Table Of Contents

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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

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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, 2014

 

Commission file number 001-34226

 

1st Century Bancshares, Inc.

(Exact name of registrant as specified in its charter)

 

Delaware	26-1169687
(State or other jurisdiction of incorporation or organization)	(I.R.S. Employer Identification No.)

 

1875 Century Park East, Suite 1400

Los Angeles, California 90067

(Address of principal executive offices)

(Zip Code)

 

(310) 270-9500

Registrant’s telephone number, including area code

 

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

 

Title of each class		Name of each exchange on which registered
Common Stock, par value $0.01 per share		The NASDAQ Capital Market

 

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

 

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.

Yes ☐  No☒

 

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 ☒

 

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 ☒  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 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. ☒

 

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 the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):

Large accelerated filer ☐	Accelerated filer ☐
Non-accelerated filer ☐	Smaller reporting company ☒
(Do not check if a smaller reporting company)

 

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

 

The aggregate market value of the common equity held by non-affiliates was approximately $59.7 million based on the closing sales price of a share of Common Stock of $7.58 as of June 30, 2014.

 

10,166,441 shares of common stock of the registrant were outstanding as of February 20, 2015.

 

DOCUMENTS INCORPORATED BY REFERENCE

Portions of the registrant’s definitive Proxy Statement for its 2015 Annual Meeting of Stockholders are incorporated by reference in Part III of this Form 10-K.

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1st Century Bancshares, Inc.

Index to

Annual Report on Form 10-K

For the Year Ended December 31, 2014

 

		Page
	PART I
Item 1.	Business	4
Item 1A.	Risk Factors	13
Item 1B.	Unresolved Staff Comments	19
Item 2.	Properties	19
Item 3.	Legal Proceedings	19
Item 4.	Mine Safety Disclosures	19
	PART II
Item 5.	Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities	19
Item 6.	Selected Financial Data	21
Item 7.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	21
Item 7A.	Quantitative and Qualitative Disclosures About Market Risk	35
Item 8.	Financial Statements and Supplementary Data	35
Item 9.	Changes in and Disagreements with Accountants on Accounting and Financial Disclosure	35
Item 9A.	Controls and Procedures	35
Item 9B.	Other Information	36
	PART III
Item 10.	Directors, Executive Officers and Corporate Governance	36
Item 11.	Executive Compensation	36
Item 12.	Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters	36
Item 13.	Certain Relationships and Related Transactions, and Director Independence	36
Item 14.	Principal Accounting Fees and Services	36
	PART IV
Item 15.	Exhibits, Financial Statement Schedules	37
Signatures and Certifications		39
Consolidated Financial Statements		41

 

  

Safe Harbor Statement under the Private Securities Litigation Reform Act of 1995

 

This Annual Report on Form 10-K may contain forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended. You can find many (but not all) of these statements by looking for words such as “approximates,” “believes,” “expects,” “anticipates,” “estimates,” “intends,” “plans,” “would,” “may” and other similar expressions in this Annual Report on Form 10-K. With respect to any such forward-looking statements, the Company claims the protection of the safe harbor provided for in the Private Securities Litigation Reform Act of 1995, as amended. The Company cautions investors that any forward-looking statements presented in this Annual Report on Form 10-K, or those that the Company may make orally or in writing from time to time, are based on the beliefs of, assumptions made by, and information available to, management at the time such statements are first made. Actual outcomes will be affected by known and unknown risks, trends, uncertainties and factors that are beyond the Company’s control or ability to predict.  Although the Company believes that management’s beliefs and assumptions are reasonable, they are not guarantees of future performance and some will inevitably prove to be incorrect. As a result, the Company’s actual future results can be expected to differ from management’s expectations, and those differences may be material and adverse to the Company’s business, results of operations and financial condition. Accordingly, investors should use caution in placing any reliance on forward-looking statements to anticipate future results or trends.

 

Some of the risks and uncertainties that may cause the Company’s actual results, performance or achievements to differ materially from those expressed include, but are not limited to, the following: the impact of changes in interest rates; political instability; changes in the monetary policies of the U.S. Government; a renewed decline in economic conditions; deterioration in the value of California real estate, both residential and commercial; an increase in the level of non-performing assets and charge-offs; further increased competition among financial institutions; the Company’s ability to continue to attract interest bearing deposits and quality loan customers; further government regulation and the implementation and costs associated with the same; internal and external fraud and cyber-security threats including the loss of bank or customer funds, loss of system functionality or the theft or loss of data; management’s ability to successfully manage the Company’s operations; and the other risks set forth in the Company’s reports filed with the U.S. Securities and Exchange Commission. For further discussion of these and other factors, see “Item 1A. Risk Factors.”

 

Any forward-looking statements in this Annual Report on Form 10-K and all subsequent written and oral forward-looking statements attributable to the Company or any person acting on behalf of the Company are expressly qualified in their entirety by the cautionary statements contained or referred to in this section. The Company does not undertake any obligation to release publicly any revisions to forward-looking statements to reflect events or circumstances after the date such forward looking statements are made, and hereby specifically disclaims any intention to do so, unless required by law.

 

 

PART I

 

Item 1 - Business

 

Overview

 

1st Century Bancshares, Inc. (“Bancshares”), a Delaware corporation, is registered with the Board of Governors of the Federal Reserve System (the “FRB”) as a bank holding company under the Bank Holding Company Act of 1956, as amended (the “BHC Act”). Bancshares has one subsidiary, 1st Century Bank, National Association (the “Bank”). The Bank is subject to both the regulation of, and periodic examinations by the Office of the Comptroller of the Currency (the “OCC”), which is the Bank’s primary federal regulatory agency.

 

Bancshares and the Bank are collectively referred to herein as “we”, “our”, “us” or “the Company.”

 

Bancshares’ common stock trades on the NASDAQ Stock Market LLC Capital Market (“NASDAQ CM”) under the symbol “FCTY.” All companies listed on the NASDAQ CM must meet certain financial requirements and adhere to NASDAQ CM’s corporate governance standards.

 

Bancshares’ principal source of income is dividends from the Bank. Bancshares’ operating costs, including certain professional fees and stockholders’ costs, are paid from dividends paid to Bancshares by the Bank.

 

At December 31, 2014, the Company had consolidated assets of $585.2 million, deposits of $503.2 million and stockholders’ equity of $61.7 million.

 

The Company maintains a website at http://www.1cbank.com. By including the foregoing website address, the Company does not intend to and shall not be deemed to incorporate by reference any material contained therein. The Company makes available, free of charge through the Company’s website, the Company’s annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, and amendments to these reports, as soon as reasonably practicable after such reports are filed with or furnished to the U.S. Securities and Exchange Commission (the “SEC”). The public may read and copy any materials we file with the SEC at the SEC's Public Reference Room at 100 F Street, NE, Washington, DC 20549. The public may obtain information on the operation of the Public Reference Room by calling the SEC at 1-800-SEC-0330. The SEC maintains a website at http://www.sec.gov that contains reports, proxy and information statements, and other information regarding issuers that file electronically with the SEC.

 

The Bank

 

Headquartered in the West Los Angeles area of Los Angeles, California, known as Century City, the Bank is a full service commercial bank. The Bank was organized as a national banking association on October 27, 2003 and opened for business on March 1, 2004. In addition to a full service branch in Century City, the Bank has relationship offices in Santa Monica and Beverly Hills, California. The Bank’s primary focus is relationship banking to family and closely held middle market businesses, professional service firms, and high net worth individuals, real estate investors and entrepreneurs. The Bank also provides a wide range of banking services to meet the financial needs of the local residential community, with an orientation primarily directed toward owners and employees of our business client base.

 

The Bank’s founders and directors represent leading business executives and professionals in many industries with extensive personal contacts, and business, professional and community relationships throughout the Los Angeles area. The Bank’s goal is to utilize the founders and directors as a source of referrals for developing business relationships and expanding the Bank’s franchise in its target market of the Westside of Los Angeles. The Bank’s management team brings together a wealth of experience with complementary skills designed to build and grow a superior community financial institution from these relationships.

 

Market Area

 

The general market area we serve is loosely defined as La Cienega Boulevard to the east, the Santa Monica Mountains to the north, the Pacific Ocean to the west and the Los Angeles International Airport to the south. This is a highly diversified market with most businesses operating in the service industry, and also includes a concentration of high net worth individuals. According to the Los Angeles Economic Development Corporation (the “LAEDC”), the median household income and per capita income of the Westside of Los Angeles were $72,600 and $47,700, respectively, in 2012 exceeding all other regions of Los Angeles County. The median household income and per capita income of Los Angeles County during the same period were $44,100 and $24,500, respectively. The LAEDC defines the Westside of Los Angeles as the five incorporated cities of Beverly Hills, Culver City, Malibu, Santa Monica and West Hollywood, as well as major portions of the city of Los Angeles. The latter includes some distinct communities such as Bel Air, Brentwood, Century City, Hollywood, Korea Town, Miracle Mile, Pacific Palisades, Westchester, Westwood and Venice. The micro-economic market of Century City, where the Bank is based, is much more concentrated. Smaller businesses dominate this market with 68.5% of employers having less than 5 employees. According to the U.S. Department of Commerce, Bureau of the Census data for 2012, there are approximately 2,500 businesses located in Century City’s one square mile area, of which 799 (32.1%) are professional services firms. Other industries heavily represented in Century City include entertainment, financial services and real estate.

 

 

With a population of nearly a million residents and a workforce of more than 500,000, the Westside of Los Angeles is a major force in the Southern California economy. This area supports over 52 million square feet of rentable office space and has recently been referred to as “Silicon Beach” due to its emergence as a new hub of digital media and high-tech advancements.

 

Target Customers

 

The target market for our products and services is those middle market business and professional firms with basic borrowing needs between $250,000 and $5,000,000 and/or with the need for non-credit services, including operating account services and cash management needs. Loans in excess of our borrowing limits to one customer or related entities are participated out to other financial institutions as a way of accommodating customers with higher borrowing needs. Our market territory is characterized by a sizeable number of small businesses in proportion to the number of large employers. Service firms, merchandising, distribution and support industries make up the vast majority of firms and the employment base. Within the professional services markets, we have made loans to and attracted deposits from law firms, medical practices and individual physicians, business management and accounting firms, real estate professionals, managers and investors and other family and closely held corporations. We also supply credit and depository services to meet the personal needs of their principals, families and employees.

 

We develop business through personalized and direct marketing programs, utilizing experienced banking officers. We rely greatly on our ability to access our investor and founder base, along with referrals from satisfied clients. In addition, we have a very strong commitment to civic, community and business groups important to our client base.

 

Competition

 

The Bank competes with other banks and financial institutions to attract relationships. The Bank faces competition from established local and regional banks. Many of them have larger customer bases, greater name recognition and brand awareness, greater financial and other resources and longer operating histories. In order to compete with the other financial service providers, the Company principally relies upon local promotional activities, personal relationships established by founders, investors, officers, directors, and employees with its customers, and specialized services tailored to meet its customers’ needs. In those instances where the Company is unable to accommodate a customer’s needs, the Company seeks to arrange for such loans on a participation basis with other financial institutions or to have those services provided in whole, or in part, by its correspondent banks. See Part I, Item 1 – “Business - Supervision and Regulation.”

