credit
bureaus throughout the United States. The likelihood of the FCRA preemption
provisions terminating by their terms, and of the adoption of such restrictive
provisions by state legislatures, cannot be estimated at this time.
O. Consumer Laws and Regulations
In addition to the other laws and regulations discussed in this
Offering Circular, the Bank must also comply with consumer laws and regulations
that are designed to protect consumers in transactions with banks. While the
list is not exhaustive, these laws and regulations include the Truth in Lending
Act, the Truth in Savings Act, the Electronic Funds Transfer Act, the Expedited
Funds Availability Act, the Equal Credit Opportunity Act, and the Fair Housing
Act, among others. These laws and regulations mandate disclosure requirements
and regulate the manner in which financial institutions must deal with customers
when taking deposits or making loans. The Bank must comply with the applicable
provisions of these consumer protection laws and regulations as part of its
ongoing regulatory compliance and customer relations efforts.
P. Exposure to and Management of Risk
The federal banking agencies examine banks and bank holding companies
with respect to their exposure to and management of different categories of
risk. Categories of risk identified by the agencies include legal risk,
operational risk, market risk, credit risk, interest rate risk, price risk,
foreign exchange risk, transaction risk, compliance risk, strategic risk, credit
risk, liquidity risk, and reputation risk. This examination approach causes bank
regulators to focus on risk management procedures, rather than simply examining
every asset and transaction. This approach supplements rather than replaces
existing rating systems based on the evaluation of an institution's capital,
assets, management, earnings and liquidity. It is not clear what effect, if any,
this examination approach will have on the Bank.
Q. Money Laundering Control Act
The Money Laundering Control Act of 1986 provides sanctions for the
failure to report high levels of cash deposits to non-bank financial
institutions. Federal banking regulators possess the power to revoke the charter
or appoint a conservator for any institution convicted of money laundering.
Offending state-chartered banks could lose their federal deposit insurance, and
bank officers could face lifetime bans from working in financial institutions.
The Community Development Act, which includes a number of provisions that amend
the Bank Secrecy Act, allows the Secretary of the Treasury to exempt specified
currency transactions from reporting requirements and permits the federal bank
regulatory agencies to impose civil money penalties on banks for violations of
the currency transaction reporting requirements.
R. Safety and Soundness Standards
Federal banking regulators have adopted a Safety and Soundness Rule and
Interagency Guidelines Prescribing Standards for Safety and Soundness. The
guidelines create standards for a wide range of operational and managerial
matters including (a) internal controls, information systems, and internal audit
21
systems; (b) loan documentation; (c) credit underwriting; (d) interest rate
exposure; (e) asset growth; (f) compensation and benefits; and (g) asset quality
and earnings.
The Community Development Act required the federal bank regulatory
agencies to prescribe standards prohibiting as an unsafe and unsound practice
the payment of excessive compensation that could result in material financial
loss to an institution, and to specify when compensation, fees or benefits
become excessive. These guidelines characterize compensation as excessive if it
is unreasonable or disproportionate to the services actually performed by the
executive officer, employee, director or principal shareholder being
compensated.
Federal regulators have stated that the guidelines are meant to be
flexible and general enough to allow each institution to develop its own systems
for compliance. With the exception of the standards for compensation and
benefits, a failure to comply with the guidelines' standards does not
necessarily constitute an unsafe and unsound practice or condition. On the other
hand, an institution in conformance with the standards may still be found to be
engaged in an unsafe and unsound practice or to be in an unsafe and unsound
condition.
Although meant to be flexible, an institution that falls short of the
guidelines' standards may be requested to submit a compliance plan or be
subjected to regulatory enforcement actions. Generally, the federal banking
agencies will request a compliance plan if an institution's failure to meet one
or more of the standards is of sufficient severity to threaten the safe and
sound operation of the institution. An institution must file a compliance plan
within 30 days of request by its primary federal regulator, which is the OCC in
the case of the Bank. The guidelines provide for prior notice of and an
opportunity to respond to the agency's proposed order. An enforcement action may
be commenced if, after being notified that it is in violation of a safety and
soundness standard, the institution fails to submit an acceptable compliance
plan or fails in any material respect to implement an accepted plan. The Federal
Deposit Insurance Act provides the agencies with a wide range of enforcement
powers. An agency may, for example, obtain an enforceable cease and desist order
in the United States District Court, or may assess civil money penalties against
an institution or its affiliated parties.
S. Legislation and Proposed Changes
From time to time, legislation is enacted which has the effect of
increasing the cost of doing business, limiting or expanding permissible
activities or affecting the competitive balance between banks and other
financial institutions. Proposals to change the laws and regulations governing
the operations and taxation of banks, bank holding companies and other financial
institutions are frequently made in Congress and before various bank regulatory
agencies. For example, from time to time Congress has considered various
proposals to eliminate the federal thrift charter, create a uniform financial
institutions charter, conform holding company regulation, and abolish the Office
of Thrift Supervision. Typically, the intent of this type of legislation is to
strengthen the banking industry, even if it may on occasion prove to be a burden
on management's plans. No prediction can be made as to the likelihood of any
major changes or the impact that new laws or regulations might have on the Bank.
T. Impact of Government Monetary Policy
The earnings of the Bank are and will be affected by the policies of
regulatory authorities, including the Federal Reserve. An important function of
the Federal Reserve is to regulate the national supply of bank credit. Among the
instruments used to implement these objectives are open market operations in
U.S. Government securities, changes in reserve requirements against bank
deposits, and changes in the discount rate which banks pay on advances from the
Federal Reserve System. These instruments are used in varying combinations to
influence overall growth and distribution of bank loans, investments and
deposits, and their use may also affect interest rates on loans or interest
rates paid for deposits. The monetary policies of the FRB have had a significant
effect on the operating results of commercial banks in the past and are expected
to continue to do so in the future. The effect, if any, of such policies upon
the future business earnings of the Bank cannot be predicted.
22
U. Conclusions
It is impossible to predict with any certainty the competitive impact
the laws and regulations described above will have on commercial banking in
general and on the business of the Bank in particular, or to predict whether or
when any of the proposed legislation and regulations described above will be
adopted. It is anticipated that banking will continue to be a highly regulated
industry. Additionally, there has been a continued lessening of the historical
distinction between the services offered by financial institutions and other
businesses offering financial services, and the trend toward nationwide
interstate banking is expected to continue. As a result of these factors, it is
anticipated banks will experience increased competition for deposits and loans
and, possibly, further increases in their cost of doing business.
23
ITEM 2. PROPERTIES
At December 31, 2004, the Bank had three facilities located in Santa
Clara County, one facility located in Sacramento County and one facility in San
Diego county.
The first office, which is also the principal executive office of the
Bank, is located at 2120 El Camino Real, in the City of Santa Clara, County of
Santa Clara, State of California. The office is located in a freestanding,
two-story building, consisting of 5,430 square feet, located at the intersection
of El Camino Real and McCormick Drive. The building was previously a branch of
Washington Mutual Bank, and includes a vault and teller lines. The premises
include 42 parking spaces situated on a 35,719 square foot parcel. The premises
are sublet from Washington Mutual Bank. The sublease provides for a basic rent
of $13,582.50 per month from the commencement date until the first anniversary
of the sublease. On each anniversary date of the commencement of the sublease,
the basic rent will be increased by 4% of the amount of the basic rent during
the prior year. The Bank is also responsible for real estate taxes and insurance
costs. The sublease is for a period of ten (10) years, terminating on September
30, 2010. There is no option to extend the sublease beyond that date. Current
lease payments are $14,690.83 per month through the anniversary of the
commencement date. The foregoing description of the office is qualified by
reference to the lease agreement dated August 31, 2000 exhibit 10.4 to this
Report.
The second facility is a banking office located at 525 University
Avenue, City of Palo Alto, County of Santa Clara, State of California. The
office consists of approximately 2,975 square feet consisting of Suites 101 and
103 on the first floor of the building known as the Palo Alto Office Center. The
lease is for a term of 60 months commencing on December 1, 2001 and ending on
November 30, 2006. The Lease provides for a basic rent of $12,197.50 through the
first anniversary of the lease date. Effective with the first anniversary date
the lease payments will be adjusted by a factor that is tied to the Consumer
Price Index. Current lease payments are $16,147.39 per month through the 2004
anniversary of the commencement date The foregoing description is qualified by
reference to the lease agreement dated October 15, 2001 attached as exhibit
10.12 to this Report.
The third facility is an administrative office located at 55 Almaden
Boulevard, City of San Jose, County of Santa Clara, State of California. The
office consists of approximately 24,767 square feet on two floors of an
eight-story office building. The facility is being sublet from a prior tenant in
a sublease which commenced December 26, 2003 and terminates December 31, 2006.
The sublease provides for an initial base rent of $28,730 with annual
escalations to $45,819 in the final year of the sublease. The Bank has also
entered into a direct lease with the landlord, which will commence immediately
following the sublease term on January 1, 2007 for 120 months ending on December
31, 2016. The direct lease provides for an initial twelve-month period of
reduced rent followed by a base rent of $47,304.97 beginning on January 1, 2008
and increasing 3% on each anniversary date thereafter.
The fourth facility is a loan production office located at 3035
Prospect Park Drive, Suite 100, City of Rancho Cordova, County of Sacramento,
State of California. The office consists of approximately 1,964 square feet
consisting of Suite 100 in the real estate development known as "Prospect
Center". The lease is for a term of 36 months commencing on October 1, 2002 and
ending on September 30, 2005. The Lease provides for a basic rent of $1,865.80
through the first anniversary of the lease date. The basic rent will increase to
$1,940.43 effective with the first anniversary date and then increase to
$2,018.01 on the second anniversary date. The foregoing description is qualified
by reference to the lease agreement dated August 13, 2002 attached as exhibit
10.13 herein.
The fifth facility is a loan production office located at 7676 Hazard
Center Drive, Fifth Floor, City of San Diego, County of San Diego, State of
California. The office consists of approximately 905 square feet consisting of
offices No. 36a, 36b, 36c, 36d and 37 in the real estate development known as
"Barrister Executive Suites". The lease is for a term of 6 months commencing on
November 1, 2003 and ending on June 1, 2004. The lease provides for a basic rent
of $4,300.00 per month. The term of the lease will be automatically extended for
the same period of time as the initial term, upon the same terms and conditions,
24
unless either party notifies the other in writing to the contrary at least 90
days prior to the termination date.
ITEM 3. LEGAL PROCEEDINGS
The Company is not a defendant in any pending legal proceedings and no
such proceedings are known to be contemplated. No director, officer, affiliate,
more than 5% shareholder of the Company or any associate of these persons is a
party adverse to the Company or has a material interest adverse to the Company
in any material legal proceeding.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matter was submitted during the fourth quarter of the fiscal year
covered by this Annual Report to a vote of security holders, through the
solicitation of proxies or otherwise.
25
PART II
ITEM 5. MARKET FOR THE REGISTRANT'S COMMON EQUITY, RELATED SHAREHOLDER MATTERS
AND ISSUER PURCHASES OF EQUITY SECURITIES.
There is limited trading in and no established public trading market
for the Company's Common Stock. On January 27, 2003, the Company's Common Stock
began trading on the Nasdaq Small Cap exchange under the symbol "BBNK".
Previously, it was traded on the Over-the-Counter Bulletin Board (OTCBB) under
the symbol "BBSV". Hoefer and Arnett, Incorporated, Knight Securities, LLP,
Schwab Capital Markets, and Baird Patrick & Co. make markets in the Company's
Common Stock.
The following table summarizes those trades of which the Company has
knowledge, setting forth the approximate high and low bid prices for the periods
indicated. The prices indicated below may not necessarily represent actual
transactions.
Bid Price of
Common stock (1)
Quarter ended Low High
__________________ _____ _____
March 31, 2003 5.25 7.25
June 30, 2003 6.00 8.75
September 30, 2003 8.00 12.50
December 31, 2003 10.25 13.50
March 31, 2004 12.00 13.24
June 30, 2004 11.06 12.95
September 30, 2004 10.75 13.76
December 31, 2004 13.07 17.65
(1) Prices represent the actual trading history on the Nasdaq Small Cap market.
Additionally, since trading in the Company's common stock is limited, the range
of prices stated is not necessarily representative of prices which would result
from a more active market.
The Company had 495 shareholders of record as of January 21, 2005.
The Company's shareholders are entitled to receive dividends when
and as declared by its Board of Directors, out of funds legally available
therefor, subject to statutory and regulatory restrictions. FDIC policies
generally preclude dividend payments during the first three years of operation,
allow cash dividends to be paid only from net operating income, and do not
permit dividends to be paid until an appropriate allowance for loans and lease
losses has been established and overall capital is adequate. The FDIC requires
that a depository institution maintain a Tier 1 capital to assets ratio of not
less than 8% during the first three years of operation. See "SUPERVISION AND
REGULATION - Capital Adequacy Requirements."
After the first three years of operations, the Board of Directors of
a national bank may declare the payment of dividends depending upon the
earnings, financial condition and cash needs of the bank and general business
conditions. A national bank may not pay dividends from its capital. All
dividends must be paid out of net profits then on hand, after deducting losses
and bad debts. A national bank is further prohibited from declaring a dividend
on its shares of common stock until its surplus fund equals the amount of
capital stock or until 10% of the bank's net profits of the preceding half year
in the case of quarterly or semiannual dividends, or the preceding two
consecutive half-year periods in the case of an annual dividend, are transferred
to the surplus fund. The approval of the Comptroller is required for the payment
of dividends if the total of all dividends declared by the bank in any calendar
year would exceed the total of its net profits of that year combined with its
26
retained net profits of the two preceding years, less any required transfers to
surplus or a fund for the retirement of any preferred stock.
In addition to the above requirements, guidelines adopted by the
Comptroller set forth factors, which are to be considered by a national bank in
determining the payment of dividends. A national bank, in assessing the payment
of dividends, is to evaluate the bank's capital position, its maintenance of an
adequate allowance for loan and lease losses, and the need to revise or develop
a comprehensive capital plan.
The Comptroller also has broad authority to prohibit a national bank
from engaging in banking practices which it considers to be unsafe or unsound.
It is possible, depending upon the financial condition of the national bank in
question and other factors, that the Comptroller may assert that the payment of
dividends or other payments by a bank is considered an unsafe or unsound banking
practice and therefore, implement corrective action to address such a practice.
The Company has not declared dividends since inception of the Bank's
existence. In the future, the Company may consider cash and stock dividends,
subject to the restrictions on the payment of cash dividends as described above,
depending upon the level of earnings, management's assessment of future capital
needs and other factors considered by the Board of Directors.
The following chart provides information as of December 31, 2004
concerning the Bank's Stock Option Plan, the Company's only equity compensation
plan:
Number of securities Weighted average Number of securities
to be issued upon exercise price of remaining available
exercise of outstanding options, for future issuance
outstanding options, warrents, and rights under equity
warrants, and rights compensation plans
(excluding securities
reflected in column (a)
(a) (b) (c)
----------------------- ---------------------- -------------------------
Equity compensation
plans approved by
security holders 1,255,974 $ 6.81 503,638
Equity compensation
plans not approved by
security holders - - -
----------------------- ---------------------- -------------------------
Total 1,255,974 $ 6.81 503,638
======================= ====================== =========================
27
ITEM 6. SELECTED FINANCIAL DATA
The following table presents certain consolidated financial information
concerning the business of the Company. This information should be read in
conjunction with the Financial Statements and the notes thereto, and
Management's Discussion and Analysis of Financial Condition and Results of
Operations contained elsewhere herein.
