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EX-3.1 - ARTICLES OF INCORPORATION - PREMIERWEST BANCORPdex31.htm
EX-21 - SUBSIDIARIES - PREMIERWEST BANCORPdex21.htm
EX-31.1 - 302 CERTIFICATION OF CHIEF EXECUTIVE OFFICER - PREMIERWEST BANCORPdex311.htm
EX-99.1 - SUBSEQUENT YEAR CERTIFICATION OF PRINCIPAL EXECUTIVE OFFICER PURSUANT TO TARP - PREMIERWEST BANCORPdex991.htm
EX-31.2 - 302 CERTIFICATION OF CHIEF FINANCIAL OFFICER - PREMIERWEST BANCORPdex312.htm
EX-99.2 - SUBSEQUENT YEAR CERTIFICATION OF PRINCIPAL FINANCIAL OFFICER PURSUANT TO TARP - PREMIERWEST BANCORPdex992.htm
EX-32.2 - 906 CERTIFICATION OF CHIEF FINANCIAL OFFICER - PREMIERWEST BANCORPdex322.htm
EX-23.1 - CONSENT OF MOSS ADAMS LLP - PREMIERWEST BANCORPdex231.htm
EX-32.1 - 906 CERTIFICATION OF CHIEF EXECUTIVE OFFICER - PREMIERWEST BANCORPdex321.htm
EX-10.34 - FORM OF COMPENSATION MODIFICATION AGREEMENT - PREMIERWEST BANCORPdex1034.htm
Table of Contents

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 10-K

ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d)

OF THE SECURITIES EXCHANGE ACT OF 1934

For the fiscal year ended: December 31, 2010

Commission file number: 000-50332

PREMIERWEST BANCORP

(Exact name of registrant as specified in its charter)

 

Oregon   93-1282171

(State or other jurisdiction of

incorporation or organization)

 

(I.R.S. Employer

Identification No.)

 

503 Airport Road – Suite 101

Medford, Oregon

  97504
(Address of principal executive offices)   (Zip Code)

Registrant’s telephone number, including area code: (541) 618-6003

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

Securities registered pursuant to Section 12(g) of the Act:

Common Stock, No Par Value

(title of class)

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.    Yes  ¨    No  x

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act.    Yes  ¨    No  x

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes  x    No  ¨

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes  ¨    No  ¨

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K (§229.405 of this chapter) 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 check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company. See definitions of “large accelerated filer, “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

Large accelerated filer  ¨    Accelerated filer  ¨    Non-accelerated filer  ¨    Smaller reporting company  x

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes  ¨    No  x

The aggregate market value of the registrant’s common stock held by non-affiliates of the registrant was approximately $32.4 million, based on the closing price on June 30, 2010, reported on NASDAQ.

The number of shares outstanding of Registrant’s common stock as of March 15, 2011 was 10,034,830.

Documents Incorporated by Reference

Portions of the definitive Proxy Statement to be delivered to shareholders in connection with the 2011 Annual Meeting of Shareholders are incorporated by reference into Part III.

 

 

 


Table of Contents

PREMIERWEST BANCORP

FORM 10-K

TABLE OF CONTENTS

 

          PAGE  

Disclosure Regarding Forward-Looking Statements

     3   

PART I

     

Item 1.

  

Business

     4-18   

Item 1A.

  

Risk Factors

     19-26   

Item 1B.

  

Unresolved Staff Comments

     27   

Item 2.

  

Properties

     27   

Item 3.

  

Legal Proceedings

     27   

Item 4.

  

(Removed and Reserved).

     27   

PART II

     

Item 5.

  

Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities

     28-29   

Item 6.

  

Selected Financial Data

     30   

Item 7.

  

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

     31-58   

Item 7A.

  

Quantitative and Qualitative Disclosures About Market Risk

     59-61   

Item 8.

  

Financial Statements and Supplementary Data

     61-116   

Item 9.

  

Changes In and Disagreements with Accountants on Accounting and Financial Disclosure

     117   

Item 9A.

  

Controls and Procedures

     117   

Item 9B.

  

Other Information

     118   

PART III

     

Item 10.

  

Directors, Executive Officers and Corporate Governance

     119   

Item 11.

  

Executive Compensation

     119   

Item 12.

  

Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters

     119   

Item 13.

  

Certain Relationships and Related Transactions, and Director Independence

     119   

Item 14.

  

Principal Accounting Fees and Services

     119   

PART IV

     

Item 15.

  

Exhibits and Financial Statement Schedules

     120-123   

SIGNATURES

     124   

 

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DISCLOSURE REGARDING FORWARD-LOOKING STATEMENTS

This report includes “forward-looking statements” within the meaning of the “safe-harbor” provisions of Sections 21D and 21E of the Securities Exchange Act of 1934, as amended. Other than statements of historical fact, all statements about our financial position and results of operations, business strategy and Management’s plans and objectives for future operations are forward-looking statements. When used in this report, the words “anticipate,” “believe,” “estimate,” “expect,” and “intend” and words or phrases of similar meaning, help identify forward-looking statements. Examples of forward-looking statements include, but are not limited to: statements that include projections or Management’s expectations for revenues, income or expenses, earnings per share, capital expenditures, dividends, capital levels and structure and other financial items; statements of the plans and objectives of the Company, its Management or its Board of Directors, including the introduction of new products or services, plans for expansion, acquisitions or future growth and estimates or predictions of actions by customers, vendors, competitors or regulatory authorities; statements about future economic performance; statements of assumptions underlying other statements about the Company and its business; statements regarding the adequacy of the allowance for loan losses; and descriptions of assumptions underlying or relating to any of the foregoing. Although Management believes that the expectations reflected in forward-looking statements are reasonable, we can make no assurance that such expectations will prove correct. Forward-looking statements are subject to various risks and uncertainties that could cause actual results to differ materially from those indicated by the forward-looking statements. For a more comprehensive discussion of the risk factors impacting our business refer to Item 1A Risk Factors in this report beginning on page 12. These risks and uncertainties include the effect of competition and our ability to compete on price and other factors; deterioration in credit quality, or in the value of the collateral securing our loans, due to higher interest rates, increased unemployment, further or continued disruptions in the credit markets, or other economic factors; customer acceptance of new products and services; economic conditions and events that disproportionately affect our business due to regional concentration; general business and economic conditions, including the residential and commercial real estate markets; interest rate changes; regulatory and legislative changes; changes in the demand for loans and changes in consumer spending, borrowing and savings habits; changes in accounting policies; our ability to maintain or expand our market share or our net interest margin; factors that could limit or delay implementation of our marketing and growth strategies; and our ability to integrate acquired branches or banks. Other risks include those identified from time to time in our past and future filings with the Securities and Exchange Commission. Note that this list of risks is not exhaustive, and risks identified are applicable as of the date made and are not updated except as required by law. You should not unduly rely on forward-looking statements. They give our expectations about the future and are not guarantees. Forward-looking statements speak only as of the date they are made, and we do not undertake to update them to reflect changes that occur after the date they are made. This report includes information about our historical financial performance, and this information should not be considered as an indication or projection of future results.

 

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PART I

 

ITEM 1. BUSINESS

INTRODUCTION

PremierWest Bancorp, an Oregon corporation (the “Company”), is a bank holding company headquartered in Medford, Oregon. The Company operates primarily through its principal subsidiary, PremierWest Bank (“PremierWest Bank” or “Bank” and collectively with the Company, “PremierWest”), which offers a variety of financial services.

PremierWest recorded a net loss available to common shareholders of $7.5 million for the year ended December 31, 2010, compared to a net loss of $148.6 million in 2009 and a net loss of $7.8 million in 2008. Our diluted loss per common share was $0.90, $60.07, and $3.36, for the years ended 2010, 2009 and 2008, respectively, after adjusting for the 1-for-10 reverse stock split effective February 10, 2011, see Note 26—Subsequent Event. Return on average common equity was -13.69%, -93.07%, and -4.41% for the years ended December 31, 2010, 2009, and 2008, respectively.

SUBSIDIARIES

PremierWest Bank conducts a general commercial banking business, gathering deposits from the general public and applying those funds to the origination of loans for real estate, commercial and consumer purposes and investments. The Bank was created from the merger of Bank of Southern Oregon and Douglas National Bank on May 8, 2000, and the simultaneous formation of a bank holding company for the resulting bank, PremierWest Bank. In April 2001, the Company acquired Timberline Bancshares, Inc., and its wholly-owned subsidiary, Timberline Community Bank (“Timberline”), with eight branch offices located in Siskiyou County in northern California. On January 23, 2004, the Company acquired Mid Valley Bank, with five branch offices located in the northern California counties of Shasta, Tehama and Butte. On January 26, 2008, the Company acquired Stockmans Financial Group and its wholly owned banking subsidiary, Stockmans Bank, with five branch offices located in the greater Sacramento, California area. This acquisition was accounted for as a purchase and is reflected in the consolidated financial statements of PremierWest from the date of acquisition forward. On July 17, 2009, the Company acquired two Wachovia Bank branches in Northern California. This acquisition was accounted for under the acquisition method of accounting and is reflected in the consolidated financial statements of PremierWest from the date of acquisition forward.

PremierWest Bank adheres to a community banking strategy by offering a full range of financial products and services through its network of branches encompassing a two state region between northern California and southern Oregon including the Rogue Valley and Roseburg, Oregon; the markets situated around Sacramento, California; and the Bend/Redmond area of Deschutes County located in central Oregon. The Bank has three subsidiaries: Premier Finance Company, PremierWest Investment Services, Inc., and Blue Star Properties, Inc. Premier Finance Company originates consumer loans from offices located in Medford, Grants Pass, Klamath Falls, Roseburg, Eugene and Portland, Oregon and Redding, California. PremierWest Investment Services, Inc., provides investment brokerage services to customers throughout the Bank’s market. Blue Star Properties, Inc. serves solely to hold real estate properties for PremierWest and presently has no properties under its ownership.

PRODUCTS AND SERVICES

PremierWest Bank offers a broad range of banking services to its customers, principally small and medium-sized businesses, professionals and retail customers.

Loan and lease products—PremierWest Bank makes commercial and real estate loans, construction loans for owner-occupied and investment properties, leases through a third-party vendor, and secured and unsecured consumer loans. Commercial and real estate-based lending has been the primary focus of the Bank’s lending activities.

 

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Commercial lending—PremierWest Bank offers specialized loans for business and commercial customers, including equipment and inventory financing, accounts receivable financing, operating lines of credit and real estate construction loans. PremierWest Bank also makes certain Small Business Administration loans to qualified businesses. A substantial portion of the Bank’s commercial loans are designated as real estate loans for regulatory reporting purposes because they are secured by mortgages and trust deeds on real property, even if the loans are made for the purpose of financing commercial activities, such as inventory and equipment purchases and leasing, and even if they are secured by other assets such as equipment or accounts receivable.

One of the primary risks associated with commercial loans is the risk that the commercial borrower might not generate sufficient cash flows to repay the loan. PremierWest Bank’s underwriting guidelines require secondary sources of repayment, such as real estate collateral, and generally require personal guarantees from the borrower’s principals.

Real estate lending—Real estate is commonly a material component of collateral for PremierWest Bank’s loans. Although the expected source of repayment for these loans is generally business or personal income, real estate collateral provides an additional measure of security. Risks associated with loans secured by real estate include fluctuating property values, changing local economic conditions, changes in tax policies and a concentration of real estate loans within a limited geographic area.

Commercial real estate loans primarily include owner-occupied commercial and agricultural properties and other income-producing properties. The primary risks of commercial real estate loans are the potential loss of income for the borrower and the ability of the market to sustain occupancy and rent levels. PremierWest Bank’s underwriting standards limit the maximum loan-to-value ratio on real estate held as collateral and require a minimum debt service coverage ratio for each of its commercial real estate loans.

Although commercial loans and commercial real estate loans generally are accompanied by somewhat greater risk than single-family residential mortgage loans, commercial loans and commercial real estate loans tend to be higher yielding, have shorter terms and generally provide for interest-rate adjustments as prevailing rates change. Accordingly, commercial loans and commercial real estate loans facilitate interest-rate risk management and, historically, have contributed to strong asset and income growth.

PremierWest Bank originates several different types of construction loans, including residential construction loans to borrowers who will occupy the premises upon completion of construction, residential construction loans to builders, commercial construction loans, and real estate acquisition and development loans. Because of the complex nature of construction lending, these loans have a higher degree of risk than other forms of real estate lending. Generally, the Bank mitigates its risk on construction loans by lending to customers who have been pre-qualified with performance conditions for long-term financing and who are using contractors acceptable to PremierWest Bank.

Consumer lending—PremierWest Bank and Premier Finance Company make secured and unsecured loans to individual borrowers for a variety of purposes including personal loans, revolving credit lines and home equity loans, as well as consumer loans secured by autos, boats and recreational vehicles. Besides targeting non-bank customers in PremierWest Bank’s immediate markets, Premier Finance Company also makes loans to Bank customers where the loans may carry a higher risk than permitted under the Bank’s lending criteria.

Deposit products and other services—PremierWest Bank offers a variety of traditional deposit products to attract both commercial and consumer deposits using checking and savings accounts, money market accounts and certificates of deposit. The Bank also offers internet banking, on-line bill pay, treasury management services, safe deposit facilities, traveler’s checks, money orders and automated teller machines at most of its facilities.

PremierWest Bank’s investment subsidiary, PremierWest Investment Services, Inc., provides investment brokerage services to its customers through a third-party broker-dealer arrangement as well as through independent insurance companies allowing for the sale of investment and insurance products such as stocks, bonds, mutual funds, annuities and other insurance products.

 

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MARKET AREA

PremierWest Bank conducts a regional community banking business in southern and central Oregon and northern California. On December 31, 2010, the Company had a network of 44 full service bank branches. The Bank has evolved over the past nine years through a combination of acquisitions and de novo branch openings and its geographic footprint can be subdivided into several key market areas that are generally identifiable by a specific community, county or combination thereof.

The Company serves Jackson County, Oregon, from its main office facility in Medford with six branch offices in Medford and a branch office in each of the surrounding communities of Central Point, Eagle Point, Ashland and Shady Cove. Medford is the seventh largest city in Oregon and is the center for commerce, medicine and transportation in southwestern Oregon. PremierWest Bank serves neighboring Josephine County with two full service branches in Grants Pass, Oregon. The principal industries in Jackson and Josephine Counties include forest products, manufacturing and agriculture. Other manufacturing segments include electrical equipment and supplies, computing equipment, printing and publishing, fabricated metal products and machinery, and stone and concrete products. In the non-manufacturing sector, significant industries include recreational services, wholesale and retail trades, as well as medical care, particularly in connection with the area’s retirement community.

Another primary market area is in Douglas County with three branches in Roseburg, Oregon, and four branches located in the communities of Winston, Glide, Sutherlin and Drain. The economy in Douglas County has historically depended on the forest products industry, as compared to other market areas along the Interstate 5 corridor, including those in Medford and Grants Pass and those in northern California, which are somewhat more economically diversified.

Also in Oregon and located inland from the Interstate 5 corridor, PremierWest Bank operates four branches. Two are located in Klamath Falls in Klamath County. Klamath County’s principal industries include lumber and wood products, agriculture, transportation, recreation and government. Two other branch offices are located in Deschutes County, with a branch in both Bend and Redmond. This area’s principle businesses include recreation, tourism, education and manufacturing.

As of December 31, 2010, the Bank has established offices within seven counties in California. In Siskiyou County there are eight branch locations in the communities of Dorris, Dunsmuir, Greenview, McCloud, Mt. Shasta, Tulelake, Weed and Yreka. In Shasta County there are three branch locations with two located in Redding and one in Anderson. In Tehama County there are two branches with one in Corning and one in Red Bluff. In Yolo County there are two branch offices in the communities of Woodland and Davis. There is one office in Chico in Butte County and Nevada County has a branch in Grass Valley. The economy of northern California from Siskiyou County south to Butte County is primarily driven by government services, retail trade and services, education, healthcare, agriculture, recreation and tourism.

The Company has four branch locations in Sacramento County. These branches are located in the greater Sacramento area in the communities of Elk Grove, Folsom, Galt, and Rocklin. These branches have established PremierWest Bank’s southern-most reach in California. In addition to wholesale and retail trade, the key industries include agriculture and food processing, manufacturing, transportation and distribution, education, healthcare and government services.

Oregon and California have experienced economic challenges in the past three years, including high unemployment rates and deteriorating fiscal condition of state and local governments. Many of our branches are located in smaller markets that have experienced higher than average unemployment. The recession, housing market downturn and declining real estate values in our markets, have negatively impacted our loan portfolio and the business conditions in the markets we serve.

 

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The following table presents the Bank’s market share percentage for total deposits as of June 30, 2010, in each county where we have a branch. All information in the table was obtained from deposit data published by the FDIC as of June 30, 2010.

Deposit Market Share ($000’s)

Totals by County

 

          2010     2009     2008  
State   County   Market     PRWT     % Share     Market     PRWT     % Share     Market     PRWT     % Share  

OR

  Deschutes     2,408,627        15,534        0.64     2,489,654        23,132        0.93     1,964,059        20,345        1.04

OR

  Douglas     1,262,574        146,814        11.63     1,178,064        161,027        13.67     1,152,134        162,394        14.10

OR

  Jackson     2,449,987        365,158        14.90     2,589,614        503,981        19.46     2,391,822        428,701        17.92

OR

  Josephine     1,210,261        34,243        2.83     1,196,459        36,009        3.01     1,120,845        33,607        3.00

OR

  Klamath     738,537        13,664        1.85     787,266        26,404        3.35     751,415        18,959        2.52

Sub-total

        8,069,986        575,413        7.13     8,241,057        750,553        9.11     7,380,275        664,006        9.00
                     

CA

  Butte     1,719,998        10,658        0.62     1,579,034        7,574        0.48     1,508,893        5,257        0.35

CA

  Nevada     1,056,829        138,544        13.11     1,104,072        174,958        15.85     —          —          0.00

CA

  Placer     500,920        13,330        2.66     535,284        14,778        2.76     470,037        20,097        4.28

CA

  Shasta     2,027,635        38,536        1.90     1,939,687        36,798        1.90     1,741,547        41,436        2.38

CA

  Siskiyou     553,656        122,534        22.13     570,142        124,692        21.87     547,223        103,628        18.94

CA

  Tehama     717,269        102,844        14.34     727,548        101,732        13.98     690,401        108,957        15.78

CA

  Yolo     1,882,778        160,290        8.51     1,861,968        190,515        10.23     667,118        10,683        1.60

CA

  Sacramento     2,680,089        151,109        5.64     2,530,657        194,324        7.68     2,400,400        256,120        10.67

Sub-total

        11,139,174        737,845        6.62     10,848,392        845,371        7.79     8,025,619        546,178        6.81
    Total     19,209,160        1,313,258        6.84     19,089,449        1,595,924        8.36     15,405,894        1,210,184        7.86

Effective April 30, 2010, four existing branches (one each in Douglas, Butte, Placer and Sacramento counties) were closed and consolidated with existing PremierWest branches in close proximity.

While PremierWest Bank does business in many different communities, the geographic areas we serve make the Bank more reliant on local economies in contrast to super-regional and national banks. Nevertheless, Management considers the diversity of our customers, communities, and economic sectors a source of strength and competitive advantage in pursuing our community banking strategy.