 

Products and Services

 

The Bank’s goal is to deliver the most responsive and adaptive depository and lending products and services to our clientele. While the Bank will endeavor to maintain maximum flexibility with regards to structure, pricing and terms, the Bank’s product offerings are along the following lines:

 

Loans

 

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Business and personal lines of credit and term loans,

 

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Tenant improvement and equipment financing,

 

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Bridge and/or specific purpose loans,

 

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Commercial, industrial, multi-family and 1-4 single family residential real estate lending,

 

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Personal home equity loans and lines of credit, and

 

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Credit cards for business and personal use.

 

 

Deposits

 

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Business checking, money market and certificates of deposit,

 

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Personal checking, money market and certificates of deposits,

 

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Attorney-Client trust accounts,

 

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Trust accounts,

 

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Cash management and on-line banking, and

 

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Debit cards.

 

Loan Approval

 

Our Board of Directors (the “Board”) establishes lending policies to ensure the above objectives are met. The Board has established an approval process that generally requires a high level of review relative to any credit consideration.

 

The Board has granted loan approval authority to the President/Chief Executive Officer and the Executive Vice President/Chief Credit Officer, which may be exercised individually or jointly up to designated approval limits. The Board has also established the Bank’s Board of Directors’ Loan Committee (the “Directors’ Loan Committee”), which approves loans above designated amounts. The Directors’ Loan Committee consists of three outside Bank board members and has approval authority for any one loan up to the Bank’s legal lending limit, which was approximately $9.8 million at December 31, 2014.

 

In addition, the full Board must approve any loan that is subject to FRB Regulation O, which governs loans made by the Bank to the Company’s Directors, executive officers, and principal shareholders as those terms are defined in Regulation O.

 

Loan Review

 

We recognize that the proper monitoring of loans is essential for evaluating the quality of our loan portfolio and for ensuring that the allowance for loan losses is adequate. We have established a loan grading system consisting of nine different categories (Grades 1 through 4 and 4w, and 5 through 8). Grades 1 through 4 and 4w reflect strong, good and satisfactory risk. Grades 5 through 8 include Special Mention (criticized assets) and the classified assets categories of Substandard, Doubtful, and Loss. Loans graded 5 through 8 are evaluated for impairment.

 

The following describes grades 5 through 8 of our loan grading system:

 

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Special Mention – Grade 5. Loan assets categorized as “Special Mention” have potential weaknesses that deserve management’s close attention. Borrower and guarantor’s capacity to meet all financial obligations is marginally adequate or deteriorating.

 

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Substandard – Grade 6. Loan assets classified “Substandard” are inadequately protected by the paying capacity of the Borrower and/or collateral pledged. The borrower or guarantor is unwilling or unable to meet loan terms or loan covenants for the foreseeable future.

 

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Doubtful – Grade 7. Loan assets classified as “Doubtful” have all the weakness inherent in one classified as Substandard with the added characteristic that those weaknesses in place make the collection or liquidation in full, on the basis of current conditions, highly questionable and improbable.

 

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Loss – Grade 8. Loan assets classified as “Loss” are considered uncollectible or no longer a bankable asset. This classification does not mean that the asset has absolutely no recoverable value. In fact, a certain salvage value is inherent in these loans. Nevertheless, it is not practical or desirable to defer writing off a portion or all of a perceived asset even though partial recovery may be collected in the future.

 

 

It is the underwriting department’s responsibility to grade each credit. However, the grade may be changed as the loan moves through the approval process.

 

To further ensure proper risk grading of loans and administration of the loan portfolio, we engaged an independent third party to conduct annual reviews of this function. These reviews assess the quality of (i) the current administration of the loans, (ii) loans that require the attention of management, and (iii) the risk grade identification. The reviews primarily focus on credit quality, compliance with internal policies, loan agreement covenants, laws and regulations, and documentation.

 

Concentrations/Customers

 

Approximately 72.7% of total loans at December 31, 2014, consisted of real estate loans, including first trust deeds on single family residential properties, undeveloped land, multi-family residential properties, commercial/industrial real estate, and construction-in-process. Of the total loans outstanding at December 31, 2014, there are 144 loans that have outstanding balances of $1,000,000 or more, which totals approximately $311.2 million, or 70.3% of the total loan portfolio (some lending relationships will include more than one of these loans). Overall, the loan portfolio has changed from approximately 587 loans totaling $383.5 million at December 31, 2013 to approximately 696 loans totaling $442.8 million at December 31, 2014. At December 31, 2014 and 2013, the average balance per loan was $636,000 and $653,000, respectively. Substantially all of the Company’s loan, as well as deposit customers are located in Southern California.

 

Correspondent Banks

 

Correspondent bank deposit accounts are generally maintained to enable the Bank to transact types of activities that it would otherwise be unable to perform or would not be cost effective due to the size of the Bank or the volume of activity. The Bank has utilized several correspondent banks to process a variety of transactions.

 

Employees

 

At December 31, 2014, the Company had 71 full-time equivalent employees.

 

Economic Conditions, Government Policies, Legislation, and Regulation

     

Introduction

 

Our profitability, like most banks, is primarily dependent on interest rate differentials. In general, the difference between the interest rates paid by us on interest bearing liabilities, such as deposits and other borrowings, and the interest rates received by us on our interest-earning assets, such as loans extended to our clients and securities held in our investment portfolio, comprises the major portion of our earnings.

 

Our business is also influenced by the monetary and fiscal policies of the U.S. federal government and the policies of regulatory agencies, particularly the FRB. The FRB implements national monetary policies (with objectives such as curbing inflation and combating unemployment) through its open-market operations in U.S. Government securities by adjusting the required level of reserves for depository institutions subject to its reserve requirements, and by varying the target federal funds and discount rates applicable to borrowings by depository institutions. The actions of the FRB in these areas influence the growth of bank loans, investments, and deposits and also affect interest rates earned on interest-earning assets and paid on interest bearing liabilities. The nature and impact on us of any future changes in monetary and fiscal policies cannot be predicted.

 

Economic Conditions

 

In late 2007, economic conditions in the United States began deteriorating, resulting in a decline in residential and commercial real estate values, as well as a significant reduction in business activity across a wide range of industries and regions. Although the domestic economy continued its modest recovery during 2014, there can be no assurance that the economy will not enter into another recession, whether in the near or long term future. Market developments such as a relapse or worsening of economic conditions in other parts of the world may exacerbate the lingering effects of the difficult market conditions experienced by us and others in the financial services industry and could further slow, stall or reverse the slow recovery in the U.S.

 

 

Legislation and Regulation

 

From time to time, legislation, as well as regulations, are enacted which have the effect of increasing the cost of doing business, limiting or expanding permissible activities, or affecting the competitive balance between banks and other financial services providers. Proposals to change the laws and regulations governing the operations and taxation of banks, bank holding companies, and other financial institutions and financial services providers are frequently made in the U.S. Congress, in the state legislatures, and before various regulatory agencies. Such legislation may change banking statutes and our operating environment in substantial and unpredictable ways. If enacted, such legislation could increase or decrease the cost of doing business, limit or expand permissible activities or affect the competitive balance among banks, savings banks, credit unions, and other financial institutions. We cannot predict whether any potential legislation will be enacted, and if enacted, the effect that it, or any implementing regulations, would have on our financial condition or results of operations. See Part I, Item 1 - “Business - Supervision and Regulation.”

 

The Dodd-Frank Act

 

The economic events of the past several years have led to numerous new laws and regulatory pronouncements in the United States and internationally for financial institutions. The Dodd-Frank Wall Street Reform and Consumer Protection Act (“Dodd-Frank Act”), enacted in 2010, is one of the most far reaching legislative actions affecting the financial services industry in decades and significantly restructures the financial regulatory regime in the United States.

 

The Dodd-Frank Act broadly affects the financial services industry by creating new resolution authorities, requiring ongoing stress testing of capital, mandating higher capital and liquidity requirements, increasing regulation of executive and incentive-based compensation and requiring numerous other provisions aimed at strengthening the sound operation of the financial services sector depending, in part, on the size of the financial institution. Various provisions of the Dodd-Frank Act are effective and have been fully implemented, including: the revisions in the deposit insurance assessment base for FDIC insurance; the permanent increase in coverage to $250,000; the permissibility of paying interest on business checking accounts; the removal of barriers to interstate branching; and required disclosure and shareholder advisory votes on executive compensation. Implementation in 2014 of additional Dodd-Frank Act regulatory provisions included aspects of the final new capital rules, and a final rule to implement the so called “Volcker Rule” restrictions on certain proprietary trading and investment activities.

 

In 2014, the Consumer Finance Protection Bureau (the “CFPB”) adopted revisions to Regulation Z, which implement the Truth in Lending Act, pursuant to the Dodd-Frank Act, and apply to all consumer mortgages (except home equity lines of credit, timeshare plans, reverse mortgages, or temporary loans). The revisions mandate specific underwriting criteria for home loans in order for creditors to make a reasonable, good faith determination of a consumer's ability to repay, and establish certain protections from liability under this requirement for “qualified mortgages” meeting certain standards. In particular, it will prevent banks from making “no doc” and “low doc” home loans, as the rules require that banks determine a consumer’s ability to pay based in part on verified and documented information. Because we do not originate “no doc” or “low doc” loans, we do not believe this regulation will have a significant impact on our operations. However, because a substantial portion of the mortgage loans originated by the Bank do not meet the definitions for a “qualified mortgage” under final regulations adopted by the CFPB, the Bank may be subject to additional disclosure obligations and extended time periods for the assertion of defenses by the borrower against enforcement in connection with such mortgage loans.

 

Supervision and Regulation

 

Bank Holding Company and Bank Regulation

 

Bank holding companies and their bank and non-bank subsidiaries are subject to significant regulation and restrictions by Federal and State laws and regulatory agencies. These laws, regulations and restrictions, which may affect the cost of doing business, limit permissible activities and expansion or impact the competitive balance between banks and other financial services providers, are intended primarily for the protection of depositors and the FDIC deposit insurance fund (“DIF”), and secondarily for the stability of the U.S. banking system. They are not intended for the benefit of shareholders of financial institutions. The following discussion of key statutes and regulations to which the Company is subject is a summary and does not purport to be complete nor does it address all applicable statutes and regulations. This discussion is qualified in its entirety by reference to the statutes and regulations referred to in this discussion.

 

 

The wide range of requirements and restrictions contained in both Federal and State banking laws include:

 

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Requirements that bank holding companies and banks meet or exceed minimum capital requirements. See Part 1, Item 1. “Business – Capital Standards.”