For the period
from inception
Statement of Operations Data: May 14, 2001
(dollars in thousands, except per share data) As of and for the years ended through
December 31, December 31,
2004 2003 2002 2001
-------------------------------------------------------
Interest income $ 19,457 $ 12,133 $ 7,002 $ 1,573
Interest expense 2,896 2,235 1,192 419
-------------------------------------------------------
Net interest income 16,561 9,898 5,810 1,154
Provision for credit losses (1,671) (843) (1,424) (511)
Net interest income after provision
for credit losses 14,890 9,055 4,386 643
-------------------------------------------------------
Other income 3,855 2,664 1,460 18
Other expenses (13,596) (10,214) (8,530) (4,202)
-------------------------------------------------------
Income before income taxes 5,149 1,505 (2,684) (3,541)
Income taxes (2,112) 1,868 (1) -
-------------------------------------------------------
Net income (loss) $ 3,037 $ 3,373 $ (2,685) $ (3,541)
=======================================================
Per share Data:
Basic income (loss) per share $ 0.50 $ 0.56 $ (0.53) $ (0.92)
Diluted income (loss) per share 0.46 0.53 (0.53) (0.92)
Shareholders' equity per share 5.43 4.95 4.39 4.05
Cash dividend per common share - - - -
Balance Sheet Data:
Balance sheet totals-end of year:
Assets $402,037 $278,579 $181,188 $ 96,185
Loans, net 289,467 191,053 126,345 35,581
Deposits 352,456 246,394 153,359 80,100
Shareholders' equity 33,122 29,954 26,564 15,524
Average balance sheet amounts:
Assets $341,466 $222,454 $133,830 $ 38,857
Loans, net 240,465 156,587 86,892 10,151
Deposits 307,471 193,765 111,607 27,753
Shareholders' equity 30,768 27,075 21,126 10,847
Selected Ratios:
Return on average equity 9.87% 12.46% -12.71% -32.64%
Return on average assets 0.89% 1.52% -2.01% -9.11%
Efficiency ratio 66.59% 81.31% 117.33% 358.53%
Leverage capital ratio 9.70% 13.47% 19.85% 39.95%
Net chargeoffs (recoveries) to average loans 0.08% -0.05% 0.20% -
Allowance for loan losses to total loans 1.41% 1.38% 1.37% 1.42%
Average equity to average assets 9.01% 12.17% 15.79% 27.92%
28
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS.
Certain matters discussed or incorporated by reference in this Annual
Report on Form 10-K are forward-looking statements that are subject to risks and
uncertainties that could cause actual results to differ materially from those
projected. Please see "Forward-Looking Statements" on page 1. Therefore, the
information set forth therein should be carefully considered when evaluating
business prospects of the Bank.
CRITICAL ACCOUNTING POLICIES
Our accounting policies are integral to understanding the results
reported. Accounting policies are described in detail in Note 1 to the
Consolidated Financial Statements. Our most complex accounting policies require
management's judgment to ascertain the valuation of assets, liabilities,
commitments and contingencies. We have established detailed policies and control
procedures that are intended to ensure valuation methods are well controlled and
applied consistently from period to period. In addition, the policies and
procedures are intended to ensure that the process for changing methodologies
occurs in an appropriate manner. The following is a brief description of our
current accounting policies involving significant management valuation
judgments.
ALLOWANCE FOR LOAN LOSSES
The allowance for loan losses represents management's best estimate of losses
inherent in the existing loan portfolio. The allowance for loan losses is
increased by the provision for loan losses charged to expense and reduced by
loans charged off, net of recoveries. The provision for loan losses is
determined based on management's assessment of several factors: reviews and
evaluation of specific loans, changes in the nature and volume of the loan
portfolio, current economic conditions and the related impact on specific
borrowers and industry groups, historical loan loss experiences, the level of
classified and nonperforming loans and the results of regulatory examinations.
Loans are considered impaired if, based on current information and
events, it is probable that we will be unable to collect the scheduled payments
of principal or interest when due according to the contractual terms of the loan
agreement. The measurement of impaired loans is generally based on the present
value of expected future cash flows discounted at the historical effective
interest rate stipulated in the loan agreement, except that all
collateral-dependent loans are measured for impairment based on the fair value
of the collateral. In measuring the fair value of the collateral, management
uses assumptions and methodologies consistent with those that would be utilized
by unrelated third parties.
Changes in the financial condition of individual borrowers, in economic
conditions, in historical loss experience and in the condition of the various
markets in which collateral may be sold may all affect the required level of the
allowance for loan losses and the association provision for loan losses.
SALE OF SBA LOANS
In calculating gain on the sale of SBA loans, the Bank performs an
allocation based on the relative fair values of the sold portion and retained
portions of the loan. The company assumptions are validated by reference to
external market information.
AVAILABLE-FOR-SALE SECURITIES
The fair value of most securities classified as available-for-sale is based on
quoted market prices. If quoted market prices are not available, fair values are
extrapolated from the quoted prices of similar instruments.
29
DEFERRED TAX ASSETS
Our deferred tax assets are explained in the section below titled
"Income Tax" and in Note 8 to the Consolidated Financial Statements presented in
our 2004 10-K. We use an estimate of future earnings to support our position
that the benefit of our deferred tax assets will be realized. If future income
should prove non-existent or less than the amount of the deferred tax assets
within the tax years to which they may be applied, the asset will not be
realized and our net income will be reduced.
SECONDARY STOCK OFFERING
The Bank filed a Registration Statement on Form SB-2 on March 22, 2002
with respect to a proposed public offering of the Bank's Common stock for an
aggregate consideration of $12,000,001. The registration statement was declared
effective by the Comptroller on April 15, 2002. A second registration statement,
registering additional shares to cover over-subscriptions was filed with the
Comptroller on June 14, 2002, and became effective as of that date. The Bank
completed the offering of 2,215,384 shares of Common Stock, $2.50 par value, at
a price of $6.50 per share, for an aggregate consideration of $14,399,996 on
June 17, 2002.
OPERATING RESULTS
For the year ended December 31, 2004, the Company reported net income
of $3,037,000 or $0.50 basic and $0.46 diluted earnings per share, compared with
net income of $3,373,000 or $0.56 basic and $0.53 diluted earnings per share for
the year ended December 31, 2003 and a net loss of ($2,685,000) or ($0.53) basic
and diluted loss per share for the year ended December 31, 2002. Net income for
2004 represented a decrease of $336,000 compared to 2003 primarily due to a
one-time benefit of $1.9 million related to the recognition of deferred tax
assets in 2003. The impact was offset, in part, by an increase of $6.7 million
in interest income and an increase of $1.2 million in other income, offset, in
part, by an increase of $0.8 million in provision for credit losses and $3.4
million in other expense. See the specific sections below for details regarding
these changes.
Net income for the year ended December 31, 2003 of $3,373,000, or $0.56
basic and $0.53 diluted earnings per share, compared to net loss of $2,685,000
or ($0.53) basic and diluted earnings per share in 2002. The improvement in net
income of $6.1 million resulted from an increase of $4.1 million in net interest
income, $1.2 million in non-interest income and a decrease of $0.6 million in
the provision for credit losses, offset, in part by an increase of $1.7 million
in non-interest expenses and a one-time benefit of $1.9 million related to the
recognition of deferred tax assets.
30
NET INTEREST INCOME AND MARGIN
Net interest income is the principal source of the Company's operating
earnings. Net interest income is affected by changes in the nature and volume of
earning assets held during the year, the rates earned on such assets and the
rates paid on interest-bearing liabilities. The following table shows the
composition of average earning assets and average funding sources, average
yields and rates and the net interest margin for the three years ended December
31, 2004, 2003 and 2002.
AVERAGE BALANCES, RATES AND YIELDS
December 31,
2004 2003 2002
------------------------------ ----------------------------- ------------------------------
(dollars in thousands)
INTEREST YIELDS/ INTEREST YIELDS/ INTEREST YIELDS/
AVERAGE INCOME/ RATES AVERAGE INCOME/ RATES AVERAGE INCOME/ RATES
BALANCE EXPENSE PAID BALANCE EXPENSE PAID BALANCE EXPENSE PAID
------------------------------ ----------------------------- ------------------------------
ASSETS
Interest earning assets:
Loans (1) $ 244,600 $18,378 7.5% $159,346 $ 11,587 7.3% $ 86,892 $ 6,318 7.3%
Federal funds sold 43,000 546 1.3% 38,982 407 1.0% 21,844 362 1.7%
Investment securities (2) 30,002 533 1.8% 12,061 139 1.2% 17,132 303 1.8%
Interest bearing deposits
in other banks - - 0.0% - - 0.0% 869 19 2.2%
------------------------------ ----------------------------- ----------------------
Total earning assets 317,602 19,457 6.1% 210,389 12,133 5.8% 126,737 7,002 5.5%
----------- ---------- ----------
Noninterest earning assets:
Cash and due from banks 18,272 10,734 6,504
Other assets (3) 5,592 1,331 589
----------- ----------- ------------
TOTAL ASSETS $ 341,466 $222,454 $ 133,830
=========== =========== ============
LIABILITIES AND
SHAREHOLDERS' EQUITY
Interest-bearing liabilities:
Deposits:
Demand $ 3,543 21 0.6% $ 4,201 30 0.7% $ 2,339 25 1.1%
Savings 138,776 1,833 1.3% 69,209 1,040 1.5% 30,337 491 1.6%
Time 47,008 1,020 2.2% 47,612 1,165 2.4% 26,988 676 2.5%
Other 361 22 6.1% 1 - 0.0% - - 0.0%
------------------------------ ----------------------------- ------------------------------
Total interest-bearing
deposits: 189,688 2,896 1.5% 121,023 2,235 1.8% 59,664 1,192 2.0%
----------- ---------- ----------
Noninterest-bearing liabilities:
Demand deposits 118,144 72,744 51,943
Accrued expenses and
other liabilities 2,866 1,612 1,097
Shareholders' equity 30,768 27,075 21,126
----------- ----------- ------------
TOTAL SHAREHOLDERS'
EQUITY AND LIABILITIES $ 341,466 $222,454 $ 133,830
=========== =========== ============
Net interest income and margin $16,561 5.2% $ 9,898 4.7% $5,810 4.6%
=================== ================== ==================
(1) Includes amortization of loan fee of $2,010 for 2004, $1,159 for 2003 and
$741 for 2002. Nonperforming loans have been included in average loan balances.
(2) Interest income is reflected on an actual basis, not fully taxable
equivalent basis. Yields are based on amortized cost.
(3) Net of average allowance for credit losses of $ 3,347 and average deferred
loan fees of $787 for 2004, average allowance for credit losses of $ 2,209 and
deferred loan fees of $549 for 2003 and average allowance for credit losses of
$1,192 and deferred loan fees of $471 for 2002.
31
The following table shows the effect on the interest differential of
volume and rate changes for the years ended December 31, 2004, 2003 and 2002:
VOLUME/RATE ANALYSIS
(dollars in thousands)
2004 vs. 2003 2003 vs. 2002
--------------------------------- ----------------------------------
Increase (decrease) Increase (decrease)
due to change in due to change in
--------------------------------- ----------------------------------
Average Average Total Average Average Total
Volume Rate Change Volume Rate Change
--------------------------------- ----------------------------------
Interest income:
Loans $6,406 $ 385 $ 6,791 $5,269 $ 0 $ 5,269
Federal funds sold 51 88 139 179 (134) 45
Investment securities 319 75 394 (58) (106) (164)
Other - - - - (19) (19)
--------------------------------- ----------------------------------
Total interest income 6,776 548 7,324 5,389 (258) 5,131
--------------------------------- ----------------------------------
Interest expense:
Demand (4) (5) (9) 13 (8) 5
Savings 919 (126) 793 584 (35) 549
Time (13) (132) (145) 505 (16) 489
Other 22 0 22 - - -
--------------------------------- ----------------------------------
Total interest expense 925 (263) 661 1,102 (59) 1,043
--------------------------------- ----------------------------------
Change in net interest income $5,851 $ 811 $ 6,663 $4,287 $ (199) $ 4,088
================================= ==================================
Net interest income was $16,561,000 in 2004, comprised of $19,457,000
in interest income and $2,896,000 in interest expense. Net interest income in
2004 compared to $9,898,000, comprised of $12,133,000 in interest income and
$2,235,000 in interest expense for the year ended December 31, 2003. The
increase of $6,663,000 in net interest income in 2004 was primarily due to an
increase of $7,324,000 in interest income offset, in part, by an increase of
$661,000 in interest expense.
Net interest income for the year ended December 31, 2003 represented an
increase of $4,088,000 over $5,810,000 for the year ended December 31, 2002. The
increase in net interest income was primarily a result of an increase of
$5,131,000 in interest income offset, in part, by an increase of $1,043,000 in
interest expense.
The net interest margin (net interest income divided by average earning
assets) was 5.2% for the year ended December 31, 2004, as compared to 4.7% for
the year ended December 31, 2003 and 4.6% for 2002. The improvement in net
interest margin in 2004 compared to 2003 was primarily the result of increases
in the prime rate during the second half of the year, a shift in the mix of
loans toward higher yielding product lines, and a shift in the mix of deposits
toward lower-cost sources of funds. The improvement in net interest margin in
2003 compared to 2002 was primarily due to improved balance sheet leverage.
Average loans represented 77% of average earning assets in 2004 compared to 76%
in 2003 and 69% in 2002. In addition, in 2004 the Bank's ratio of average loans
to average deposits was 80%, down from 82% in 2003 and 78% in 2002.
Significant factors affecting net interest income are: rates, volumes
and mix of the loan, investment and deposit portfolios. Due to the nature of the
Bank's lending markets, in which the majority of loans are generally tied to
Prime Rate, we believe that an increase in interest rates should positively
32
affect the Bank's future earnings, while a decline will have a negative impact.
However, it is not feasible to provide an accurate measure of such a change
because of the many factors (many of them uncontrollable) influencing the
result.
INTEREST INCOME
For the year ended December 31, 2004, the Company reported interest
income of $19,457,000 an increase of $7,324,000 or 60% over $12,133,000 reported
in 2003. The increase in interest income primarily reflects an increase in the
volume of average earning assets in 2004 compared to 2003. Average earning
assets were $318 million for the year ended December 31, 2004 an increase of
$107 million or 51% over $210 million for the year ended December 31, 2003. In
addition, the majority of the Bank's earning assets have rate structures that
re-price with movements in short-term interest rates, primarily the prime rate
and fed funds rate. From June 2004 through December 2004, each of these indices
increased by 1.25%.
For the year ended December 31, 2003, the Bank reported interest income
of $12,133,000 for an increase of $5,131,000 or 73% over $7,002,000 reported in
2002. The increase in interest income primarily reflects an increase in the
volume of average earning assets in 2003 compared to 2002. Average earning
assets were $210 million for the year ended December 31, 2003 an increase of $83
million or 65% over $127 million for the year ended December 31, 2002.
INTEREST EXPENSE
Interest expense was $2,896,000 for the year ended December 31, 2004,
which represented an increase of $661,000 or 30% compared to $2,235,000 for the
year ended December 31, 2003. The increase in interest expense primarily
reflects an increase in average interest-bearing liabilities in 2004 compared to
2003. Average interest-bearing liabilities were $190 million for the year ended
December 31, 2004, an increase of $69 million or 57% from $121 million for the
year ended December 31, 2003. Partially offsetting the impact of the greater
volume of interest-bearing liabilities was a decrease in the average rate paid.
Interest expense was $2,235,000 for the year ended December 31, 2003,
which represented an increase of $1,043,000 or 88% compared to $1,192,000 for
the year ended December 31, 2002. The increase in interest expense primarily
reflects an increase in average interest-bearing liabilities in 2003 compared to
2002. Average interest-bearing liabilities were $121 million for the year ended
December 31, 2003, an increase of $61 million or 102% from $60 million for the
year ended December 31, 2002. Partially offsetting the impact of the greater
volume of interest-bearing liabilities was a decrease in the average rate paid.
CREDIT RISK AND PROVISION FOR CREDIT LOSSES
The Bank maintains an allowance for credit losses which is based, in
part, on loss experience of the Bank and the California banking industry, the
impact of economic conditions within the Bank's market area, and, as applicable,
the State of California, the value of underlying collateral, loan performance
and inherent risks in the loan portfolio. The allowance is reduced by
charge-offs and increased by provisions for credit losses charged to operating
expense and recoveries of previously charged-off loans. Based on management's
current evaluation of such risks, additions of $1,671,000, $843,000 and
$1,424,000 were made to the allowance for credit losses in 2004, 2003 and 2002,
respectively. During 2004, the Bank had charge offs totaling $240,000 and
recoveries of $32,000 as compared to $10,000 in charge offs and $85,000 in
recoveries in 2003 and $170,000 charged off and no recoveries in 2002. The
resulting allowance for credit losses was $4,146,000 representing 1.41% of total
loans at December 31, 2004 as compared to $2,683,000 representing 1.38% of total
loans at December 31, 2003 and $1,765,000 representing 1.37% of total loans at
December 31, 2002.
The accrual of interest on loans would be discontinued and any accrued
and unpaid interest is reversed when, in the opinion of management, there is
33
significant doubt as to the collectibility of interest or principal or when the
payment of principal or interest is ninety days past due, unless the amount is
well-secured and in the process of collection. There were two non-accrual loans
at December 31, 2004 totaling $1,026,000 as compared to one loan totaling
$59,000 at December 31, 2003. There were no non-accrual loans at December 31,
2002. At December 31, 2004, the non-accrual loans consisted of two SBA loans
totaling $1,026,000 of which $712,000 is guaranteed by the U.S.Government. The
remaining balance of $314,000 is secured by business assets and real property.