INDUSTRY OVERVIEW

The commercial banking industry continues to face increased competition from non-bank competitors, and is undergoing significant consolidation and change. In addition to traditional competitors such as banks and credit unions, noninsured financial service companies such as mutual funds, brokerage firms, insurance companies, mortgage companies, stored-value-card providers and leasing companies offer alternative investment opportunities for customers’ funds and lending sources for their needs. Banks have been granted extended powers to better compete with these financial service providers through the limited right to sell insurance, securities products and other services; however, the percentage of financial transactions handled by commercial banks continues to decline as the market penetration of other financial service providers has grown. The impact on the commercial banking industry of the economic downturn experienced in 2008 and 2009 has been meaningful, with bank failures resulting in consolidation and increased legislation and regulation.

PremierWest Bank’s business model is to compete on the basis of customer service, not solely on price, and to compete for deposits by offering a variety of accounts at rates generally competitive with other financial institutions in the area.

 

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PremierWest Bank’s competition for loans comes principally from commercial banks, savings banks, mortgage companies, finance companies, insurance companies, credit unions and other traditional lenders. We compete for loans on the quality of our services, our array of commercial and mortgage loan products and on the basis of interest rates and loan fees. Lending activity can also be affected by local and national economic conditions, current interest rate levels and loan demand. As described above, PremierWest Bank competes with larger commercial banks by emphasizing a community bank orientation and personal service to both commercial and individual customers.

EMPLOYEES

As of December 31, 2010, PremierWest Bank had 477 full-time equivalent employees compared to 494 at December 31, 2009. None of our employees are represented by a collective bargaining group. Management considers its relations with employees to be good.

WEBSITE ACCESS TO PUBLIC FILINGS

PremierWest makes available all periodic and current reports in the “Investor Relations” section of PremierWest Bank’s website, as soon as reasonably practicable after such material is electronically filed with or furnished to the Securities and Exchange Commission (“SEC”). PremierWest Bank’s website address is www.PremierWestBank.com. The contents of our website are not incorporated into this report or into our other filings with the SEC.

GOVERNMENT POLICIES

The operations of PremierWest and its subsidiaries are affected by state and federal legislative changes and by policies of various regulatory authorities, including those of the states of Oregon and California, the Federal Reserve Bank and the Federal Deposit Insurance Corporation. These policies include, for example, statutory maximum legal lending limits and rates, domestic monetary policies of the Board of Governors of the Federal Reserve System, United States fiscal policy, and capital adequacy and liquidity constraints imposed by national and state regulatory agencies.

SUPERVISION AND REGULATION

Based on the results of an examination completed during the third quarter of 2009, the Bank entered into a formal regulatory agreement (the “Agreement”) with the FDIC and the Oregon Department of Consumer and Business Services acting through its Division of Finance and Corporate Securities (“DCBS”), the Bank’s principal regulators, primarily as a result of recent significant operating losses and increasing levels of non-performing assets. The Agreement imposed certain operating requirements on the Bank, many of which have already been implemented by the Bank as discussed in Note 2. The Company entered into a similar agreement with the Federal Reserve Bank of San Francisco and DCBS.

General—Over the past three years, the banking industry has seen an unprecedented number of sweeping changes in federal regulation. The most significant of these changes resulted from the passage of the Dodd-Frank Wall Street Reform and Consumer Protection Act (“Dodd-Frank”) in 2010, the American Recovery and Reinvestment Act of 2009 (“ARRA”), and the Emergency Economic Stabilization Act of 2008 (“EESA”). EESA and ARRA were enacted to strengthen our financial markets and promote the flow of credit to businesses and consumers. Dodd-Frank has brought and will continue to bring additional, significant changes to the regulatory landscape affecting banks and bank holding companies.

PremierWest is extensively regulated under federal and state law. These laws and regulations are generally intended to protect consumers, depositors and the FDIC’s Deposit Insurance Fund (“DIF”), not shareholders. To the extent that the following information describes statutory or regulatory provisions, it is qualified in its entirety by reference to the particular statute or regulation. Any change in applicable laws or regulations may have a

 

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material effect on the business and prospects of the Company. The operations of the Company may be affected by legislative changes and by the policies of various regulatory authorities. The Company cannot accurately predict the nature or the extent of the effects on its business and earnings that fiscal or monetary policies, or new federal or state legislation, may have in the future.

Federal and State Bank Regulation—PremierWest Bank, as a state chartered bank with deposits insured by the Federal Deposit Insurance Corporation (“FDIC”), is subject to the supervision and regulation of the state of Oregon and the FDIC. These agencies regularly examine all facets of the Bank’s operations and our financial condition, and may prohibit the Company from engaging in what they believe constitutes unsafe or unsound banking practices. We are required to seek approval from the FDIC and DCBS to open new branches and engage in mergers and acquisitions, among other things.

The Community Reinvestment Act (“CRA”) requires that, in connection with examinations of financial institutions within its jurisdiction, the FDIC evaluate the record of financial institutions in meeting the credit needs of their local communities, including low and moderate-income neighborhoods, consistent with the safe and sound operation of those institutions. These factors are also considered in evaluating mergers, acquisitions and applications to open a new branch or facility. The Company’s current CRA rating is “Satisfactory.”

Banks are subject to restrictions imposed by the Federal Reserve Act on extensions of credit to executive officers, directors, principal shareholders or any related interests of such persons. Extensions of credit (i) must be made on substantially the same terms, including interest rates and collateral as, and follow credit underwriting procedures that are not less stringent than those prevailing at the time for comparable transactions with persons not affiliated with the Company and (ii) must not involve more than the normal risk of repayment or exhibit other unfavorable features. Banks are also subject to certain lending limits and restrictions on overdrafts to such persons. A violation of these restrictions may result in the assessment of substantial civil monetary penalties on the Bank or any officer, director, employee, agent or other person participating in the conduct of the affairs of that bank, the imposition of a cease and desist order or other regulatory sanctions.

Under the Federal Deposit Insurance Corporation Improvement Act (“FDICIA”), each federal banking agency has prescribed, by regulation, capital safety and soundness standards for institutions under its authority. These standards cover internal controls, information and internal audit systems, loan documentation, credit underwriting, interest rate risk exposure, asset growth, compensation, fees and benefits, and standards for asset quality, earnings and stock valuation. An institution that fails to meet these standards must develop a plan acceptable to the agency, specifying the steps that the institution will take to meet the standards. Failure to submit or implement such a plan may subject the institution to regulatory sanctions. Management believes that the Company is in compliance with these standards.

FDICIA included provisions to reform the federal deposit insurance system, including the implementation of risk-based deposit insurance premiums. FDICIA also permits the FDIC to make special assessments on insured depository institutions in amounts determined by the FDIC to be necessary to give it adequate assessment income to repay amounts borrowed from the U.S. Treasury and other sources or for any other purpose the FDIC deems necessary. Pursuant to FDICIA, the FDIC implemented a transitional risk-based insurance premium system on January 1, 1993. Under this system, banks are assessed insurance premiums according to how much risk they are deemed to present to the Deposit Insurance Fund (“DIF”). Banks with higher levels of capital and a low degree of supervisory concern are assessed lower premiums than banks with lower levels of capital or involving a higher degree of supervisory concern. While PremierWest Bank has historically qualified for the lowest premium level, losses incurred over the past three years have reduced the Company’s capital levels and increased supervisory concerns resulting in increased FDIC and state assessments on PremierWest Bank, from $1.1 million in 2008 to $4.7 million in 2010.

 

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From 2008 to 2010, the banking industry, as well as other sectors of the United States economy, realized a number of changes in federal regulation due to the disruption in credit market operations. The most significant of these changes that affected the Company are discussed below.

Temporary Liquidity Guarantee Program (“TLGP”)—On October 13, 2008, the FDIC announced the TLGP to strengthen confidence and encourage liquidity in the banking system. The TLGP consists of two components: a temporary guarantee of newly-issued senior unsecured debt (the Debt Guarantee Program) and a temporary unlimited guarantee of funds in non-interest-bearing transaction and regular checking accounts at FDIC-insured institutions (the Transaction Account Guarantee Program). On December 5, 2008, the Company elected to participate in both the Debt Guarantee Program and Transaction Account Guarantee Program. However, the Company declined the option of issuing certain non-guaranteed senior unsecured debt before issuing the maximum amount of guaranteed debt. The Transaction Account Guarantee Program expired on December 31, 2010. Dodd-Frank provides for unlimited deposit insurance for noninterest bearing transaction accounts (excluding NOW, but including JOLTAs) beginning December 31, 2010 for a period of two years.

Troubled Asset Relief Program (“TARP”)—On October 14, 2008, the U.S. Department of the Treasury announced the TARP Capital Purchase Program. Under the TARP Capital Purchase Program, the U.S. Department of the Treasury purchased senior preferred stock in qualified U.S. financial institutions. The program was intended to encourage participating financial institutions to build capital to increase the flow of financing to U.S. businesses and consumers and to support the U.S. economy. Companies participating in the program must comply with limits on stock repurchases and dividends, and requirements related to executive compensation and corporate governance. Additionally, participants must agree to accept future program requirements as may be promulgated by Congress and regulatory authorities. In 2009, the Company sold $41.4 million of its preferred stock to the U.S. Treasury under the TARP Capital Purchase Program.

Dodd-Frank. On July 21, 2010, President Obama signed the Dodd-Frank Wall Street Reform and Consumer Protection Act (the “Dodd-Frank Reform Act”) into law. The Dodd-Frank Reform Act will change the current bank regulatory structure and affect the lending, deposit, investment, trading and operating activities of financial institutions and their holding companies. The Dodd-Frank Act requires various federal agencies to adopt a broad range of new implementing rules and regulations, and to prepare numerous studies and reports for Congress. The federal agencies are given significant discretion in drafting and implementing rules and regulations, and consequently, many of the details and much of the impact of the Dodd-Frank Act may not be known for many months or years. Significant changes will include:

 

   

The establishment of the Financial Stability Oversight Counsel, which will be responsible for identifying and monitoring systemic risks posed by financial firms, activities, and practices.

 

   

The establishment of a Bureau of Consumer Financial Protection, within the Federal Reserve, to serve as a dedicated consumer-protection regulatory body with broad powers to supervise and enforce consumer protection laws. The Consumer Financial Protection Bureau has broad rule-making authority for a wide range of consumer protection laws that apply to all banks and savings institutions, including the authority to prohibit “unfair, deceptive or abusive” acts and practices. The Consumer Financial Protection Bureau has examination and enforcement authority over all banks with more than $10 billion in assets. Banks with $10 billion or less in assets will continue to be examined for compliance with the consumer laws by their primary bank regulators.

 

   

Amendments to the Truth in Lending Act aimed at improving consumer protections with respect to mortgage originations, including originator compensation, minimum repayment standards, and prepayment considerations.

 

   

Elimination of federal prohibitions on paying interest on demand deposits, thus allowing businesses to have interest bearing checking accounts. Depending on competitive responses, this significant change to existing law could have an adverse impact on the Company’s interest expense.

 

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Broadened base for Federal Deposit Insurance Corporation insurance assessments. Assessments will now be based on the average consolidated total assets less tangible equity capital of a financial institution.

 

   

Federal Reserve determination of reasonable debit card fees.

 

   

Permanent increase to the maximum amount of deposit insurance for banks, savings institutions and credit unions to $250,000 per depositor, retroactive to January 1, 2009, and non-interest bearing transaction accounts have unlimited deposit insurance through December 31, 2013.

 

   

Requirement of publicly traded companies to provide stockholders a non-binding vote on executive compensation and so-called “golden parachute” payments, and by authorizing the Securities and Exchange Commission to promulgate rules that would allow stockholders to nominate their own candidates using a company’s proxy materials. The legislation also directs the Federal Reserve Board to promulgate rules prohibiting excessive compensation paid to bank holding company executives, regardless of whether the company is publicly traded or not.

Many provisions in Dodd-Frank are aimed at financial institutions that are significantly larger than the Company or the Bank. Nonetheless, there are provisions that apply to us and we must begin to comply with immediately. In addition, federal agencies will promulgate rules and regulations to implement and enforce provisions in Dodd-Frank. We will have to apply resources to ensure that we are in compliance with all applicable provisions, which may adversely impact our earnings. The precise nature, extent and timing of many of these reforms and the impact on us is still uncertain.

Deposit Insurance—PremierWest opted to participate in the Transaction Account Guarantee Program, which provides unlimited deposit insurance for non-interest bearing transaction accounts and for regular savings accounts, resulting in an additional quarterly deposit insurance premium assessment paid to the FDIC. As part of this program, PremierWest paid quarterly deposit insurance premium assessments to the FDIC.

The Bank’s deposits are insured up to applicable limits by the DIF of the FDIC. Accordingly, the Bank is subject to deposit insurance premium assessments by the FDIC to maintain the DIF. The FDIC’s risk-based assessment system is based upon a matrix that takes into account a bank’s capital level and supervisory rating. Under current law, the FDIC is required to maintain the DIF reserve ratio within the range of 1.15% to 1.50% of estimated insured deposits. Because the DIF reserve ratio fell and was expected to remain below 1.15%, the Federal Deposit Insurance Act (FDIA) required the FDIC to establish and implement a restoration plan to restore the DIF reserve ratio to at least 1.15% within eight years, absent extraordinary circumstances. Moreover, under a new risk-based assessment system implemented in the second quarter of 2009, annualized deposit insurance assessments range from 7 to 77.5 basis points based on each depository institution’s assets minus Tier 1 capital adjusted for an institution’s unsecured debt, secured liabilities, and brokered deposits. On May 22, 2009, the FDIC adopted a final rule imposing a 5 basis point special assessment on each insured depository institution’s assets minus Tier 1 capital as of June 30, 2009, not to exceed 10 basis points times the institution’s assessment base as of June 30, 2009. This special assessment was collected on September 30, 2009.

Initial base assessment rates ranged from $0.12 to $0.45 per $100 of deposits annually. Further increases in the assessment rate could have a material adverse effect on our earnings, depending upon the amount of the increase. In October 2010, the FDIC adopted a new DIF restoration plan to ensure that the fund reserve ratio reaches 1.35% by September 30, 2020, as required by Dodd-Frank. Under the new restoration plan, the FDIC will forego the uniform three-basis point increase in initial assessment rates schedules for January 1, 2011, and maintain the current schedule of assessment rates. At least semi-annually, the FDIC will update its loss and income projections for the DIF and, if needed, increase or decrease assessment rates. The FDIC has proposed additional rules to change the deposit insurance assessment system.

Dividends—Under the Oregon Bank Act, banks are subject to restrictions on the payment of cash dividends to their parent holding company. A bank may not pay cash dividends if that payment would reduce the amount of

 

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its capital below that necessary to meet minimum applicable regulatory capital requirements. In addition, the amount of the dividend may not be greater than its net unreserved retained earnings, after first deducting (i) to the extent not already charged against earnings or reflected in a reserve, all bad debts, which are debts on which interest is unpaid and past due at least six months; (ii) all other assets charged off as required by the state or federal examiner; and (iii) all accrued expenses, interest and taxes of the Company. Under the Oregon Business Corporation Act, the Company cannot pay a dividend if, after making such dividend payment, it would be unable to pay its debts as they become due in the usual course of business, or if its total liabilities, plus the amount that would be needed, in the event PremierWest Bancorp were to be dissolved at the time of the dividend payment, to satisfy preferential rights on dissolution of holders of preferred stock ranking senior in right of payment to the capital stock on which the applicable distribution is to be made exceed total assets.

The Company’s ability to pay dividends depends primarily on dividends we receive from the Bank. Under federal regulations, the dollar amount of dividends the Bank may pay depends upon its capital position and recent net income. Generally, if the Bank satisfies its regulatory capital requirements, it may make dividend payments up to the limits prescribed under state law and FDIC regulations. The Federal Reserve has issued a policy statement on the payment of cash dividends by bank holding companies, which expresses the Federal Reserve’s view that a bank holding company should pay cash dividends only to the extent that its net income for the past year is sufficient to cover both the cash dividends and a rate of earnings retention that is consistent with the holding company’s capital needs, asset quality and overall financial condition. The Federal Reserve also indicated that it would be inappropriate for a company experiencing serious financial problems to borrow funds to pay dividends. Furthermore, a bank holding company may be prohibited from paying any dividends if the holding company’s bank subsidiary is not adequately capitalized. We suspended dividend payments on our common stock in the second quarter of 2009 and on our preferred stock in the fourth quarter of 2009. We cannot pay dividends unless we receive prior regulatory consent. Until conditions improve and we increase our capital levels we do not expect to pay dividends on our capital stock or receive dividends from the Bank.

In addition, the appropriate regulatory authorities are authorized to prohibit banks and bank holding companies from paying dividends if, in their opinion, such payment constitutes an unsafe or unsound banking practice.

Capital Adequacy—The federal and state bank regulatory agencies use capital adequacy guidelines in their examination and regulation of bank holding companies and banks. If capital falls below the minimum levels established by these guidelines, a holding company or a bank may be denied approval to acquire or establish additional banks or non-bank businesses or to open new facilities.

The FDIC and Federal Reserve have adopted risk-based capital guidelines for banks and bank holding companies. The risk-based capital guidelines are designed to make regulatory capital requirements more sensitive to differences in risk profiles among banks and bank holding companies, to account for off-balance sheet exposure and to minimize disincentives for holding liquid assets. Assets and off-balance sheet items are assigned to broad risk categories, each with appropriate weights. The resulting capital ratios represent capital as a percentage of total risk-weighted assets and off-balance sheet items. The current guidelines require all bank holding companies and federally regulated banks to maintain a minimum risk-based total capital ratio equal to 8%, of which at least 4% must be Tier 1 capital. Generally, banking regulators expect banks to maintain capital ratios well in excess of the minimum.

Tier 1 capital for banks includes common shareholders’ equity, qualifying perpetual preferred stock (up to 25% of total Tier 1 capital, if cumulative; under a Federal Reserve rule, redeemable perpetual preferred stock may not be counted as Tier 1 capital unless the redemption is subject to the prior approval of the Federal Reserve) and minority interests in equity accounts of consolidated subsidiaries, less intangibles. Tier 2 capital includes: (i) the allowance for loan losses of up to 1.25% of risk-weighted assets; (ii) any qualifying perpetual preferred stock which exceeds the amount which may be included in Tier 1 capital; (iii) hybrid capital instruments; (iv) perpetual debt; (v) mandatory convertible securities and (vi) subordinated debt and intermediate

 

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term preferred stock of up to 50% of Tier 1 capital. Total capital is the sum of Tier 1 and Tier 2 capital less reciprocal holdings of other banking organizations, capital instruments and investments in unconsolidated subsidiaries.

Banks’ assets are given risk-weights of 0%, 20%, 50% and 100%. In addition, certain off-balance sheet items are given credit conversion factors to convert them to asset equivalent amounts to which an appropriate risk-weight will apply. These computations result in the total risk-weighted assets.