 

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Requirements that bank holding companies serve as a source of financial and managerial strength for their banking subsidiaries. In addition, the regulatory agencies have “prompt corrective action” authority to limit activities and require a limited guaranty of a required bank capital restoration plan by a bank holding company if the capital of a bank subsidiary falls below capital levels required by the regulators. Under the new capital rules summarized below, in order to generally be considered “well-capitalized” for bank regulatory purposes, as of January 1, 2015 the Bank is required to meet the new common equity Tier 1 ratio of 6.5%, an increased Tier 1 ratio of 8% (increased from 6%), a total capital ratio of 10% (unchanged) and a leverage ratio of 5% (unchanged).

 

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Limitations on dividends payable to shareholders. Bancshare’s ability to pay dividends on both its common and preferred stock are subject to legal and regulatory restrictions, and would be derived from dividends paid by the Bank.

 

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Limitations on dividends payable by bank subsidiaries. These dividends are subject to various legal and regulatory restrictions. The federal banking agencies have indicated that paying dividends that deplete a depositary institution’s capital base to an inadequate level would be an unsafe and unsound banking practice. Moreover, the federal agencies have issued policy statements that provide that bank holding companies and insured banks should generally only pay dividends out of current operating earnings.

 

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Safety and soundness requirements. Banks must be operated in a safe and sound manner and meet standards applicable to internal controls, information systems, internal audit, loan documentation, credit underwriting, interest rate exposure, asset growth and compensation, as well as other operational and management standards. These safety and soundness requirements give bank regulatory agencies significant latitude in exercising their supervisory authority and their authority to initiate informal or formal enforcement action.

 

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Requirements for approval of acquisitions and activities. Prior approval or nonobjection of the applicable federal regulatory agencies is required for most acquisitions and mergers and in order for Bancshares or the Bank to engage in certain nonbanking activities and activities that have been determined by the Federal Reserve to be financial in nature, incidental to financial activities, or complementary to a financial activity.

 

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Compliance with the Community Reinvestment Act (the “CRA”). The CRA requires that banks help meet the credit needs in their communities, including the availability of credit to low and moderate income individuals. If the Company or the Bank fails to adequately serve their communities, penalties may be imposed, including denials of applications for branches, to add subsidiaries and affiliates, or to merge with or purchase other financial institutions. In its last reported examination by the OCC in May 2014, the Bank received a CRA rating of “Satisfactory.”

 

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Compliance with the Bank Secrecy Act, the USA Patriot Act, and other anti-money laundering laws. These laws and regulations require financial institutions to assist U.S. Government agencies in detecting and preventing money laundering and other illegal acts by maintaining policies, procedures and controls designed to detect and report money laundering, terrorist financing, and other suspicious activity.

 

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Limitations on the amount of loans to one borrower and its affiliates and to executive officers and directors.

 

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Limitations on transactions with affiliates.

 

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Restrictions on the nature and amount of any investments in, and ability to underwrite certain securities.

 

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Requirements for opening of branches intra- and interstate.

 

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Truth in lending and other consumer protection and disclosure laws to ensure equal access to credit and to protect consumers in credit transactions.

 

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Provisions of the Gramm-Leach-Bliley Act of 1999 (“GLB Act”) and other federal and state laws dealing with privacy for nonpublic personal information of customers.

 

 

Reports and Examinations

 

Bancshares is required to file with the FRB annual reports and other information regarding its business operations and those of its nonbanking subsidiaries. It is also subject to supervision and examination by the FRB. Examinations are designed to inform the FRB of the financial condition and nature of the operations of the bank holding company and its subsidiaries and to monitor compliance with the BHC Act and other laws affecting the operations of bank holding companies. To determine whether potential weaknesses in the condition or operations of bank holding companies might pose a risk to the safety and soundness of their subsidiary banks, examinations focus on whether a bank holding company has adequate systems and internal controls in place to manage the risks inherent in its business, including credit risk, interest rate risk, market risk (for example, from changes in value of portfolio instruments and foreign currency), liquidity risk, operational risk, legal risk, and reputation risk. FRB enforcement actions may include the issuance of cease and desist orders, the imposition of civil money penalties, the requirement to meet and maintain specific capital levels for any capital measure, the issuance of directives to increase capital, formal and informal agreements, or removal and prohibition orders against officers or directors and other “institution-affiliated” parties.

 

The Bank is subject to examination by the OCC and also files publicly available call reports on its operating results. If, as a result of an examination of the Bank, the OCC should determine that the financial condition, capital resources, asset quality, earnings prospects, management, liquidity, or other aspects of the Bank’s operations are unsatisfactory or that the Bank or its management is violating or has violated any law or regulation, the OCC and separately the FDIC as the insurer of the Bank’s deposits, have residual authority to: enjoin “unsafe or unsound” practices; require affirmative action to correct any conditions resulting from any violation or practice; issue an administrative order that can be judicially enforced; direct an increase in capital; restrict growth; assess civil monetary penalties; remove officers and directors; institute a receivership; and, ultimately terminate the bank’s deposit insurance, which would result in a revocation of its charter.

 

On September 11, 2013, the Board of Directors of the Bank entered into a stipulation and consent to the issuance of a consent order with the OCC consenting to the issuance of a consent order (the “Consent Order”) by the OCC, effective as of that date. The Consent Order required the Bank to take corrective action to enhance its program and procedures for compliance with the Bank Secrecy Act (“BSA”) and other anti-money laundering regulations (“AML”).

 

On February 23, 2015, the Board of Directors of the Bank was notified by the OCC that the OCC is terminating its Consent Order with the Bank, dated September 11, 2013, effective immediately.

 

In the exercise of their supervisory and examination authority, the FRB and OCC have emphasized corporate governance, stress testing, enterprise risk management and other board responsibilities; anti-money laundering compliance and enhanced high risk customer due diligence; vendor management; cyber security and fair lending and other consumer compliance obligations.

 

Dividends and Other Transfers of Funds

 

Holders of Bancshares’ common stock are entitled to receive dividends as and when declared by the Board out of funds legally available under the laws of the State of Delaware. Delaware corporations such as Bancshares may make distributions to their stockholders out of their surplus, or out of their net profits for the fiscal year in which the dividend is declared and for the preceding fiscal year. However, dividends may not be paid out of a corporation’s net profits if, after the payment of the dividend, the corporation’s capital would be less than the capital represented by the issued and outstanding stock of all classes having a preference upon the distribution of assets.

 

The FRB has advised bank holding companies that it believes that payment of cash dividends in excess of current earnings from operations is inappropriate and may be cause for supervisory action. As a result of this policy, banks and their holding companies may find it difficult to pay dividends out of retained earnings from historical periods prior to the most recent fiscal year or to take advantage of earnings generated by extraordinary items such as sales of buildings or other large assets in order to generate profits to enable payment of future dividends. Further, the FRB’s position that holding companies are expected to provide a source of managerial and financial strength to their subsidiary banks potentially restricts a bank holding company’s ability to pay dividends.

 

The Bank is a legal entity that is separate and distinct from Bancshares. Bancshares may receive income through dividends paid by the Bank. Subject to the regulatory restrictions described below, future cash dividends by the Bank will depend upon management’s assessment of future capital requirements, contractual restrictions, and other factors.

 

 

Bank regulators also have authority to prohibit a bank from engaging in business practices considered to be unsafe or unsound. It is possible, depending upon the financial condition of a bank and other factors, that such regulators could assert that the payment of dividends or other payments might, under certain circumstances, be an unsafe or unsound practice, even if technically permissible.

 

FDIC Insurance

 

Substantially all of the deposits of the Bank are insured up to applicable limits by the DIF of the FDIC and are subject to deposit insurance assessments to maintain the DIF. FDIC insurance expense totaled $373,000 and $274,000 in 2014 and 2013, respectively. All FDIC-insured institutions are also required to pay assessments to the FDIC to fund interest payments on bonds issued by the Financing Corporation (“FICO”), an agency of the Federal government established to recapitalize the predecessor to the DIF. These assessments will continue until the FICO bonds mature in 2017.

 

Capital Standards

 

Banks and bank holding companies are subject to various regulatory capital requirements administered by state and federal banking agencies. Capital adequacy guidelines and, additionally for banks, prompt corrective action regulations, involve quantitative measures of assets, liabilities, and certain off-balance-sheet items calculated under regulatory accounting practices. Capital amounts and classifications are also subject to qualitative judgments by regulators about components, risk weighting and other factors.

 

The FRB, the OCC and the FDIC have substantially similar risk-based capital ratio and leverage ratio guidelines for banking organizations. The guidelines are intended to ensure that banking organizations have adequate capital given the risk levels of assets and off-balance sheet financial instruments. Under the guidelines, banking organizations are required to maintain minimum ratios for Tier 1 capital and total capital to risk-weighted assets (including certain off-balance sheet items, such as letters of credit). For purposes of calculating the ratios, a banking organization’s assets and some of its specified off-balance sheet commitments and obligations are assigned to various risk categories. A depository institution’s or holding company’s capital, in turn, is classified in one of three tiers, depending on type: Core Capital (Tier 1), Supplementary Capital (Tier 2) and Market Risk Capital (Tier 3).

 

The federal regulatory authorities’ risk-based capital guidelines are based upon the 1988 capital accord (“Basel I”) of the Basel Committee on Banking Supervision (the “Basel Committee”). The Basel Committee is a committee of central banks and bank supervisors/regulators from the major industrialized countries that develops broad policy guidelines for use by each country’s supervisors in determining the supervisory policies they apply. In 2004, the Basel Committee published a capital accord (“Basel II”) to replace Basel I. Basel II provided two approaches for setting capital standards for credit risk – an internal ratings-based approach tailored to individual institutions’ circumstances and a standardized approach that bases risk weightings on external credit assessments to a much greater extent than permitted in existing risk-based capital guidelines. Basel II also set capital requirements for operational risk and refines the existing capital requirements for market risk exposures.

 

In December 2010, the Basel Committee released its final framework for strengthening international capital and liquidity regulation, now officially identified as “Basel III.” When fully phased-in, it will require bank holding companies and their bank subsidiaries to maintain substantially more capital than previously required, with a greater emphasis on common equity. The Dodd-Frank Act also required the FRB, the OCC and the FDIC to adopt regulations imposing a continuing "floor" of the Basel I-based capital requirements in cases where the Basel II and now Basel III based capital requirements otherwise would permit lower requirements.

 

On July 2, 2013, the Federal Reserve approved the final rules implementing the Basel III capital guidelines for U.S. banks. Under the final rules, minimum requirements increase for both the quantity and quality of capital held by the Company. The rules include a new common equity Tier 1 capital to risk-weighted assets ratio of 4.5%. The final rules also raise the minimum ratio of Tier 1 capital to risk-weighted assets from 4.0% to 6.0% and require a minimum leverage ratio of 4.0%. The new rules also require a capital conservation buffer of 2.5% of risk-weighted assets over each of the required capital ratios that will be phased in from 2016 to 2019 and must be met to avoid limitations on the ability of the Bank to pay dividends, repurchase shares or pay discretionary bonuses. The final rules also implement strict eligibility criteria for regulatory capital instruments, excluding trust preferred securities, mortgage servicing rights and certain deferred tax assets, and including unrealized gains and losses on available for sale debt and equity securities. The FDIC and OCC also approved final rules covering the regulatory capital requirements for U.S. banks, following the actions of the FRB. The FDIC and OCC's rules are identical in substance to the final rules issued by the FRB.