Of the two loans on nonaccrual at December 31, 2004, one loan was determined to
be impaired and its carrying value reflects the fair value of the collateral
securing the loan.
In addition, at December 31, 2004, 2003 and 2002, there were no loans past due
90 days or more as to principal or interest and still accruing interest.
At December 31, 2004, 2003 and 2002 there were no properties owned by
the Bank acquired through the foreclosure process.
Management is of the opinion that the allowance for credit losses is
maintained at a level adequate for inherent losses in the loan portfolio.
However, the Bank's loan portfolio, which includes approximately $122,000,000 in
real estate loans, representing approximately 42% of the portfolio, could be
adversely affected if California economic conditions and the real estate market
in the Bank's market area were to weaken. The effect of such events, although
uncertain at this time, could result in an increase in the level of
non-performing loans and OREO and the level of the allowance for loan losses,
which could adversely affect the Bank's future growth and profitability.
NON-INTEREST INCOME
The following table sets forth the components of other income and the percentage
distribution of such income for the years ended December 31, 2004, 2003 and 2002
Other Income
(dollars in thousands) 2004 2003 2002
---------------------- ---------------------- ----------------------
Amount Percent Amount Percent Amount Percent
---------------------- ---------------------- ----------------------
Gain on sale of SBA loans $2,737 71.0% $2,095 80.2% $1,335 91.4%
SBA loan servicing income 310 8.0% 181 6.9% 39 2.7%
Depositor service charges 362 9.4% 194 7.4% 38 2.6%
Other operating income 446 11.6% 142 5.4% 48 3.3%
---------------------- ---------------------- ----------------------
$3,855 100.0% $2,612 100.0% $1,460 100.0%
=========== =========== ===========
Non-interest income totaled $3,855,000 in 2004, an increase of
$1,243,000 or 48% over $2,612,000 in 2003. Non-interest income increased
$1,152,000, or 79% from 2002 to 2003. Non-interest income consists primarily of
gains recognized on sales of SBA loans, SBA loan packaging fees and servicing
income and service charge income on deposit accounts. The increases in
non-interest income in 2004 compared to 2003 and in 2003 compared to 2002 are
primarily due to higher volumes of SBA loan sales as a result of expansion of
the SBA lending operation. The company established its SBA lending operation in
March 2002.
34
NON-INTEREST EXPENSES
The components of other expense are set forth in the following table
for the years ended December 31, 2004, 2003 and 2002.
Other Expense as a Percent of Average Assets
(dollars in thousands)
2004 2003 2002
---------------------- ----------------------- ---------------------
Amount Percent Amount Percent Amount Percent
---------------------- ----------------------- ---------------------
Salaries and benefits $ 8,081 2.4% $ 6,594 3.0% $ 5,094 3.8%
Occupancy 1,420 0.4% 890 0.4% 741 0.6%
Data processing 763 0.2% 536 0.2% 373 0.3%
Legal and professional 645 0.2% 340 0.2% 253 0.2%
Marketing and advertising 612 0.2% 370 0.2% 461 0.3%
Furniture and equipment 585 0.2% 561 0.3% 464 0.3%
Other 1,490 0.4% 922 0.4% 1,144 0.9%
---------------------- ----------------------- ---------------------
$ 13,596 4.0% $ 10,213 4.6% $ 8,530 6.4%
======== ======== =======
Non-interest expenses were approximately $13.6 million in 2004 as
compared to approximately $10.2 million in 2003 and $8.5 million in 2002.
Non-interest expense increased approximately $3.4 million in 2004 as compared to
2003. This increase was primarily attributable to increased salaries and
benefits cost and occupancy expense as well as increases in marketing, data
processing expense and professional services. Non-interest expenses in 2003
increased approximately $1.7 million in the year ended December 31, 2003
compared to 2002. The increase was primarily attributable to increased salary
and benefits cost as well as increases in occupancy, furniture and equipment and
data processing expense. Non-interest expenses measured as a percentage of
average earning assets were 4.0% in 2004, which represented improvement from
4.6% in 2003 and 6.4% in 2002.
The increases in non-interest expenses reflect the impact of expansion
of the business during 2004, 2003 and 2002. During 2004, the Bank consolidated
offices and moved its' headquarters to a larger facility in San Jose; launched
two new product lines, international trade finance and investment services; and
added a SBA loan production office in Fresno, California. During 2003, the Bank
opened a SBA loan production office in San Diego to cover Southern California
and added staff in all major business lines. During the year ended December 31,
2002, the Bank opened a branch office in downtown Palo Alto, established a U.S.
Small Business Administration Lending ("SBA") Group that includes a regional
loan production office in Sacramento county, and launched Bridge Capital Finance
Group ("BCFG"), a factoring and asset-based lending division with a loan
production office in Santa Clara.
Salaries and related benefits is the largest component of the Bank's
non-interest expense. Salaries and benefits were $8.1 million for the year ended
December 31, 2004 as compared to $6.6 million and $5.1 million for the years
ended December 31, 2003 and 2002, respectively. The increases in 2004 compared
to 2003 and 2003 compared to 2002 are primarily attributable to the increase in
full time equivalent employees (FTE) related to expansion of the business and to
higher incentive compensation related to performance of the Bank. The Bank had
80 FTE at December 31, 2004 as compared to 60 FTE at December 31, 2003 and 50.5
FTE at December 31, 2002.
Occupancy expense for the year ended December 31, 2004 was $1,420,000
and represented an increase of $530,000 over $890,000 for the prior year. The
increase in 2004 was primarily due to the consolidation of offices of the
Company in a new, larger headquarters facility in downtown San Jose and the
addition of two loan production offices in the SBA group. In 2003, occupancy
expense increased $149,000 to $890,000 compared to $741,000 for the year ended
December 31, 2002. The increase in occupancy expense primarily reflects the
full-year impact of expansion of the SBA and Bridge Capital Finance business
lines that occurred in 2002.
35
The Company contracts with third-party vendors for most data processing
needs and to support technical infrastructure. Data processing expense in 2004
was $763,000, which represented an increase of $227,000 over $536,000 one year
earlier. In 2003, data processing costs increased $163,000 to $536,000 compared
to $373,000 in 2002. The increases in data processing in both years are
primarily due to increases in deposit transaction volumes in addition to
increases in FTE.
Legal and professional expenses were $645,000 for the year ended
December 31, 2004, which represented an increase of $305,000 over $340,000 in
2003. The increase in 2004 was due, in part, to nonrecurring legal costs related
to the formation of the holding company as well as increases in ongoing
accounting and audit services. In 2003, legal and professional expenses
increased $87,000 to $340,000 compared to $253,000 in 2002. The increase in 2003
was primarily due to increased legal costs related to expansion of business
lines.
Furniture, fixtures and equipment (FF&E) expense of $585,000 for the
year ended December 31, 2004 represented a slight increase of $24,000 compared
to $561,000 in the same period one year earlier. In 2003, FF&E expense increased
$97,000 to $561,000 compared to $464,000 for the year ended December 31, 2002.
The increases in FF&E expense primarily reflect the impact of establishing new
facilities and the increase in headcount associated with expansion of business
lines.
As pressure continues on net interest margins and net asset growth,
management of operating expenses will continue to be a priority.
INCOME TAXES
The Bank's effective tax rate was 41% for the year ended December 31,
2004. For 2003 the effective tax rate was -124.03% as a result of the one-time
recognition of $1.9 million of deferred tax assets. The Bank's effective tax
rate was 0% for the year ended December 31, 2002 as a result of net operating
losses and net operating loss carry forward. See Note 9 to the financial
statements for additional information on income taxes.
QUARTERLY INCOME
The unaudited income statement data of the Bank, in the opinion of
management, includes all normal and recurring adjustments necessary to state
fairly the information set forth herein. The results of operations are not
necessarily indicative of results for any future period. The following table
shows the Bank's unaudited quarterly income statement data for the years 2004
and 2003.
First quarter Second quarter Third quarter Fourth quarter
2004 2003 2004 2003 2004 2003 2004 2003
--------------------------------------------------------------------------------
Net interest income $3,191 $2,110 $3,742 $2,382 $4,470 $2,633 $5,157 $ 2,773
Provision for credit losses 405 254 369 228 611 82 286 279
Other income 1,122 594 779 516 834 749 1,121 804
Other expenses 3,115 2,321 3,094 2,392 3,308 2,827 4,079 2,673
--------------------------------------------------------------------------------
793 129 1,058 278 1,385 473 1,913 625
--------------------------------------------------------------------------------
Income tax 327 434 568 783 (1,867)
Net income $ 466 $ 129 $ 624 $ 278 $ 817 $ 473 $1,130 $ 2,492
================================================================================
Net income per share - basic $ 0.08 $ 0.02 $ 0.10 $ 0.05 $ 0.13 $ 0.08 $ 0.19 $ 0.41
Net income per share - diluted $ 0.07 $ 0.02 $ 0.09 $ 0.04 $ 0.12 $ 0.07 $ 0.17 $ 0.38
36
FINANCIAL CONDITION AND EARNING ASSETS
As of December 31, 2004, assets were $402 million, gross loans were
$294 million and deposits were $352 million. Assets increased $123 million, a
44% increase from $279 million at December 31, 2003. Gross loans increased $100
million, or 52% from $194 million at December 31, 2003. Deposits increased $106
million, a 43% increase from $246 million at December 31, 2003.
As of December 31, 2003, assets were $279 million, gross loans were
$194 million and deposits were $246 million. Assets increased $97.4 million, a
54% increase from $181 million at December 31, 2002. Gross loans increased $65
million, or 50% from $129 million at December 31, 2002. Deposits increased $93
million, a 61% increase from $153 million at December 31, 2002.
FEDERAL FUNDS SOLD
Federal funds sold were $62,675 at December 31, 2004 as compared to
$47,975 at December 31, 2003. This increase is primarily due to an increase in
short term deposits, primarily in the money market category. The average balance
of federal funds sold was $43,000 in 2004 and $38,982 in 2003. These balances
represented 14.0% and 20.1% of average deposits for 2004 and 2003, respectively.
They are maintained primarily for the short-term liquidity needs of the Bank.
SECURITIES
The following table shows the composition of the securities portfolio
at December 31, 2004, 2003 and 2002.
Investment Securities Composition December 31,
(dollars in thousands) 2004 2003 2002
---------------------------------------------------------------------
Fair Fair Fair
Cost Value Cost Value Cost Value
---------------------------------------------------------------------
Available for sale:
U. S. Treasury Securities $ 100 $ 100 $ 100 $ 100 $ 100 $ 100
U. S. Government Agencies 26,400 26,198 14,236 14,247 2,530 2,530
Money Market Mutual Funds - - 10,000 10,000 14,000 14,000
---------------------------------------------------------------------
Total available for sale 26,500 26,298 24,336 24,347 16,630 16,630
---------------------------------------------------------------------
Total investment securities portfolio $26,500 $26,298 $24,336 $24,347 $16,630 $16,630
=====================================================================
The maturities and yields of the investment portfolio is shown below:
MATURITY AND YIELDS OF INVESTMENT SECURITIES
After one year
(dollars in thousands) Within 1 year within five years
----------------------- ----------------------
Weighted Weighted
Carrying Average Average
At December 31, 2004 Value Amount Yield Amount Yield
- ----------------------------------------------------------------------- ----------------------
U. S. Treasury Securities $ 100 $ 100 1.64% $ ---- ----
U. S. Government Agencies 26,400 14,016 2.21% 12,384 2.61%
----------------------- -----------
Total $26,500 $ 14,116 0.92% $12,384
======================= ===========
At December 31, 2003
- -------------------------------------
U. S. Treasury Securities $ 100 $ 100 1.53% $ ---- ----
U. S. Government Agencies 14,247 2,035 1.11% 12,212 1.74%
Money Market Mutual Funds 10,000 10,000 0.87% ---- ----
----------------------- -----------
Total $24,347 $ 12,135 0.92% $12,212
======================= ===========
37
Investment securities are classified as available for sale. Any
unrealized gain or loss on investment securities available for sale is reflected
in the carrying value of the security and reported net of income taxes in the
equity section of the balance sheet. The pre-tax unrealized loss on securities
available for sale at December 31, 2004 was ($119,000) as compared to a pre-tax
unrealized gain on securities available for sale at December 31, 2003 of
$11,000. There was no unrealized gain or loss at December 31, 2002.
LOAN PORTFOLIO
The following table shows the Bank's loans by type and their percentage
distribution for the three years ended December 31, 2004, 2003 and 2002.
LOAN PORTFOLIO
(dollars in thousands)
2004 2003 2002
------------------------------------------------------------
Commercial and other $ 100,681 $ 73,846 $ 50,235
SBA 45,251 39,412 24,314
Real estate construction 42,323 35,065 32,613
Real estate term 80,044 28,036 16,804
Factoring and Asset based 22,342 13,106 1,537
Other 3,945 4,984 3,200
------------------------------------------------------------
Total gross loans 294,586 194,449 128,703
Unearned fee income (973) (713) (593)
------------------------------------------------------------
Total loan portfolio $ 293,613 $193,736 $128,110
============================================================
Commercial and other 34.2% 38.0% 39.0%
SBA 15.4% 20.3% 18.9%
Real estate construction 14.3% 18.0% 25.3%
Real estate term 27.2% 14.4% 13.1%
Factoring and Asset based 7.6% 6.7% 1.2%
Other 1.3% 2.6% 2.5%
------------------------------------------------------------
Total gross loans 100.0% 100.0% 100.0%
============================================================
Loan balances increased to $293.6 million at December 31, 2004,
which represented an increase of $99.9 million or 51.6% as compared to $193.7
million at December 31, 2003. The increase in loans was primarily in commercial
and real estate term (includes longer term real estate loans, land loans and
home equity lines), without a concentration in any one specific category of
loans. The increase was a result of general marketing efforts. Loan balances
increased to $193.7 million at December 31, 2003, which represented an increase
of $65.6 million or 51.2% as compared to $128.1 million at December 31, 2002.
The increase in loans was primarily in commercial, SBA and factoring/ABL and
real estate term, without a concentration in any one specific category of loans.
The increase was a result of the addition of the factoring/ABL department in
addition to general marketing efforts.
The Bank's commercial loan portfolio represents loans to small and
middle-market businesses in the Santa Clara county region. Commercial loans were
$100.7 million at December 31, 2003, which represented an increase of $26.8
million or 36.3% over $73.8 million at December 31, 2003. At December 31, 2004,
commercial loans comprised 34% of total loans outstanding as compared to 38% at
December 31, 2003. Commercial loans were $73.8 million at December 31, 2003,
which represented an increase of $23.6 million or 47.0% over $50.2 million at
December 31, 2002. At December 31, 2003, commercial loans comprised 38% of total
loans outstanding as compared to 39% at December 31, 2002.
In March of 2002, the Bank established an SBA lending group in Santa
Clara with a loan production office in Sacramento County. In October of 2003,
38
the Bank established a loan production office in San Diego county. The Bank, as
a Preferred Lender, originates SBA loans and participates in the SBA 7A and 504
SBA lending programs. Under the 7A program, a loan is made for commercial or
real estate purposes. The SBA guarantees these loans and the guarantee may range
from 70% to 90% of the total loan. In addition, the loan could be collateralized
by a deed of trust on real estate.
Under the 504 program, the Bank lends directly to the borrower and
takes a first deed of trust to the subject property. In addition the SBA,
through a Community Development Corporation makes an additional loan to the
borrower and takes a deed of trust subject to the Bank's position. The Bank's
position in relation to the real estate "piggyback" loans can range from 50% to
70% loan to value.
At December 31, 2004, SBA loans comprised $45.3 million or 15.4% of
total loans as compared to $39.4 million or 20.3% of total loans at December 31,
2003 and $24.3 million or 18.9% of total loans at December 31, 2002. The Bank
has the intent to sell all or a portion of the SBA loans and, as such, carries
the saleable portion of SBA loans at the lower of aggregate cost or fair value.
At December 31, 2004, 2003 and 2002, the fair value of SBA loans exceeded
aggregate cost and therefore, SBA loans were carried at aggregate cost.