Most loans are assigned to the 100% risk category, except for first mortgage loans fully secured by residential property, which carry a 50% rating. Most investment securities are assigned to the 20% category, except for municipal or state revenue bonds, which have a 50% risk-weight, and direct obligations of or obligations guaranteed by the U.S. Treasury or U.S. Government agencies, which have 0% risk-weight. In converting off-balance sheet items, direct credit substitutes, including general guarantees and standby letters of credit backing financial obligations, are given 100% conversion factor. The transaction-related contingencies such as bid bonds, other standby letters of credit and undrawn commitments, including commercial credit lines with an initial maturity of more than one year, have a 50% conversion factor. Short-term, self-liquidating trade contingencies are converted at 20%, and short-term commitments have a 0% factor.

The FDIC also has implemented a leverage ratio, which is Tier 1 capital as a percentage of total assets less intangibles, to be used as a supplement to risk-based guidelines. The principal objective of the leverage ratio is to place a constraint on the maximum degree to which a bank may leverage its equity capital base.

FDICIA created a statutory framework of supervisory actions indexed to the capital level of the individual institution. Under regulations adopted by the FDIC, an institution is assigned to one of five capital categories depending on its total risk-based capital ratio, Tier 1 risk-based capital ratio, and leverage ratio, together with certain subjective factors. Institutions deemed to be “undercapitalized” are subject to certain mandatory supervisory corrective actions.

Prompt Corrective Action. The “prompt corrective action” provisions of the FDIA create a statutory framework that applies a system of both discretionary and mandatory supervisory actions indexed to the capital level of FDIC-insured depository institutions. These provisions impose progressively more restrictive constraints on operations, management, and capital distributions of the institution as its regulatory capital decreases, or in some cases, based on supervisory information other than the institution’s capital level. This framework and the authority it confers on the federal banking agencies supplements other existing authority vested in such agencies to initiate supervisory actions to address capital deficiencies. Moreover, other provisions of law and regulation employ regulatory capital level designations the same as or similar to those established by the prompt corrective action provisions both in imposing certain restrictions and limitations and in conferring certain economic and other benefits upon institutions. These include restrictions on brokered deposits, limits on exposure to interbank liabilities, determination of risk-based FDIC deposit insurance premium assessments, and action upon regulatory applications.

FDIC-insured depository institutions are grouped into one of five prompt corrective action capital categories—well-capitalized, adequately capitalized, undercapitalized, significantly undercapitalized and critically undercapitalized—using the Tier 1 risk-based, total risk-based, and Tier 1 leverage capital ratios as the relevant capital measures. An institution is considered well-capitalized if it has a total risk-based capital ratio of at least 10.00%, a Tier 1 risk-based capital ratio of at least 6.00% and a Tier 1 leverage capital ratio of at least 5.00% and is not subject to any written agreement, order or capital directive to meet and maintain a specific capital level for any capital measure. An adequately capitalized institution must have a total risk-based capital ratio of at least 8.00%, a Tier 1 risk-based capital ratio of at least 4.00% and a Tier 1 leverage capital ratio of at least 4.00% (3.00% if it has achieved the highest composite rating in its most recent examination and is not well-capitalized). An institution’s prompt corrective action capital category, however, may not constitute an accurate representation of the overall financial condition or prospects of the institution or its parent bank holding company, and should be considered in conjunction with other available information regarding the financial condition and results of operations of the institution and its parent bank holding company.

 

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

Conservatorship and Receivership of Institutions—If an insured depository institution becomes insolvent and the FDIC is appointed its conservator or receiver, the FDIC may, under federal law, disaffirm or repudiate any contract to which such institution is a party, if the FDIC determines that performance of the contract would be burdensome, and that disaffirmance or repudiation of the contract would promote the orderly administration of the institution’s affairs. Such disaffirmance or repudiation would result in a claim by its holder against the receivership or conservatorship. The amount paid upon such claim would depend upon, among other factors, the amount of receivership assets available for the payment of such claim and its priority relative to the priority of others. In addition, the FDIC as conservator or receiver may enforce most contracts entered into by the institution notwithstanding any provision providing for termination, default, acceleration, or exercise of rights upon or solely by reason of insolvency of the institution, appointment of a conservator or receiver for the institution, or exercise of rights or powers by a conservator or receiver for the institution. The FDIC as conservator or receiver also may transfer any asset or liability of the institution without obtaining any approval or consent of the institution’s shareholders or creditors. The FDIA provides that, in the event of the “liquidation or other resolution” of an insured depository institution, the claims of depositors of the institution, including the claims of the FDIC as subrogee of insured depositors, and certain claims for administrative expenses of the FDIC as a receiver, will have priority over other general unsecured claims against the institution. If an insured depository institution fails, insured and uninsured depositors, along with the FDIC, will have priority in payment ahead of unsecured, non-deposit creditors, including the parent bank holding company, with respect to any extensions of credit they have made to such insured depository institution.

Bank Holding Company Structure—As a bank holding company, the Company is registered with and subject to regulation by the Federal Reserve Board (FRB) under the Bank Holding Company Act of 1956, as amended, or the BHCA. Under FRB policy, a bank holding company is expected to serve as a source of financial and managerial strength to its subsidiary bank and, under appropriate circumstances, to commit resources to support such subsidiary bank. This support may be required at a time when the Company may not have the resources to, or would choose not to, provide it. Certain loans by a bank holding company to a subsidiary bank are subordinate in right of payment to deposits in, and certain other indebtedness of, the subsidiary bank. In addition, federal law provides that in the event of its bankruptcy, any commitment by a 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 a priority of payment.

Under the BHCA, we are subject to periodic examination by the FRB. We are also required to file with the FRB periodic reports of our operations and such additional information regarding the Company and its subsidiaries as the FRB may require. Pursuant to the BHCA, we are required to obtain the prior approval of the FRB before we acquire all or substantially all of the assets of any bank or ownership or control of voting shares of any bank if, after giving effect to such acquisition, we would own or control, directly or indirectly, more than 5 percent of such bank. Under the BHCA, we may not engage in any business other than managing or controlling banks or furnishing services to our subsidiaries that the FRB deems to be so closely related to banking as “to be a proper incident thereto.” We are also prohibited, with certain exceptions, from acquiring direct or indirect ownership or control of more than 5 percent of the voting shares of any company unless the company is engaged in banking activities or the FRB determines that the activity is so closely related to banking to be a proper incident to banking. The FRB’s approval must be obtained before the shares of any such company can be acquired and, in certain cases, before any approved company can open new offices.

 

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The FRB has cease and desist powers over parent bank holding companies and non-banking subsidiaries where the action of a parent bank holding company or its non-financial institutions represent an unsafe or unsound practice or violation of law. The FRB has the authority to regulate debt obligations, other than commercial paper, issued by bank holding companies by imposing interest ceilings and reserve requirements on such debt obligations.

Changing Regulatory Structure of the Banking Industry—The laws and regulations affecting banks and bank holding companies frequently undergo significant changes. Pending bills, or bills that may be introduced in the future, may be expected to contain proposals for altering the structure, regulation, and competitive relationships of the nation’s financial institutions. If enacted into law, these bills could have the effect of increasing or decreasing the cost of doing business, limiting or expanding permissible activities (including insurance and securities activities), or affecting the competitive balance among banks, savings associations and other financial institutions. Some of these bills could reduce the extent of federal deposit insurance, broaden the powers or the geographical range of operations of bank holding companies, alter the extent to which banks will be permitted to engage in securities activities, and realign the structure and jurisdiction of various financial institution regulatory agencies. Whether, or in what form, any such legislation may be adopted or the extent to which the business of the Company might be affected thereby cannot be predicted with certainty.

In December 1999, Congress enacted the Gramm-Leach-Bliley Act (the “GLB Act”) and repealed the nearly 70-year prohibition on banks and bank holding companies engaging in the businesses of securities and insurance underwriting imposed by the Glass-Steagall Act.

Under the GLB Act, a bank holding company may, if it meets certain criteria, elect to be a “financial holding company,” which is permitted to offer, through a nonbank subsidiary, products and services that are “financial in nature” and to make investments in companies providing such services. A financial holding company may also engage in investment banking, and an insurance company subsidiary of a financial holding company may also invest in “portfolio” companies, without regard to whether the businesses of such companies are financial in nature.

The GLB Act also permits eligible banks to engage in a broader range of activities through a “financial subsidiary,” although a financial subsidiary of a bank is more limited than a financial holding company in the range of services it may provide. Financial subsidiaries of banks are not permitted to engage in insurance underwriting, real estate investment or development, merchant banking or insurance portfolio investing. Banks with financial subsidiaries must (i) separately state the assets, liabilities and capital of the financial subsidiary in financial statements; (ii) comply with operational safeguards to separate the subsidiary’s activities from the bank; and (iii) comply with statutory restrictions on transactions with affiliates under Sections 23A and 23B of the Federal Reserve Act.

Activities that are “financial in nature” include activities normally associated with banking, such as lending, exchanging, transferring and safeguarding money or securities and investing for customers. Financial activities also include the sale of insurance as agent (and as principal for a financial holding company, but not for a financial subsidiary of a bank), investment advisory services, underwriting, dealing or making a market in securities, and any other activities previously determined by the Federal Reserve to be permissible non-banking activities.

Financial holding companies and financial subsidiaries of banks may also engage in any activities that are incidental to, or determined by order of the Federal Reserve to be complementary to, activities that are financial in nature.

To be eligible to elect status as a financial holding company, a bank holding company must be adequately capitalized, under the Federal Reserve capital adequacy guidelines, and be well managed, as indicated in the institution’s most recent regulatory examination. In addition, each bank subsidiary must also be well-capitalized

 

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and well managed, and must have received a rating of “satisfactory” in its most recent CRA examination. Failure to maintain eligibility would result in suspension of the institution’s ability to commence new activities or acquire additional businesses until the deficiencies are corrected. The Federal Reserve could require a non-compliant financial holding company that has failed to correct noted deficiencies to divest one or more subsidiary banks, or to cease all activities other than those permitted to ordinary bank holding companies under the regulatory scheme in place prior to enactment of the GLB Act.

In addition to expanding the scope of financial services permitted to be offered by banks and bank holding companies, the GLB Act addressed the jurisdictional conflicts between the regulatory authorities that supervise various types of financial businesses. Historically, supervision was an entity-based approach, with the Federal Reserve regulating member banks and bank holding companies and their subsidiaries. As holding companies are now permitted to have insurance and broker-dealer subsidiaries, the supervisory scheme is oriented toward functional regulation. Thus, a financial holding company is subject to regulation and examination by the Federal Reserve, but a broker-dealer subsidiary of a financial holding company is subject to regulation by the Securities and Exchange Commission, while an insurance company subsidiary of a financial holding company would be subject to regulation and supervision by the applicable state insurance commission.

The GLB Act also includes provisions to protect consumer privacy by prohibiting financial services providers, whether or not affiliated with a bank, from disclosing non-public, personal, financial information to unaffiliated parties without the consent of the customer, and by requiring annual disclosure of the provider’s privacy policy. Each functional regulator is charged with promulgating rules to implement these provisions.

The Company is also subject to the Uniting and Strengthening America by Providing Appropriate Tools Required to Intercept and Obstruct Terrorism Act of 2001 (the “USA Patriot Act”). Among other things, the USA Patriot Act requires financial institutions, such as the Company to adopt and implement specific policies and procedures designed to prevent and defeat money laundering. Management believes the Company is in compliance with the USA Patriot Act.

The Sarbanes-Oxley Act (“Sarbanes-Oxley” or “Act”) of 2002 implemented legislative reforms intended to address corporate and accounting fraud. Sarbanes-Oxley applies to publicly reporting companies including PremierWest Bancorp. The legislation established the Public Company Accounting Oversight Board whose duties include the registering of public accounting firms and the establishment of standards for auditing, quality control, ethics and independence relating to the preparation of public company audit reports by registered accounting firms. The Act includes numerous provisions, but in particular, Section 404 that requires PremierWest Bancorp’s Management, to assess the adequacy and effectiveness of its internal controls over financial reporting. As of December 31, 2010, Management believes the Company is in full compliance with the requirements and provisions of Sarbanes-Oxley.

Section 613 of the Dodd-Frank Act eliminates interstate branching restrictions that were implemented as part of the Riegle-Neal Interstate Banking and Branching Efficiency Act of 1994, and removes many restrictions on de novo interstate branching by national and state-chartered banks. The FDIC and the OCC now have authority to approve applications by insured state nonmember banks and national banks, respectively, to establish de novo branches in states other than the bank’s home state if “the law of the State in which the branch is located, or is to be located, would permit establishment of the branch, if the bank were a State bank chartered by such State.”

Executive Compensation and Corporate Governance. Dodd-Frank includes several corporate governance and executive compensation provisions that apply to public companies generally. The SEC must issue rules requiring exchanges to prohibit the listing of a company’s securities if its board does not have a compensation committee composed entirely of independent directors. Dodd-Frank requires compensation committees to consider factors that might affect the independence of advisors such as compensation consultants and attorneys. At least once every three years, companies are required to provide shareholders with an advisory vote on

 

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executive compensation. At least once every six years, shareholders must be provided a separate advisory vote on whether the say-on-pay vote should occur—every one, two or three years. Dodd-Frank requires the SEC to adopt rules requiring disclosure in a company’s annual proxy statement of the relationship between executive compensation actually paid and the financial performance of the company, taking into account any change in the value of the shares of stock and dividends of the company and any distributions. Dodd-Frank mandates exchanges to adopt listing standards requiring that listed companies develop and implement a claw back policy for accounting restatements. This provision is broader than a similar provision contained in Section 304 of the Sarbanes-Oxley Act in that it covers all current and former executive officers and not only the CEO and CFO; does not require that the restatement results from misconduct and the look-back period is three years instead of one year; and requires companies to adopt and disclose a specific claw back policy.

On June 21, 2010, federal banking regulators issued final joint agency guidance on Sound Incentive Compensation Policies. This guidance applies to executive and non-executive incentive compensation plans administered by banks. The guidance says that incentive compensation programs must:

 

   

Provide employees incentives that appropriately balance risk and reward;

 

   

Compensation should be commensurate with risk- if two activities produce same profit but one carries more risk, the incentive should be lower for the riskier activity;

 

   

Plans that provide awards based on company-wide performance are not likely to create unbalanced risk-taking incentives except, perhaps for senior executives;

 

   

Make sure actual payouts reflect adverse outcomes;

 

   

Consider deferred payouts, judgmental adjustments and longer performance periods to balance short term results against risks that materialize over time.

 

   

Be compatible with effective controls and risk- management;

 

   

The bank should have strong controls for designing, implementing and monitoring incentive plans;

 

   

Create and maintain documentation to support meaningful audits;

 

   

Include appropriate personnel, including risk-management personnel in the design process;

 

   

Risk management and control personnel should have appropriate skills, be sufficiently compensated to attract and retain them and be free of conflicts of interest;

 

   

Monitor performance of incentive compensation plans and make adjustments.

 

   

Be supported by strong corporate governance, including active and effective oversight by the board;

 

   

The board should approve incentive compensation arrangements for senior executives;

 

   

The board should regularly review the design and function of incentive plans;

 

   

The board should keep abreast of emerging practices and choose those that fit the company;

 

   

The board should have sufficient expertise and resources to carry out its oversight function;

 

   

Incentive compensation arrangements should be disclosed to shareholders.

The Federal Reserve will review, as part of the regular, risk-focused examination process, the incentive compensation arrangements of banking organizations. The findings of the supervisory initiatives will be included in reports of examination and any deficiencies will be incorporated into the organization’s supervisory ratings, which can affect the organization’s ability to make acquisitions and take other actions. Enforcement actions may be taken against a banking organization if its incentive compensation arrangements, or related risk-management control or governance processes, pose a risk to the organization’s safety and soundness and the organization is not taking prompt and effective measures to correct the deficiencies.

 

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The FDIC has indicated that it may incorporate a compensation-related risk element in determining levels of deposit insurance assessments. The Federal Reserve, OCC and FDIC recently proposed rules to implement Section 956 of the Dodd-Frank Act, which requires that the agencies prohibit incentive-based payment arrangements that the agencies determine encourage inappropriate risks by providing excessive compensation or that could lead to a material financial loss.

 

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ITEM 1A. RISK FACTORS

The risks described below are not the only risks we face. If any of the events described in the following risk factors actually occurs, or if additional risks and uncertainties not presently known to us or that we currently deem immaterial, materialize, then our business, results of operations and financial condition could be materially adversely affected. In that event, the trading price of our common stock could decline, and you may lose all or part of your investment in our shares. The risks discussed below include forward-looking statements, and our actual results may differ substantially from those discussed in these forward-looking statements.

Risks Related to Our Company

We may be required to raise additional capital, but that capital may not be available when it is needed, or it may only be available on unfavorable terms.

We are required by federal and state regulatory authorities to maintain adequate levels of capital to support our operations. The proceeds of our 2010 rights offering returned our Bank capital levels to published “Well-Capitalized” levels, including exceeding the 10.0% risk-based capital level. We are, however, subject to a Consent Order that requires higher capital levels, including a 10.0% leverage ratio. Our Bank leverage ratio as of December 31, 2010, was 8.85%.

We may need to raise additional capital to maintain or improve our capital position or to comply with regulatory requirements and support our operations. In addition, future losses could reduce our capital levels. Our ability to raise additional capital, if needed, will depend on conditions in the capital markets at that time, which are outside our control, and on our financial performance. Accordingly, we may not be able to raise additional capital, if needed, on terms acceptable to us. If we cannot raise additional capital when needed, our financial condition and our ability to support our operations could be materially impaired. We could be required to take other actions to improve capital ratios including reducing asset levels or shifting asset types to assets with lower risk-weightings, which could reduce our ability to generate revenues and adversely affect our financial condition.

We are subject to formal regulatory agreements with the FDIC, DCBS and Federal Reserve.

In light of the current challenging operating environment, along with our elevated level of non-performing assets, delinquencies and adversely classified assets, we are subject to increased regulatory scrutiny, including a Consent Order with the FDIC and DCBS dated effective April 6, 2010, and a Written Agreement with the Federal Reserve and DCBS dated effective June 4, 2010. The Consent Order requires us to take steps to strengthen the Bank and to refrain from undertaking certain activities. We have limitations on our lending activities and on the rates paid by the Bank to attract retail deposits in its local markets. We are required to reduce our levels of non-performing assets within specified time frames, which could result in less than ideal pricing on the sale of assets. We are restricted from paying dividends from the Bank to the Holding Company during the life of the Consent Order, which restricts our ability to issue preferred stock dividends and make junior subordinated debenture interest payments. The added costs of compliance with additional regulatory requirements could have an adverse effect on our financial condition and earnings. Our ability to grow is constrained by the Consent Order and Written Agreement and we will be unable to expand our operations until we achieve material compliance with the regulatory agreements. The requirements and restrictions of the Consent Order and the Written Agreement are judicially enforceable and the failure of the Company or the Bank to comply with such requirements and restrictions may subject the Company and the Bank to additional regulatory restrictions including: the imposition of civil monetary penalties; the issuance of directives to increase capital or enter into a strategic transaction, whether by merger or otherwise, with a third party; the appointment of a conservator or receiver for the Bank; the liquidation or other closure of the Bank and inability of the Company to continue as a going concern; the termination of insurance of deposits; the issuance of removal and prohibition orders against institution-affiliated parties; and the enforcement of such actions through injunctions or restraining orders. Generally, these enforcement actions will be lifted only after subsequent examinations substantiate complete correction of the underlying issues.