 

The phase-in period for the final rules began for the Company and the Bank on January 1, 2015, with full compliance with all of the final rule's requirements phased in over a multi-year schedule. Management continues to evaluate the provisions of the final rules and their expected impact.

 

 

The implementation of these more stringent requirements to maintain higher levels of capital or to maintain higher levels of liquid assets could adversely impact the Company’s net income and return on equity, restrict the ability to pay dividends and require the raising of additional capital.

 

Failure to meet statutorily mandated capital guidelines or more restrictive ratios separately established for a financial institution could subject a bank or bank holding company to a variety of enforcement remedies, including issuance of a capital directive, the termination of deposit insurance by the FDIC, a prohibition on accepting or renewing brokered deposits, limitations on the rates of interest that the institution may pay on its deposits and other restrictions on its business. Significant additional restrictions can be imposed on FDIC-insured depository institutions that fail to meet applicable capital requirements under the regulatory agencies’ prompt corrective action authority.

 

Liquidity Requirements

 

Historically, regulation and monitoring of bank and bank holding company liquidity has been addressed as a supervisory matter, without required formulaic measures. The Basel III final framework requires banks and bank holding companies to measure their liquidity against specific liquidity tests that, although similar in some respects to liquidity measures historically applied by banks and regulators for management and supervisory purposes, are now required by regulation. One test, referred to as the liquidity coverage ratio ("LCR"), is designed to ensure that the banking entity maintains an adequate level of unencumbered high-quality liquid assets equal to the entity's expected net cash outflow for a 30-day time horizon (or, if greater, 25% of its expected total cash outflow) under an acute liquidity stress scenario. The other test, referred to as the net stable funding ratio ("NSFR"), is designed to promote more medium- and long-term funding of the assets and activities of banking entities over a one-year time horizon. These requirements are designed to incent banking entities to increase their holdings of U.S. Treasury securities and other sovereign debt as a component of assets and increase the use of long-term debt as a funding source. The LCR was implemented for an observation period beginning in 2011, and became required on January 1, 2015. The NSFR will not be introduced as a requirement until January 1, 2018.

 

Federal Home Loan Bank

 

The Bank is a member and stockholder of the capital stock of the Federal Home Loan Bank of San Francisco. Among other benefits, each Federal Home Loan Bank (“FHLB”) serves as a reserve or central bank for its members within its assigned region and makes available loans or advances to its members. Each FHLB is financed primarily from the sale of consolidated obligations of the FHLB system.

 

Each FHLB makes available loans or advances to its members in compliance with the policies and procedures established by the Board of Directors of the individual FHLB. Each member of the FHLB of San Francisco is required to own stock in an amount equal to the greater of (i) a membership stock requirement with an initial cap of $25 million (100% of “membership asset value” as defined), or (ii) an activity based stock requirement (based on percentage of outstanding advances). At December 31, 2014, the Bank was in compliance with the FHLB’s stock ownership requirement and the investment in FHLB capital stock totaled $3.2 million.

 

Federal Reserve System

 

The FRB requires all depository institutions to maintain reserves at specified levels against their transaction accounts (primarily checking and non-personal time deposits). Additionally, each member bank is required to hold stock in its regional federal reserve bank. The stock cannot be sold, traded, or pledged as collateral for loans. As specified by law, member banks receive a six percent annual dividend on their federal reserve bank stock. At December 31, 2014, the Bank was in compliance with these requirements and the investment in federal reserve bank stock totaled $1.7 million.

 

Securities Laws and Corporate Governance

 

The Company is subject to the disclosure and regulatory requirements of the Securities Act of 1933, as amended, and the Securities Exchange Act of 1934, as amended, both as administered by the SEC. As a company listed on the NASDAQ Capital Market, the Company is subject to NASDAQ listing standards for listed companies.

 

The Company is also subject to the Sarbanes-Oxley Act of 2002 and other federal and state laws and regulations which address, among other issues, required executive certification of financial presentations, corporate governance requirements for board audit committees and their members, and disclosure of controls and procedures and internal control over financial reporting, auditing and accounting, executive compensation, and enhanced and timely disclosure of corporate information. NASDAQ has also adopted corporate governance rules, which are intended to allow shareholders and investors to more easily and efficiently monitor the performance of companies and their directors.

 

 

Item 1A.     Risk Factors

 

The following section includes the most significant factors that may adversely affect our business and operations. This is not an exhaustive list, and additional factors could adversely affect our business and financial performance. Moreover, we operate in a very competitive and rapidly changing environment. New risk factors emerge from time to time and it is not possible for us to predict all such risk factors, nor can we assess the impact of all such risk factors on our business or the extent to which any factor, or combination of factors, may cause actual results to differ materially from those contained in any forward-looking statements. This discussion of risk factors may include forward-looking statements. For cautions about relying on such forward-looking statements, please refer to the section entitled “Safe Harbor Statement under the Private Securities Litigation Reform Act of 1995” at the beginning of this Annual Report on Form 10-K immediately prior to Item 1.

 

Difficult market conditions have adversely affected our industry.

 

Declines in the housing market over the past several years, with falling home prices and increasing foreclosures, unemployment and under-employment, 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 as well as major commercial and investment banks. 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 significantly 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. A renewed deterioration of these conditions would likely exacerbate the adverse effects of these difficult market conditions on the Company and others in the banking industry. In particular, the Company may face the following risks in connection with these events:

 

●

The Company is facing increased regulation of the banking industry. Compliance with such regulation has increased costs and could limit the Company’s ability to pursue business opportunities.

 

●

Market developments may again affect consumer confidence levels and may cause declines in credit card usage and adverse changes in payment patterns, causing increases in delinquencies and default rates, which could impact charge-offs and provision for credit losses.

 

●

The process the Company uses to estimate losses inherent in its credit exposure or estimate the value of certain assets requires difficult, subjective, and complex judgments, including forecasts of economic conditions and how these economic predictions might impact the ability of our borrowers to repay their loans or affect the value of assets. During uncertain economic times, these assessments are more difficult, and can impact the reliability of the process.

 

●

The Company’s ability to borrow from other financial institutions could be adversely affected by further disruptions in the capital markets or other events.

 

●

Competition in the banking industry has intensified as a result of the increasing consolidation of financial services companies in connection with current market conditions.

 

The Company may have difficulty managing its growth which may divert resources and limit the Company’s ability to successfully expand its operations.

 

The Company has grown since it began operations in March 2004. At December 31, 2014, the Company had $585.2 million in total assets, $435.3 million in net loans and $503.2 million in deposits. The Company’s future success will depend on the ability of its officers and key employees to continue to implement and improve its operational, financial and management controls, reporting systems and procedures, and manage a growing number of customer relationships. The Company’s future level of profitability will depend in part on its continued ability to grow; however, the Company may not be able to sustain its historical growth rate or even be able to grow at all, which would have a material and adverse effect on our business, financial condition, results of operations, cash flows and stock price.

 

 

If the Company cannot attract deposits, its growth may be inhibited.

 

The Company plans to increase the level of its assets, including its loan portfolio. The Company’s ability to increase its assets depends in large part on its ability to attract additional deposits at competitive rates. The Company intends to seek additional deposits by continuing to establish and strengthen its personal relationships with its customers and by offering deposit products that are competitive with those offered by other financial institutions in its markets. The Company cannot ensure that these efforts will be successful. The Company’s inability to attract additional deposits at competitive rates could have a material and adverse effect on its business, financial condition, results of operations, cash flows and stock price.

 

The Company relies heavily on its senior management team and other employees, the loss of whom could significantly harm its business.

 

The Company’s success depends heavily on the abilities and continued service of its executive officers, especially Alan I. Rothenberg, Chairman and Chief Executive Officer, Jason P. DiNapoli, President and Chief Operating Officer, Bradley S. Satenberg, Executive Vice President and Chief Financial Officer and J. Kevin Sampson, Executive Vice President and Chief Credit Officer. These four individuals are integral to implementing the Company’s business plan. If the Company loses the services of any of these executive officers, the Company’s business, financial condition, results of operations, cash flows and stock price may be materially and adversely affected. Furthermore, attracting suitable replacements may be difficult and may require significant management time and resources.

 

The Company also relies to a significant degree on the abilities and continued service of our deposit generating, lending, administrative, operational, accounting and financial reporting, marketing and technical personnel. Competition for qualified employees in the banking industry is intense and there are a limited number of qualified persons with knowledge of, and experience in, the California independent banking industry. The process of recruiting personnel with the combination of skills and attributes required to carry out the Company’s strategies is often lengthy. If the Company fails to attract and retain the necessary deposit generating, lending, administrative, operational, accounting and financial reporting, marketing and technical personnel, the Company’s business, financial condition, results of operations, cash flows and stock price may be materially and adversely affected.

 

If the Company’s underwriting practices are not effective, the Company may suffer losses in its loan portfolio and its results of operations may be affected.

 

The Company seeks to mitigate the risks inherent in its loan portfolio by adhering to specific underwriting practices. Depending on the type of loan, these practices include analysis of a borrower’s prior credit history, financial statements, tax returns and cash flow projections, valuation of collateral based on reports of independent appraisers and verification of liquid assets. If the Company’s underwriting criteria prove to be ineffective, the Company may incur losses in its loan portfolio, which could have a material and adverse effect on our business, financial condition, results of operations, cash flows and stock price.

 

A significant source of risk arises from the possibility that losses could be sustained because borrowers, guarantors and related parties fail to perform in accordance with the terms of their loans. The underwriting and credit monitoring policies and procedures that the Company has adopted to address this risk may not prevent unexpected losses that could have a material and adverse effect on the Company’s business, financial condition, results of operations, cash flows and stock price, particularly during the slow recovery from the recent global economic downturn. Unexpected losses may arise for a wide variety of reasons, many of which are beyond the Company’s ability to predict, influence or control. Some of these reasons could include a continued slow recovery from the prolonged economic downturn in the State of California or the United States, a renewed decline in the state or national real estate market, wars and acts of terrorism, and natural disasters.

 

 

If the Company’s allowance for loan losses is inadequate to cover actual losses, the Company’s financial results would be affected.