The Bank's construction loan portfolio primarily consists of loans to
finance individual single-family residential homes, approximately half of which
are owner-occupied projects. Construction loans increased $7.2 million, or
20.7%, to $42.3 million at December 31, 2004 as compared to $35.1 million at
December 31, 2003. Construction loan balances at December 31, 2004 comprised
14.4% of total loans as compared to 18.0% at December 31, 2003. Construction
loans increased $2.5 million, or 7.5%, to $35.1 million at December 31, 2003 as
compared to $32.6 million at December 31, 2002. Construction loan balances at
December 31, 2003 comprised 18.0% of total loans as compared to 25.3% at
December 31, 2002.
Other real estate loans increased $52.0 million or 185.5% to $80.0
million at December 31, 2004 as compared to $28.0 million at December 31, 2003
and increased $11.2 million or 66.9% from $16.8 million at December 31, 2002 to
$28.0 million at December 31, 2003. The increase in 2004 in other real estate
loans was approximately equally split between home equity lines of credit, land
loans related to future construction credits and other real estate term loans.
In 2003, the increase was primarily in land loans related to future construction
credits. At December 31, 2004, other real estate loans represented 27.2% of
total loans as compared to 14.4% at December 31, 2002 and 13.1% at December 31,
2001.
Factoring and asset-based lending represents purchased accounts
receivable (factoring) and a structured accounts receivable lending program
where the Bank receives client specific payment for client invoices. Under the
factoring program, the Bank purchases accounts receivable invoices from its
clients and then receives payment directly from the party obligated for the
receivable. In most cases the Bank purchases the receivables subject to recourse
from the Bank's factoring client. The asset-based lending program requires a
security interest in all of a client's accounts receivable. At December 31,
2004, Factoring/ABL loans totaled $22.3 million or 7.6% of total loans as
compared to $13.1 million or 6.7% of total loans at December 31, 2003.
Other loans consist primarily of loans to individuals for personal
uses, such as installment purchases, overdraft protection loans and a variety of
other consumer purposes. At December 31, 2004, other loans totaled $3.9 million
as compared to $5.0 million at December 31, 2003 and $3.2 million at December
31, 2002.
ALLOWANCE FOR LOAN LOSSES
A consequence of lending activities is the potential for loss. The
amount of such losses will vary from time to time depending upon the risk
characteristics of the loan portfolio as affected by economic conditions, rising
interest rates and the financial experience of the borrowers. The allowance for
loan losses, which provides for the risk of losses inherent in the credit
extension process, is increased by the provision for loan losses charged to
39
expense and decreased by the amount of charge-offs net of recoveries. There is
no precise method of estimating specific losses or amounts that ultimately may
be charged off on particular segments of the loan portfolio. Similarly, the
adequacy of the allowance for loan losses and the level of the related provision
for loan losses is determined in management's judgment based on consideration
of:
- Economic conditions,
- Borrowers' financial condition
- Loan impairment
- Evaluation of industry trends
- Historic losses, migrations and delinquency trends
- Industry and other concentrations
- Loans which are contractually current as to payment terms but
demonstrate a higher degree of risk as identified by management
- Continuing evaluation of the performing loan portfolio
- Periodic review and evaluation of problem loans
- Off balance sheet risks
- Assessments by regulators and other third parties
In addition to the internal assessment of the loan portfolio, the
Bank also retains a consultant who performs credit reviews on a regular basis
and then provides an assessment of the adequacy of the allowance for loan
losses. The federal banking regulators also conduct examinations of the loan
portfolio periodically.
The following table summarizes the activity in the allowance for
loan losses.
(dollars in thousands) Period ended December 31,
2004 2003 2002
---------------------------------------
Balance, beginning of period $ 2,683 $ 1,765 $ 511
Loans charged off by category:
Commercial and other 240 - 170
Real estate Construction - - -
Real estate term - - -
Factoring and asset-based - - -
Consumer - 10 -
---------------------------------------
Total charge-offs 240 10 170
---------------------------------------
Recoveries by category:
Commercial and other 32 85 -
Real estate Construction - - -
Real estate term - - -
Factoring and asset-based - - -
Consumer - - -
---------------------------------------
Total recoveries 32 85 -
---------------------------------------
Net (recoveries) charge-offs 208 (75) 170
Provision charged to expense 1,671 843 1,424
---------------------------------------
Balance, end of year $ 4,146 $ 2,683 $ 1,765
=======================================
Ratio of net charge-offs during
the period to average loans
outstanding 0.09% -0.05% 0.20%
Ratio of allowance for credit
losses to loans outstanding
at end of year 1.41% 1.38% 1.37%
Allowance to nonperforming loans
at end of year 404.09% 4547.46% --
40
Based on an evaluation of the individual credits, historical credit
loss experienced by loan type and economic conditions, management has allocated
the allowance for loan losses as follows for the three years ended December 31:
December 31, 2004 December 31, 2003 December 31, 2002
------------------------ ------------------------ -----------------------
Percent of Percent of Percent of
loans in each loans in each loans in each
category to category to category to
(dollars in thousands) Amount total loans Amount total loans Amount total loans
------------------------ ------------------------ -----------------------
Commercial and other $ 998 34.18% $ 666 37.98% $ 771 39.03%
SBA 1,231 15.36% 1,042 20.27% 198 18.89%
Real estate construction 444 14.33% 400 18.03% 410 25.34%
Real estate term 1,132 27.17% 288 14.42% 359 13.06%
Factoring/ABL 312 7.58% 261 6.74% - 1.19%
Other 29 1.34% 26 2.56% 27 2.49%
------------------------ ------------------------ -----------------------
$4,146 99.96% $2,683 100.00% $1,765 100.00%
======================== ======================== =======================
RISK ELEMENTS
Loans for which the accrual of interest has been suspended,
restructured loans and other loans with principal or interest contractually past
due 90 days or more as set forth in the following table as of December 31 of
each year:
Nonperforming Loans
(dollars in thousands) 2004 2003 2002
---------------------------------------------
Loans accounted for on a non-accrual basis $ 1,026 $ 59 $ -
Loans restructured and in compliance with modified terms - - -
Other loans with principal or interest contracturally past due
90 days or more - - -
---------------------------------------------
$ 1,026 $ 59 $ -
=============================================
There were two non-accrual loans at December 31, 2004 totaling
$1,026,000 as compared to one non-accrual loan totaling $59,000 at December 31,
2003. There were no non-accrual loans at December 31, 2002. At December 31,
2004, the non-accrual loans consisted of two SBA loans totaling $1,026,000 of
which $712,000 is guaranteed by the U.S.Government. The remaining balance of
$314,000 is secured by business assets and real property. Of the two loans on
nonaccrual at December 31, 2004, one loan was determined to be impaired and its
carrying value reflects the fair value of the collateral securing the loan.
FUNDING
Deposits represent Bridge Bank's principal source of funds. Most of the Bank's
deposits are obtained from professionals, small- to medium sized businesses and
individuals within the Bank's market area. The Bank's deposit base consists of
non-interest and interest-bearing demand deposits, savings and money market
accounts and certificates of deposit. The following table summarizes the
composition of deposits as of December 31, 2004, 2003 and 2002.
41
DEPOSIT CATEGORIES
(dollars in thousands) 2004 2003 2002
------------------------ ------------------------- -------------------------
Percent Percent Percent
Total of total Total of total Total of total
Amount deposits Amount deposits Amount deposits
------------------------ ------------------------- -------------------------
Noninterest-bearing demand $126,895 36.00% $ 76,510 31.05% $ 76,325 49.77%
Interest-bearing demand 3,946 1.12% 6,954 2.82% 2,529 1.65%
Money market and savings 169,801 48.18% 115,930 47.05% 32,991 21.51%
Certificates of deposit:
Less than $100 16,182 4.59% 16,006 6.50% 7,621 4.97%
$100 and more 35,632 10.11% 30,994 12.58% 33,893 22.10%
------------------------ ------------------------- -------------------------
Total $352,456 100.00% $246,394 100.00% $153,359 100.00%
======================== ========================= =========================
Deposits increased $106.1 million or 43.0% from $246.4 million at
December 31, 2003 to $352.5 million at December 31, 2004. The increase in
deposits was primarily in non-interest bearing demand, money market and
certificates of deposit raised from the Bank's primary market in Santa Clara
County. The increase can be attributed to marketing efforts from the Bank's main
office in Santa Clara and branch office in Palo Alto and certificates of deposit
raised from institutions in order to manage balance sheet liquidity in addition
to expansion from general marketing from the Bank's main office in Santa Clara.
Deposits at December 31, 2004 included $55.3 million, or 15.6% of the total, in
title and escrow company account balances compared to $28.4 million, or 11.5% at
December 31, 2003 and $52.0 million, or 33.9% at December 31, 2002. Excluding
title and escrow company account balances, deposits increased $79.2 million or
36.3% compared to December 31, 2003, and increased $117 million or 115% from
2002 to 2003.
CAPITAL RESOURCES
The Company's capital resources consist of shareholders' equity, trust
preferred securities and (for regulatory purposes) the allowance for credit
losses (subject to limitations). At December 31, 2004, the Company's capital
resources increased $15,168,000 to $45,122,000 from $29,954,000 at December 31,
2003. Tier 1 capital increased 14,218,000 to $44,172,000 primarily due to net
income of $3,037,000, trust preferred securities up to the allowable limit of
$11,050,000 and issuance of stock. Tier 2 capital increased $2,413,000 comprised
of an increase in the allowance for credit losses of $1,463 and trust preferred
securities allowable for Tier 2 capital of $950,000.
The Company is subject to capital adequacy guidelines issued by the
Board of Governors and the OCC. The Company is required to maintain total
capital equal to at least 8% of assets and commitments to extend credit,
weighted by risk, of which at least 4% must consist primarily of common equity
including retained earnings (Tier 1 capital) and the remainder may consist of
subordinated debt, cumulative preferred stock or a limited amount of allowance
for credit losses. Certain assets and commitments to extend credit present less
risk than others and will be assigned to lower risk-weighted categories
requiring less capital allocation than the 8% total ratio. For example, cash and
government securities are assigned to a 0% risk-weighted category, most home
mortgage loans are assigned to a 50% risk-weighted category requiring a 4%
capital allocation and commercial loans are assigned to a 100% risk-weighted
category requiring an 8% capital allocation. As of December 31, 2004, the
Company's and the Bank's total risk-based capital ratios were approximately
13.8% and 13.2%, respectively, (14.7% for the Company and the Bank at December
31, 2003).
The Board of Governors and other federal Banking agencies have adopted a revised
minimum leverage ratio for Companying organizations as a supplement to the
risk-weighted capital guidelines. The old rule established a 3% minimum leverage
42
standard for well-run Banking organizations (Bank holding companies and Banks)
with diversified risk profiles. Banking organizations that did not exhibit such
characteristics or had greater risk due to significant growth, among other
factors, were required to maintain a minimum leverage ratio 1% to 2% higher. The
old rule did not take into account the implementation of the market risk capital
measure set forth in the federal regulatory agency capital adequacy guidelines.
The revised leverage ratio establishes a minimum Tier 1 ratio of 3% (Tier 1
capital to total assets) for the highest rated Bank holding companies and Banks.
All other Bank holding companies must maintain a minimum Tier 1 leverage ratio
of 4% with higher leverage capital ratios required for Banking organizations
that have significant financial and/or operational weaknesses, a high risk
profile, or are undergoing or anticipating rapid growth.
The following table reflects the Company's Leverage, Tier 1 and total risk-based
capital ratios for the period ended December 31, 2004 and 2003.
As of December 31,
(in thousands) 2004 2003
----------------------- -----------------------
Amount Ratio Amount Ratio
----------------------- -----------------------
COMPANY CAPITAL RATIOS
- ------------------------------------------
Tier 1 Capital $ 44,172 12.34% N/A N/A
(to Risk Weighted Assets)
Tier 1 capital minimum requirement $ 14,313 4.00% N/A N/A
Total Capital $ 49,268 13.77% N/A N/A
(to Risk Weighted Assets)
Total capital minimum requirement $ 28,625 8.00% N/A N/A
Company leverage
Tier 1 Capital $ 44,172 12.94% N/A N/A
(to Average Assets)
Total capital minimum requirement $ 13,659 4.00% N/A N/A
BANK RISK BASED CAPITAL RATIOS
- ------------------------------------------
Tier 1 Capital $ 43,058 12.03% $ 29,954 13.48%
(to Risk Weighted Assets)
Tier 1 capital minimum requirement $ 14,313 4.00% $ 8,890 4.00%
To be well capitalized under
prompt corrective action provisions $ 21,469 6.00% $ 13,336 6.00%
Total Capital $ 47,204 13.19% $ 32,637 14.68%
(to Risk Weighted Assets)
Total capital minimum requirement $ 28,625 8.00% $ 17,781 8.00%
To be well capitalized under
prompt corrective action provisions $ 35,781 10.00% $ 22,226 10.00%
Bank leverage
Tier 1 Capital $ 43,058 12.61% $ 29,954 13.47%
(to Average Assets)
Total capital minimum requirement $ 13,659 4.00% $ 8,898 4.00%
To be well capitalized under
prompt corrective action provisions $ 17,073 5.00% $ 11,123 5.00%
On December 19, 1991, the Federal Deposit Insurance Corporation
Improvement Act of 1991 (the "FDICIA") was signed into law. The FDICIA, among
other matters, substantially revised banking regulations and established a
framework for determination of capital adequacy of financial institutions. Under
the FDICIA, financial institutions are placed into one of five capital adequacy
categories as follows: (1) "Well capitalized" - consisting of institutions with
43
a total risk-based capital ratio of 10% or greater, a Tier 1 risk-based capital
ratio of 6% or greater and a leverage ratio of 5% or greater, and the
institution is not subject to an order, written agreement, capital directive or
prompt corrective action directive; (2) "Adequately capitalized" - consisting of
institutions with a total risk-based capital ratio of 8% or greater, a Tier 1
risk-based capital ratio of 4% or greater and a leverage ratio of 4% or greater,
and the institution does not meet the definition of a "well capitalized"
institution; (3) "Undercapitalized" - consisting of institutions with a total
risk-based capital ratio less than 8%, a Tier 1 risk-based capital ratio of less
than 4%, or a leverage ratio of less than 4%; (4) "Significantly
undercapitalized" - consisting of institutions with a total risk-based capital
ratio of less than 6%, a Tier 1 risk-based capital ratio of less than 3%, or a
leverage ratio of less than 3%; (5) "Critically undercapitalized" - consisting
of an institution with a ratio of tangible equity to total assets that is equal
to or less than 2%.
Financial institutions classified as undercapitalized or below are subject to
various limitations including, among other matters, certain supervisory actions
by bank regulatory authorities and restrictions related to (i) growth of assets,
(ii) payment of interest on subordinated indebtedness, (iii) payment of
dividends or other capital distributions, and (iv) payment of management fees to
a parent holding company. The FDICIA requires the bank regulatory authorities to
initiate corrective action regarding financial institutions that fail to meet
minimum capital requirements. Such action may result in orders to, among other
matters, augment capital and reduce total assets. Critically undercapitalized
financial institutions may also be subject to appointment of a receiver or
implementation of a capitalization plan.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
LIQUIDITY/INTEREST RATE SENSITIVITY
The Bank strives to manage its liquidity to provide adequate funds at
an acceptable cost to support borrowing requirements and deposit flows of its
customers. Liquidity requirements are evaluated by taking into consideration
factors such as deposit concentrations, seasonality and maturities, loan and
lease demand, capital expenditures and prevailing and anticipated economic
conditions. The Bank's business is generated primarily through customer
referrals and employee business development efforts.
The Bank is primarily a business and professional bank and, as such,
its deposit base is more susceptible to economic fluctuations. The Bank strives
to maintain a balanced position of liquid assets to volatile and cyclical
deposits. At December 31, 2004, liquid assets as a percentage of deposits were
27% as compared to 33% in 2003. In addition to cash and due from banks, liquid
assets include interest-bearing deposits with other banks, federal funds sold
and unpledged securities available for sale.
Management regularly reviews general economic and financial conditions,
both external and internal, and determines whether the positions taken with
respect to liquidity and interest rate sensitivity continue to be appropriate.
The Bank also utilizes a monthly "Gap" report as well as a quarterly simulation
model to identify rate sensitivity over the short- and long-term.
The following table sets forth the distribution of repricing
opportunities, based on contractual terms, of the Company's earning assets and
interest-bearing liabilities at December 31, 2004, the interest rate sensitivity
gap (i.e. interest rate sensitive assets less interest rate sensitive
liabilities), the cumulative interest rate sensitivity gap, the interest rate
sensitivity gap ratio (i.e. interest rate gap divided by interest rate sensitive
assets) and the cumulative interest rate sensitivity gap ratio.