 

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The negative impact of the current economic recession has been particularly acute in our primary market areas of southern and central Oregon and in northern California.

Our operations are geographically concentrated in southern and central Oregon and northern California and our business is sensitive to regional business conditions. Substantially all of our loans are to businesses and individuals in our primary market areas. Our customers are directly and indirectly dependent upon the economies of these areas and upon the timber and tourism industries, which are significant employers and revenue sources in our markets – economic factors that affect these industries will have a disproportionately negative impact on our region and our customers. All geographic regions in which we operate have seen precipitous declines in property values. The State of Oregon suffers from one of the nation’s highest unemployment rates and major employers have implemented substantial layoffs or scaled back growth plans. The State of California continues to face significant fiscal challenges, the long-term effects of which cannot be predicted. A further deterioration in the economic and business conditions or a prolonged delay in economic recovery in our primary market areas could result in the following consequences that could materially and adversely affect our business: increased loan delinquencies; increased problem assets and foreclosures; reduced demand for our products and services; reduction in cash balances of consumers and businesses resulting in declines in deposits; reduced property values that diminish the value of assets and collateral associated with our loans; and a decrease in capital resulting from charge-offs and losses.

We have continuing losses and continuing volatility in our results of operations.

We reported a net loss applicable to shareholders of $7.5 million for the year ended December 31, 2010. Losses resulted primarily from the high level of nonperforming assets and the related reduction in interest income and increased provision for loan losses. We can provide no assurance that we will not have continuing losses in our operations.

We are required to reduce levels of nonperforming assets under our Consent Order.

We are required to improve our financial condition by reducing nonperforming assets. We may seek to sell assets, but market conditions for the sale of assets may not be favorable and we may not be able to lower nonperforming asset levels sufficiently to meet the requirements of the Consent Order or to maintain existing capital levels. If other banks are also required to improve capital levels and choose to sell assets, or if the FDIC sells assets in its position as receiver for a failed bank in our market area, asset pricing could be unfavorable. The sale of nonperforming assets could reduce capital levels and delay compliance with the Consent Order.

We have high levels of nonperforming assets which negatively affect our results of operations.

Our nonperforming assets adversely affect our net income in various ways. Until economic and market conditions improve, we expect to continue to incur additional losses relating to nonperforming loans. We do not record interest income on non-accrual loans, thereby adversely affecting our income, and increasing loan administration costs. When we receive collateral through foreclosures and similar proceedings, we are required to mark the related loan to the then fair market value of the collateral, which may result in a loss. An increase in the level of nonperforming assets also increases our risk profile and may impact the capital levels our regulators believe are appropriate in light of such risks. Decreases in the value of problem assets, the underlying collateral, or in the borrowers’ performance or financial condition, could adversely affect our business, results of operations and financial condition. In addition, the resolution of nonperforming assets requires significant commitments of time from management and staff, which can be detrimental to performance of their other responsibilities. We could experience further increases in nonperforming loans in the future.

 

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The Consent Order limits the types of funding sources on which we may rely and may have a negative impact on our liquidity.

We cannot accept, renew or roll over any brokered deposits, and are required to submit a plan that eliminates our reliance on brokered deposits. In addition, certain interest-rate limits apply to our brokered and solicited deposits. The reduction in the level of brokered deposits, even according to their regular maturity dates, may have a negative impact on our liquidity. Our financial flexibility could be severely constrained if we are unable to obtain brokered deposits or renew wholesale funding or if adequate financing is not available in the future at acceptable rates of interest. We may not have sufficient liquidity to continue to fund new loan originations, and we may need to liquidate loans or other assets unexpectedly in order to repay obligations as they mature. Furthermore, we are now required to provide a higher level of collateral for any funds that we borrow from the Federal Reserve, and we may be required to provide additional collateral to our other funding sources as well. Any additional collateral requirements or limitations on our ability to access additional funding sources are expected to have a negative impact on our liquidity.

We are subject to restrictions on our ability to declare or pay dividends on and repurchase shares of our common stock.

Our ability to pay dividends, and the Bank’s ability to pay dividends to us, is limited by regulatory restrictions and the need to maintain sufficient capital. In the second quarter of 2009, we suspended payment of dividends on our common stock in order to conserve capital. We are subject to formal regulatory restrictions that will continue to prohibit us from declaring or paying any dividend without prior approval of banking regulators. Although we can seek to obtain waiver of such prohibition, we would not expect to be granted such waiver or to be released from this obligation until our financial performance improves significantly. Therefore, we may not be able to resume payments of dividends in the future.

Under the terms of our agreements with the U.S. Treasury in connection with the sale of our Series B Preferred Stock, we are unable to declare dividend payments on common, junior preferred or pari passu preferred shares if we are in arrears on the dividends on the Series B Preferred Stock. We suspended further dividend payments on the Series B Preferred Stock in the fourth quarter of 2009 in order to conserve capital. If dividends on the Series B Preferred Stock are not paid in full for six dividend periods, whether or not consecutive, the holders of the Series B Preferred Stock will have the right to elect two directors. Such right to elect directors will end when full dividends have been paid for four consecutive dividend periods. We also announced that we would defer, as permitted under the terms of indentures, interest payments on junior subordinated debentures issued in connection with trust preferred securities. We are permitted to defer such interest payments for up to 20 consecutive quarters, but during a deferral period we are prohibited from making dividend payments on our capital stock.

Further, if we become current on our Series B Preferred Stock dividends and junior subordinated debenture payments, we cannot increase dividends on our common stock above $0.57 per share per quarter without the U.S. Treasury’s approval or redemption or transfer of the Series B Preferred Stock.

We are subject to executive compensation restrictions because of our participation in the U.S. Treasury’s TARP Capital Purchase Program.

We are subject to TARP rules and standards governing executive compensation, which generally apply to our Chief Executive Officer, Chief Financial Officer and the three next most highly compensated senior executive officers and, with amendments to the rules in 2009, apply to a number of other employees. The standards include (i) a requirement to recover any bonus payment to senior executive officers or certain other employees if payment was based on materially inaccurate financial statements or performance metric criteria; (ii) a prohibition on making any golden parachute payments to senior executive officers and certain other employees; (iii) a prohibition on paying or accruing any bonus payment to certain employees, with narrow

 

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exceptions for grants of long-term restricted stock; (iv) a prohibition on maintaining any plan for senior executive officers that encourages such officers to take unnecessary and excessive risks that threaten the Company’s value; (v) a prohibition on maintaining any employee compensation plan that encourages the manipulation of reported earnings to enhance the compensation of any employee; and (vi) a prohibition on providing tax gross-ups to senior executive officers and certain other employees. These restrictions and standards could limit our ability to recruit and retain executives.

Our business is heavily regulated and the creation of additional regulations may negatively affect our operations.

We are subject to government regulation that could limit or restrict our activities, which in turn could adversely impact our operations. The financial services industry is regulated extensively. Federal and state regulations are designed primarily to protect the deposit insurance funds and consumers, and not to benefit shareholders. These regulations can sometimes impose significant limitations on our operations as well as result in higher operating costs. In addition, these regulations are constantly evolving and may change significantly over time. Significant new regulation or changes in existing regulations or repeal of existing laws may affect our results materially. Further, federal monetary policy, particularly as implemented through the Federal Reserve System, significantly affects credit conditions and interest rates that impact the Company.

We could experience credit losses if new federal or state legislation, or regulatory changes, are implemented to protect customers by reducing the amount that the Bank’s borrowers are otherwise contractually required to pay under existing loan contracts or by limiting the Bank’s ability to foreclose on property or other collateral or makes foreclosure less economically feasible.

Our earnings depend to a large extent upon the ability of our borrowers to repay their loans, and our inability to manage credit risk would negatively affect our business.

We will suffer losses if a significant number of our borrowers, guarantors and related parties fail to perform in accordance with the terms of their loans. We have adopted underwriting and credit monitoring procedures and a credit policy, including the establishment and review of the allowance for loan losses that our management believes are appropriate to minimize this risk by assessing the likelihood of non-performance, tracking loan performance and diversifying our credit portfolio. These policies and procedures, however, involve subjective judgments and may not prevent unexpected losses that could materially affect our results of operations. Moreover, bank regulators frequently monitor loan loss allowances. If regulators were to determine that the allowance was inadequate, they may require us to increase the allowance, which also would adversely impact our financial condition.

Approximately 78% of our gross loan portfolio is secured by real estate, the majority of which is commercial real estate and continued market deterioration could lead to losses.

Declining real estate values have caused increasing levels of charge-offs and provisions for loan losses. Continued declines in real estate market values may precipitate increased charge-offs and a further increase in the allowance for loan losses, which could have a material adverse effect on our business, financial condition and results of operations.

Changes in interest rates could adversely impact our net interest margin, net interest income and net income.

Our earnings depend upon the spread between the interest rate we receive on loans and securities and the interest rates we pay on deposits and borrowings. We are impacted by changing interest rates. Changes in interest rates affect the demand for new loans, the credit profile of existing loans, the rates received on loans and securities and rates paid on deposits and borrowings. The relationship between the rates received on loans and securities and the rates paid on deposits and borrowings is known as interest rate spread. Given our current

 

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volume and mix of interest-bearing liabilities and interest-earning assets, our interest rate spread could be expected to increase during times of rising interest rates and, conversely, to decline during times of falling interest rates. Exposure to interest rate risk is managed by adjusting the re-pricing frequency of PremierWest Bank’s rate-sensitive assets and rate-sensitive liabilities over any given period. Significant fluctuations in interest rates may have an adverse effect on our business, financial condition and results of operations.

Market conditions or regulatory constraints could restrict our access to funds necessary to meet liquidity demands.

Liquidity measures the ability to meet loan demand and deposit withdrawals and to pay liabilities as they come due. A sharp reduction in deposits or rapid increase in loans outstanding could force us to borrow heavily in the wholesale deposit market, purchase federal funds from correspondent banks, borrow at the Federal Home Loan Bank of Seattle or Federal Reserve discount window, raise deposit interest rates or reduce lending activity. Wholesale deposits, federal funds and sources for borrowings may not be available to us due to future regulatory constraints, market conditions or unfavorable terms.

We rely on the Federal Home loan Bank (“FHLB”) of Seattle as a source of liquidity.

The Company has the ability to borrow from FHLB of Seattle to provide a source of wholesale funding for immediate liquidity and borrowing needs. Changes or disruptions to the FHLB of Seattle or the FHLB system in general, may materially impair the Company’s ability to meet its growth plans or to meet short and long term liquidity demands. The Federal Housing Finance Agency reaffirmed FHLB of Seattle’s “undercapitalized” classification at December 31, 2010. The FHLB of Seattle cannot pay a dividend on their common stock and it cannot repurchase or redeem common stock. While the FHLB of Seattle has announced it does not anticipate that additional capital is immediately necessary, and believes that its capital level is adequate to support realized losses in the future, the FHLB of Seattle could require its members, including the Company, to contribute additional capital in order to return the FHLB of Seattle to compliance with capital guidelines.

The financial services industry is highly competitive.

Competition may adversely affect our performance. The financial services industry is highly competitive due to changes in regulation that permit more non-bank companies to offer financial services, technological advances that expand the ability of our competitors to reach our customers and offer products through the internet, and the accelerating pace of consolidation among financial services providers including due to bank failures. Credit unions, as a result of exemptions from federal corporate income tax and regulatory requirements facing banks that reduce operating costs, are able to offer certain products to our current and targeted customers at more competitive rates. We face competition both in attracting deposits and in originating loans and providing transactional services.

Our ability to pay dividends, repurchase shares or repay indebtedness depends primarily upon the results of operations of PremierWest Bank.

We are a separate, distinct legal entity from the Bank and receive substantially all of our revenue from dividends from the Bank. Our inability to receive dividends from the Bank adversely affects our financial condition. The Bank’s ability to pay dividends is primarily dependent on net interest income, which is the income that remains after deducting from total income generated by earning assets the expense attributable to the acquisition of the funds required to support earnings assets, the general level of interest rates, the dynamics of changes in interest rates and the levels of nonperforming loans.

Various statutory and regulatory provisions restrict the amount of dividends the Bank can pay to us without regulatory approval and the Bank is currently restricted from paying dividends without prior regulatory approval until its condition improves. In addition the Bank may not pay cash dividends if that payment could reduce the amount of its capital below that necessary to meet the “adequately capitalized” level in accordance with

 

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regulatory capital requirements. It is also possible that, depending on the financial condition of the Bank and other factors, regulatory authorities could assert that payment of dividends or other payments by the Bank, including payments to the Company, is an unsafe and unsound practice. Under Oregon law, the amount of a dividend from the Bank may not be greater than net unreserved retained earnings, after first deducting to the extent not already charged against earnings or reflected in a reserve, all bad debts, which are debts on which interest is unpaid and past due at least six months unless the debt is fully secured and in the process of collection; all other assets charged-off as required by the DCBS or state or federal examiner; and all accrued expenses, interest and taxes.

Compliance with the recently enacted financial reform legislation may increase our costs of operations and adversely impact our earnings.

Dodd-Frank will change the current bank regulatory structure and affect the lending, deposit, investment, trading and operating activities of financial institutions and their holding companies. Dodd-Frank requires various federal agencies to adopt a broad range of new implementing rules and regulations, and to prepare numerous studies and reports for Congress. The federal agencies are given significant discretion in drafting and implementing rules and regulations, and consequently, many of the details and much of the impact of Dodd-Frank may not be known for many months or years. Significant changes will include:

 

   

The establishment of the Financial Stability Oversight Counsel, which will be responsible for identifying and monitoring systemic risks posed by financial firms, activities, and practices. The establishment of a Bureau of Consumer Financial Protection, within the Federal Reserve, to serve as a dedicated consumer-protection regulatory body with broad powers to supervise and enforce consumer protection laws. The Consumer Financial Protection Bureau has broad rule-making authority for a wide range of consumer protection laws that apply to all banks and savings institutions, including the authority to prohibit “unfair, deceptive or abusive” acts and practices. The Consumer Financial Protection Bureau has examination and enforcement authority over all banks with more than $10 billion in assets. Banks with $10 billion or less in assets will continue to be examined for compliance with the consumer laws by their primary bank regulators.

 

   

Amendments to the Truth in Lending Act aimed at improving consumer protections with respect to mortgage originations, including originator compensation, minimum repayment standards, and prepayment considerations.

 

   

Elimination of federal prohibitions on paying interest on demand deposits, thus allowing businesses to have interest bearing checking accounts. Depending on competitive responses, this significant change to existing law could have an adverse impact on the Company’s interest expense.

 

   

Broadened base for Federal Deposit Insurance Corporation insurance assessments. Assessments will now be based on the average consolidated total assets less tangible equity capital of a financial institution.

 

   

Federal Reserve determination of reasonable debit card fees.

 

   

Permanent increase to the maximum amount of deposit insurance for banks, savings institutions and credit unions to $250,000 per depositor, retroactive to January 1, 2009, and non-interest bearing transaction accounts have unlimited deposit insurance through December 31, 2013.

 

   

Requirement of publicly traded companies to provide stockholders a non-binding vote on executive compensation and so-called “golden parachute” payments, and by authorizing the Securities and Exchange Commission to promulgate rules that would allow stockholders to nominate their own candidates using a company’s proxy materials. The legislation also directs the Federal Reserve Board to promulgate rules prohibiting excessive compensation paid to bank holding company executives, regardless of whether the company is publicly traded or not.

Many provisions in the Dodd-Frank Reform Act are aimed at financial institutions that are significantly larger than the Company or the Bank. Nonetheless, there are provisions that apply to us and we must begin to comply

 

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with immediately. In addition, federal agencies will promulgate rules and regulations to implement and enforce provisions in the Dodd-Frank Reform Act. We will have to apply resources to ensure that we are in compliance with all applicable provisions, which may adversely impact our earnings. The precise nature, extent and timing of many of these reforms and the impact on us is still uncertain.

Difficult market conditions have adversely affected our industry.

Dramatic declines in the housing market over the past three years, with falling home prices and increasing foreclosures and unemployment, have negatively impacted the credit performance of mortgage loans and resulted in significant write-downs of asset values by financial institutions, including government-sponsored entities. These write-downs have caused many financial institutions to seek additional capital, to merge with larger and stronger institutions and, in some cases, to fail. Reflecting concern about the stability of the financial markets generally and the strength of counterparties, many lenders and institutional investors have reduced or ceased providing funding to borrowers, including to other financial institutions. This market turmoil and tightening of credit have led to an increased level of commercial and consumer delinquencies, lack of consumer confidence, increased market volatility and widespread reduction of business activity generally. The resulting economic pressure on consumers and lack of confidence in the financial markets has adversely affected our business, financial condition and results of operations. A worsening of these conditions would likely exacerbate the adverse effects of these difficult market conditions on us and others in the financial services industry. In particular, we may face the following risks in connection with these events:

 

   

We face increased regulation of our industry, as a result of Dodd-Frank, EESA and the American Recovery and Reinvestment Act of 2009 (“ARRA”). Compliance will increase our costs and limit our ability to pursue business opportunities.

 

   

Government stimulus packages and other responses to the financial crises may not stabilize the economy or financial system.

 

   

Our ability to assess the creditworthiness of our customers may be impaired if the models and approaches we use to select, manage, and underwrite our customers become less predictive of future behaviors.

 

   

The process we use to estimate losses inherent in its credit exposure requires difficult, subjective, and complex judgments, including forecasts of economic conditions and how these economic predictions might impair the ability of the Bank’s borrowers to repay their loans. These may no longer be capable of accurate estimation which may, in turn, impact the reliability of the process.

 

   

We will be required to pay significantly higher Federal Deposit Insurance Corporation premiums because market developments have significantly depleted the insurance fund of the FDIC and reduced the ratio of reserves to insured deposits.

 

   

There may be continued downward pressure on our stock price due to such conditions.

 

   

Our ability to engage in routine funding transactions could be adversely affected by the actions and commercial soundness of other financial institutions and government sponsored entities.

 

   

We may face new competitive forces due to intensified consolidation of the financial services industry.

If current levels of market disruption and volatility continue or worsen, there can be no assurance that we will not experience an adverse effect, which may be material, on our ability to access capital, on our business, our financial condition and results of operations.

We rely on technology to deliver products and services and interact with our customers.

We face operational risks as we depend on internal and outsourced technology to support all aspects of our business operations. Interruption or failure of these systems creates a risk of loss of customer confidence if

 

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technology fails to work as expected and risk of regulatory scrutiny if security breaches occur. Risk management programs are expensive to maintain and will not protect the company from all risks associated with maintaining the security of customer information, proprietary data, external and internal intrusions, disaster recovery and failures in the controls used by vendors.

Changes in accounting standards may impact how we report our financial condition and results of operations.

Our accounting policies and methods are fundamental to how we report our financial condition and results of operations. From time to time the Financial Accounting Standards Board (“FASB”) changes the financial accounting and reporting standards that govern the preparation of our financial statements. These changes can be difficult to predict and can materially impact how we record and report our financial condition and results of operations.

The value of securities in our investment securities portfolio may be negatively affected by disruptions in securities markets.