 

Like all financial institutions, the Company maintains an allowance for loan losses to provide for loan defaults and non-performance. The Company’s allowance for loan losses may not be adequate to cover actual loan losses, and future provisions for loan losses could materially and adversely affect the Company’s business, financial condition, results of operations, cash flows and stock price. The Company’s allowance for loan losses reflects the Company’s best estimate of the losses incurred in the existing loan portfolio at the relevant balance sheet date and is based on management’s evaluation of the collectability of the loan portfolio, which evaluation is based on historical loss experience, the loss experience of other financial institutions, and other significant factors. The determination of an appropriate level of loan loss allowance is an inherently difficult process and is based on numerous assumptions. The amount of future losses is susceptible to changes in economic, operating and other conditions, including changes in interest rates that may be beyond the Company’s control, and these losses may exceed current estimates. While the Company believes that its allowance for loan losses is adequate to cover current losses, the Company cannot assure that it will not increase the allowance for loan losses further or that the allowance for loan losses will be adequate to cover current losses in any event. Future provisions for loan losses or losses in excess of the allowance for loan losses could materially and adversely affect the Company’s business, financial condition, results of operations, cash flows and stock price.

 

See discussion of the Company’s nonperforming assets and allowance for loan losses in Part II, Item 7. “Management’s Discussion and Analysis of Financial Condition and Results of Operations — Financial Condition.”

 

Bank regulators may require the Company to increase its allowance for loan losses, which could have a negative effect on the Company’s financial condition and results of operations.

 

Bank regulators, as an integral part of their respective supervisory functions, periodically review the Company’s allowance for loan losses. The bank regulators may require the Company to increase its allowance for loan losses through additional provisioning or to recognize further loan charge-offs based upon their judgments, which may be different from the Company’s. Any increase in the allowance for loan losses or further loan charge-offs required by bank regulators could have a material and adverse effect on the Company’s business, financial condition, results of operations, cash flows and stock price.

 

The Company’s lending limit may adversely affect the Company’s competitiveness.

 

The Company’s regulatory lending limit as of December 31, 2014 to any one customer or related group of customers was approximately $9.8 million. The Company’s lending limit is substantially smaller than those of most financial institutions with which it competes and it may affect the Company’s ability to attract or maintain customers or to compete with other financial institutions. Moreover, to the extent that the Company incurs losses and does not obtain additional capital, the Company’s lending limit, which depends upon the amount of its capital, will decrease, which could have a material and adverse effect on the Company’s business, financial condition, results of operations, cash flows and stock price.

 

The Company faces strong competition from financial services companies and other companies that offer banking services, and its failure to compete effectively with these companies could have a material adverse affect on the Company’s business, financial condition, results of operations, cash flows and stock price.

 

Within the Los Angeles metropolitan area, the Company faces intense competition for loans, deposits, and other financial products and services. Increased competition within the Company’s market may result in reduced loan originations and deposits. Ultimately, the Company may not be able to compete successfully against current and future competitors. Many competitors offer the types of loans and banking services that the Company offers. These competitors include national banks, regional banks and other independent banks. The Company also faces competition from many other types of financial institutions, including finance companies, brokerage firms, insurance companies, mortgage banks and other financial intermediaries. In particular, the Company’s competitors include financial institutions whose greater resources may afford them a marketplace advantage by enabling them to maintain numerous banking locations and mount extensive promotional and advertising campaigns. Additionally, banks and other financial institutions with larger capitalization and financial intermediaries not subject to bank regulatory restrictions may have larger lending limits which would allow them to serve the credit needs of larger customers. These institutions, particularly to the extent they are more diversified than the Company, may be able to offer the same loan products and services the Company offers at more competitive rates and prices.

 

 

The Company also faces competition from out-of-state financial intermediaries that have opened loan production offices or that solicit deposits in the Company’s market areas. If the Company is unable to attract and retain banking customers, it may be unable to continue its loan growth and level of deposits, and its business, financial condition, results of operations, cash flows and stock price may be materially adversely affected.

 

The Company relies on communications, information, operating and financial control systems technology from third-party service providers, and the Company may suffer an interruption in or break of those systems that may result in lost business and the Company may not be able to obtain substitute providers on terms that are as favorable if its relationships with its existing service providers are interrupted.

 

The Company relies heavily on third-party service providers for much of its communications, information, operating and financial control systems technology, including customer relationship management, general ledger, deposit, and servicing and loan origination systems. The Company cannot assure that failures or interruptions in these systems will not occur or, if they do occur, that they will be adequately addressed by it or the third parties on which the Company relies. The occurrence of any failures or interruptions could have a material adverse effect on the Company’s business, financial condition, results of operations, cash flows and stock price. If any of the Company’s third-party service providers experience financial, operational or technological difficulties, or if there is any other disruption in the Company’s relationships with them, the Company may be required to locate alternative sources of such services, and the Company cannot assure that it could negotiate terms that are as favorable to the Company, or could obtain services with similar functionality as found in its existing systems without the need to expend substantial resources, if at all. Any of these circumstances could have a material adverse effect on the Company’s business, financial condition, results of operations, cash flows and stock price.

 

The Company may experience certain risks in connection with its online banking services that could adversely affect its business.

 

The Company’s business depends in part upon the use of the internet and online services as a medium for banking and commerce by customers. The Company’s inability to modify or adapt its infrastructure in a timely manner or the expenses incurred in making such adaptations could have a material and adverse effect on the Company’s business, financial condition, results of operations, cash flows and stock price. Additionally, any compromise in the secured transmission of confidential information over public networks could have a material and adverse effect on the Company’s business, financial condition, results of operations, cash flows and stock price.

 

Changes in economic conditions, and in particular the State of California and the United States, could have a material and adverse effect on the Company’s business.

 

The Company’s business is directly affected by factors such as economic, political and market conditions, broad trends in industry and finance, legislative and regulatory changes, changes in governmental monetary and fiscal policies and inflation, all of which are beyond the Company’s control. The Company is particularly susceptible to conditions and changes affecting the State of California and Southern California in particular in view of the concentration of its operations and collateral securing, and likely to secure its loan portfolio in Southern California. The deterioration in economic conditions, in California and Southern California in particular, may have the following consequences, any of which could have a material adverse effect on the Company’s business, financial condition, results of operations, cash flows and stock price:

 

●

Renewed increases in problem assets and foreclosures.

 

●

Renewed increases in loan delinquencies.

 

●

Decline in demand for loans and other products and services.

 

●

Deposits may decrease.

 

●

Collateral for loans made by the Company, especially real estate, may experience declines in value, in turn reducing customers’ borrowing power or capacity to repay, and reducing the value of assets and collateral associated with the Company’s existing loans.

 

In addition, because the Company makes loans to small to medium-sized businesses, many of the Company’s customers may be particularly susceptible to the slow recovery from the recession and may be unable to make scheduled principal or interest payments during similar periods of recession.

 

 

The Company is subject to extensive government regulation and supervision

 

The Company is subject to extensive federal and state regulation and supervision. Banking regulations are primarily intended to protect depositors' funds, the DIF, and the banking system as a whole, not stockholders. These regulations affect the Company's lending practices, capital structure, investment practices and growth. Congress and federal regulatory agencies continually review banking laws, regulations and policies for possible changes. The Dodd-Frank Act, enacted in July 2010, instituted major changes to the banking and financial institutions regulatory regimes in light of the performance of and government intervention in the financial services sector. Other changes to statutes, regulations or regulatory policies, including changes in interpretation or implementation of statutes, regulations or policies, could affect the Company in substantial and unpredictable ways. Such changes could subject the Company to additional costs, limit the types of financial services and products the Company may offer and/or increase the ability of non-banks to offer competing financial services and products, among other things. Failure to comply with laws, regulations or policies could result in sanctions by regulatory agencies, civil money penalties and/or reputation damage, which could have a material adverse effect on the Company's business, financial condition, results of operations, cash flows and stock price.

 

Many of the Company’s loans are secured by real estate, and an additional downturn in the real estate market could have a material adverse effect on the Company’s business, financial condition, results of operations, cash flows and stock price.

 

A renewed downturn in the real estate market may have an adverse effect on the Company’s business because many of the Company’s loans are secured by real estate. At December 31, 2014, approximately 83.5% of the Company’s total loans were secured by real estate. Real estate values and real estate markets are generally affected by changes in national, regional or local economic conditions, fluctuations in interest rates, the availability of loans to potential purchasers, changes in tax laws and other laws, regulations and policies and war and acts of terrorism. In addition, real estate values in California could be affected by, among other things, earthquakes, droughts, wildfires, floods, mudslides and other national disasters particular to the state. When real estate prices decline, the value of real estate collateral securing the Company’s loans is reduced. As a result, the Company may experience greater charge-offs and, similarly, its ability to recover on defaulted loans by foreclosing and selling the real estate collateral may be diminished and as a result the Company is more likely to suffer losses on defaulted loans, which would have a material and adverse effect on the Company’s business, financial condition, results of operations, cash flows and stock price.

 

Our real estate lending also exposes us to the risk of environmental liabilities.

 

In the course of our business, we may foreclose and take title to real estate, and could be subject to environmental liabilities with respect to these properties. We may be held liable to a governmental entity or to third persons for property damage, personal injury, investigation and clean-up costs incurred by these parties in connection with environmental contamination, or we may be required to investigate or clean up hazardous or toxic substances, or chemical releases at a property. The costs associated with investigation or remediation activities could be substantial. If we ever become subject to significant environmental liabilities, our business, financial condition, results of operations, cash flows and stock price could be materially and adversely affected. In addition, we may not have adequate remedies against prior owners or other responsible parties or could find it difficult or impossible to sell the affected properties, which could also materially adversely affect our business, financial condition, results of operations, cash flows and stock price.

 

A natural disaster or recurring energy shortage, especially in California, could harm the Company’s business.

 

Historically, Southern California has been vulnerable to natural disasters. Therefore, the Company is susceptible to the risks of natural disasters, such as earthquakes, droughts, wildfires, floods and mudslides. Natural disasters could harm the Company’s operations directly through interference with communications, as well as through the destruction of facilities and its operational, financial and management information systems. Uninsured or underinsured disasters may reduce a borrower’s ability to repay mortgage loans. Disasters may also reduce the value of the real estate securing the Company’s loans, impairing its ability to recover on defaulted loans. Southern California has also experienced energy shortages which, if they recur, could impair the value of the real estate in those areas affected. The occurrence of natural disasters or energy shortages in Southern California could have a material adverse effect on the Company’s business, financial condition, results of operations, cash flows and stock price.

 

The Company’s operations are concentrated in the Los Angeles metropolitan area.

 

The Company’s loan and deposit activities are largely based in the Los Angeles metropolitan area. As a result, the Company’s financial performance will depend largely upon economic conditions in this area. Adverse local economic conditions have caused and in the future may cause the Company to experience an increase in loan delinquencies, an increase in the number of borrowers who default on their loans and a reduction in the value of the collateral securing their loans, all of which could materially and adversely affect the Company’s business, financial condition, results of operations, cash flows and stock price.

 

 

The Company is subject to interest rate risk.