Based on the contractual terms of its assets and liabilities, the Bank's balance
sheet at December 31, 2004 was asset sensitive in terms of its short-term
exposure to interest rates. That is, at December 31, 2004 the volume of assets
that might reprice within the next year exceeded the volume of liabilities that
might reprice. This position provides a hedge against rising interest rates, but
has a detrimental effect during times of rate decreases. Net interest income is
negatively impacted by a decline in interest rates and positively impacted by an
increase in interest rates. To partially mitigate the adverse impact of
declining rates, the majority of variable rate loans made by the Bank have been
written with a minimum "floor" rate.
44
DISTRIBUTION OF REPRICING OPPORTUNITIES
December 31, 2004
(dollars in thousands) After three After six After one
Within months but months but year but After
three within six within one within five
months months year five years years Total
------------------------------------------------------------------------
Federal funds sold $ 62,675 ----- ----- ----- ----- $ 62,675
Treasury/agency securities 6,107 1,993 5,974 12,224 ----- 26,298
Loans 154,912 24,456 25,408 57,110 32,700 294,586
------------------------------------------------------------------------
Total earning assets 223,694 26,449 31,382 69,334 32,700 383,559
------------------------------------------------------------------------
Interest checking, money market
and savings 173,748 ----- ----- ----- ----- 173,748
Certificates of deposit:
Less than $100,000 3,439 1,040 4,138 7,565 ----- 16,182
$100,000 or more 23,824 1,905 8,224 1,679 ----- 35,632
------------------------------------------------------------------------
Total interest-bearing liabilities 201,011 2,945 12,362 9,244 0 225,562
------------------------------------------------------------------------
Interest rate gap $ 22,683 $23,504 $19,020 $ 60,090 $ 32,700 $157,997
========================================================================
Cumulative interest rate gap $ 22,683 $46,187 $65,207 $125,297 $157,997
============================================================
Interest rate gap ratio 0.10 0.89 0.61 0.87 1.00
============================================================
Cumulative interest rate gap ratio 0.10 0.18 0.23 0.36 0.41
============================================================
The following table shows maturity and interest rate sensitivity of the
loan portfolio at December 31, 2004 and 2003. At December 31, 2004,
approximately 72% of the loan portfolio is priced with floating interest rates
which limit the exposure to interest rate risk on long-term loans.
COMMERCIAL AND REAL ESTATE LOAN MATURITIES AND INTEREST RATE SENSITIVITY
Balances at Due after one
December 31, Due one year year through Due after
(dollars in thousands) 2004 or less five years five years
- ------------------------------------------------------------------------------------------------
Commercial and other $100,681 $ 40,649 $46,138 $13,894
SBA 45,251 9,411 - 35,840
Real estate construction 42,323 37,623 4,700 -
Real estate-other 80,044 38,014 12,585 29,445
Factoring/ABL 22,342 19,638 2,704 -
Other 3,945 3,715 230 -
------------------------------------------------------------------
TOTAL $294,586 $149,050 $66,357 $79,179
==================================================================
Balances at Due after one
December 31, Due one year year through Due after
(dollars in thousands) 2003 or less five years five years
- ------------------------------------------------------------------------------------------------
Commercial and other $ 73,846 $ 36,876 $24,161 $12,809
SBA 39,412 10,943 - 28,469
Real estate construction 35,065 34,576 427 62
Real estate-other 28,036 9,225 7,829 10,982
Factoring/ABL 13,105 13,105
Other 4,985 4,329 656
------------------------------------------------------------------
TOTAL $194,449 $109,054 $33,073 $52,322
==================================================================
45
OFF-BALANCE SHEET ARRANGEMENTS AND AGGREGATE CONTRACTUAL OBLIGATIONS
The definition of "off-balance sheet arrangements" includes any transaction,
agreement or other contractual arrangement to which an entity is a party under
which we have:
o Any obligation under a guarantee contract that has the characteristics
as defined in paragraph 3 of FASB Interpretation No. 45, "Guarantor's
Accounting and Disclosure Requirements for Guarantee including
Indirect Guarantees of Indebtedness to Others" ("FIN 45");
o A retained or contingent interest in assets transferred to an
unconsolidated entity or similar arrangement that serves as credit,
liquidity or market risk support to that entity for such assets, such
as a subordinated retained interest in a pool of receivables
transferred to an unconsolidated entity,
o Any obligation, including a contingent obligation, under a contract
that would be accounted for as a derivative instrument, except that it
is both indexed to the registrant's own stock and classified in
stockholders' equity; or
o Any obligation, including contingent obligations, arising Out of a
material variable interest, as defined in FASB Interpretation No. 46,
"Consolidation of Variable Interest Entities" ("FIN 46"), in an
unconsolidated entity that provides financing, liquidity, market risk
or credit risk support to the registrant, or engages in leasing,
hedging or research and development services with the registrant.
In the ordinary course of business, we have issued certain guarantees
which qualify as off-balance sheet arrangements, as of December 31, 2004 those
guarantees include the following:
Financial Letters of Credit in the amount of $3,928,000.
The table below summarizes the Bank's off-balance sheet contractual obligations.
Off-balance Sheet Arrangement and Aggregate Contractual Obligations
Payments due by period
-------------------------------------------------------------------------
Contractural Obligations Less than 1 - 3 3 - 5 More than
Total 1 year years years 5 years
- ---------------------------------------------------------------------------------------------------------
Long-term contracts $ 435,000 $ 334,000 $ 101,000 $ - $ -
Operating leases 9,396,000 899,000 1,422,000 1,735,000 5,340,000
-------------------------------------------------------------------------
Total $ 9,831,000 $ 1,233,000 $ 1,523,000 $ 1,735,000 $ 5,340,000
=========================================================================
46
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
INDEX TO FINANCIAL STATEMENTS
Page
----
Report of Independent Registered Public Accounting Firm 47
Balance Sheet, December 31, 2004 and 2003 48
Statement of operations for the years ended December 31,
2004, 2003 and 2002 49
Statement of Shareholders' Equity and Comprehensive Income
for the Years ended December 31, 2004, 2003 and 2002 50
Statement of Cash Flows for the years ended December 31,
2004, 2003 and 2002 51
Notes to Financial Statements 52-70
All schedules have been omitted since the required information is not
present or not present in amounts sufficient to require submission of the
schedule or because the information required is included in the Financial
Statements or notes thereto.
*****
47
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
TO THE BOARD OF DIRECTORS AND SHAREHOLDERS OF BRIDGE CAPITAL HOLDINGS:
In our opinion, the consolidated financial statements listed in the accompanying
index present fairly, in all material respects, the financial position of Bridge
Capital Holdings and its subsidiary at December 31, 2004 and December 31, 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. These financial
statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements. We
conducted our audits of these statements in accordance with the standards of the
Public Company Accounting Oversight Board (United States). Those standards
require that we plan and perform the audit to obtain reasonable assurance about
whether the financial statements are free of material misstatement. An audit
includes examining, on a test basis, evidence supporting the amounts and
disclosures in the financial statements, assessing the accounting principles
used and significant estimates made by management, and evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
MARCH 8, 2005
48
BRIDGE CAPITAL HOLDINGS AND SUBSIDIARY
CONSOLIDATED BALANCE SHEET
(dollars in thousands)
As of December 31,
ASSETS 2004 2003
-----------------------------------
CASH AND DUE FROM BANKS $ 6,535 $ 9,572
FEDERAL FUNDS SOLD 62,675 47,975
-----------------------------------
Total cash and equivalents 69,210 57,547
-----------------------------------
INVESTMENT SECURITIES AVAILABLE FOR SALE 26,298 24,347
LOANS, net of allowance for credit losses of $4,146 in 2004 and
$2,683 in 2003 289,467 191,053
PREMISES AND EQUIPMENT, net 2,215 1,515
ACCRUED INTEREST RECEIVABLE 1,366 864
OTHER ASSETS 13,481 3,253
-----------------------------------
TOTAL $ 402,037 $ 278,579
===================================
LIABILITIES AND SHAREHOLDERS' EQUITY
DEPOSITS:
Demand noninterest-bearing $ 126,895 $ 76,510
Demand interest-bearing 3,946 6,954
Savings 169,801 115,930
Time 51,814 47,000
-----------------------------------
Total deposits 352,456 246,394
-----------------------------------
OTHER BORROWINGS 12,000 -
ACCRUED INTEREST PAYABLE 69 48
OTHER LIABILITIES 4,390 2,183
-----------------------------------
Total liabilities 368,915 248,625
-----------------------------------
COMMITMENTS AND CONTINGENCIES - -
SHAREHOLDERS' EQUITY
Preferred stock, $2.50 par value; 10,000,000 shares authorized;
none issued
Common stock, $2.50 par value; 10,000,000 shares authorized;
6,097,697 shares issued and outstanding at December 31, 2004.
6,051,646 shares issued and outstanding at December 31, 2003. 33,057 32,800
Retained earnings (accumulated deficit) 184 (2,853)
Accumulated other comprehensive (loss) income (119) 7
-----------------------------------
Total shareholders' equity 33,122 29,954
-----------------------------------
TOTAL $ 402,037 $ 278,579
===================================
The accompanying notes are an integral part of the financial statements.
49
BRIDGE CAPITAL HOLDINGS AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF OPERATIONS
(dollars in thousands, except per share amounts)
Year ended
December 31,
2004 2003 2002
----------------------------------------------------
INTEREST INCOME:
Loans $ 18,378 $ 11,587 $ 6,318
Federal funds sold 546 407 362
Interest-bearing deposits in other banks - - 19
Investment securities available for sale 533 139 271
Other - - 32
----------------------------------------------------
Total interest income 19,457 12,133 7,002
----------------------------------------------------
INTEREST EXPENSE:
Deposits:
Interest-bearing demand 21 30 25
Money market and savings 1,833 1,040 491
Certificates of deposit 1,020 1,165 676
Other 22 - -
----------------------------------------------------
Total interest expense 2,896 2,235 1,192
----------------------------------------------------
Net interest income 16,561 9,898 5,810
Provision for credit losses 1,671 843 1,424
----------------------------------------------------
NET INTEREST INCOME AFTER PROVISION
FOR CREDIT LOSSES 14,890 9,055 4,386
----------------------------------------------------
OTHER INCOME:
Service charges on deposit accounts 362 194 38
Gain on sale of SBA loans 2,737 2,095 1,335
Other non interest income 756 375 87
----------------------------------------------------
Total other income 3,855 2,664 1,460
----------------------------------------------------
OTHER EXPENSES:
Salaries and benefits 8,081 6,594 5,094
Occupancy 1,420 890 741
Furniture and equipment 585 561 464
Marketing 612 370 461
Data services 763 536 373
Third party services 95 35 209
Deposit services/supplies 311 193 184
Professional services 645 340 253
Other 1,084 695 751
----------------------------------------------------
Total other expenses 13,596 10,214 8,530
----------------------------------------------------
INCOME (LOSS) BEFORE INCOME TAXES 5,149 1,505 (2,684)
Income taxes 2,112 (1,868) 1
----------------------------------------------------
NET INCOME (LOSS) $ 3,037 $ 3,373 $ (2,685)
====================================================
Basic earnings (loss) per share $0.50 $0.56 $(0.53)
====================================================
Diluted earnings (loss) per share $0.46 $0.53 $(0.53)
====================================================
Average common shares outstanding 6,063,028 6,050,826 5,053,800
====================================================
Average common share equivalents outstanding 6,595,413 6,375,399 5,053,800
====================================================
The accompanying notes are an integral part of the financial statements.
50
BRIDGE CAPITAL HOLDINGS AND SUBSIDIARY
CONSOLIDATED STATEMENT OF SHAREHOLDERS' EQUITY AND COMPREHENSIVE INCOME
PERIODS ENDED DECEMBER 31, 2002, 2003 AND 2004
(dollars in thousands, except share data)
Accumulated Total
Other Share-
Common Stock Retained Comprehensive holders'
Shares Amount Earnings Income Equity
- --------------------------------------------------------------------------------------------------------------------
Balances, December 31, 2001 3,828,700 $19,065 $(3,541) $ 0 $15,524
================================================================================================================
Issuance of common stock, net 2,215,384 13,695 ---- ---- 13,695
Stock options exercised 5,875 30 ---- ---- 30
Net loss for the year ---- ---- (2,685) ---- (2,685)
- ----------------------------------------------------------------------------------------------------------------
Balances, December 31, 2002 6,049,959 $32,790 $(6,226) $ 0 $26,564
================================================================================================================
Stock options exercised 1,687 10 ---- ---- 10
Other comprehensive income- unrealized .
gain on securities available for sale, net ---- ---- ---- 7 7
Net income for the year ---- ---- 3,373 3,373
- ----------------------------------------------------------------------------------------------------------------
Balances, December 31, 2003 6,051,646 $32,800 $(2,853) $ 7 $29,954
================================================================================================================
Stock options exercised 46,051 257 ---- ---- 257
Other comprehensive income- unrealized .
loss on securities available for sale, net ---- ---- ---- (126) (126)
Net income for the year ---- ---- 3,037 3,037
- ----------------------------------------------------------------------------------------------------------------
Balances, December 31, 2004 6,097,697 $33,057 $ 184 $(119) $33,122
================================================================================================================
The accompanying notes are an integral part of the financial statements.
51
BRIDGE CAPITAL HOLDINGS AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS
(dollars in thousands)
Year ended December 31,
2004 2003 2002
-------------------------------------------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income (loss) $ 3,037 $ 3,373 $ (2,685)
Adjustments to reconcile net income to net cash
provided by operating activities:
Provision for credit losses 1,671 843 1,424
Depreciation and amortization 908 691 458
Increase in accrued interest receivable and other assets (2,730) (2,440) (421)
Increase in accrued interest payable and other liabilities 2,314 962 704
-------------------------------------------
Net cash (used in) provided by operating activities 5,200 3,429 (520)
-------------------------------------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchase of securities available for sale (17,554) (20,000) (15,710)
Proceeds from maturities of securities available for sale 15,200 12,277 15,277
Purchase of interest bearing deposits - - -
Proceeds from maturities of interest bearing deposits - - 3,994
Net increase in loans (100,085) (65,551) (92,188)
Purchase of life insurance (8,000)
Purchase of fixed assets (1,417) (499) (887)
-------------------------------------------
Net cash (used in) investing activities (111,856) (73,773) (89,514)
-------------------------------------------
CASH FLOW FROM FINANCING ACTIVITIES:
Net increase in deposits 106,062 93,035 73,259
Proceeds from sale of common stock 257 10 13,725
Increase in other borrowings 12,000 - -
-------------------------------------------
Net cash provided by financing activities 118,319 93,045 86,984
-------------------------------------------
Net increase (decrease) in cash and equivalents 11,663 22,701 (3,050)
Cash and equivalents at beginning of period 57,547 34,846 37,896
-------------------------------------------
Cash and equivalents at end of period $ 69,210 $ 57,547 $ 34,846
===========================================
OTHER CASH FLOW INFORMATION:
Cash paid for interest $ 2,694 $ 2,112 $ 1,130
Cash paid for income taxes 2,101 - 1
===========================================
The accompanying notes are an integral part of the financial statements.
52
BRIDGE CAPITAL HOLDINGS
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 2004, 2003 AND 2002
1. SIGNIFICANT ACCOUNTING POLICIES
BUSINESS - Bridge Bank, N.A. commenced business in Santa Clara,
California on May 14, 2001. Its main office is located at 55 Almaden
Blvd, San Jose, California, 95113. The Bank conducts commercial and
retail banking business, which includes accepting demand, savings and
time deposits and making commercial, real estate and consumer loans. It
also issues cashier's checks, sells travelers checks and provides other
customary banking services.
On October 1, 2004, Bridge Bank, National Association announced
completion of a bank holding company structure which was approved by
shareholders at the Bank's annual shareholders' meeting held on May 20,
2004. The bank holding company, formed as a California corporation, is
named Bridge Capital Holdings. Information in this report dated prior
to September 30, 2004 is for Bridge Bank, N.A.
Bridge Capital Holdings was formed for the purpose of serving as the
holding company for Bridge Bank and will be supervised by the Board of
Governors of the Federal Reserve System. Effective October 1, 2004,
Bridge Capital Holdings acquired 100% of the voting shares of Bridge
Bank, National Association. As a result of the transaction, the former
shareholders of Bridge Bank received one share of common stock of
Bridge Capital Holdings for every one share of common stock of Bridge
Bank owned.