Market conditions may negatively affect the value of securities. There can be no assurance that the declines in market value associated with these disruptions will not result in other-than-temporary impairments of these assets, which would lead to accounting charges that could have a material adverse effect on our net income and capital levels.

Our deposit insurance premium could be substantially higher in the future.

The FDIC insures deposits at the Bank and other financial institutions. The FDIC charges insured financial institutions premiums to maintain the Deposit Insurance Fund at a certain level. Current economic conditions have caused bank failures and expectations for additional bank failures, in which case the FDIC, through the Deposit Insurance Fund, ensures payments of customer deposits at failed banks up to insured limits. In addition, deposit insurance limits on customer deposit accounts have generally increased to $250,000 from $100,000. These developments will cause the premiums assessed by the FDIC to increase and may materially increase our noninterest expense. An increase in the risk category of the Bank will also cause our premiums to increase. Whether through adjustments to base deposit insurance assessment rates, significant special assessments or emergency assessments under the TLGP, increased deposit insurance premiums could have a material adverse effect on our earnings.

If we fail to comply with the requirements of Section 404 of the Sarbanes-Oxley Act of 2002 or to remedy any future material weaknesses in our internal controls that we may identify, such failure could result in material misstatements in our financial statements, cause investors to lose confidence in our reported financial information and have a negative effect on the trading price of our common stock.

Any failure to remediate any material weakness that we may identify or to implement new or improved controls, or difficulties encountered in their implementation, could harm our operating results, cause us to fail to meet our reporting obligations or result in material misstatements in our financial statements. Any such failure also could adversely affect the results of the periodic management evaluations and, in the case of a failure to remediate any material weaknesses that we may identify, would adversely affect the annual auditor attestation reports regarding the effectiveness of our internal control over financial reporting that we are required under Section 404 of the Sarbanes-Oxley Act of 2002. Inferior internal controls could also cause investors to lose confidence in our reported financial information, which could have a negative effect on the trading price of our capital stock.

 

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ITEM 1B. UNRESOLVED STAFF COMMENTS

None.

 

ITEM 2. PROPERTIES

As of December 31, 2010, the Company conducted business through 55 offices including the operations of PremierWest Bank, PremierWest Bank’s mortgage division, and also PremierWest Bank’s two subsidiaries – Premier Finance Company and PremierWest Investment Services, Inc. The 55 offices included 44 full service bank branches and 11 other office locations.

PremierWest Bank’s 44 full service branch facilities are located in Oregon and California and more specifically broken down as follows: 23 branches are located in Jackson (10), Josephine (2), Deschutes (2), Douglas (7) and Klamath (2) counties of Oregon and 21 branches located in Siskiyou (8), Shasta (3), Butte (1), Tehama (2), Yolo (2), Nevada (1), and Sacramento (4) counties of California. Of the 44 branch locations, 30 are owned by PremierWest Bank, 14 are leased, and two locations involve long-term land leases where the Bank owns the building.

The Company’s 11 other locations house administrative and subsidiary operations. These facilities include one campus located in Medford, Oregon with two owned buildings housing the Company’s administrative head office, operations and data processing facilities; two owned administrative facilities—one in Redding, California housing regional administration, our Premier Finance Company subsidiary, and one in Red Bluff, California housing PremierWest Bank administrative functions; one leased location in Bend, Oregon; three leased locations housing stand-alone Premier Finance Company offices in Portland, Eugene, and Roseburg, Oregon; and, three buildings and two owned locations in Medford, Oregon occupied by a Premier Finance Company office and the Bank’s consumer lending group. The Company also leases a storage warehouse in Medford, Oregon.

In addition, to the above, three Premier Finance Company offices are housed within PremierWest Bank full service branch offices, as are various employees of PremierWest Investment Services, Inc., and the Bank’s mortgage division.

The Premier Finance Company office is Roseburg was temporarily leasing office space during building renovations and has now relocated back to the branch building.

The annual rent expense on leased properties was $1.2 million, $1.1 million, and $1.0 million in 2010, 2009 and 2008, respectively.

 

ITEM 3. LEGAL PROCEEDINGS

From time to time, in the normal course of business, PremierWest is party to various legal actions. Management is unaware of any existing legal actions against the Company or its subsidiaries that would have a materially adverse impact on our business, financial condition or results of operations.

 

ITEM 4. (REMOVED AND RESERVED).

 

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PART II

 

ITEM 5. MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES

PremierWest common stock is quoted on the NASDAQ Capital Market (“NASDAQ”) under the symbol “PRWT”. From February 11, 2011 through March 10, 2011, the symbol converted to “PRWTD” as a result of our reverse stock split. The common stock is registered under the Securities Exchange Act of 1934. The table below sets forth the high and low sales prices of PremierWest common stock as reported on NASDAQ. This information has been adjusted to reflect previous stock dividends paid in 2009 and the 1-for-10 reverse stock split that was effective February 10, 2011 – see Note 26. No stock dividend was paid in 2010 or 2008. Bid quotations reflect inter-dealer prices, without adjustment for mark-ups, mark-downs, or commissions and may not necessarily represent actual transactions. On February 25, 2011, the Company had 10,034,491 shares of common stock issued and outstanding, which were held by approximately 834 shareholders of record, a number which does not include approximately 3,300 beneficial owners who hold shares in “street name.” As of March 10, 2011, the most recent date prior to the date of this report, the closing price of the common stock was $2.51 per share.

 

     2010      2009      2008  
     Closing Market
Price
     Cash
Dividends
Declared
     Closing
Market Price
     Cash
Dividends
Declared
     Closing
Market Price
     Cash
Dividends
Declared
 
     High      Low         High              High      Low     

1st Quarter

   $ 16.30       $ 4.50       $ —         $ 67.00       $ 26.20       $ 0.10       $ 115.50       $ 96.20       $ 0.60   

2nd Quarter

   $ 13.80       $ 3.90       $ —         $ 46.70       $ 33.50       $ —         $ 104.00       $ 58.40       $ 0.60   

3rd Quarter

   $ 5.60       $ 3.40       $ —         $ 36.70       $ 27.10       $ —         $ 101.00       $ 51.00       $ 0.60   

4th Quarter

   $ 5.50       $ 3.10       $ —         $ 27.00       $ 13.00       $ —         $ 83.80       $ 51.50       $ —     

The timing and amount of any future dividends PremierWest might pay will be determined by its Board of Directors and will depend on earnings, cash requirements and the financial condition of PremierWest and its subsidiaries, applicable government regulations and other factors deemed relevant by the Board of Directors. Beginning in the second quarter of 2009, the Company announced cessation of dividends. See Item 1 – Dividends. For a discussion of restrictions on dividend payments, please refer to Part I, Item 1 and the Risk Factors in this Form 10-K.

There were no repurchases of common stock by the Company during 2010.

The following table provides information about the number of outstanding options, the associated weighted average price and the number of options available for issuance as of December 31, 2010:

Equity Compensation Plan Information

 

Plan category

   Number of securities to
be issued upon exercise
of outstanding options,
warrants and rights
(a)
     Weighted-average
exercise price of
outstanding options,
warrants and rights
(b)
     Number of securities
remaining available for

future issuance under
equity compensation
plans (excluding
securities reflected in
column (a))
(c)
 

Equity compensation plans approved by security holders

     85,376       $ 91.33         128,636   

Equity compensation plans not approved by security holders

     —           —           —     
                          

Total

     85,376       $ 91.33         128,636   
                          

 

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Performance Graph

The following graph, which is furnished not filed, shows the cumulative total return for our common stock compared to the cumulative total returns for the SNL NASDAQ Bank index and the NASDAQ Composite index. All values were gathered by SNL Financial LLC from sources deemed to be reliable. The comparison assumes that $100 was invested on December 31, 2005 in PremierWest Bancorp common stock and in each of the comparative indexes. The cumulative total return on each investment is as of December 31 for each of the subsequent five years and assumes the reinvestment of all cash dividends and the retention of all stock dividends. PremierWest Bancorp’s five-year cumulative total return was -97.05% compared to -31.66% and 25.91% for the SNL NASDAQ Bank and NASDAQ Composite indexes, respectively.

LOGO

 

            Period Ending         

Index

   12/31/05      12/31/06      12/31/07      12/31/08      12/31/09      12/31/10  

PremierWest Bancorp

     100.00         120.50         91.77         55.16         12.32         2.95   

NASDAQ Bank

     100.00         113.82         91.16         71.52         59.87         68.34   

NASDAQ Composite

     100.00         110.39         122.15         73.32         106.57         125.91   

 

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ITEM 6. SELECTED FINANCIAL DATA

The following table sets forth certain information concerning the consolidated financial condition, operating results and key operating ratios for PremierWest at the dates and for the periods indicated. This information does not purport to be complete, and should be read in conjunction with “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and the Consolidated Financial Statements of PremierWest and Notes thereto.

Premier West Bancorp

Historical Financial Data

 

(Dollars in thousands except per share data)    Years Ended December 31,  
     2010     2009     2008     2007     2006  

Operating Results

          

Total interest income

   $ 69,014      $ 77,915      $ 88,936      $ 82,400      $ 73,212   

Total interest expense

     13,074        19,968        28,573        27,216        19,104   
                                        

Net interest income

     55,940        57,947        60,363        55,184        54,108   

Provision for loan losses

     10,050        88,031        36,500        686        800   

Non-interest income

     11,299        11,052        10,234        8,880        7,741   

Non-interest expense

     62,014        129,722        47,129        38,973        37,415   
                                        

Income (loss) before provision for income taxes

     (4,825     (148,754     (13,032     24,405        23,634   

Provision (benefit) for income taxes

     134        (2,282     (5,493     9,303        8,986   
                                        

Net income (loss)

     (4,959     (146,472     (7,539     15,102        14,648   

Preferred stock dividends and discount accretion

     2,533        2,171        275        275        275   
                                        

Net income (loss) available to common shareholders

   $ (7,492   $ (148,643   $ (7,814   $ 14,827      $ 14,373   
                                        

Per Share Data (1)

          

Basic earnings (loss) per common
share (1)

   $ (0.90   $ (60.07   $ (3.36   $ 8.30      $ 8.10   

Diluted earnings (loss) per common
share (1)

   $ (0.90   $ (60.07   $ (3.36   $ 7.80      $ 7.50   

Dividends declared per common share (1)

   $ —        $ 0.10      $ 1.80      $ 1.70      $ 1.00   

Ratio of dividends declared to net income (loss)

     0.00     -0.16     -53.48     19.14     11.07

Financial Ratios

          

Return on average common equity

     -13.69     -93.07     -4.41     13.05     14.25

Return on average assets

     -0.51     -9.29     -0.54     1.38     1.49

Efficiency ratio (2)

     92.23     188.01     66.76     60.83     60.49

Net interest margin (3)

     4.07     4.10     4.68     5.72     6.25

Balance Sheet Data at Year End

          

Gross loans

   $ 978,546      $ 1,149,027      $ 1,247,988      $ 1,025,329      $ 921,694   

Allowance for loan losses

   $ 35,582      $ 45,903      $ 17,157      $ 11,450      $ 10,877   

Allowance as percentage of gross loans

     3.64     3.99     1.37     1.12     1.18

Total assets

   $ 1,411,220      $ 1,536,314      $ 1,475,954      $ 1,157,961      $ 1,034,511   

Total deposits

   $ 1,266,249      $ 1,420,762      $ 1,211,269      $ 935,315      $ 879,350   

Total equity

   $ 97,008      $ 71,535      $ 176,984      $ 127,675      $ 116,259   

 

Notes:

  (1) Per share data have been restated for subsequent stock dividends and for 1-for-10 reverse stock split effective February 10, 2011.
  (2) Efficiency ratio is calculated by dividing non-interest expense by the sum of net interest income plus non-interest income.
  (3) Tax adjusted at 40.0% for 2010 and 2009, 34.00% for 2008, 38.25% for 2007, and 38.00% for 2006.

 

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ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATION

OVERVIEW

The following discussion should be read in conjunction with PremierWest’s audited consolidated financial statements and the notes thereto as of December 31, 2010 and 2009, and for each of the three years in the periods ended December 31, 2010, 2009, and 2008, that are included in this report.

PremierWest conducts a general commercial banking business, gathering deposits and applying those funds to the origination of loans for commercial, real estate, and consumer purposes and investments.

PremierWest’s profitability depends primarily on net interest income, which is the difference between interest income generated by interest-earning assets (principally loans and investments) and interest expense incurred on interest-bearing liabilities (principally customer deposits). Net interest income is affected by the difference (the “interest rate spread”) between interest rates earned on interest-earning assets and interest rates paid on interest-bearing liabilities, and by the relative volume of interest-earning assets and interest-bearing liabilities. Financial institutions have traditionally used interest rate spreads as a measure of net interest income. Another indication of an institution’s net interest income is its “net yield on interest-earning assets” or “net interest margin,” which is net interest income divided by average interest-earning assets.

PremierWest’s profitability is also affected by such factors as the level of non-interest income and expenses and the provision for loan loss expense. Non-interest income consists primarily of service charges on deposit accounts and fees generated through PremierWest’s mortgage division and investment services subsidiary. Non-interest expense consists primarily of salaries, commissions and employee benefits, OREO and loan collection expenses, professional fees, equipment expenses, occupancy-related expenses, communications, advertising and other operating expenses.

FINANCIAL HIGHLIGHTS

Net loss available to common shareholders for 2010 was $7.5 million, a 95% decrease from 2009 net loss available to common shareholders of $148.6 million. Our diluted earnings (loss) per share were ($0.90) and ($60.07) for the years ended 2010 and 2009, respectively. The Company booked loan loss provision expense of $10.1 million for 2010 compared to $88.0 million in 2009. Net interest income declined $2.0 million primarily due to interest reversed or lost on loans on non-accrual status and a decline in loans outstanding. Return on average common shareholders’ equity was -13.69% and return on average assets was -0.51% for the year ended December 31, 2010. This compared with a return on average shareholders’ equity of -93.07% and a return on average assets of -9.29% for 2009.

 

     Years Ended December 31,  
     2010     2009     2008     2007     2006  
     (Dollars in thousands)  

Net income (loss) available to common shareholders

   $ (7,492   $ (148,643   $ (7,814   $ 14,827      $ 14,373   

Average assets

   $ 1,470,807      $ 1,600,572      $ 1,456,722      $ 1,073,571      $ 966,786   

RETURN ON AVERAGE ASSETS

     -0.51     -9.29     -0.54     1.38     1.49

Net income (loss) available to common shareholders

   $ (7,492   $ (148,643   $ (7,814   $ 14,827      $ 14,373   

Average common equity

   $ 54,725      $ 159,717      $ 177,254      $ 113,654      $ 100,864   

RETURN ON AVERAGE EQUITY AVAILABLE TO COMMON SHAREHOLDERS

     -13.69     -93.07     -4.41     13.05     14.25

Cash dividends declared

   $ —        $ 236      $ 4,032      $ 2,891      $ 1,621   

Net income (loss)

   $ (4,959   $ (146,472   $ (7,539   $ 15,102      $ 14,648   

PAYOUT RATIO

     0.00     -0.16     -53.48     19.14     11.07

Average stockholders’ equity

   $ 94,486      $ 194,475      $ 186,032      $ 123,244      $ 110,454   

Average assets

   $ 1,470,807      $ 1,600,572      $ 1,456,722      $ 1,073,571      $ 966,786   

AVERAGE EQUITY TO ASSET RATIO

     6.42     12.15     12.77     11.48     11.42

 

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Gross loans outstanding declined $170.5 million, or 15% in 2010 and totaled $978.5 million at December 31, 2010 compared to $1.15 billion at December 31, 2009. This was the product of the Company’s strategy to reduce the credit risk profile of the loan portfolio by purposefully lowering outstanding balances in certain targeted portfolio segments. In addition, the decline was due to limited demand for loans in the current economic downturn. Loan charge offs experienced by the Bank also contributed to declines in outstanding balances. Over the past year, our allowance for loan loss decreased 22% to $35.6 million totaling 3.64% of outstanding gross loans at December 31, 2010. The provision expense for loan losses was $10.1 million for 2010 compared to $88.0 million in 2009. Management believes that the allowance for loan and lease losses is adequate as of December 31, 2010, based on our assessment of loan portfolio quality and economic conditions.

Total deposits were $1.27 billion at December 31, 2010, a decrease of $154.5 million from $1.42 billion at December 31, 2009. The decrease was primarily a result of Management’s decision to reduce the level of higher-cost time deposits. Non-interest-bearing demand deposits totaled $242.6 million and accounted for 19% of total deposits at year end compared to $256.2 million or 18% of total deposits at December 31, 2009. The Bank continues to aggressively pursue non-interest-bearing deposit relationships from consumers and businesses.

During the second quarter of 2009, federal and state bank regulators initiated their annual regulatory examination and completed the examination during the third quarter of 2009. As a result of the examination and capital levels, in 2010 the Bank became subject to a formal regulatory agreement with the FDIC. Our Board of Directors initiated a rights offering, as discussed in Note 2—Regulatory Agreement, and the formal regulatory agreement required our leverage capital ratio to reach 10.00% by October 3, 2010, a level above the published regulatory minimum for “well-capitalized.” Our Board of Directors approved Management’s recommendations that the following steps be taken to conserve capital:

 

   

Deferring further dividend payments on the preferred stock issued pursuant to the U.S. Treasury’s Capital Purchase Program; and

 

   

Deferring further interest payments on the Company’s trust preferred securities.

Due to these and other steps taken to comply with the regulatory agreement, the Bank’s capital ratios as of December 31, 2010, are as follows:

 

     2010
Actual
    2009
Actual
    Minimum to be
“Adequately Capitalized”
    Minimum to be
“Well-Capitalized”
 

Total risk-based capital ratio

     12.59     8.53   ³ 8.00   ³ 10.00

Tier 1 risk-based capital ratio

     11.31     7.25   ³ 4.00   ³ 6.00

Leverage ratio

     8.85     5.70   ³ 4.00   ³ 5.00

No action has been taken to date given the Company’s status of compliance with this requirement.

In addition, the Regulatory Agreement required the Bank to reduce its levels of adversely classified assets as of the 2009 regulatory examination to 100% of Tier 1 Capital plus the Allowance for Loan and Lease Losses (ALLL) as of November 3, 2010 and 70% of Tier 1 Capital plus the ALLL as of April 2, 2011. As of October 31, 2010 the Bank had reduced levels of adversely classified assets to Tier 1 Capital plus ALLL to 120.8%. The Company has kept regulatory authorities informed regarding its progress in complying with this requirement. No action has been taken to date given the Company’s status of compliance with this requirement. As of December 31, 2010 adversely classified assets to Tier 1 Capital plus ALLL was 107.0%.

The Oregon Department of Consumer and Business Services, which supervises banks and bank holding companies through its Division of Finance and Corporate Securities, and the Federal Reserve have policies that encourage banks and bank holding companies to pay dividends from current earnings, and have the general authority to limit the dividends paid by banks and bank holding companies, respectively. We do not expect to be in a position to pay dividends on our common or preferred stock or interest payments on trust preferred securities without regulatory approval or until we are “well-capitalized” and have satisfied conditions in, and been released from, our regulatory agreements with the FDIC, DCBS and FRB.