 

The Company’s earnings and cash flows are largely dependent upon its net interest income. Net interest income is the difference between interest income earned on interest-earning assets such as loans and securities and interest expense paid on interest-bearing liabilities such as deposits and borrowed funds. Interest rates are highly sensitive to many factors that are beyond the Company’s control, including general economic conditions and policies of various governmental and regulatory agencies and, in particular, the Federal Open Market Committee. Changes in monetary policy, including changes in interest rates, could influence not only the interest the Company receives on loans and securities and the amount of interest it pays on deposits and borrowings, but such changes could also affect (i) the Company’s ability to originate loans and obtain deposits, (ii) the fair value of the Company’s financial assets and liabilities, and (iii) the average duration of the Company’s mortgage-backed securities portfolio. If the interest rates paid on deposits and other borrowings increase at a faster rate than the interest rates received on loans and other investments, the Company’s net interest income, and therefore earnings, could be materially and adversely affected. Earnings could also be materially and adversely affected if the interest rates received on loans and other investments fall more quickly than the interest rates paid on deposits and other borrowings. Any substantial, unexpected or prolonged change in interest rates could have a material adverse effect on the Company’s business, financial condition, results of operations, cash flows and stock price.

 

See discussion of the Company’s net interest income in Part II, Item 7. “Management’s Discussion and Analysis of Financial Condition and Results of Operations – Results of Operations.”

 

The Company may be materially and adversely affected by the soundness of other financial institutions.

 

Financial institutions are inter-related as a result of trading, clearing, counterparty and other relationships. In the normal course of business, the Company executes transactions with counterparties in the financial services industry, including commercial banks, brokers and dealers and correspondent banks. These transactions expose the Company to credit risk in the event of a default by a counterparty. On a quarterly basis, the Company reviews the counterparties’ financial information, such as SEC filings, Call Reports and press releases, as well as any announcements made by appropriate industry regulators and government agencies, to monitor the counterparties’ financial stability and/or any regulatory disciplinary actions imposed on such counterparties. At December 31, 2014, the Company did not have any unsecured federal funds sold with any correspondent banks. However, no assurance can be given that the Company will not be materially and adversely affected as a result of a negative occurrence, such as a default, at one of the financial institutions with which the Company transacts business.

 

The Company is subject to liquidity risk.

 

The Company requires liquidity to meet its deposit and debt obligations as they come due. The Company’s access to funding sources in amounts adequate to finance its activities or on terms that are acceptable to it could be impaired by factors that affect it specifically or the financial services industry or economy generally. Factors that could reduce its access to liquidity sources include a downturn in the California economy, difficult credit markets or adverse regulatory actions against the Company. The Company’s access to deposits may also be affected by the liquidity needs of its depositors. In particular, a substantial majority of the Company’s liabilities are demand, savings, interest checking and money market deposits, which are payable on demand or upon several days’ notice, while by comparison, a substantial portion of its assets are loans, which cannot be called or sold in the same time frame. The Company may not be able to replace maturing deposits and advances as necessary in the future, especially if a large number of its depositors sought to withdraw their accounts, regardless of the reason. A failure to maintain adequate liquidity could have a material adverse effect on the Company’s business, financial condition, results of operations, cash flows and stock price.

 

The Company may need to raise additional capital in the future, and such capital may not be available when needed or at all.

 

The Company may need to raise additional capital in the future to meet pending proposed changes in the minimum capital requirements for banks or to provide it with sufficient capital resources and liquidity to meet its commitments and business needs, particularly if its asset quality or earnings were to deteriorate. The Company’s ability to raise additional capital, if needed, will depend on, among other things, conditions in the capital markets at that time, which are outside of its control, and its financial performance. Economic conditions and the loss of confidence in financial institutions may increase the Company’s cost of funding and limit access to certain customary sources of capital, including inter-bank borrowings, repurchase agreements and borrowings from the FHLB.

 

 

The Company cannot assure that such capital will be available on acceptable terms or at all. Any occurrence that may limit the Company’s access to the capital markets, such as a decline in the confidence of debt purchasers, depositors of the Bank or counterparties participating in the capital markets may adversely affect the Company’s capital costs and its ability to raise capital and, in turn, its liquidity. Moreover, if the Company needs to raise capital in the future, it may have to do so when many other financial institutions are also seeking to raise capital and would have to compete with those institutions for investors. An inability to raise additional capital on acceptable terms when needed could have a materially adverse effect on the Company’s businesses, financial condition, results of operations, cash flows and stock price.

 

Item 1B.     Unresolved Staff Comments

 

None.

 

Item 2.        Properties

 

The main and executive offices of Bancshares and the Bank are located at 1875 Century Park East, Los Angeles, California 90067 on the 1st and 14th floors of a multi-story commercial office building. The Bank has a branch office and a Private Banking Center at this same location. The Company’s main office consists of approximately 3,158 square feet of usable ground floor space for the branch office and administrative offices, 10,843 square feet of usable space for the administrative offices on the 14th floor of the building, as well as 2,746 square feet of usable ground floor space for the Bank’s Private Banking Center. The lease term for this space expires in June 2024. The total future minimum commitments for the leases at 1875 Century Park East at December 31, 2014 was $7.1 million.

 

In addition, the Bank has relationship offices in Santa Monica, CA and Beverly Hills, CA. The Santa Monica office is approximately 1,957 square feet of usable space with a lease expiring in December 2018. The total future minimum commitments for this lease at December 31, 2014 was $405,000. The Beverly Hills office is approximately 2,200 square feet of usable space with a lease expiring in May 2019. The total future minimum commitments for this lease at December 31, 2014 was $948,000.

 

Item 3.        Legal Proceedings

 

At present, there are no pending or, to the Company’s knowledge, threatened proceedings against the Company which, if determined adversely, would have a material and adverse effect on the Company’s business, financial position, results of operations, cash flows or stock price. In the ordinary course of operations, the Company may be party to various routine legal proceedings incidental to the business.

 

Item 4.        Mine Safety Disclosures

 

Not applicable.

  

 

PART II

 

Item 5.        Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities

 

Market Information

 

The Company’s common stock trades on the NASDAQ CM under the symbol “FCTY.” All companies listed on the NASDAQ CM must meet certain financial requirements and adhere to NASDAQ CM’s corporate governance standards. Any investment in the Company’s common stock should be considered a long-term investment. In addition, the price of the Company’s common stock is unpredictable.

 

Trading prices are based on information received from the NASDAQ CM based on all transactions reported on the NASDAQ CM. The following table sets forth the range of high and low closing prices of the Company’s common stock for the years ended December 31, 2014 and 2013.

 

 

Year ended December 31, 2014		High				Low
Fourth Quarter		$	7.37			$	6.35
Third Quarter		$	7.85			$	7.08
Second Quarter		$	8.10			$	7.42
First Quarter		$	8.49			$	6.87

 

Year ended December 31, 2013
Fourth Quarter		$	7.68			$	6.50
Third Quarter		$	7.93			$	5.96
Second Quarter		$	6.23			$	5.51
First Quarter		$	5.83			$	4.65

 

As of December 31, 2014, there were 949 registered shareholders of record of the Company’s common stock, including persons or entities holding stock in nominee or street name through various brokers or banks.

 

Dividends

 

As a bank holding company that currently has no significant assets other than its equity interest in the Bank, Bancshares’ ability to declare dividends depends primarily upon dividends it receives from the Bank. The Bank’s dividend practices in turn depend upon legal restrictions, the Bank’s earnings, financial position, current and anticipated capital requirements, and other factors deemed relevant by the Bank’s Board of Directors.

 

The Bank’s regulators have the authority to prohibit the payment of dividends, depending upon the Bank’s financial condition, if such payment is deemed to constitute an unsafe or unsound practice. As a national bank, the Bank must obtain the prior approval of the OCC to pay a dividend if the total of all dividends declared by it in any calendar year would exceed its net income for the year combined with its retained net income for the preceding two calendar years, less any required transfers to surplus or to fund the retirement of any preferred stock. Currently, the Bank is prohibited from paying dividends to Bancshares until such time as its accumulated deficit is eliminated. Additionally, the FRB’s policy regarding dividends provides that a bank holding company should not pay cash dividends exceeding its net income or which can only be funded in ways that weaken the bank holding company’s financial health, such as by borrowing.

 

To date, Bancshares has not paid any cash dividends. Payment of stock or cash dividends in the future will depend upon the Company’s earnings and financial condition and other factors deemed relevant by its Board, as well as its legal ability to pay dividends. Accordingly, no assurance can be given that any cash dividends will be declared in the foreseeable future.

 

Recent Sales of Unregistered Securities; Use of Proceeds from Registered Securities

 

None.

 

Purchases of Equity Securities

 

The table below summarizes the Company’s monthly repurchases of equity securities during the three months ended December 31, 2014.

 

(dollars in thousands, except per share data)

Period		Total Number of Shares Purchased				Average Price Paid Per Share				Total Number of Shares Purchased as Part of Publicly Announced Plans or Programs (1)				Approximate Dollar Value of Shares that May Yet be Purchased Under the Plans of Program (1)
October 1-31, 2014			—			$	—				—			$	29
November 1-30, 2014			—				—				—				29
December 1-31, 2014			—				—				—				29
Total			—			$	—				—			$	29

 

---

(1)     In August 2010, the Company’s Board of Directors authorized the purchase of up to $2.0 million of the Company’s common stock, which was announced by press release and Current Report on Form 8-K on August 16, 2010. Under the Company’s stock repurchase program, the Company has been acquiring its common stock in the open market from time to time beginning in August 2010. The Company’s stock repurchase program may be modified, suspended or terminated by the Board at any time without notice.

 

 

Item 6.                         Selected Financial Data

 

Not applicable.

 

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

 

Critical Accounting Policies and Estimates

 

The accounting and reporting policies followed by us conform, in all material respects, to accounting principles generally accepted in the United States, or GAAP, and to general practices within the financial services industry. The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. While we base our estimates on historical experience, current information and other factors deemed by us to be relevant, actual results could differ materially from those estimates.

 

We consider accounting estimates to be critical to reported financial results if (i) the accounting estimate requires management to make assumptions about matters that are highly uncertain and (ii) different estimates that management reasonably could have used for the accounting estimate in the current period, or changes in the accounting estimate that are reasonably likely to occur from period to period, could have a material impact on our financial statements. Accounting polices related to the allowance for loan losses and income taxes are considered to be critical, as these policies involve considerable subjective judgment and estimation by management. Critical accounting policies, and our procedures related to these policies, are summarized below. See Note 1 “Summary of Significant Accounting Policies” in Part II, Item 8. “Financial Statements and Supplementary Data” for more information.