Prior to the share exchange, the common stock of the Bank had been
registered with the Office of Comptroller of the Currency. As a result
of the share exchange, common stock of Bridge Capital Holdings is now
considered registered with the Securities and Exchange Commission.
Future filings under the federal securities laws will be made with the
SEC rather than the Office of the Comptroller of the Currency and will
be available on the SEC's website, http://www.sec.gov as well as on the
Company's website http://www.bridgebank.com.
BASIS OF PRESENTATION - The accounting and reporting policies of Bridge
Capital Holdings and Bridge Bank, N.A. conform to generally accepted
accounting principles and prevailing practices within the banking
industry.
USE OF ESTIMATES - The preparation of financial statements in
conformity with generally accepted accounting principles requires
management to make estimates and assumptions that affect reported
amounts of assets, liabilities, revenues and expenses, and disclosure
of contingent assets and liabilities as of the dates and for the
periods presented. A significant estimate included in the accompanying
financial statements is the allowance for loan losses. Actual results
could differ from those estimates.
EARNINGS PER SHARE - Basic net income per share is computed by dividing
net income applicable to common shareholders by the weighted average
number of common shares outstanding during the period. Diluted net
income per share is determined using the weighted average number of
common shares outstanding during the period, adjusted for the dilutive
effect of common stock equivalents, consisting of shares that might be
issued upon exercise of common stock options. Common stock equivalents
are included in the diluted net income per share calculation to the
extent these shares are dilutive.
53
Earnings per share calculation (dollars in thousands, except per share amounts)
Year ended December 31,
2004 2003 2002
--------------- ---------------- ---------------
Net income (loss) $3,037,000 $3,373,000 $(2,685,000)
--------------- ---------------- ---------------
Weighted average shares used in computing:
Basic earnings per share 6,063,028 6,050,826 5,053,853
Dilutive potential common shares related to stock
options, using the treasury stock method 733,661 324,573 0
--------------- ---------------- ---------------
Total average shares and equivalents 6,796,689 6,375,399 5,053,853
Basic income (loss) per share $ 0.50 $ 0.56 $ (0.53)
=============== ================ ===============
Diluted income (loss) per share $ 0.46 $ 0.53 $ (0.53)
=============== ================ ===============
All options are dilutive.
CASH EQUIVALENTS - For purposes of reporting cash flows, cash and cash
equivalents include cash on hand, amounts due from banks, Federal Funds
sold and highly liquid debt instruments purchased with an original
maturity of three months or less. The Company is required to maintain
non-interest earning cash reserves against certain of the deposit
accounts. As of December 31, 2004, aggregate reserves (in the form of
deposits with the Federal Reserve Bank) of $1,041,000 were maintained.
SECURITIES - The Company classifies its investment securities into two
categories, available for sale and held to maturity, at the time of
purchase. Securities available for sale are reported at fair value with
net unrealized holding gains or losses, net of tax, recorded as a
separate component of shareholders' equity. Securities held to maturity
are measured at amortized cost based on the Bank's positive intent and
ability to hold the securities to maturity.
Premiums and discounts are amortized or accreted over the life of the
related security as an adjustment to yield using the effective interest
method. Dividend and interest income is recognized when earned. Gains
and losses on sales of securities are computed on a specific
identification basis.
LOANS - Loans are stated at the principal amount outstanding less the
allowance for credit losses and net deferred loan fees. Interest on
loans is credited to income as earned. Loans are generally placed on
nonaccrual status and any accrued and unpaid interest is reversed when
the payment of principal or interest is 90 days past due unless the
loan is both well secured and in the process of collection. Interest
accruals are resumed on such loans only when they are brought current
with respect to interest and principal and when, in the judgment of
management, the loans are estimated to be fully collectible as to both
principal and interest.
Loan origination fees and costs are deferred and amortized to income at
the instrument level using the effective interest method based on the
contractual lives adjusted for prepayments.
ALLOWANCE FOR CREDIT LOSSES - The allowance for credit losses is
established through a provision charged to expense. Loans are charged
off against the allowance when management believes that the collection
54
of principal is unlikely. The allowance is an amount that management
believes will be adequate to absorb known and probable losses in the
loan portfolio. The allowance is based on a number of factors including
prevailing economic trends, industry experience, estimated collateral
values, management's assessment of credit risk inherent in the
portfolio, delinquency trends, historical loss experience, specific
problem loans and other relevant factors. Because the allowance for
loan losses is based on estimates, ultimate losses may vary from
current estimates.
ACCOUNTING FOR IMPAIRED LOANS - A loan is considered impaired when it
is probable that interest and principal will not be collected according
to the contractual terms of the loan agreement. Any allowance on
impaired loans is generally based on three methods. 1) present value of
expected future cash flows discounted at the loan's effective interest
rate or, 2) as a practical expedient, at the loan's observable market
price or 3) the fair value of the collateral if the loan is collateral
dependent. Income recognition on impaired loans is consistent with the
policy for income recognition on non-accrual loans described above.
PREMISES AND EQUIPMENT - Premises and equipment are stated at cost less
accumulated depreciation and amortization. Depreciation and
amortization are computed on a straight-line basis over the shorter of
the lease term or the estimated useful lives of the assets, which are
generally three years for computer equipment, three to five years for
furniture, fixtures and equipment and five to ten years for leasehold
improvements.
OTHER REAL ESTATE OWNED - Other real estate owned ("OREO") consist of
properties acquired through foreclosure. We value these properties at
the lower of cost or fair value less estimated costs to sell at the
time we acquire them, which establishes the new cost basis. We charge
against the allowance for credit losses any losses arising at the time
of acquisition of such properties. After we acquire them, we carry such
properties at the lower of cost or fair value less estimated selling
costs. If we record any write-downs or losses from disposition of such
properties after acquiring them, we include this amount in other
noninterest expense. Development and improvement costs relating to OREO
are capitalized (assuming they are recoverable).
INCOME TAXES - Deferred tax assets and liabilities are recognized at
currently enacted rates applicable to the period in which the deferred
tax assets and liabilities are expected to be realized and settled.
Deferred income taxes are provided on income and expense items
recognized in different periods for financial statement and tax
reporting purposes. The Bank eliminated its valuation allowance with
respect to its net deferred tax asset of approximately $2.0 million as
of December 31, 2003. During 2003, it was determined that the net
deferred tax asset meets the realizability standards of SFAS No. 109
and, as such the valuation allowance was eliminated. No valuation
allowance was deemed necessary based on the judgment of Bank management
that future earnings would be sufficient to realize the benefit of all
of its deferred tax assets. The reduction in valuation allowance
resulted in a credit to income tax expense of approximately $1.9
million for the tax year ended December 31, 2003.
STOCK-BASED AWARDS - In October 1995, the Financial
Accounting Standards Board issued SFAS No. 123 "Accounting for Stock
Based Compensation" as amended by SFAS No. 148 "Accounting for Stock
-Based Compensation. Under the provisions of SFAS No. 123, the Company
is encouraged, but not required, to measure compensation costs related
to its employee stock compensation plan under the fair value method. If
the Company elects not to recognize compensation expense under this
method, it is required to disclose the pro forma net income and net
income per share effects based on SFAS No. 123 fair value methodology.
The Company has elected to adopt the disclosure provisions of this
statement.
55
The Company's stock options generally vest annually over a period of 3
to 4 years. If the computed fair value of the 2002 awards had been
amortized to expense over the vesting period of the awards, pro for a
net income would have been as follows:
Year ended Year ended Year ended
December 31, December 31, December 31,
2004 2003 2002
---------------------------------------------------
Net income (loss):
As reported $3,037,000 $3,373,000 $(2,685,000)
Stock based employee
compensation, net of tax, that
would have been included in
the determination of net
income if the fair value method
had been applied to all awards $ (214,000) $ (414,000) $ (287,000)
Pro forma $2,823,000 $2,959,000 $(2,972,000)
Basic income (loss) per share:
As reported $ 0.50 $ 0.56 $ (0.53)
Pro forma $ 0.47 $ 0.49 $ (0.59)
Diluted income (loss) per share:
As reported $ 0.46 $ 0.53 $ (0.53)
Pro forma $ 0.43 $ 0.46 $ (0.59)
COMPREHENSIVE INCOME - SFAS No. 130, "Reporting Comprehensive Income"
requires that all items recognized under accounting standards as
components of comprehensive earnings be reported in an annual financial
statement that is displayed with the same prominence as other annual
financial statements. This Statement also requires that an entity
classify items of other comprehensive earnings by their nature in an
annual financial statement. Other comprehensive earnings include
unrealized gains and losses, net of tax, on marketable securities
classified as available-for-sale. The Company had other comprehensive
income totaling ($119,000), net of tax, at December 31, 2004 and
$7,000, net of tax, at December 31, 2003. The Company had no other
comprehensive income for 2002.
Period ended December 31,
2004 2003 2002
------------ ----------- -----------
Net income (loss) $3,037 $3,373 $(2,685)
Other comprehensive earnings-
Net unrealized gains (losses) on
securities available for sale (126) 7 -
------------ ----------- -----------
Total comprehensive income (loss) $2,911 $3,380 $(2,685)
56
SEGMENTS OF AN ENTERPRISE AND RELATED INFORMATION - SFAS No. 131,
"Disclosure about Segments of an Enterprise and Related Information,
requires certain information about the operating segments of the
Company. The objective of requiring disclosures about segments of an
enterprise and related information is to provide information about the
different types of business activities in which an enterprise engages
and the different economic environment in which it operates to help
users of financial statements better understand its performance, better
assess its prospects for future cash flows and make more informed
judgments about the enterprise as a whole. The Company has determined
that it has one segment, general commercial banking, and therefore it
is appropriate to aggregate the Company's operations into a single
operating segment.
2. EARNINGS PER SHARE
Basic net earnings (loss) per share is computed by dividing net
earnings (loss) applicable to common shareholders by the weighted
average number of common shares outstanding during the period. Diluted
net earnings (loss) per share is determined using the weighted average
number of common shares outstanding during the period, adjusted for the
dilutive effect of common stock equivalents, consisting of shares that
might be issued upon exercise of common stock options. Common stock
equivalents are included in the diluted net earnings (loss) per share
calculation to the extent these shares are dilutive. A reconciliation
of the numerator and denominator used in the calculation of basic and
diluted net earnings (loss) per share available to common shareholders
is as follows (in thousands, except for per share amounts):
Earnings per share calculation (dollars in thousands, except per share amounts)
Year ended December 31,
2004 2003 2002
--------------- ---------------- ---------------
Net income (loss) $3,037,000 $3,373,000 $(2,685,000)
--------------- ---------------- ---------------
Weighted average shares used in computing:
Basic earnings per share 6,063,028 6,050,826 5,053,853
Dilutive potential common shares related to stock
options, using the treasury stock method 733,661 324,573 0
--------------- ---------------- ---------------
Total average shares and equivalents 6,796,689 6,375,399 5,053,853
Basic income (loss) per share $ 0.50 $ 0.56 $ (0.53)
=============== ================ ===============
Diluted income (loss) per share $ 0.46 $ 0.53 $ (0.53)
=============== ================ ===============
There were no securities (including those issuable pursuant to
contingent stock agreements) that could potentially dilute basic EPS in
the future that were not included in the computation of diluted EPS
because to do so would have been antidilutive for the period(s)
presented.
57
4. SECURITIES
The amortized cost and estimated fair values of securities at December
31 are as follow:
(dollars in thousands) as of December 31, 2004
----------------------------------------------
Gross Unrealized Fair
----------------------
Cost Gains Losses Value
----------------------------------------------
U. S. Government Treasuries $ 100 $ - $ - $ 100
U. S. Government Agencies 26,400 - (202) 26,198
----------------------------------------------
Total available for sale 26,500 - (202) 26,298
----------------------------------------------
Total investment securities portfolio $ 26,500 $ - $ (202) $ 26,298
==============================================
as of December 31, 2003
----------------------------------------------
Gross Unrealized Fair
----------------------
Cost Gains Losses Value
----------------------------------------------
U. S. Government Treasuries $ 100 $ - $ - $ 100
U. S. Government Agencies 14,236 13 (2) 14,247
Money Market Mutual Funds 10,000 - - 10,000
----------------------------------------------
Total available for sale 24,336 13 (2) 24,347
Total investment securities portfolio $ 24,336 $13 $(2) $ 24,347
==============================================
The scheduled maturities of securities (other than equity
securities) available for sale at December 31, 2004, 2003 and 2003 were
as follows:
58
MATURITY OF INVESTMENT SECURITIES PORTFOLIO
(dollars in thousands) December 31, 2004
-------------------------------
Amortized Fair
Securities available for sale Cost Value
-------------------------------
Due in one year or less $ 14,116 $ 14,074
Due after one year through five years 12,384 12,224
Due after five years through ten years - -
Due after ten years - -
-------------------------------
Total securities available for sale 26,500 26,298
-------------------------------
Total Investment securities $ 26,500 $ 26,298
===============================
December 31, 2003
-------------------------------
Amortized Fair
Securities available for sale Cost Value
-------------------------------
Due in one year or less $ 10,100 $ 10,100
Due after one year through five years 14,236 14,247
Due after five years through ten years - -
Due after ten years - -
-------------------------------
Total securities available for sale 24,336 24,347
-------------------------------
Total Investment securities $ 24,336 $ 24,347
===============================
December 31, 2002
-------------------------------
Amortized Fair
Securities available for sale Cost Value
-------------------------------
Due in one year or less $ 16,630 $ 16,630
Due after one year through five years - -
Due after five years through ten years - -
Due after ten years - -
-------------------------------
Total securities available for sale 16,630 16,630
-------------------------------
Total Investment securities $ 16,630 $ 16,630
===============================
As of December 31, 2004, investment securities with carrying
values of approximately $100,000 were pledged as collateral. As of
December 31, 2004, no unrealized losses were attributable to securities
positioned for the period greater than 12 months.
5. LOANS AND ALLOWANCES FOR CREDIT LOSSES
The following summarizes loans and activity in the allowance
for loan losses for the years ended December 31, 2004, 2003 and 2002.
ANALYSIS OF THE ALLOWANCE FOR CREDIT LOSSES:
(dollars in thousands)
2004 2003 2002
------------------------------
Balance, beginning of period $ 2,683 $ 1,765 $ 511
Provision for credit losses 1,671 843 1,424
Charge-offs (240) (10) (170)
Recoveries 32 85 -
-------------------------------
Balance, end of period $ 4,146 $ 2,683 $ 1,765
===============================
59
There were two non-accrual loans at December 31, 2004 totaling
$1,026,000 as compared to one non-accrual loan totaling $59,000 at
December 31, 2003. There were no non-accrual loans at December 31,
2002. At December 31, 2004, the non-accrual loans consisted of two SBA
loans totaling $1,026,000 of which $712,000 is guaranteed by the
U.S.Government. The remaining balance of $314,000 is secured by
business assets and real property. Of the two loans on nonaccrual at
December 31, 2004, one loan was determined to be impaired and its
carrying value reflects the fair value of the collateral securing the
loan.
6. PREMISES AND EQUIPMENT
Premises and equipment at December 31, are comprised of the following
(dollars in thousands):
PREMISES AND EQUIPMENT
(dollars in thousands)
2004 2003 2002
-------------------------------------------
Leasehold improvements $ 1,590 $ 981 $ 813
Furniture and Equipment 1,488 1,181 1,006
Capitalized Software 1,066 655 577
-------------------------------------------
Premises and equipment 4,144 2,817 2,396
Less accumulated depreciation and amortization (1,929) (1,302) (706)
-------------------------------------------
Premises and equipment, net $ 2,215 $ 1,515 $ 1,690
===========================================
Depreciation and amortization amounted to $717,000, $674,000
and $499,000 for the years ended December 31, 2004, 2003 and 2002,
respectively, and have been included in occupancy and/or furniture and
equipment expense, depending on the nature of the expense, in the
accompanying statements of operations.
7. DEPOSITS
The aggregate amount of time deposits, each with a minimum
denomination of $100,000 at December 31, 2004, 2003 and 2002 was
approximately $35,632,000, $30,994,000 and $38,893,000, respectively.