 

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The Company and Bank are currently subject to regulatory requirements to improve capital ratios, reduce non-performing asset totals, restrict dividend payments, maintain an adequate allowance for loan losses, retain experienced management, limit deposit pricing and use of brokered deposits or other wholesale funding sources. Our inability to comply with any aspect of the agreement could result in additional restrictions and penalties, impact our ability to obtain regulatory approval to effect branch transactions or other corporate activities, have an adverse impact on our ability to continue as a going concern and prolong the time we are under regulatory constraints on growing our business.

CRITICAL ACCOUNTING POLICIES AND ESTIMATES

This “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” as well as disclosures included elsewhere in this Form 10-K, are based upon our consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America. The preparation of these financial statements requires Management to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses. On an ongoing basis, Management evaluates the estimates used, including the adequacy of the allowance for loan losses, impairment of intangible assets, contingencies and litigation. Estimates are based upon historical experience, current economic conditions and other factors that Management considers reasonable under the circumstances. These estimates result in judgments regarding the carrying values of assets and liabilities when these values are not readily available from other sources as well as assessing and identifying the accounting treatments of commitments and contingencies. Actual results may differ from these estimates under different assumptions or conditions. The following critical accounting policies involve the more significant judgments and assumptions used in the preparation of the consolidated financial statements.

The allowance for loan losses is established to absorb known and inherent losses attributable to loans outstanding. The adequacy of the allowance is monitored on an ongoing basis and is based on Management’s evaluation of numerous factors. These factors include the quality of the current loan portfolio, the trend in the loan portfolio’s risk ratings, current economic conditions, loan concentrations, loan growth rates, past-due and nonperforming trends, evaluation of specific loss estimates for all significant problem loans, historical charge-off and recovery experience and other pertinent information. As of December 31, 2010, approximately 78% of PremierWest’s gross loan portfolio is secured by real estate. Accordingly, a significant decline in real estate values from current levels in Oregon and California could cause Management to increase the allowance for loan losses and/or experience greater loan charge-offs.

The Company measures and recognizes as compensation expense, the grant date fair market value for all share-based awards. The Company estimates the fair market value of stock-based payment awards on the date of grant using an option-pricing model. The Company uses the Black-Scholes option-pricing model to value its stock options. The Black-Scholes model requires the use of assumptions regarding the risk-free interest rate, the expected dividend yield, the weighted average expected life of the options, and the historical volatility of its stock price.

The Company establishes a deferred tax valuation allowance to reduce the net carrying amount of deferred tax assets if it is determined to be more likely than not that all or some of the deferred tax asset will not be realized. At December 31, 2010, the Company continued to conclude it was more likely than not that the deferred tax asset would not be realized, and the valuation allowance reduced the deferred tax asset to zero. The determination of our ability to fully utilize our deferred tax assets requires significant judgment, the use of estimates and the interpretation of complex tax laws. As such, we have written them down to the net realizable value. Prospectively, as the Company continues to evaluate available evidence, including the depth of the current economic downturn and its implications on its operating results, it is possible that the Company may deem some or all of its deferred income tax assets to be realizable.

In July 2009, the Company acquired two Wachovia Bank branches in Northern California. This acquisition included a core deposit intangible asset representing the value ascribed to the long-term deposit relationships

 

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acquired and a negative CD premium as a result of the current all-in cost of the CD portfolio being well above the cost of similar funding. The core deposit intangible asset is being amortized over an estimated weighted average useful life of 7.4 years. The negative CD premium was fully amortized at December 31, 2010.

RESULTS OF OPERATIONS

Average Balances, Interest Rates and Yields

The following tables set forth certain information relating to PremierWest’s consolidated average interest-earning assets and interest-bearing liabilities and reflect the average yield on assets and average cost of liabilities for the years indicated. The yields and costs are derived by dividing income or expense by the average daily balance of assets or liabilities, respectively, for the periods presented. During the periods indicated, non-accruing loans, if any, are included in the net loan category. The yields and costs include fees, premiums and discounts, which are considered adjustments to yield. The table reflects the effect of income taxes on nontaxable loans and securities.

 

    Years Ended December 31,  
    2010     2009     2008  
    Average
Balance
    Interest
Income or
Expense
    Average
Yields
or Rates
    Average
Balance
    Interest
Income or
Expense
    Average
Yields or
Rates
    Average
Balance
    Interest
Income or
Expense
    Average
Yields or
Rates
 
(Dollars in thousands)      

Interest-earning assets:

                 

Loans (1) (2)

  $ 1,083,574      $ 63,882        5.90   $ 1,221,842      $ 75,078        6.14   $ 1,255,203      $ 87,756        6.99

Investment securities:

                 

Taxable securities

    173,269        4,814        2.78     86,352        2,422        2.80     33,144        1,128        3.40

Nontaxable securities (3)

    5,349        328        6.13     3,647        232        6.36     3,487        227        6.50

Temporary investments

    118,222        309        0.26     106,188        462        0.44     2,802        71        2.53
                                                     

Total interest-earning assets

    1,380,414        69,333        5.02     1,418,029        78,194        5.51     1,294,636        89,182        6.89

Cash and due from banks

    27,521            30,992            33,655       

Allowance for loan losses

    (44,966         (37,795         (20,474    

Other assets

    107,838            189,346            148,905       
                                   

Total assets

  $ 1,470,807          $ 1,600,572          $ 1,456,722       
                                   

Interest-bearing liabilities:

                 

Interest-bearing checking and savings accounts

  $ 487,182        2,372        0.49   $ 480,760        4,245        0.88   $ 427,646        6,912        1.62

Time deposits

    590,701        9,599        1.63     629,742        13,896        2.21     545,329        19,432        3.56

Other borrowings

    30,953        1,103        3.56     35,737        1,827        5.11     48,258        2,229        4.62
                                                     

Total interest-bearing liabilities

    1,108,836        13,074        1.18     1,146,239        19,968        1.74     1,021,233        28,573        2.80

Noninterest-bearing deposits

    251,670            245,829            231,710       

Other liabilities

    15,815            14,029            17,725       
                                   

Total liabilities

    1,376,321            1,406,097            1,270,668       

Shareholders’ equity

    94,486            194,475            186,054       
                                   

Total liabilities and shareholders’ equity

  $ 1,470,807          $ 1,600,572          $ 1,456,722       
                                                     

Net interest income (3)

    $ 56,259          $ 58,226          $ 60,609     
                                   

Net interest spread

        3.84         3.77         4.09

Average yield on earning assets (2)(3)

        5.02         5.51         6.89

Interest expense to earning assets

        0.95         1.41         2.21

Net interest income to earning
assets (2)(3)

        4.08         4.10         4.68

Reconciliation of Non-GAAP measure:

                 

Tax Equivalent Net Interest Income

                 

Net interest income

    $ 55,940          $ 57,947          $ 60,363     

Tax equivalent adjustment for municipal loan interest

      187            186            169     

Tax equivalent adjustment for municipal bond interest

      132            93            77     
                                   

Tax equivalent net interest income

    $ 56,259          $ 58,226          $ 60,609     
                                   

 

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Non-GAAP financial mesures have inherent limitations, are not reuired to be uniformly applied, and are not audited.

Management believes that presentation of this non-GAAP measure provides useful information frequently used by shareholders in the evaluation of a company.

Non-GAAP financial measures have limitations as analytical tools and should not be considered in isolation or as a substitute for analyses of results as reported under GAAP.

(1) Non-accrual loans of approximately $129.5 million for 2010, $98.5 million for 2009, $68.5 million for 2008 are included in the average loan balances.
(2) Loan interest income includes loan fee income of $263,000, $1.1 million, and $1.9 million for 2010, 2009, and 2008, respectively.
(3) Tax-exempt income has been adjusted to a tax equivalent basis at a 40% effective rate for 2010 and 2009, and 34% effective rate for 2008. The amount of such adjustment was an addtion to recorded pre-tax income of $319,000, $279,000, and $246,000 for 2010, 2009, and 2008, respectively.

Net Interest Income

PremierWest’s profitability depends primarily on net interest income, which is the difference between interest income generated by interest-earning assets (principally loans and investments) and interest expense incurred on interest-bearing liabilities (principally customer deposits and borrowed funds). Net interest income is affected by the difference between rates of interest earned on interest-earning assets and rates of interest paid on interest-bearing liabilities (the “interest rate spread”), as well as the relative volumes of interest-earning assets and interest-bearing liabilities. Financial institutions have traditionally used interest rate spreads as a measure of net interest income. Another indication of an institution’s net interest income is its “net yield on interest-earning assets” or “net interest margin,” which is net interest income divided by average interest-earning assets.

Net interest income on a tax equivalent basis, before provisions for loan losses, for the year ended December 31, 2010, was $56.3 million, a decrease of 3% compared to tax equivalent net interest income of $58.2 million in 2009, which was a decrease of 4% compared to tax equivalent net interest income of $60.9 million in 2008. The overall tax-equivalent earning asset yield was 5.02% in 2010 compared to 5.51% in 2009 and 6.89% in 2008. For the years 2010, 2009 and 2008, the cost of interest-bearing liabilities was 1.18%, 1.74%, and 2.80%, respectively.

Total interest-earning assets averaged $1.38 billion for the year ended December 31, 2010, compared to $1.42 million for the corresponding period in 2009. The decrease in earning assets was primarily the result of the decrease in gross loans offset by growth in our investment portfolio.

Interest-bearing liabilities averaged $1.11 billion for the year ended December 31, 2010, compared to $1.15 billion for the same period in 2009. The decrease in interest-bearing liabilities was primarily the result of the reduction in higher-cost time deposits. Interest expense, as a percentage of average earning assets, decreased to 0.95% in 2010, compared to 1.41% in 2009 and 2.21% in 2008.

Average gross loans, which generally carry a higher yield than investment securities and other earning assets, comprised 78% of average earning assets during 2010, compared to 86% in 2009 and 97% in 2008. During the same periods, average yields on loans were 5.9% in 2010, 6.14% in 2009, and 6.99% in 2008. Average investment securities comprised 13% of average earning assets in 2010, which was up from 6% in 2009 and 3% in 2008. Tax equivalent interest yields on investment securities were 1.84% for 2010, 1.59% for 2009, and 3.62% for 2008.

During 2008, the Prime Rate dropped 400 basis points, including a 225 basis point drop in the first four months of 2008 and a 175 basis point drop during the last quarter of the year. The rate has remained constant with no further reductions in 2009 or 2010. As a result, our net interest spread increased by 7 basis points between 2010 and 2009 while declining 32 basis points between 2009 and 2008. From a historical perspective, our balance sheet has been asset sensitive. Accordingly, a declining interest rate environment negatively impacts our net interest income absent increases in earning asset volumes or changes in the mix of earning assets or liabilities.

 

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Rate/Volume Analysis

The following table provides an analysis of the net interest income on a tax equivalent basis indicating the impact of changes in the volume of interest-earning assets and interest-bearing liabilities and of changes in yields earned on interest-earning assets and rates paid on interest-bearing liabilities. The values in this table reflect the extent to which changes in interest income and changes in interest expense are attributable to changes in volume (changes in volume multiplied by the prior-year rate) and changes in rate (changes in rate multiplied by prior-year volume). Changes attributable to the combined impact of volume and rate have been allocated to rate.

 

     2010 vs. 2009
Increase (Decrease) Due To
    2009 vs. 2008
Increase (Decrease) Due To
 
                 Net                 Net  
(Dollars in thousands)    Volume     Rate     Change     Volume     Rate     Change  

Interest-earning assets:

            

Loans

   $ (8,496   $ (2,700   $ (11,196   $ (2,332   $ (10,346   $ (12,678

Investment securities:

            

Taxable securities

     2,438        (46     2,392        1,811        (517     1,294   

Nontaxable securities

     108        (12     96        10        (5     5   

Temporary investments

     52        (205     (153     2,620        (2,229     391   
                                                

Total

     (5,898     (2,963     (8,861     2,109        (13,097     (10,988
                                                

Interest-bearing liabilities:

            

Deposits:

            

Interest-bearing demand and savings

   $ 56        (1,930     (1,874   $ 858      $ (3,525   $ (2,667

Time deposits

     (861     (3,435     (4,296     3,008        (8,545     (5,537

Other borrowings

     (244     (479     (723     (578     176        (402
                                                

Total

     (1,049     (5,844     (6,893     3,288        (11,894     (8,606
                                                

Net increase (decrease) in net interest income

   $ (4,849   $ 2,881      $ (1,968   $ (1,179   $ (1,203   $ (2,382
                                                

Loan Loss Provision

The loan loss provision represents charges made against earnings to maintain an adequate allowance for loan losses. The allowance is maintained at an amount believed to be sufficient to absorb probable losses in the loan portfolio and has two components: one of which represents estimated loss reserves based on assigned credit risk ratings for our entire loan portfolio, and the other represents specifically established reserves for individually classified loans. PremierWest applies a systematic process for determining the adequacy of the allowance for loan losses, including an internal loan review program and a quarterly analysis of the adequacy of the allowance. The quarterly analysis includes determination of specific potential loss factors on individual classified loans; historical potential loss factors derived from actual net charge-off experience and trends in nonperforming loans; and potential loss factors for other loan portfolio risks such as loan concentrations, the condition of the local economy, and the nature and volume of loans. The allowance for loan losses correlates to Management’s judgment of the credit risk inherent in the loan portfolio. Factors considered in establishing an appropriate allowance include an assessment of the financial condition of the borrower; a determination of the value and adequacy of underlying collateral; the condition of the local economy and the condition of the specific industry of the borrower; a comprehensive analysis of the levels and trends of loan categories; an assessment of pending legal action for collection of loans and related guarantees; and, a review of delinquent and classified loans. Although Management believes the loan loss provision has been sufficient to maintain an adequate allowance for loan losses, there can be no assurance that actual loan losses will not require significant additional charges to operations in the future.

For the year ended December 31, 2010, the loan loss provision totaled $10.1 million compared to $88.0 million for 2009, and $36.5 million for 2008. This represents a decrease of 89% between 2010 and 2009 and an

 

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increase of 141% between 2009 and 2008. During 2010, the Bank continued to provide to the allowance for loan losses in response to credit issues experienced with a number of our borrowers. During 2010, there was a $7.3 million increase in OREO due to the continued decline in economic conditions. The decline in economic activity continued to be felt throughout the geographic regions in which we conduct our business. Management has continued to focus additional resources to proactively deal with credit relationships that showed indications of strain, and sought and obtained independent validation of our internal evaluations of real estate collateral dependent loans. Management has progressively enhanced the Company’s loan policies and procedures to adjust to the rapidly evolving economic and credit environment, conducted an ongoing and comprehensive analysis of loan portfolio quality, increased the number of credit administration personnel to oversee the consistent application and adherence to established loan policies and procedures and provided training to all lending personnel. A more detailed review of the allowance for loan losses is presented in the table on page 40.

Loan “charge-offs” refer to the recorded values of loans actually removed from the consolidated balance sheet and, after netting out “recoveries” on previously charged-off loans, become “net charge-offs”. PremierWest’s policy is to charge-off loans when, in Management’s opinion, the loan or a portion thereof is deemed uncollectible, although concerted efforts are made to maximize recovery after the charge-off. Management continues to closely monitor the loan quality of new and existing relationships through detailed review and evaluation procedures and by integrating loan officers into such activities.

For the years ended December 31, 2010 and December 31, 2009, loan charge-offs exceeded recoveries by $20.4 million and $59.3 million, respectively. A more detailed review of charge-offs and recoveries is presented in the table on page 41.

Non-interest Income

Non-interest income is primarily comprised of service charges on deposit accounts; mortgage origination fees; investment brokerage and annuity fees; other commissions and fees; and other non-interest income including gains on sales of investment securities. During 2010, non-interest income increased from $11.1 million in 2009 to $11.3 million, an increase of $247,000 or 2%. The increase from the previous year was primarily related to a $646,000 increase in gains on sales of securities; a $540,000 gain on death benefit from bank-owned life insurance; other commissions and fees increased $269,000; offset by a decrease in deposit service charge income and mortgage fee income of $1.4 million. Other non-interest income categories increased $192,000.

During 2009, non-interest income increased from $10.2 million in 2008 to $11.1 million, an increase of $900,000 or 9%. The increase from the previous year was primarily related to increases in other fee income.

In general, Management prices the Bank’s deposit accounts at rates competitive with those offered by other commercial banks in its market area. Growth in deposits and deposit fees have been generated by offering competitive deposit products, cultivating strong customer relationships through competitively superior service and cross-selling deposit products to loan customers.

Non-interest Expense

Non-interest expenses consist principally of salaries and employee benefits, occupancy and equipment costs, communication expenses, professional fees, advertising, cost associated with other real estate owned and foreclosed assets, and other expenses.

During 2010, non-interest expense decreased by $67.7 million or 52% from $129.7 million in 2009 to $62.0 million in 2010. The decrease was primarily due to a one-time non-cash goodwill impairment expense of $74.0 million and $828,000 merger related costs in the prior year. This was offset by a $4.7 million or 189% increase in net cost of Other Real Estate Owned (“OREO”) and foreclosed assets; a $1.0 million or 29% increase in FDIC and state assessments; a $783,000 or 57% increase in third-party loan costs; a $586,000 or 26% increase in

 

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professional fees; a $401,000 or 48% increase in bank insurance costs; a $390,000 or 97% increase in losses on disposals of premises and equipment associated with the planned consolidation and closure of four branches; and a $160,000 or 1% increase in salaries and employee benefits. Other non-interest expense categories also decreased by $892,000.

During 2009, non-interest expense increased $82.6 million or 175% from $47.1 million in 2008 to $129.7 million in 2009. Increased expenses were primarily driven by the one-time non-cash goodwill impairment expense of $74.9 million. Other increases in non-interest expense included $2.6 million, or 244%, in FDIC and state assessments, $1.5 million, or 6% in salaries and employee benefits, $962,000, or 75%, in professional fees, and $579,000, or 253%, in net OREO expense.

Related Party Transactions

Certain officers and directors (and the companies with which they are associated) are customers of, and have had banking transactions with, the Bank in the ordinary course of business. In addition, the Bank expects to continue to have such banking transactions in the future. All loans, and commitments to lend, to such parties are made on the same terms, including interest rates and collateral, as those prevailing at the time for comparable transactions with other persons. In the opinion of Management, these transactions do not involve more than the normal risk of collectability or present any other unfavorable features.

Provision for Income Taxes

The Company’s effective tax rate was -2.77% and included a $134,000 tax provision in federal and state income taxes for 2010. This compares to effective tax rates of 1.53% for 2009 and 42.15% for 2008. The increase in the effective tax rate is the result of Oregon minimum tax.

The determination of our ability to fully utilize our deferred tax assets requires significant judgment, the use of estimates and the interpretation of complex tax laws. The Company has determined that it is “more likely than not” that we will not be able to fully recognize all of our deferred tax assets. As such, we have written them down to the net realizable value. Prospectively, as the Company continues to evaluate available evidence, including the depth of the current economic downturn and its implications on its operating results, it is possible that the Company may deem some or all of its deferred income tax assets to be realizable.

Efficiency Ratio

Banks use the term “efficiency ratio” to describe the relationship of administrative and other costs associated with generating revenues to certain elements of income, a concept similar to a measurement of overhead. The efficiency ratio is computed by dividing non-interest expense by the sum of net interest income plus non-interest income.