 

Allowance for Loan Losses. The allowance for loan losses is established through a provision for loan losses charged to operations and represents an estimate of probable incurred losses inherent in the Company’s loan portfolio that have been incurred as of the balance sheet date. Loan losses are charged against the allowance when management believes that principal is uncollectible. Subsequent repayments or recoveries, if any, are credited to the allowance. Management periodically assesses the adequacy of the allowance for loan losses by reference to many quantitative and qualitative factors that may be weighted differently at various times depending on prevailing conditions. The provisions reflect management’s evaluation of the adequacy of the allowance based, in part, upon the historical loss experience of the loan portfolio, as well as estimates from historical peer group loan loss data and the loss experience of other financial institutions, augmented by management judgment. During this process, loans are separated into the following portfolio segments: commercial, commercial real estate, residential, land and construction, and consumer and other loans. The relative significance of risk considerations vary by portfolio segment. For commercial loans, commercial real estate loans and land and construction loans, the primary risk consideration is a borrower’s ability to generate sufficient cash flows to repay their loan. Secondary considerations include the creditworthiness of guarantors and the valuation of collateral. In addition to the creditworthiness of a borrower, the type and location of real estate collateral is an important risk factor for commercial real estate and land and construction loans. The primary risk consideration for residential loans and consumer loans are a borrower’s personal cash flow and liquidity, as well as collateral value.

 

Loss ratios for all portfolio segments are evaluated on a quarterly basis. Loss ratios associated with historical loss experience are determined based on a rolling migration analysis of each portfolio segment within the portfolio. This migration analysis estimates loss factors based on the performance of each portfolio segment over a four and a half year time period. These loss ratios are then adjusted, if determined necessary, based on other factors including, but not limited to, historical peer group loan loss data and the loss experience of other financial institutions. Management carefully monitors changing economic conditions, the concentrations of loan categories, values of collateral, the financial condition of the borrowers, the history of the loan portfolio, and historical peer group loan loss data to determine the adequacy of the allowance for loan losses. As a part of this process, management typically focuses on loan-to-value (“LTV”) percentages to assess the adequacy of loss ratios of collateral dependent loans within each portfolio segment discussed above, trends within each portfolio segment, as well as general economic and real estate market conditions where the collateral and borrower are located. For loans that are not collateral dependent, which generally consist of commercial and consumer and other loans, management typically focuses on general business conditions where the borrower operates, trends within the portfolio, and other external factors to evaluate the severity of loss factors. The allowance is based on estimates and actual losses may vary from the estimates.

 

In addition, regulatory agencies, as a part of their examination process, periodically review the Bank’s allowance for loan losses, and may require the Bank to make additions to the allowance through provisioning based on their judgment about information available to them at the time of their examinations. See Part II, Item 7. “Management’s Discussion and Analysis of Financial Condition and Results of Operation - Allowance for Loan Losses” for further details considered by management in estimating the necessary level of the allowance for loan losses.

 

 

Provision for Income Taxes. Provision for income taxes is the amount of estimated tax due reported on our tax returns and the change in the amount of deferred tax assets and liabilities. Deferred income taxes represent the estimated net income tax expense payable (or benefits receivable) for temporary differences between the carrying amounts for financial reporting purposes and the amounts used for tax purposes. A valuation allowance is required if it is “more likely than not” that a deferred tax asset will not be realized. The determination of the realizability of deferred tax assets is highly subjective and dependent upon management’s evaluation of both positive and negative evidence, including historic financial performance, forecasts of future income, existence of feasible tax planning strategies, length of statutory carryforward periods, and assessments of current and future economic and business conditions. Management evaluates the positive and negative evidence and determines the realizability of the deferred tax asset on a quarterly basis.

 

Summary of the Results of Operation and Financial Condition

 

For the years ended December 31, 2014 and 2013, the Company recorded net income of $2.4 million, or $0.24 per diluted share, and $6.9 million, or $0.76 per diluted share, respectively. The decline in net income during the year ended December 31, 2014 as compared to the same period last year was primarily due to a $5.0 million increase in income tax provision and a $1.7 million increase in non-interest expenses. The increase in income tax provision was primarily attributable to the $3.1 million income tax benefit recorded in connection with the reversal of our deferred tax valuation allowance during the year ended December 31, 2013. These items were partially offset by a $2.3 million increase in net interest income during the year ended December 31, 2014 as compared to the same period last year.

 

Total assets at December 31, 2014 were $585.2 million, representing an increase of $47.1 million, or 8.7%, from $538.1 million at December 31, 2013. Cash and cash equivalents at December 31, 2014 were $58.5 million, representing an increase of $13.8 million, or 30.8%, from $44.7 million at December 31, 2013. Loans increased by $59.3 million, from $383.5 million at December 31, 2013 to $442.9 million at December 31, 2014. Loan originations were $226.3 million and $232.5 million during the years ended December 31, 2014 and 2013, respectively. Prepayment speeds for the year ended December 31, 2014 were 16.7%, compared to 13.2% for the same period last year. Investment securities were $79.7 million at December 31, 2014, compared to $106.3 million at December 31, 2013, representing a decline of $26.6 million, or 25.0%. During the year ended December 31, 2014, the Company sold investment securities with an amortized cost of $59.9 million, recognizing gains of $1.2 million. During the year ended December 31, 2013, the Company sold $35.1 million of investment securities, recognizing gains of $822,000. The weighted average life of our investment securities was 4.02 years and 3.78 years at December 31, 2014 and 2013, respectively.

 

Total liabilities at December 31, 2014 increased by $40.8 million, or 8.4%, to $523.5 million compared to $482.8 million at December 31, 2013. This increase is primarily due to a $50.4 million increase in deposits, partially offset by a $10.0 million decline in other borrowings. Total core deposits, which includes non-interest bearing demand deposits, interest bearing demand deposits and money market deposits and savings, were $462.4 million and $409.8 million at December 31, 2014 and 2013, respectively, representing an increase of $52.6 million, or 12.8%.

 

Average interest earning assets increased $55.1 million, from $508.4 million for the year ended December 31, 2013 to $563.5 million for the year ended December 31, 2014. The weighted average interest rate on interest earning assets was 3.41% and 3.35% for the years ended December 31, 2014 and 2013, respectively. The 6 basis point increase in yield on earning assets is primarily attributable to an increase in the average balance of loans relative to total earning assets as compared to the same period last year.

 

Average interest bearing deposits and borrowings decreased $6.8 million from $253.5 million for the year ended December 31, 2013 to $246.7 million for the year ended December 31, 2014. The average cost of interest bearing deposits and borrowings was 0.31% during the year ended December 31, 2014 compared to 0.32% for the same period last year.

 

At December 31, 2014, the Company’s stockholders’ equity totaled $61.7 million compared to $55.4 million at December 31, 2013. The $6.3 million increase in stockholders’ equity during the year ended December 31, 2014 was primarily attributable to net income of $2.4 million and stock based compensation items and related tax benefits of $3.8 million. Stock based compensation items include the exercise and tax related benefits of stock options, as well as the amortization and vesting of restricted stock awards and related tax benefits, partially offset by shares surrendered by plan participants to pay for taxes. At December 31, 2014, the Bank’s total risk-based capital ratio, tier 1 risk-based capital ratio, and tier 1 leverage ratio were 13.13%, 11.87%, and 9.40%, respectively, compared to the requirements of 10.00%, 6.00%, and 5.00%, respectively, to generally be considered a “well capitalized” financial institution for regulatory purposes.

 

 

At December 31, 2014 and 2013, the Company’s book value per share was $6.08 and $5.84, respectively. The $0.24 increase in book value per share during the year was primarily attributable to net income of $2.4 million and stock based compensation of $3.8 million, partially offset by an increase in common shares outstanding of 659,644. Stock based compensation includes the exercise price and tax related benefits of stock options, as well as the amortization and vesting of restricted stock awards and related tax benefits, partially offset by shares surrendered by plan participants to pay for taxes.

 

Set forth below are certain key financial performance ratios and other financial data for the periods indicated:

 

		Years ended December 31,
		2014				2013
Return on average assets			0.41%				1.33%
Return on average stockholders’ equity			4.00%				13.07%
Average equity to average assets			10.36%				10.20%
Net interest margin			3.28%				3.19%

 

Results of Operations

 

Net Interest Income

 

The management of interest income and interest expense is fundamental to the performance of the Company. Net interest income, which is the difference between interest income on interest earning assets, such as loans and investment securities, and interest expense on interest bearing liabilities, such as deposits and other borrowings, is the largest component of the Company’s total revenue. Management closely monitors both net interest income and net interest margin (net interest income divided by average earning assets).

 

Net interest income and net interest margin are affected by several factors including (1) the level of, and the relationship between the dollar amount of interest earning assets and interest bearing liabilities; and (2) the relationship between repricing or maturity of our variable-rate and fixed-rate loans, securities, deposits and borrowings.

 

The majority of the Company’s loans are indexed to the national prime rate. Movements in the national prime rate have a direct impact on the Company’s loan yield and interest income. The national prime rate, which generally follows the targeted federal funds rate, was 3.25% at December 31, 2014 and 2013. There was no change in the targeted federal funds rate during the years ended December 31, 2014 and 2013, remaining at 0.00%-0.25%.

 

The Company, through its asset and liability management policies and practices, seeks to maximize net interest income without exposing the Company to a level of interest rate risk deemed excessive by management. Interest rate risk is managed by monitoring the pricing, maturity and re-pricing characteristics of all classes of interest bearing assets and liabilities. This is discussed in more detail in Part II, Item 7- “Management’s Discussion and Analysis of Financial Condition and Results of Operation - Liquidity and Asset/Liability Management.”

 

During the year ended December 31, 2014, net interest income was $18.5 million, compared to $16.2 million for the same period last year. The improvement in net interest income was primarily attributable to increases in the average balances of our loan portfolio during the year ended December 31, 2014 as compared to the same period last year, partially offset by declines in the average balance of our investment portfolio during the same period. The average balances of our loan portfolio was $404.3 million during the year ended December 31, 2014, compared to $321.6 million for the same period last year. The average balances of our investment portfolio was $87.1 million during the year ended December 31, 2014, compared to $146.3 million for the same period last year.

 

The Company’s net interest spread was 3.10% for the year ended December 31, 2014 compared to 3.03% for the same period last year.

 

 

The Company’s net interest margin was 3.28% for the year ended December 31, 2014, compared to 3.19% for the same period last year. The improvement in our net interest margin is primarily due to an increase in the average balance of loans relative to total earning assets as compared to the same period last year, partially offset by an increase in the average balance of lower yielding interest earning deposits at other financial institutions during the same period. The percentage of average loans to total average earning assets increased to 71.7% during the year ended December 31, 2014, compared to 63.2% during the same period last year. The percentage of average interest earning deposits at other financial institutions to total average earning assets increased to 12.0% during the year ended December 31, 2014, compared to 7.1% during the same period last year. Net interest margin was also impacted by a general decline in the loan yields during the year and a recovery of $294,000 in deferred interest income from the repayment of non-accrual and previously charged off loan balances during the year ended December 31, 2013. The decline in loan yield was caused by a general downward trend in interest rates, as well as competitive loan pricing conditions in our market, which continue to compress loan yields.

 

The following table sets forth our average balances, average yields on earning assets, average rates paid on interest bearing liabilities, net interest margins and net interest income/spread for the years ended December 31, 2014, 2013 and 2012.