At December 31, 2004, time deposits of $100,000 or more have remaining
maturities as follows:
(in thousands)
3 months or less $ 24,496
Over 3 months to 6 months 1,343
Over 6 months to 12 months 8,114
Over 1 year to 5 years 1,679
---------------
TOTAL $ 35,632
===============
60
At December 31, 2004, the scheduled maturities of all time deposits are as
follows:
(dollars in thousands)
2005 $42,570
2006 6,692
2007 2,349
2008 103
2009 100
---------------
$51,814
===============
8. INCOME TAXES
Income tax expense (benefit) consists of the following for the
years ended December 31, 2004, 2003 and 2002 (dollars in thousands):
Income tax expense (benefit) consists of the following:
`
2004 2003 2002
---------------------------------------------
Current:
Federal $ 1,825 $ 25 $ -
State 489 185 1
---------------------------------------------
Total current 2,314 210 1
---------------------------------------------
Deferred:
Federal (211) (1,587) -
State 8 (491) -
---------------------------------------------
Total deferred (203) (2,078) -
---------------------------------------------
Income taxes $ 2,111 $ (1,868) $ 1
=============================================
Deferred income taxes reflect the net tax effect of temporary
differences between carrying amount of assets and liabilities for
financial reporting purposes and the amount used for income tax
purposes. The tax effects of temporary differences that gave rise to
2004 2003 2002
-----------------------------------------
Deferred tax assets (liability):
Deferred Loan Fee $ 340,000 $ 250,000 $ -
Allowance for credit losses 1,246,000 597,000 660,000
Deferred Pre-opening expenses 153,000 240,000 357,000
State income taxes 536,000 467,000 348,000
Fixed assets (113,000) (91,000) 135,000
Other - 7,000 -
Accrued expenses 119,000 47,000 27,000
Net operating loss - 561,000 987,000
-----------------------------------------
Deferred tax asset 2,281,000 2,078,000 2,514,000
-----------------------------------------
Valuation Allowance - - (2,514,000)
-----------------------------------------
Net Deferred Tax Asset $2,281,000 $2,078,000 $ -
=========================================
61
significant portions of deferred tax assets at December 31, 2004, 2003
and 2002 are as follows:
As of December 31, 2003, the Bank has a net operating loss carryforward
for federal income tax purposes of approximately $1.6 million and a net
operating loss carryforward of approximately $2.7 million for state tax
purposes. These losses expire in 2022 (federal) and 2012 (state).
During 2002, the State of California enacted legislation which
suspended the utilization of corporate net operating losses for the
2002 and 2003 tax years. Subsequent to 2003, the Bank expects to be
permitted to deduct its net operating loss carryover in determining its
taxable income for California purposes.
The Bank eliminated its valuation allowance with respect to
its net deferred tax asset of approximately $2.0 million as of December
31, 2003. During 2003, it was determined that the deferred tax asset
meets realizability standards of SFAS No. 109 and, as such the
valuation allowance was eliminated. No valuation allowance was deemed
necessary based on the judgment of Bank management that future earnings
would be sufficient to realize the benefit of all its deferred tax
assets. The reduction in valuation allowance resulted in a credit to
income tax expense of approximately $1.9 million for the tax year ended
December 31,2003.
Rate Reconciliation:
The effective tax rate differs from the federal statutory rate as follows:
2004 2003 2002
------------------------------------------
Federal statutory rate 35.0% 35.0% 35.0%
State income tax, net of
federal effect 6.3% -20.4% 0.0%
Other, net -0.3% 2.3% -0.6%
Valuation allowance 0.0% -141.0% -34.4%
------------------------------------------
Income taxes 41.0% -124.0% 0.0%
==========================================
9. STOCK OPTION PLAN
At December 31, 2004 the total authorized shares issuable under the
Bridge Capital Holdings Stock Option Plan (the "Plan") was
approximately 1,813,225 shares and the number of shares available for
future grant was approximately 503,638 shares.
Options issued under the Plan may be granted to employees and
nonemployee directors and may be either incentive or nonqualified stock
options as defined under current tax laws. The exercise price of each
option must equal the market price of the Bank's stock on the date of
the grant. The term of the option may not exceed 10 years and generally
vests over a 4 year period.
A summary of the Bank's stock options as of December 31, 2004, 2003 and
2002 and changes during the period ended on that date is presented
below:
62
Options Outstanding
--------------------------------------
Number Weighted Average
of Shares Exercise Price
--------------------------------------
Balances, December 31, 2001 931,500 $ 5.19
Granted 235,250 $ 6.35
(weighted average value of $1.99)
Exercised (5,875) $ 5.00
Cancelled (113,125) $ 5.59
Expired -$ 0.00
-------------
Balances, December 31, 2002 1,047,750 $ 5.41
Granted 76,800 $ 6.35
(weighted average value of $1.76)
Exercised (1,687) $ 5.00
Cancelled (13,938) $ 5.59
Expired -
-------------
Balances, December 31, 2003 1,108,925 $ 5.65
Granted 193,850 $13.14
(weighted average value of $3.49)
Exercised (46,051) $ 5.58
Cancelled (750) $ 6.44
Expired -
-------------
Balances, December 31, 2004 1,255,974 $ 6.81
Options exercisable at December 31, 2004 and 2003 were 503,638 and
551,728, respectively.
The following table summarizes information about stock options
outstanding at December 31, 2004.
Options Outstanding Options Exercisable
------------------------------------------------------------------
Weighted Weighted Weighted
Number Average average Number average
Outstanding remaining exercise exercisable exercise
Exercise Price range (000's) life (years) price (000's) price
- ---------------------------------------------------------------------------------------------
$ 5.00 - $ 5.75 732,074 6.3 $ 5.071 673,823 $ 5.062
$ 5.76 - $ 6.50 255,625 7.3 $ 6.317 138,750 $ 6.296
$ 6.51 - $10.00 46,425 8.4 $ 7.263 8,950 $ 7.301
$10.01 - $13.50 194,050 9.3 $12.711 6,999 $12.218
$13.51 - $16.23 27,800 9.9 $15.215 0 $ 0.000
In October, 1995, the Financial Accounting Standards Board issued SFAS
No. 123, "Accounting for Stock-Based Compensation" ("SFAS 123"). Under
the provisions of SFAS No. 123, the Company is encouraged, but not
required, to measure compensation costs related to its employee stock
compensation plan under the fair value method. If the Company elects
not to recognize compensation expense under this method, it is required
to disclose the pro forma net income and net income per share effects
based on SFAS No. 123 fair value methodology. The Company has elected
to adopt the disclosure provisions of this statement.
63
The Company applies Accounting Principles Board ("APB") Opinion No. 25,
"Accounting for Stock Issued to Employees" and related interpretations
in its accounting for stock options. Accordingly, no compensation cost
has been recognized for its stock option plan. Had compensation for the
Company's stock option plan been determined consistent with SFAS No.
123, the Company's net income per share would have been decreased to
the pro forma amounts indicated below.
Weighted Average Assumptions
2004 2003 2002
---------------------------------------
Expected life 60 months 60 months 60 months
Stock Volatility 21.90% 14.00% 26.00%
Risk free interest rate 3.18% 2.70% 4.07%
Dividend yield 0.00% 0.00% 0.00%
Under SFAS 123, the fair value of stock-based awards to employees is
calculated through the use of option pricing model, even though such
models were developed to estimate the fair value of freely tradable,
fully transferable options without vesting restriction, which
significantly differ from the Company's stock option awards. These
models also require subjective assumptions, including future stock
price volatility and expected time to exercise, which greatly affect
the calculated values. The Company's calculations were made using the
Black-Scholes option pricing model with the following weighted average
assumptions:
The Bank's stock options generally vest annually over a period of 3 to
4 years. If the computed fair value of the 2002 awards had been
amortized to expense over the vesting period of the awards, pro forma
net income would have been as follows:
Year ended Year ended Year ended
December 31, December 31, December 31,
2004 2003 2002
---------------------------------------------------
Net income (loss):
As reported $ 3,037,000 $ 3,373,000 $(2,685,000)
Stock based employee
compensation, net of tax, that
would have been included in
the determination of net
income if the fair value method
had been applied to all awards $ (214,000) $ (414,000) $ (287,000)
---------------------------------------------
Pro forma $ 2,823,000 $ 2,959,000 $(2,972,000)
Basic income (loss) per share:
As reported $ 0.50 $ 0.56 $ (0.53)
Pro forma $ 0.47 $ 0.49 $ (0.59)
Diluted income (loss) per share:
As reported $ 0.46 $ 0.53 $ (0.53)
Pro forma $ 0.43 $ 0.46 $ (0.59)
10. PENSION BENEFIT PLANS
Effective August 1, 2004, the Bank established the Supplemental
Executive Retirement Plan (SERP), an unfunded noncontributory defined
64
benefit pension plan. The SERP provides retirement benefits to a select
group of key executives and senior officers based on years of service
and final average salary. The Bank uses a December 31, measurement date
for this plan.
OBLIGATIONS AND FUNDED STATUS At December 31,
2004
-------------------
CHANGE IN BENEFIT OBLIGATION
Projected benefit obligation at beginning of year $ -
Service cost 150,312
Interest cost 35,341
Amendments (plan initiation) 1,027,706
Actuarial loss (gain) -
Benefits paid -
-------------------
Projected benefit obligation at end of year 1,213,358
-------------------
CHANGE IN PLAN ASSETS
Fair value of plan assets at beginning of year -
-------------------
Fair value of plan assets at end of year -
-------------------
Funded status (1,213,358)
Unrecognized net actuarial loss (gain) -
Unrecognized prior service cost 992,858
-------------------
Net amount recognized $ 220,774
===================
Year ended
December 31, 2004
-------------------
COMPONENTS OF NET PERIODIC BENEFIT COST:
Service cost $ 150,312
Interest cost 35,341
Expected return on plan assets -
Amortization of prior service cost 35,121
Amortization of net gain -
-------------------
Net periodic benefit cost $ 220,774
===================
ASSUMPTIONS USED TO DETERMINE BENEFIT OBLIGATIONS
AT DECEMBER 31, 2004
Discount rate 6.00%
Rate of compensation increase 5.00%
ASSUMPTIONS USED TO DETERMINE NET PERIODIC BENEFIT COST
Discount rate 6.00%
Rate of compensation increase 5.00%
65
11. RELATED PARTY TRANSACTIONS
There are no existing or proposed material interests or transactions
between the Bank and/or any of its officers or directors outside the
ordinary course of the Bank's business except as indicated.
Bank Director Barry A. Turkus is a principal in the real estate
brokerage firm of BT Commercial. An agent of BT Commercial represented
the Bank in sublease negotiations for the Bank's offices at 2120 El
Camino Real, Santa Clara, California. The property, which is master
leased to Washington Mutual Bank, was listed with CB Commercial real
estate services. A leasing fee was paid by Washington Mutual to CB
Commercial in accordance with the Exclusive Listing and Commission
Agreement. CB Commercial in turn paid $34,076.18 to BT Commercial for
the procuring portion of the leasing fee. In addition, BT Commercial
received a fee of $16,100 in connection with locating and executing the
Bank's lease at 525 University Avenue in Palo Alto. The Board of
Directors determined that the fees paid to BT Commercial in connection
with real estate transactions were no less favorable to the Bank then
could have been obtained from disinterested third parties.
The Bank had entered into a consulting agreement with The Brenner
Group, Inc. (the "Consulting Agreement"), pursuant to which The Brenner
Group, Inc. provided the Bank with accounting services prior to the
opening. Organizing Director Richard Brenner is also Chief Executive
Officer of The Brenner Group, Inc. No service was provided under the
contract from June 1, 2001 through December 31, 2001, however, the Bank
may, from time to time, again make use of The Brenner Group's services
under the agreement. No expense was incurred by the Bank in 2003. A
total of $1,800 and $22,400 were incurred by the Bank under the
Consulting Agreement for the years ending December 31, 2002 and 2001,
respectively. The Board of Directors has determined that the fees are
no less favorable to the Bank than could be obtained from a
disinterested third party.
Some of the officers and directors of the Bank borrowed a portion of
the purchase price of the shares subscribed by them in the Bank's
initial Stock Offering. These borrowings were obtained from one or more
of the Bank's correspondent banks in accordance with applicable laws
and were not conditioned upon the use of inter-bank deposits as
compensating balances. Federal law prohibits the Bank from lending on
the security of its own capital stock.
12. COMMITMENTS AND CONTINGENT LIABILITIES
LEASE COMMITMENTS
The Bank's Santa Clara, San Jose and Palo Alto locations are leased
under non-cancelable operating leases that expire in 2010, 2002 and
2006, respectively. The Bank has renewal options with adjustments to
the lease payments based on changes in the consumer price index.
Future minimum annual lease payments are as follows:
Future lease payments
For years ended December 31,
2005 $ 899,000
2006 965,000
2007 784,000
2008 854,000
2009 880,000
thereafter 5,341,000
---------------
$9,723,000
---------------
66
Rental expense under operating leases was $977,000 in 2004, $574,000 in
2003 and $527,000 in 2002.
OTHER COMMITMENTS
In the normal course of business, there are outstanding commitments to
extend credit, which are not reflected in the consolidated financial
statements. These commitments involve, to varying degrees, credit risk
in excess of the amount recognized as either an asset or a liability in
the balance sheet. The Bank controls the credit risk through its credit
approval process. The same credit policies are used when entering into
such commitments. Amounts committed to extend credit under normal
lending agreements aggregated approximately $92,921,000 for undisbursed
variable loan commitments and approximately $6,635,000 for commitments
under unused letters of credit at December 31, 2004.
The Bank is party to financial instruments with off-balance-sheet risk
in the normal course of business to meet the financing needs of its
customers. These financial instruments include loan commitments of
$99,556,000, $61,748,000 and $52,461,000 at December 31, 2004, 2003 and
2002, respectively. The Bank's exposure to credit loss is limited to
amounts funded or drawn; however, at December 31, 2004, no losses are
anticipated as a result of these commitments.
Loan commitments are typically contingent upon the borrowers meeting
certain financial and other covenants and such commitments typically
have fixed expiration dates and require payment of a fee. As many of
these commitments are expected to expire without being drawn upon, the
total commitments do not necessarily represent future cash
requirements. The Bank evaluates each potential borrower and the
necessary collateral on an individual basis. Collateral varies, and may
include real property, bank deposits, or business or personal assets.
Undisbursed loan commitments were comprised of the following at
December 31, 2004:
Undisbursed Loan Commitments
(dollars in thousands)
Loan Category Amount
--------------- --------------
Commercial $47,739
SBA 8,018
Real estate construction 17,325
Real estate term 10,703
Factoring/ABL 9,100
Other 6,671
--------------
Total $99,556
==============
13. DISCLOSURE OF FAIR VALUE OF FINANCIAL INSTRUMENTS
The following estimated fair value amounts have been determined by
using available market information and appropriate valuation
methodologies. However, considerable judgment is required to interpret
67
market data to develop the estimates of fair value. Accordingly, the
estimates presented are not necessarily indicative of the amounts that
could be realized in a current market exchange. The use of different
market assumptions and/or estimation techniques may have a material
effect on the estimated fair value amounts.
The following table presents the carrying amount and estimated fair
value of certain assets and liabilities of the Bank at December 31,
2004, 2003 and 2002. The carrying amounts reported in the balance
sheets approximate fair value for the following financial instruments:
cash and due from banks, federal funds sold, interest bearing deposits
in other banks, demand and savings deposits (See Note 5 for information
regarding securities).
FAIR VALUE OF FINANCIAL INSTRUMENTS
2004 2003 2002
----------------------- ----------------------- -----------------------
(dollars in thousands) Carrying Fair Carrying Fair Carrying Fair
Value Value Value Value Value Value
----------------------- ----------------------- -----------------------
Financial Assets:
Cash and due from banks $ 6,535 $ 6,535 $ 9,573 $ 9,573 $ 6,706 $ 6,706
Federal funds sold 62,675 62,675 47,975 47,975 28,140 21,795
Investments securities 26,500 26,398 24,336 24,373 17,468 16,641
Loans and leases, gross 293,612 300,962 193,735 197,485 128,707 129,025
Bank owned life insurance 8,080 8,080 - - - -
Financial liabilities:
Deposits 352,456 351,119 246,394 246,385 153,361 142,957
Trust Preferred 12,000 12,000 - - - -
Net worth 33,323 41,908 28,075 31,871 26,564 31,549
LOANS
The fair value of loans with fixed rates is estimated by discounting
the future cash flows using current rates at which similar loans would
be made to borrowers with similar credit ratings. For loans with
variable rates that adjust with changes in market rates of interest,
the carrying amount is a reasonable estimate of fair value.
TIME DEPOSITS
The fair value of fixed maturity certificates of deposit is estimated
using rates currently offered for deposits of similar remaining
maturities.