For the year ended December 31, 2010, our efficiency ratio was 92.23% as compared to 188.01%, and 66.76% in 2009 and 2008, respectively. Our efficiency ratio in 2009 without the goodwill impairment would have been 79.42%.

Generally, lower efficiency ratios reflect greater cost containment; however, the success of PremierWest’s community banking strategy necessitates a balance between expense control and the need to maintain high levels of customer service and effective risk management. Accordingly, PremierWest staffs its branches in a manner to support its high standards for delivering exceptional customer service and maintains the necessary administrative personnel to support the desired customer service while maintaining effective risk management through internal control functions such as credit administration, internal audit and compliance.

 

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FINANCIAL CONDITION

The table below sets forth certain summary balance sheet information for December 31, 2010, 2009 and 2008.

 

    December 31,     Increase (Decrease) December 31,  
    2010     2009     2008     2010 – 2009     2009 – 2008  
(Dollars in thousands)      

ASSETS

             

Federal funds sold

  $ 3,085      $ 69,855      $ 165      $ (66,770     (95.58 )%    $ 69,690        42236.36

Investment securities

    214,816        162,321        36,404        52,495        32.34     125,917        345.89

Restricted equity investments

    3,474        3,643        3,643        (169     (4.64 )%      —          0.00

Loans, net

    941,213        1,102,224        1,229,416        (161,011     (14.61 )%      (127,192     (10.35 )% 

Other assets (1)

    248,632        198,271        206,326        50,361        25.40     (8,055     (3.90 )% 
                                           

Total assets

  $ 1,411,220      $ 1,536,314      $ 1,475,954      $ (125,094     (8.14 )%    $ 60,360        4.09
                                           

LIABILITIES

             

Noninterest-bearing deposits

  $ 242,631      $ 256,167      $ 228,788      $ (13,536     (5.28 )%    $ 27,379        11.97

Interest-bearing deposits

    1,023,618        1,164,595        982,481        (140,977     (12.11 )%      182,114        18.54
                                           

Total deposits

    1,266,249        1,420,762        1,211,269        (154,513     (10.88 )%      209,493        17.30

Other liabilities (2)

    47,963        44,017        87,701        3,946        8.96     (43,684     (49.81 )% 
                                           

Total liabilities

    1,314,212        1,464,779        1,298,970        (150,567     (10.28 )%      165,809        12.76

SHAREHOLDERS’ EQUITY

    97,008        71,535        176,984        25,473        35.61     (105,449     (59.58 )% 
                                           

Total liabilities and share-holder’s equity

  $ 1,411,220      $ 1,536,314      $ 1,475,954      $ (125,094     (8.14 )%    $ 60,360        4.09
                                           

 

(1) Include cash and due from banks, mortgage loans held-for-sale, property and equipment, accrued interest receivable, goodwill, intangible assets and other assets.
(2) Includes federal funds purchased, borrowings, accrued interest payable and other liabilities.

Investment Portfolio

Investment securities provide a return on residual funds after lending activities. Investments may be in interest-bearing deposits, U.S. government and agency obligations, state and local government obligations or government-guaranteed, mortgage-backed securities. PremierWest generally does not invest in securities that are rated less than investment grade by a nationally recognized statistical rating organization. All securities-related investment activity is reported to the Board of Directors. Board review is required for significant changes in investment strategy. Certain senior executives have the authority to purchase and sell securities for our portfolio in accordance with PremierWest’s Funds Management policy.

Management determines the appropriate classification of securities at the time of purchase. If Management has the intent and PremierWest has the ability at the time of purchase to hold a security until maturity or on a long-term basis, the security is classified as “held-to-maturity” and is reflected on the balance sheet at historical cost. Securities to be held for indefinite periods and not intended to be held to maturity or on a long-term basis are classified as “available-for-sale.” Available-for-sale securities are reflected on the balance sheet at their estimated fair market value. An outside broker service provides the fair market value for the available-for-sale securities using Level 2 inputs that are fair values for investment securities based on quoted market prices or the market values for comparable securities.

 

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The following table sets forth the carrying value of PremierWest’s investment portfolio at the dates indicated.

 

     December 31,  
(Dollars in thousands)    2010      2009      2008  

Investment securities (available-for sale)

        

Collateralized mortgage obligations

   $ 132,217       $ 76,957       $ —     

Mortgage-backed securities

     9,056         4,301         188   

U.S. Government and agency securities

     36,276         27,794         —     

Obligations of states and political subdivisions

     6,134         5,885         —     
                          
     183,683         114,937         188   

Investment securities (held-to-maturity)

        

Collateralized mortgage obligations

   $ —         $ —         $ —     

Mortgage-backed securities

     4,781         5,807         1799   

U.S. Government and agency securities

     12,151         28,238         27,496   

Obligations of states and political subdivisions

     12,201         9,339         2,921   
                          
     29,133         43,384         32,216   

Investment securities—CRA

     2,000         4,000         4,000   

Restricted equity securities

     3,474         3,643         3,643   
                          

Total investment securities

   $ 218,290       $ 165,964       $ 40,047   
                          

The contractual maturities of investment securities at December 31, 2010, excluding mortgage-related securities, investment securities—CRA and restricted equity securities for which contractual materials are diverse or nonexistent, are shown below. Actual maturities of investment securities could differ from contractual maturities because the borrower, or issuer, may have the right to call or prepay obligations with or without call or prepayment penalties.

 

    2010     2009     2008  
    Amortized
Cost
    Estimated
Fair
Value
    %
Yield (1)
    Amortized
Cost
    Estimated
Fair
Value
    %
Yield (1)
    Amortized
Cost
    Estimated
Fair Value
    %
Yield (1)
 
(Dollars in thousands)      

U.S. Government and agency securities:

                 

One year or less

  $ 7,832      $ 7,832        1.26   $ 3,992      $ 4,035        2.92   $ 12,133      $ 12,309        2.85

One to five years

    40,690        40,973        1.61     35,907        36,175        2.20     15,363        15,606        2.85

Five to ten years

    —          —          —          16,000        15,983        3.75     —          —          —     

Obligations of states and political subdivisions:

                 

One year or less

    —          —          —          261        261        6.03     643        642        6.38

One to five years

    3,154        3,192        5.38     3,542        3,600        4.12     906        904        5.68

Five to ten years

    5,123        5,067        5.19     2,775        2,733        4.88     1,372        1,374        6.81

Over ten years

    9,933        10,072        5.75     8,805        8,595        5.02     —          —          —     
                                                     

Total debt securities

    66,732        67,136          71,282        71,382          30,417        30,835     

Collateralized mortgage obligations

  $ 131,372      $ 132,217        2.86   $ 75,843      $ 76,957        3.07   $ —        $ —       

Mortgaged-backed securities

    13,804        13,945        3.93     10,003        10,134        4.32     1,987        2,039        5.51

Investment securities—CRA

    2,000        2,000        nm        4,000        4,000        nm        4,000        4,000        nm   

Restricted equity securities

    3,474        3,474        nm        3,643        3,643        nm        3,643        3,643        nm   
                                                     

Total securities

  $ 217,382      $ 218,772        $ 164,771      $ 166,116        $ 40,047      $ 40,517     
                                                     

 

(1) For the purposes of this schedule, weighted average yields are stated on an approximate tax-equivalent basis at a 40% rate.

nm = non meaningful

 

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During 2010, we purchased $193.5 million in additional securities. This compares to purchases of $190.5 million and $29.6 million in 2009 and 2008, respectively. During 2010, $139.2 million in securities matured, were called, sold or were paid down. This compares to sales, maturities and/or calls of investment securities of $64.8 million in 2009, and $30.1 million in 2008. During 2010, we reported realized gains of $732,000 and $50,000 in 2009. No security sales were reported during 2008.

At December 31, 2010 PremierWest’s investment portfolio had total net unrealized gains of approximately $1.4 million. This compares to net unrealized gains of approximately $1.3 million at December 31, 2009, and $470,000 at December 31, 2008. Unrealized gains and losses reflect the impact on security values from changes in market interest rates and do not represent the amount of actual profits or losses that may be recognized by the Bank. Actual realized gains and losses occur at the time investment securities are sold or called. Because the decline in fair value is attributable to the changes in interest rates and not credit quality, and because the Bank does not intend to sell the securities in this class and it is not likely that the Bank will be required to sell these securities before recovery of their amortized cost bases, which may include holding each security until maturity, the unrealized losses on these investments are not considered other-than-temporarily impaired.

Securities may be pledged from time-to-time to secure public deposits, FHLB borrowings, repurchase agreement deposit accounts, or for other purposes as required or permitted by law. At December 31, 2010, securities with a market value of $210.0 million were pledged for such purposes.

As of December 31, 2010, PremierWest also held 15,881 shares of $100 par value Federal Home Loan Bank of Seattle (FHLB) stock, which is a restricted equity security. FHLB stock represents an equity interest in the FHLB, but it does not have a readily determinable market value. The stock can be sold at its par value only, and only to the FHLB or to another member institution. Member institutions are required to maintain a minimum stock investment in the FHLB based on specific percentages of their outstanding mortgages, total assets or FHLB advances. At December 31, 2010 and 2009, the Bank met its minimum required investment in FHLB. In addition to FHLB stock, PremierWest bank holds 13,484 shares of stock in the Federal Home Loan Bank of San Francisco. This stock was acquired pursuant to the acquisition of Stockmans Bank and reflects its required minimum stock investment in Federal Home Loan Bank of San Francisco, which must be maintained for a four-year period. The Company is required to hold FHLB’s stock in order to receive advances and views this investment as long-term. In addition, PremierWest also held 200 shares of $1.00 par value Federal Agricultural Mortgage Corporation stock valued at $8,000 that was acquired with the acquisition of Stockmans Bank.

The Bank also owns stock in Pacific Coast Banker’s Bank (PCBB) with a balance of $529,000 in 2010. This investment is carried at its fair market value at acquisition and is included in restricted equity investments on the balance sheet. PCBB operates under a special purpose charter to provide wholesale correspondent banking services to depository institutions. By statute, 100% of PCBB’s outstanding stock is held by depository institutions that utilize its correspondent banking services.

Loan Portfolio

The most significant asset on our balance sheet in terms of risk and the effect on our earnings is our loan portfolio. On our balance sheet, the term “net loans” refers to total loans outstanding, at their principal balance outstanding, net of the allowance for loan losses, deferred loan fees and deferred concessions. PremierWest’s loan policies and procedures establish the basic guidelines governing our lending operations. Generally, the guidelines address the types of loans that we seek, loan concentrations, our target markets, underwriting and collateral requirements, terms, interest rate and yield considerations, and compliance with laws and regulations. All loans or credit lines are subject to approval procedures and limitations as to amounts. These limitations apply to the borrower’s total outstanding indebtedness to the Bank, including the indebtedness of the borrower in a guarantor capacity. The policies are reviewed and approved by the Board of Directors of PremierWest on a routine basis.

 

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Bank officers are charged with loan origination in compliance with underwriting standards overseen by the credit administration department and in conformity with established loan policies. On an as needed but not less than annual basis, the Board of Directors determines the lending authority of the Bank’s loan officers. Such delegated authority may include authority related to loans, letters of credit, overdrafts, uncollected funds, and such other authority as determined by the Board, the President and Chief Executive Officer, or Chief Credit Officer within their own delegated authority.

The Chief Credit Officer has the authority to approve loans up to a $5 million lending limit as set by the Board of Directors. All loans above the lending limit of the Chief Credit Officer, and up to a $7.5 million lending limit, may be approved jointly by the Chief Credit Officer along with a Credit Committee member. Loans that exceed this limit are subject to the review and approval by the Board’s Credit Committee. Credit Committee approval is required for credit extensions rated substandard or worse. PremierWest’s unsecured legal lending limit was approximately $21.0 million and our real estate secured lending limit was approximately $35.1 million at December 31, 2010.

The following table sets forth the composition of the loan portfolio, as of December 31, 2006 through December 31, 2010:

 

    Years Ended December 31,  
    2010     2009     2008     2007     2006  
(Dollars in thousands)   Amount     Percen-
tage
    Amount     Percen-
tage
    Amount     Percen-
tage
    Amount     Percen-
tage
    Amount     Percen-
tage
 

Commercial

  $ 156,482        15.99   $ 209,538        18.24   $ 252,377        20.22   $ 244,156        23.81   $ 219,426        23.81

Real estate—Construction

    123,707        12.64     211,732        18.43     280,219        22.45     268,254        26.16     259,254        28.13

Real Estate—Commercial/ Residential

    579,493        59.22     596,007        51.86     574,677        46.05     405,663        39.57     360,372        39.09

Consumer

    80,004        8.18     86,504        7.53     89,715        7.19     75,395        7.35     53,542        5.81

Agriculture and other

    38,860        3.97     45,246        3.94     51,000        4.09     31,861        3.11     29,100        3.16
                                                                               

Total gross loans

  $ 978,546        100.00   $ 1,149,027        100.00   $ 1,247,988        100.00   $ 1,025,329        100.00   $ 921,694        100.00
                                                                               

Gross loans totaled $978.5 million at December 31, 2010, compared to $1.15 billion as of December 31, 2009 representing a 15% decrease. The decline was primarily a result of loan pay downs, net of originations and recoveries, of $114.1 million; transfers to OREO of $30.6 million; and $26.6 million in loan charge-offs. Unfunded loan commitments and standby letters of credit were $82.0 million as of December 31, 2010, representing a decrease of $43.8 million from total unfunded loan commitments at December 31, 2009. For a more detailed discussion of off-balance sheet arrangements, see Note 16 to the financial statements included in this report.

As indicated above, the Company’s loan portfolio has been concentrated in commercial real estate loans and commercial real estate loans for residential purposes during recent years, a common characteristic among community banks due to focused lending for business and consumer needs in communities within the Bank’s market area. Some commercial loans are secured by real estate, but funds are used for purposes other than financing the purchase of real property, such as inventory financing and equipment purchases, where real property serves as collateral for the loan. Loans of this type are characterized as real estate loans because of the real estate collateral.

Since 2006, Management has taken actions in an attempt to reduce higher risk commercial real estate loan volume by directing efforts away from new commercial real estate loan production. However, the amount of commercial real estate loans remains above what Management considers desirable levels, particularly in light of current conditions. Economic circumstances have produced significant reductions in real estate values, and the

 

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slowdown has resulted in business failures that have adversely affected commercial real estate activities. Consequently, Management actively pursues additional credit support and appropriate exit strategies for commercial real estate loans that have suffered or are anticipated to encounter difficulties. As a result of measures taken to reduce commercial real estate loan volumes, these loans decreased by $16.5 million during 2010.

The table below shows total loan commitments (funded and unfunded) by loan type and geographic region at December 31, 2010:

 

(Dollars in thousands)    December 31, 2010  
     Southern
Oregon
     Mid-Central
Oregon
     Northern
California
     Sacramento
Valley
     Total  

Agricultural/Farm

   $ 11,550       $ 2,931       $ 1,330       $ 29,482       $ 45,293   

C&I

     108,397         41,722         28,147         31,693         209,959   

CRE

     300,907         140,457         72,625         142,516         656,505   

Residential RE construction

     5,439         2,670         2,038         7,610         17,757   

Residential RE

     7,888         2,303         7,383         11,565         29,139   

Consumer RE

     28,028         7,970         11,142         2,400         49,540   

Consumer

     21,604         23,620         5,491         991         51,706   
                                            

Subtotal

     483,813         221,673         128,156         226,257         1,059,899   

Other*

     —           —           —           —           670   
                                            

Total

   $ 483,813       $ 221,673       $ 128,156       $ 226,257       $ 1,060,569   
                                            

 

 * Comprised of credit cards, overdrafts, leases and other adjustments such as loan premiums, etc.

The following table presents maturity and re-pricing information for the loan portfolio at December 31, 2010. The table segments the loan portfolio between fixed-rate and adjustable-rate loans and their respective re-pricing intervals based on fixed-rate loan maturity dates and variable-rate loan re-pricing dates for the periods indicated:

 

     December 31, 2010  
(Dollars in thousands)    Within One
Year (1)
     One to Five
Years
     After Five
Years
     Total  

Fixed-rate loan maturities

           

Commercial

   $ 19,735       $ 20,364       $ —         $ 40,099   

Real estate—Construction

     76,585         2,779         45         79,409   

Real estate—Commercial/Residential

     80,457         73,817         5,064         159,338   

Consumer

     15,292         30,129         6,541         51,962   

Other

     3,152         1,349         —           4,501   
                                   

Total fixed rate loan maturities

     195,221         128,438         11,650         335,309   
                                   

Adjustable-rate loan maturities

           

Commercial

     95,310         21,073         —           116,383   

Real estate—Construction

     42,419         1,879         —           44,298   

Real estate—Commercial/Residential

     218,072         202,083         —           420,155   

Consumer

     28,042         —           —           28,042   

Other

     31,359         3,000         —           34,359   
                                   

Total adjustable-rate loan repricings

     415,202         228,035         —           643,237   
                                   

Total maturities and repricings

   $ 610,423       $ 356,473       $ 11,650       $ 978,546   
                                   

 

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Credit Quality

Management is committed to a credit culture that emphasizes quality underwriting standards and provides for the effective monitoring of loan quality and aggressive resolution to problem loans. Total nonperforming assets as defined in the table below were $161.6 million at December 31, 2010, up from $128.7 million as of December 31, 2009. The nonperforming asset total includes $32.0 million in other real estate owned as of December 31, 2010 as compared to $24.7 million at the previous year end. Nonperforming assets amounted to 11.45% of total assets outstanding at December 31, 2010, up from 8.37% at December 31, 2009, and are primarily a result of the continued economic disruption that began during 2008. Interest income that would have been recognized on non-accrual loans if such loans had performed in accordance with their contractual terms totaled $10.3 million for the year ended December 31, 2010, $9.1 million for the year ended December 31, 2009, and $4.7 million for the year ended December 31, 2008. Actual interest income recognized on such loans on a cash basis during 2010 was approximately $183,000, and $528,000 and $626,000 in 2009 and 2008, respectively.

The following table summarizes nonperforming assets by category:

 

     December 31,  
(Dollars in thousands)    2010     2009     2008     2007     2006  

Loans on nonaccrual status

   $ 129,493      $ 98,497      $ 68,496      $ 8,221      $ 1,430   

Loans past due greater than 90 days but not on nonaccrual status

     123        5,420        1,437        147        24   
                                        

Total non-performing loans

     129,616        103,917        69,933        8,368        1,454   

Impaired loans in process of collection

     —          —          12,682        —          —     

Other real estate owned and foreclosed assets

     32,009        24,748        4,423        —          —     
                                        

Total nonperforming assets

   $ 161,625      $ 128,665      $ 87,038      $ 8,368      $ 1,454   
                                        

Percentage of nonperforming assets to total assets

     11.45     8.37     5.90     0.73     0.14
                                        

Regulatory guidance and current accounting practice is to value all non-performing assets at current appraised value less estimated costs to sell without regard to other factors or documentation. Management continues to work closely with borrowers who are motivated to resolve their financial issues through properly collateralized restructures and workouts. Management continually reviews the holding costs of certain other real estate owned in light of current market conditions.

Nonperforming Loans

Management considers a loan to be nonperforming when it is 90 days or more past due, or sooner if the Bank has determined that repayment of the loan in full is unlikely. For commercial purpose loans, interest accrual ceases when 90 days past due (but no later than the date of acquisition by foreclosure, voluntary deed or other means) and the loan is classified as nonperforming. For consumer purpose loans, interest accrual ceases when 120 days past due. A loan placed on non-accrual status may or may not be contractually past due at the time the determination is made to place the loan on non-accrual status, and it may or may not be secured. When a loan is placed on non-accrual status, it is the Bank’s policy to reverse interest previously accrued but uncollected.

In some instances where the loans are well secured and in the process of collection, such loans will not be placed on non-accrual status. In addition, loans that are impaired pursuant to “Accounting by Creditors for the Impairment of a Loan,” are classified as non-accrual consistent with regulatory guidance. Loans placed on non-accrual status typically remain so until all principal and interest payments are brought current, and the potential for future payments, in accordance with associated loan agreements, appears reasonably certain.

Impaired loans are defined as loans where full recovery of contractual principal and interest is in doubt and include all non-accrual and restructured commercial and real estate loans. The dollar amount of loan impairment

 

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is determined using either the present value of expected future cash flows discounted at the loan’s effective interest rate, the fair value of the collateral of an impaired collateral-dependent loan or an observable market price. Current accounting practice and regulatory guidance places primary emphasis on appraised value for collateral dependent loans. Loan impairment is typically recognized through a charge to the allowance for loan losses reflecting any shortfall between the principal balance owing and the net realizable value of the loan.

At December 31, 2010 and 2009, nonperforming loans (loans 90 days or more delinquent and/or on non-accrual status) totaled approximately $129.6 million and $103.9 million, respectively. The large dollar increase in nonperforming loans between 2010 and 2009 is concentrated in real estate collateralized loans, and is primarily comprised of construction and commercial real estate credits. Management has assessed the real estate collateral for impairment and charged off any impairment on real estate collateral dependent loans. On all other real estate collateralized loans, Management believes that, based on current appraisals or estimates based on the most recent available appraisals discounted for aging, adequate collateral coverage existed as of each year end.

The following table summarizes the Company’s non-performing loans by loan type and geographic region as of December 31, 2010:

 

Total non-performing loans by type and
geographic region

(Dollars in 000’s)

                                         
    December 31, 2010  
  Non-performing Loans     Funded
Loan
Totals*
    Percent NPL
to Funded
Loan Totals
by Category
 
    Southern
Oregon
    Mid-Central
Oregon
    Northern
California
    Sacramento
Valley
    Totals      

Agricultural and other

  $ 383      $ 2,104      $ 50      $ —        $ 2,537      $ 38,860        6.5

C&I

    1,815        5,443        1,293        —          8,551      $ 156,482        5.5

CRE

    54,488        21,400        7,296        17,663        100,847      $ 550,524        18.3

Residential RE construction

    166        1,988        2,106        2,087        6,347      $ 123,707        5.1

Residential RE

    403        553        2,754        6,466        10,176      $ 28,969        35.1

Consumer RE

    787        160        62        —          1,009      $ 32,177        3.1

Consumer*

    42        86        21        —          149      $ 47,827        0.3
                                                 

Total

  $ 58,084      $ 31,734      $ 13,582      $ 26,216      $ 129,616      $ 978,546     
                                                 

Non-performing loans to total funded loans

    13.0     15.6     11.4     12.5     13.2    

Total funded loans

  $ 446,484      $ 203,364      $ 119,576      $ 209,122      $ 978,546       

 

* Includes overdrafts, leases and other adjustments such as deferred loan fees, etc.

The Company’s principal source of non-performing loans is real estate related loans. Borrowers either involved in real estate or having secured loans with real estate have been vulnerable to both the ongoing economic downturn and to declining real estate collateral values. Approximately 91% or $117.4 million of our non-performing loan total of $129.6 million is directly related to real estate in the form of commercial or residential real estate loans. At December 31, 2010, $70.1 million of our real estate related loans remain current as to contractual principal and interest payments, but were placed on non-accrual status due to the absence of evidence supporting the borrowers’ ongoing ability to fully discharge their loan obligations.

 

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The following table summarizes the Company’s non-accrual loan volume by type and as a percent of the related loan portfolio as of December 31, 2010 and 2009:

 

     December 31,  
     2010     2009  
(Dollars in thousands)    Amount      % of
Related
Portfolio
    Amount      % of
Related
Portfolio
 

Commercial

   $ 8,551         5.46   $ 5,175         2.47

Real estate—Construction

     70,118         56.68     65,477         30.92

Real estate—Commercial/Residential

     47,252         8.15     26,986         4.53

Consumer

     1,035         1.29     177         0.20

Other

     2,537         6.53     682         1.51
                      

Total

   $ 129,493         13.23   $ 98,497         8.57
                      

The following table summarizes the Company’s troubled debt restructured loans by type and geographic region as of December 31, 2010:

 

Restructured loans by type and

geographic region (Dollars in 000’s)

                             
    December 31, 2010  
  Restructured loans  
    Southern
Oregon
    Mid-Central
Oregon
    Northern
California
    Sacramento
Valley
    Totals  

Commercial

  $ —        $ —        $ —        $ 224      $ 224   

Real Estate—Construction

    713        3,150        432        7,931        12,226   

Real Estate—Commercial/Residential

    29,470        —          787        2,527        32,784   
                                       

Total restructured loans

  $ 30,183      $ 3,150      $ 1,219      $ 10,682      $ 45,234   
                                       

The following table summarizes the Company’s troubled debt restructured loans by year of maturity, according to the restructured terms, as of December 31, 2010:

 

2011

   $ 26,408   

2012

     15,535   

2013

     3,291   
        

Total

   $ 45,234   
        

Continuing actions taken to address the troubled credit situation include:

 

   

Credit monitoring activities have escalated since the beginning of the fourth quarter of 2008 to provide early warning of possible borrower distress that could lead to loan payment defaults. Enhanced credit monitoring and early warnings are intended to provide additional time to seek viable alternatives with the borrower. Management and staff are actively involved in seeking loan restructuring and other loan modification options including obtaining additional collateral coverage for those borrowers who have experienced payment problems and wish to seek a workable arrangement with the Company. The Company established an Asset Recovery Group (“ARG”) to interface both directly with borrowers and with line managers to expedite resolution of existing and potential troubled credits. As of December 31, 2010, the ARG had 13 staff members. We believe that these actions have and will continue to facilitate recovery strategies with cooperative borrowers. In those instances where alternatives have been exhausted or determined to be impractical and default under the terms of the loans has occurred, foreclosure actions are pursued.

 

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Enhanced the quarterly watch loan review process to focus on higher dollar credits rated watch or worse not, managed by ARG.

 

   

Improved risk rating recertification to include relevant credit metrics in support of the risk rating

 

   

Provided quantitative risk rating tools and training to all lenders or loan officers to improve risk rating accuracy and consistency

 

   

Improved credit risk transparency and oversight through the development of a comprehensive portfolio review package including the monitoring of relevant credit metrics

 

   

Internal credit examinations are completed on a significant portion of our loan portfolio periodically during the year.

A continued decline in economic conditions in our market areas and nationally, as well as other factors, could adversely impact individual borrowers or our loan portfolio in general. As a result, we can provide no assurance that additional loans will not become 90 days or more past due, become impaired or be placed on non-accrual status, restructured or transferred to other real estate owned in the future. Additional information regarding our loan portfolio is provided in Note 6 of the Notes to the Condensed Consolidated Financial Statements.

Other Real Estate Owned and Foreclosed Assets

When the Bank acquires real estate through foreclosure, voluntary deed, or similar means, it is classified as OREO until it is sold. On December 31, 2010, and December 31, 2009 there was $32.0 million and $24.7 million in other real estate owned, respectively. Foreclosed properties included as OREO are recorded at the lower of the carrying value or fair value less the cost to sell, which becomes the property’s new basis. Any write-downs based on the asset’s fair value at the date of acquisition are charged to the allowance for loan losses. After foreclosure, management periodically performs valuations such that the real estate is carried at the lower of its new cost basis or fair value, net of estimated costs to sell. Fair value adjustments on OREO are recorded as a net loss or gain, as appropriate. These losses represent impairments on OREO for fair value adjustments based on the fair value of the real estate.

The balance of OREO has fluctuated during the years ended December 31, 2010 and 2009, as illustrated in the table below:

 

Other real estate owned and foreclosed assets

(Dollars in thousands)

            
     Twelve Months Ended
December 31,
 
     2010     2009  

Other real estate owned, beginning of period

   $ 24,748      $ 4,423   

Transfers from outstanding loans

     30,619        28,303   

Improvements and other additions

     464        671   

Proceeds from sales

     (20,210     (7,485

Gain on sales

     1,735        343   

Impairment charges

     (5,347     (1,507
                

Total other real estate owned

   $ 32,009      $ 24,748   
                

Allowance for Loan Losses

The allowance for loan losses represents the Company’s estimate as to the probable credit losses inherent in its loan portfolio. The allowance for loan losses is increased through periodic charges to earnings through provision for loan losses and represents the aggregate amount, net of loans charged-off and recoveries on previously charged-off loans, that is needed to establish an appropriate reserve for credit losses. The allowance is estimated based on a variety of factors and using a methodology as described below:

 

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The Company classifies loans into relatively homogeneous pools by loan type in accordance with regulatory guidelines for regulatory reporting purposes. The Company regularly reviews all loans within each loan category to establish risk ratings for them that include Pass, Watch, Special Mention, Substandard, Doubtful and Loss. Pursuant to “Accounting for Creditors for Impairment of a Loan”, the impaired portion of collateral dependent loans is charged-off. Other risk-related loans not considered impaired have loss factors applied to the various loan pool balances to establish loss potential for provisioning purposes.

 

   

Analyses are performed to establish the loss factors based on historical experience, as well as, expected losses based on qualitative evaluations of such factors as the economic trends and conditions, industry conditions, levels and trends in delinquencies and impaired loans, levels and trends in charge-offs and recoveries, among others. The loss factors are applied to loan category pools segregated by risk classification to estimate the loss inherent in the Company’s loan portfolio pursuant to “Accounting for Contingencies.”

 

   

Additionally, impaired loans are evaluated for loss potential on an individual basis in accordance with “Accounting for Creditors for Impairment of a Loan,” and specific reserves are established based on thorough analysis of collateral values where loss potential exists. When an impaired loan is collateral dependent and a deficiency exists in the fair value of real estate collateralizing the loan in comparison to the associated loan balance, the deficiency is charged-off at that time. Impaired loans are reviewed no less frequently than quarterly.

 

   

Generally, external appraisals are updated every six to twelve months. We obtain appraisals from a pre-approved list of independent, third party appraisal firms. Approval and addition to the list is based on experience, reputation, character, consistency and knowledge of the respective real estate market. At a minimum, it is ascertained that the appraiser is: (a) currently licensed in the state in which the property is located, (b) is experienced in the appraisal of properties similar to the property being appraised, (c) is actively engaged in the appraisal work, (d) has knowledge of the current real estate market conditions and financing trends, (e) is reputable, and (f) is not on the Bank’s exclusionary list of appraisers. Our Appraisal Review Department will either conduct the review, or will outsource the review to a qualified approved third party appraiser. Upon receipt and review, an external appraisal is utilized to measure a loan for potential impairment. Our impairment analysis documents the date of the appraisal used in the analysis, whether the preparer deems the appraisal to be current, and if not, allows for an internal valuation adjustments with justification. Adjustments may include discounts for continued market deterioration subsequent to appraisal date, adjustments for the release of collateral contemplated in the appraisal, or the value of other collateral or consideration not contemplated in the appraisal. An appraisal over one year old in most cases will be considered stale dated and an updated or new appraisal will be required. Any adjustments from appraised value to net realizable value are detailed and justified in the impairment analysis and reflected in the allowance for loan losses, as appropriate. Although an external appraisal is the primary source to value collateral dependent loans, we may also utilize values obtained through purchase and sale agreements, negotiated short sales, or the sales price of the note. These alternative sources of value are used only if deemed to be more representative of value based on updated information regarding collateral resolution. Impairment analyses are updated on a quarterly basis. Based on these processes, we do not believe there are significant time lapses for the recognition of additional loan loss provisions or charge-offs from the date they become known.

 

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In the event that a current appraisal to support the fair value of the real estate collateral underlying an impaired loan has not yet been received, but the Company believes that the collateral value is insufficient to support the loan amount, an impairment reserve is recorded. In these instances, the receipt of a current appraisal triggers an updated review of the collateral support for the loan and any deficiency is charged-off or reserved at that time. In those instances where a current appraisal is not available in a timely manner in relation to a financial reporting cut-off date, the Company discounts the most recent third-party appraisal depending on a number of factors including, but not limited to, property location, local price volatility, local economic conditions, and recent comparable sales. In all cases, the costs to sell the subject property are deducted in arriving at the fair value of the collateral. Any unpaid property taxes or similar expenses are expensed at the time the property is acquired by the Bank.

The table below summarizes the defined “substandard” loan totals and the defined “impaired” loan totals (collectively, “adversely classified loans) and other related data at quarter end since December 31, 2009:

 

(Dollars in thousands)                               
     December 31,
2010
    September 30,
2010
    June 30,
2010
    March 31,
2010
    December 31,
2009
 

Rated substandard

   $ 135,826      $ 193,133      $ 186,627      $ 191,960      $ 181,675   

Impaired

     129,616        115,103        129,703        104,372        103,917   
                                        

Total adversely classified loans

   $ 265,442      $ 308,236      $ 316,330      $ 296,332      $ 285,592   
                                        

Gross loans

   $ 978,546      $ 1,036,079      $ 1,091,860      $ 1,118,964      $ 1,149,027   

Adversely classified loans to gross loans

     27.13     29.75     28.97     26.48     24.86

Loans 30-89 days past due and still accruing as a percent of gross loans

     0.43     1.12     0.98     1.01     1.30

Allowance for loan losses

   $ 35,582      $ 42,120      $ 43,917      $ 46,518      $ 45,903   

Allowance for loan losses as a percentage of adversely classified loans

     13.40     13.66     13.88     15.70     16.07

The allowance for loan losses as of December 31, 2010, declined to 3.64% of gross loans versus 3.99% as of December 31, 2009. While total non-accrual loans increased to $129.5 million as of December 31, 2010, up from $98.5 million as of December 31, 2009, other leading indicators of credit quality improved during 2010. Adversely classified loans have declined to $265.0 million at December 31, 2010, down from the highpoint during 2010 of $316.3 million at June 30, 2010. Also, loans 30-89 days past due and still accruing as a percent of gross loans fell to 0.43% at December 31, 2010, down from 1.30% at December 31, 2009, and the highpoint during 2010 of 1.01% at September 30, 2010. In addition, net loans charged-off to average gross loans fell to 1.88% during 2010 down from 4.85% experienced during 2009.

In some instances the Company has modified or restructured loans to amend the interest rate and/or to extend the maturity. Through December 31, 2010, any such amendments have generally been consistent with the terms of newly booked loans reflecting current standards for amortization and interest rate and do not represent concessions to such borrowers. In those instances where concessions have met the criteria for a troubled debt restructuring (“TDR”), the related loans have been recorded as TDR’s, placed on non-accrual status and included in the impaired loan totals. TDR’s recorded by the Company at December 31, 2010 totaled $45.2 million and were comprised of 32 loans.

PremierWest’s allowance for loan losses totaled $35.6 million at December 31, 2010, and $45.9 million at December 31, 2009, representing 3.64% of gross loans at December 31, 2010 and 3.99% of gross loans at December 31, 2009. The loan loss allowance represents 27.45% and 44.17% of nonperforming loans at December 31, 2010, and 2009, respectively.

 

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The following is a summary of PremierWest’s loan loss experience and selected ratios for the periods presented:

 

     December 31,  
(Dollars in thousands)    2010     2009     2008     2007     2006  

Gross loans outstanding at end of year

   $ 978,546      $ 1,149,027      $ 1,247,988      $ 1,025,329      $ 921,694   

Average loans outstanding, gross

   $ 1,083,574      $ 1,221,842      $ 1,255,203      $ 961,534      $ 856,945   

Allowance for loan losses, beginning of year

   $ 45,903      $ 17,157      $ 11,450      $ 10,877      $ 10,341   

Loans charged-off:

          

Commercial

     (3,073     (21,997     (10,366     (134     (100

Real estate

     (20,119     (36,353     (25,059     —          —     

Consumer

     (2,659     (2,524     (1,879     (539     (271

Other

     (722     (193     (3,611     (154     (125
                                        

Total loans charged-off

     (26,573     (61,067     (40,915     (827     (496
                                        

Recoveries:

          

Commercial

     2,068        143        143        204        95   

Real estate

     2,888        876        216        —          —     

Consumer

     968        662        229        217        93   

Other

     278        101        422        112        44   
                                        

Total recoveries

     6,202        1,782        1,010        533        232   
                                        

Net charge-offs

     (20,371     (59,285     (39,905     (294     (264

Allowance for loan losses transferred from:

          

Stockmans Financial Group

     —          —          9,112       

Other adjustments (1)

     —          —          —          181        —     

Provision charged to income

     10,050        88,031        36,500        686        800   
                                        

Allowance for loan losses, end of year

   $ 35,582      $ 45,903      $ 17,157      $ 11,450      $ 10,877   
                                        

Ratio of net loans charged-off to average gross loans outstanding

     1.88     4.85     3.18     0.03     0.03
                                        

Ratio of allowance for loan losses to gross loans outstanding

     3.64     3.99     1.37     1.12     1.18
                                        

 

(1) Includes a balance sheet reclassification adjustment (decrease) of $255,000 from the allowance for loan losses to other liabilities. The amount reclassified represents the off-balance sheet credit exposure related to unfunded commitments to lend and letters of credit; and a $436,000 increase resulting from the purchase of a consumer finance loan portfolio on June 29, 2007.

 

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The following table shows the allocation of PremierWest’s allowance for loan losses by category and the percent of loans in each category to gross loans at the dates indicated. PremierWest allocates its allowance for loan losses to each loan classification based on relative risk characteristics. General, Specific and Qualitative allocations are made based on estimated losses that are due to current credit circumstances and other available information for each loan category. General allocations are based on historical loss factors. Specific allocations are related to loans on non-accrual status; estimated reserves based on individual credit risk ratings; loans for which Management believes the borrower might be unable to comply with loan repayment terms, even though the loans are not in non-accrual status; and, loans for which supporting collateral might not be adequate to recover loan amounts if foreclosure and subsequent sale of collateral become necessary. Qualitative allocations include adjustments for economic conditions, concentrations and other subjective factors, and are intended to compensate for the subjective nature of the determination of losses inherent in the overall loan portfolio. Because the total loan loss allowance is a valuation reserve applicable to the entire loan portfolio, the portion of the allowance allocated to each loan category does not necessarily represent the actual losses that may occur within that loan category.

 

    December 31,  
    2010     2009     2008     2007     2006  
(Dollars in thousands)   Allowance
for loan
losses
    % of
loans in
each
category
to total
loans
    Allowance
for loan
losses