COMMITMENTS TO EXTEND CREDIT AND STANDBY LETTERS OF CREDIT
Commitments to extend credit and standby letters of credit are issued
in the normal course of business by the Bank. Commitments to extend
credit are issued with variable interest rates tied to market interest
rates at the time the commitments are funded and the amount of the
commitments equal their fair value. Standby letters of credit are
supported by commitments to extend credit with variable interest rates
tied to market interest rates at the time the commitments are funded.
68
14. BRIDGE CAPITAL HOLDINGS
The following are the financial statements of Bridge Capital Holdings
(parent company only):
BALANCE SHEET
(dollars in thousands)
December 31,
ASSETS: 2004
-------------------
Cash and due from banks $ 2,095
Investment in bank & subsidiaries 43,430
-----------------
Total Assets $ 45,525
=================
LIABILITIES:
Balances due to subsidiaries 12,372
Other liabilities 31
-----------------
Total Liabilities 12,403
-----------------
CAPITAL:
Common stock 33,057
Retained earnings 184
Other Comprehensive income (119)
-----------------
Total Capital 33,122
-----------------
Total Liabilities and Capital $ 45,525
=================
STATEMENT OF OPERATIONS
Period ended
(dollars in thousands) December 31,
-----------------
2004
-----------------
Interest Income $ 4
Total noninterest expenses 128
-----------------
Income before income taxes (124)
Income taxes 0
-----------------
Income before undistributed income
of the bank (124)
Equity in undistributed income of the bank 1,254
-----------------
Net income $ 1,130
=================
69
STATEMENTS OF CASH FLOWS
(dollars in thousands)
Period ended
December 31,
---------------
2004
---------------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income (loss) $ 1,130
Adjustments to reconcile net income to net cash
provided by operating activities:
Equity in undistributed (earnings) of subsidiaries (1,254)
Net change in other liabilities 31
---------------
Net cash (used in) provided by operating activities (93)
---------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Payments for investment in subsidiary (10,394)
---------------
Net cash used in investing activities (10,394)
---------------
CASH FLOW FROM FINANCING ACTIVITIES:
Proceeds from sale of Common stock 188
Proceeds from issuance of long term debt 12,394
---------------
Net cash provided by financing activities 12,582
---------------
Net increase (decrease) in cash and equivalents 2,095
Cash and equivalents at beginning of period -
---------------
Cash and equivalents at end of period $ 2,095
===============
15. REGULATORY MATTERS
The Bank and the Holding Company are 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 (set
forth in the table below) of total and Tier 1 capital (as defined in
the regulations) to risk-weighted assets (as defined), and of Tier I
capital (as defined) to average assets (as defined). Management
believes, as of December 31, 2004, that the Bank meets all capital
adequacy requirements to which they are subject.
70
The following table shows the Bank's capital ratios at December 31,
2004 and 2003 as well as the minimum capital ratios required to be
deemed "well capitalized" under the regulatory framework.
As of December 31,
(in thousands) 2004 2003
----------------------- -----------------------
Amount Ratio Amount Ratio
----------------------- -----------------------
COMPANY CAPITAL RATIOS
- ------------------------------------------
Tier 1 Capital $ 44,172 12.34% N/A N/A
(to Risk Weighted Assets)
Tier 1 capital minimum requirement $ 14,313 4.00% N/A N/A
Total Capital $ 49,268 13.77% N/A N/A
(to Risk Weighted Assets)
Total capital minimum requirement $ 28,625 8.00% N/A N/A
Company leverage
Tier 1 Capital $ 44,172 12.94% N/A N/A
(to Average Assets)
Total capital minimum requirement $ 13,659 4.00% N/A N/A
BANK RISK BASED CAPITAL RATIOS
- ------------------------------------------
Tier 1 Capital $ 43,058 12.03% $ 29,954 13.48%
(to Risk Weighted Assets)
Tier 1 capital minimum requirement $ 14,313 4.00% $ 8,890 4.00%
To be well capitalized under
prompt corrective action provisions $ 21,469 6.00% $ 13,336 6.00%
Total Capital $ 47,204 13.19% $ 32,637 14.68%
(to Risk Weighted Assets)
Total capital minimum requirement $ 28,625 8.00% $ 17,781 8.00%
To be well capitalized under
prompt corrective action provisions $ 35,781 10.00% $ 22,226 10.00%
Bank leverage
Tier 1 Capital $ 43,058 12.61% $ 29,954 13.47%
(to Average Assets)
Total capital minimum requirement $ 13,659 4.00% $ 8,898 4.00%
To be well capitalized under
prompt corrective action provisions $ 17,073 5.00% $ 11,123 5.00%
71
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE.
There are no current or anticipated changes in, or disagreements with,
accountants on any matter of accounting principles or practices, financial
statement disclosure or auditing scope or procedure
ITEM 9A. CONTROLS AND PROCEDURES
ANNUAL EVALUATION OF THE BANK'S DISCLOSURE CONTROLS AND INTERNAL CONTROLS.
As of the end of the period covered by this report, the Company evaluated the
effectiveness of the design and operation of its "disclosure controls and
procedures" ("Disclosure Controls"), and its "internal controls over financial
reporting" ("Internal Controls"). This evaluation (the "Controls Evaluation")
was done under the supervision and with the participation of management,
including our President and Chief Executive Officer ("CEO") and Chief Financial
Officer ("CFO"). Rules adopted by the SEC require that in this section of the
Annual Report we present the conclusions of the CEO and the CFO about the
effectiveness of our Disclosure Controls and Internal Controls based on and as
of the date of the Controls Evaluation.
CEO AND CFO CERTIFICATIONS.
Appearing as Exhibits 31.1 and 31.2 of this Report there are two
"Certifications" of the CEO and the CFO required by Section 302 of the
Sarbanes-Oxley Act of 2002 (the "Section 302 Certification"). The section of the
Annual Report which you are currently reading is the information concerning the
Controls Evaluation referred to in the Section 302 Certifications and this
information should be read in conjunction with the Section 302 Certifications
for a more complete understanding of the topics presented.
DISCLOSURE CONTROLS AND INTERNAL CONTROLS.
Disclosure Controls are procedures that are designed with the objective of
ensuring that information required to be disclosed in our reports filed under
the Exchange Act, such as this Annual Report, is recorded, processed, summarized
and reported within the time periods specified in the Commission's rules and
forms. Disclosure Controls are also designed with the objective of ensuring that
such information is accumulated and communicated to our management, including
the CEO and CFO, as appropriate to allow timely decisions regarding required
disclosure. Internal Controls are procedures which are designed with the
objective of providing reasonable assurance that (1) our transactions are
properly authorized; (2) our assets are safeguarded against unauthorized or
improper use; and (3) our transactions are properly recorded and reported, all
to permit the preparation of our financial statements in conformity with
generally accepted accounting principles and reliable financial reporting.
LIMITATIONS ON THE EFFECTIVENESS OF CONTROLS.
The Company's management, including the CEO and CFO, does not expect that our
Disclosure Controls or our Internal Controls will prevent all error and all
fraud. A control system, no matter how well conceived and operated, can provide
only reasonable, not absolute, assurance that the objectives of the control
system are met. Further, the design of a control system must reflect the fact
that there are resource constraints, and the benefits of a control must be
considered relative to its costs. Because of the inherent limitations in all
control systems, no evaluation of controls can provide absolute assurance that
all control issues and instances of fraud, if any, within the Bank have been
detected. These inherent limitations include the realities that judgments in
decision-making can be faulty, and that breakdowns can occur because of simple
error or mistake. Additionally, controls can be circumvented by the individual
acts of some persons, by collusion of two or more people, or by management
override of the control. The design of any system of controls also is based in
part upon certain assumptions about the likelihood of future events, and there
72
can be no assurance that any design will succeed in achieving its stated goals
under all potential future conditions; over time, control may become inadequate
because of changes in conditions, or the degree of compliance with the policies
or procedures may deteriorate. Because of the inherent limitations in a
cost-effective control system, misstatements due to error or fraud may occur and
not be detected.
SCOPE OF THE CONTROLS EVALUATION.
The Controls evaluation included a review of objectives, design, implementation
by the Company and the effect of the controls on the information generated for
use in this Report. In the course of the Controls Evaluation, we sought to
identify data errors, acts of fraud, and other problems with the control systems
and to confirm that appropriate corrective action, including process
improvements, were being undertaken. This type of evaluation will be done on a
quarterly basis as to our disclosure controls so that the conclusions concerning
their effectiveness can be reported in our Quarterly Reports on Form 10-Q and
Annual Report on Form 10-K. Our Internal Controls are also evaluated on an
ongoing basis by our Internal Audit Department, by other personnel in our
organization and by our independent auditors in connection with their audit and
review activities. The overall goals of these various evaluation activities are
to monitor our Disclosure Controls and our Internal Controls and to make
modifications as necessary; our intent in this regard is that the Disclosure
Controls and the Internal Controls will be maintained as dynamic systems that
change (including with improvements and corrections) as conditions warrant.
Among other matters, we sought in our evaluation to determine whether there were
any "significant deficiencies" or "material weaknesses" in the Company's
Internal Controls, or whether the Company had identified any acts of fraud
involving personnel who have a significant role in the Company's Internal
Controls. This information was important both for the Controls Evaluation
generally and because items 5 and 6 in the Section 302 Certifications of the CEO
and CFO require that the CEO and CFO disclose that information to our Board's
Audit Committee and to our independent auditors and to report on related matters
in this section of the Annual Report. In the professional auditing literature,
"significant deficiencies" are referred to as "reportable conditions"; these are
control issues that could have a significant adverse effect on the ability to
record, process, summarize and report financial data in the financial
statements. A "material weakness" is defined in the auditing literature as a
particularly serious reportable condition where the internal control does not
reduce to a relatively low level the risk that misstatements caused by error or
fraud may occur in amounts that would be material in relation to the financial
statements and not be detected within a timely period by employees in the normal
course of performing their assigned functions. We also sought to deal with other
controls matters in the Controls Evaluation, and in each case if a problem was
identified, we considered what revision, improvement and/or correction to make
in accord with our on-going procedures.
In accord with Commission requirements, the CEO and CFO note that there was no
change in Internal Controls during the fourth quarter of 2004 that has
materially affected Internal Controls, or is reasonably likely to materially
affect, the Company.
CONCLUSIONS.
Based upon the Controls Evaluation, our CEO and CFO have concluded that, subject
to the limitations noted above, our Disclosure Controls are effective to ensure
that material information relating to the Company and its consolidated
subsidiaries is made known to management, including the CEO and CFO,
particularly during the period when our periodic reports are being prepared, and
that our Internal Controls are effective to provide reasonable assurance that
our financial statements are fairly presented in conformity with generally
accepted accounting principles.
73
ITEM 9B. OTHER INFORMATION
Not applicable
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT.
The information required hereunder is incorporated by reference from the
Company's definitive proxy statement for the Company's 2005 Annual Meeting of
Shareholders (to be filed pursuant to Regulation 14A).
ITEM 11. EXECUTIVE COMPENSATION.
The information required hereunder is incorporated by reference from the
Company's definitive proxy statement for the Company's 2005 Annual Meeting of
Shareholders (to be filed pursuant to Regulation 14A).
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT.
The information required hereunder is incorporated by reference from the
Company's definitive proxy statement for the Company's 2005 Annual Meeting of
Shareholders (to be filed pursuant to Regulation 14A).
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.
The information required hereunder is incorporated by reference from the
Company's definitive proxy statement for the Company's 2005 Annual Meeting of
Shareholders (to be filed pursuant to Regulation 14A).
ITEM 14. PRINCIPAL ACCOUNTING FEES AND SERVICES.
The information required hereunder is incorporated by reference from the
Company's definitive proxy statement for the Company's 2005 Annual Meeting of
Shareholders (to be filed pursuant to Regulation 14A).
PART IV
ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES.
(a) (1) Financial Statements. This information is included in Part II, Item 8.
(a) (2) Financial Statement Schedules. All schedules have been omitted since the
required information is not present or is not present in amounts sufficient to
require submission of the schedule or because the information required is
included in Consolidated Financial Statements or notes thereto.
(a) (3) Exhibits. The exhibits list required by this item is incorporated be
reference to the accompanying Exhibit Index filed as part of this report.
74
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange
Act of 1934, the registrant has duly caused this report to be signed on its
behalf by the undersigned, thereunto duly authorized.
BRIDGE CAPITAL HOLDINGS
By: /s/ DANIEL P. MYERS
-------------------------------------
Daniel P. Myers, President
(Principal Executive Officer)
Date: March 3, 2005
75
Pursuant to the requirements of the Securities Exchange Act of 1934, this report
has been signed below by the following persons on behalf of the registrant and
in the capacities and on the dates indicated.
Name Title Date
- -------------------------- -------------------- -------------------
/s/ RICHARD M. BRENNER Director March 3, 2005
- -------------------------- -------------------- -------------------
Richard M. Brenner
/s/ OWEN BROWN Director March 3, 2005
- -------------------------- -------------------- -------------------
Owen Brown
/s/ DAVID V. CAMPBELL Director March 3, 2005
- -------------------------- -------------------- -------------------
David V. Campbell
/s/ DAVID K. CHUI Director March 3, 2005
- -------------------------- -------------------- -------------------
David K. Chui
/s/ ROBERT P. GIONFRIDDO Director March 3, 2005
- ----------------------------------------------------- -------------------
Robert P. Gionfriddo
Chairman
/s/ ALLAN C. KRAMER Director March 3, 2005
- -------------------------- -------------------- -------------------
Allan C. Kramer, M.D.
/s/ ROBERT P. LATTA Director March 3, 2005
- -------------------------- -------------------- -------------------
Robert Latta
/s/ THOMAS M. QUIGG Director March 3, 2005
- -------------------------- -------------------- -------------------
Thomas M. Quigg
President, Chief
Executive Officer
/s/ DANIEL P. MYERS Director March 3, 2005
- -------------------------- -------------------- -------------------
Daniel P. Myers (Principal Executive
Officer)
Director March 3, 2005
- -------------------------- -------------------- -------------------
Barry A. Turkus
Executive Vice
President, Chief
/s/ THOMAS A. SA Financial Officer March 3, 2005
- -------------------------- -------------------- -------------------
Thomas A. Sa (Principal Financial
and Accounting Officer)
76
INDEX TO EXHIBITS
Exhibit
Number Description of Exhibit
(2.1) Agreement and Plan of Reorganization among Bridge Capital
Holdings and Bridge Bank dated as of October 1, 2004
[incorporated by reference to Exhibit 2.1 to the registrant's
Current Report on Form 8-K dated 10/1/04]
(3.1) Articles of Incorporation of the registrant [incorporated by
reference to Exhibit 3(i)(a) to the registrant's Current
Report on Form 8-K dated 10/1/04]
(3.2) Amendment to the registrant's Articles of Incorporation dated
August 27, 2004 [incorporated by reference to Exhibit 3(i)(b)
to the registrant's Current Report on Form 8-K dated 10/1/04]
(3.3) Registrant's By-Laws [incorporated by reference to Exhibit
3(i)(c) to the registrant's Current Report on Form 8-K dated
10/1/04]
(4.1) Indenture dated as of December 21, 2004 between Bridge Capital
Holdings and JP Morgan Chase Bank as Trustee.
(4.2) Amended and Restated Declaration of trust of Bridge Capital
Holdings Trust I dated December 21, 2004.
(10.1) Bridge Bank Amended and Restated 2001 Stock Option Plan**
(10.2) Bridge Bank, National Association Supplemental Executive
Retirement Plan.
(10.3) Sublease for premises at 2120 El Camino Real, Santa Clara,
California.
(10.4) Organizers' Acknowledgement of Liability on Lease.
(10.5) Organizers' Acknowledgement of Liability on Lease and Letter
of Credit Lease.
(10.6) Lease for banking office located at 525 University Avenue,
City of Palo Alto, County of Santa Clara, State of
California.**
(10.7) Lease for banking office located at 3035 Prospect Park Drive,
Suite 100, Rancho Cordova, County of Sacramento, State of
California
(10.8) Wire Transfer Service Agreement with BServ, Inc dated 6/25/02
(10.9) Performance Incentive Compensation Plan
(21) Subsidiaries
(31.1) Certification of Principal Executive Officer pursuant to
Section 302 of the Sarbanes-Oxley Act of 2002
(31.2) Certification of Principal Financial Officer pursuant to
Section 302 of the Sarbanes-Oxley Act of 2002
(32.1) Certification of Principal Executive Officer pursuant to 18
U.S.C. Section 1350
(32.2) Certification of Principal Financial Officer pursuant to 18
U.S.C. Section 1350
- ---------------------------------
**Management contract or compensatory plan or arrangement
77