 

		Years ended December 31,
		2014												2013												2012
		Average				Interest								Average				Interest								Average				Interest
(dollars in thousands)		Balance				Inc/Exp				Yield				Balance				Inc/Exp				Yield				Balance				Inc/Exp				Yield
Assets
Interest earning deposits at other financial institutions		$	67,380			$	172				0.26	%		$	36,294			$	91				0.25	%		$	52,026			$	132				0.25	%
U.S. Treasuries and Gov’t agencies			6,577				135				2.05	%			2,058				15				0.75	%			2,179				36				1.65	%
Corporate notes			2,720				36				1.33	%			26,724				572				2.14	%			26,084				556				2.13	%
Residential mortgage backed securities and CMOs			77,798				1,558				2.00	%			117,500				2,122				1.81	%			132,762				2,837				2.14	%
Federal Reserve Bank stock			1,606				96				6.00	%			1,446				87				5.99	%			1,307				78				6.00	%
Federal Home Loan Bank stock			3,134				220				7.00	%			2,858				115				4.01	%			2,176				22				1.01	%
Loans (1) (2)			404,300				16,998				4.20	%			321,551				14,014				4.36	%			234,875				11,378				4.84	%
Earning assets			563,515				19,215				3.41	%			508,431				17,016				3.35	%			451,409				15,039				3.33	%
Other assets			6,421												6,719												9,145
Total assets		$	569,936											$	515,150											$	460,554
Liabilities & Equity
Interest checking (NOW)		$	22,205				30				0.14	%		$	21,021				32				0.15	%		$	22,730				40				0.17	%
Money market deposits and savings			156,758				378				0.24	%			159,958				370				0.23	%			159,043				491				0.31	%
CDs			41,869				34				0.08	%			44,821				81				0.18	%			45,939				134				0.29	%
Borrowings			25,918				314				1.21	%			27,692				325				1.17	%			25,013				301				1.21	%
Total interest bearing deposits and borrowings			246,750				756				0.31	%			253,492				808				0.32	%			252,725				966				0.38	%
Demand deposits			261,448												206,385												157,525
Other liabilities			2,673												2,747												3,297
Total liabilities			510,871												462,624												413,547
Equity			59,065												52,526												47,007
Total liabilities & equity		$	569,936											$	515,150											$	460,554
Net interest income / spread						$	18,459				3.10	%						$	16,208				3.03	%						$	14,073				2.95	%
Net interest margin											3.28	%											3.19	%											3.12	%

 

---

(1)

Before allowance for loan losses and net deferred loan fees and costs. Included in net interest income was net loan origination fee accretion of $15,000, $23,000 and $78,000 for the years ended December 31, 2014, 2013 and 2012, respectively.

(2)

Includes average non-accrual loans of $697,000, $987,000 and $6.4 million for the years ended December 31, 2014, 2013 and 2012, respectively.

 

The Volume and Rate Variances table below sets forth the dollar difference in interest earned and paid for each major category of interest earning assets and interest bearing liabilities for the noted periods, and the amount of such change attributable to changes in average balances (volume) or changes in average interest rates. Volume variances are equal to the increase or decrease in the average balance times the prior period rate and rate variances are equal to the increase or decrease in the average rate times the prior period average balance. Variances attributable to both rate and volume changes are equal to the change in rate times the change in average balance and are included below in the average volume column.

 

 

		Years ended December 31, 2014 Compared to 2013
		Increase (Decrease) Due to Changes in:
(in thousands)		Volume				Rate				Total
Interest income:
Interest earning deposits at other financial institutions		$	80			$	1			$	81
U.S. Treasuries and Gov’t agencies			67				53				120
Corporate notes			(377	)			(159	)			(536	)
Residential mortgage backed securities			(776	)			212				(564	)
Federal Reserve Bank stock			9				—				9
Federal Home Loan Bank stock			12				93				105
Loans			3,494				(510	)			2,984
Total increase (decrease) in interest income			2,509				(310	)			2,199
Interest expense:
Interest checking (NOW)			1				(3	)			(2	)
Money market deposits and savings			(7	)			15				8
CDs			(5	)			(42	)			(47	)
Borrowings			(21	)			10				(11	)
Total decrease in interest expense			(32	)			(20	)			(52	)
Net increase (decrease) in net interest income		$	2,541			$	(290	)		$	2,251

 

		Years ended December 31, 2013 Compared to 2012
		Increase (Decrease) Due to Changes in:
(in thousands)		Volume				Rate				Total
Interest income:
Interest earning deposits at other financial institutions		$	(41	)		$	—			$	(41	)
U.S. Treasuries and Gov’t agencies			(2	)			(19	)			(21	)
Corporate notes			14				2				16
Residential mortgage backed securities			(305	)			(410	)			(715	)
Federal Reserve Bank stock			9				—				9
Federal Home Loan Bank stock			9				84				93
Loans			3,868				(1,232	)			2,636
Total increase (decrease) in interest income			3,552				(1,575	)			1,977
Interest expense:
Interest checking (NOW)			(3	)			(5	)			(8	)
Money market deposits and savings			3				(124	)			(121	)
CDs			(3	)			(50	)			(53	)
Borrowings			32				(8	)			24
Total increase (decrease) in interest expense			29				(187	)			(158	)
Net increase (decrease) in net interest income		$	3,523			$	(1,388	)		$	2,135

 

Provision for Loan Losses

 

The provision for loan losses was $100,000 for both years ended December 31, 2014 and 2013. The provision for loan losses recorded during the year ended December 31, 2014 was primarily recorded to supplement the Bank’s ALL as a result of loan growth experienced. The provision for loan losses during the year ended December 31, 2014 was partially offset by loan recoveries, as well as the continued improvement in the level of our criticized and classified loans. During the year ended December 31, 2014, total loans increased by $59.3 million, from $383.5 million at December 31, 2013 to $442.9 million at December 31, 2014. Criticized and classified loans generally consist of special mention, substandard and doubtful loans. Special mention, substandard and doubtful loans were $180,000, $1.9 million and none, respectively, at December 31, 2014, compared to $4.7 million, $2.1 million and none, respectively, at December 31, 2013. We had net recoveries of $263,000 during the year ended December 31, 2014, compared to net recoveries of $1.1 million during the same period last year. The provision for loan losses was recorded based on an analysis of the factors discussed in Part II, Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operation – Financial Condition – Allowance for Loan Losses.

 

 

As a percentage of our total loan portfolio, the amount of non-performing loans was 0.14% and 0.19%, respectively, at December 31, 2014 and 2013. As a percentage of our total assets, the amount of non-performing assets was 0.11% and 0.15%, respectively, at December 31, 2014 and 2013.

 

Non-Interest Income

 

Non-interest income was $1.7 million for the year ended December 31, 2014, compared to $1.8 million for the same period last year. During the year ended December 31, 2014, the Company sold investment securities with an amortized cost of $59.9 million, recognizing gains of $1.2 million. In addition, the Company recognized a gain of $47,000 in connection with the disposition of its OREO during the year ended December 31, 2014. With the exception of these gains, non-interest income during the year ended December 31, 2014 primarily consists of customer related fee income. During the year ended December 31, 2013, the Company sold $35.1 million of investment securities, recognizing gains of $822,000. With the exception of such gains, non-interest income primarily consists of loan arrangement fees earned in connection with our college loan funding program and customer related fee income. During 2013, the Company terminated the college loan funding program and did not report any material loan arrangement fee earnings subsequent to the second quarter of 2013. See Note 13 “Non-Interest Income” in Part II, Item 8. “Financial Statements and Supplementary Data” for more information regarding non-interest income for the years ended December 31, 2014 and 2013.

 

Non-Interest Expense

 

Non-interest expense was $15.8 million for the year ended December 31, 2014, compared to $14.1 million for the same period last year. The increases in non-interest expense during the year ended December 31, 2014 as compared to the same period last year is primarily due to the costs incurred to expand the Bank’s business development and related operational support teams, the additional costs incurred to address regulatory compliance matters, as well as the supplemental costs associated with the Bank’s Beverly Hills expansion. See Note14 “Other Operating Expenses” in Part II, Item 8. “Financial Statements and Supplementary Data” for more information regarding other operating expenses for the years ended December 31, 2014 and 2013.

 

Income Tax Provision

 

During the year ended December 31, 2014, we recorded a tax provision of $1.9 million, compared to a tax benefit of $3.1 million during the year ended December 31, 2013. The tax benefit recognized during the year ended December 31, 2013 was related to the full reversal of the Company’s deferred tax valuation allowance that had been previously established during the year ended December 31, 2009. In making this determination, management analyzed, among other things, our recent history of earnings and cash flows, forecasts of future earnings, improvements in the credit quality of the Company’s loan portfolio, the nature and timing of future deductions and benefits represented by the deferred tax assets and our cumulative earnings for the 12 quarters preceding the reversal of this valuation allowance. At December 31, 2013, no further deferred tax valuation allowance remained.

 

See discussion of management’s evaluation regarding the valuation allowance for the deferred tax assets in Part II, Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations — Financial Condition — Deferred Tax Asset.

 

Financial Condition

 

Assets

 

Total assets at December 31, 2014 were $585.2 million, representing an increase of $47.1 million, or 8.7%, from $538.1 million at December 31, 2013. Cash and cash equivalents at December 31, 2014 were $58.5 million, representing an increase of $13.8 million, or 30.8%, from $44.7 million at December 31, 2013. Loans increased by $59.3 million, from $383.5 million at December 31, 2013 to $442.9 million at December 31, 2014. Loan originations were $226.3 million and $232.5 million during the years ended December 31, 2014 and 2013, respectively. Prepayment speeds for the year ended December 31, 2014 were 16.7%, compared to 13.2% for the same period last year. Investment securities were $79.7 million at December 31, 2014, compared to $106.3 million at December 31, 2013, representing a decline of $26.6 million, or 25.0%. During the year ended December 31, 2014, the Company sold investment securities with an amortized cost of $59.9 million, recognizing gains of $1.2 million. During the year ended December 31, 2013, the Company sold $35.1 million, of investment securities, recognizing gains of $822,000. The weighted average life of our investment securities was 4.02 years and 3.78 years at December 31, 2014 and 2013, respectively.

 

 

Cash and Cash Equivalents

 

Cash and cash equivalents totaled $58.5 million and $44.7 million at December 31, 2014 and 2013, respectively. Cash and cash equivalents are managed based upon liquidity needs by investing excess liquidity in higher yielding assets such as loans and investment securities. See the section “Liquidity and Asset/Liability Management” below.

 

Investment Securities

 

The investment securities portfolio is generally the second largest component of the Company’s interest earning assets, and the structure and composition of this portfolio is important to any analysis of the financial condition of the Company. The investment portfolio serves the following purposes:  (i) it can be readily reduced in size to provide liquidity for loan balance increases or deposit balance decreases; (ii) it provides a source of pledged assets for securing certain deposits and borrowed funds, as may be required by law or by specific agreement with a depositor or lender; (iii) it can be used as an interest rate risk management tool, since it provides a large base of assets, the maturity and interest rate characteristics of which can be changed more readily than the loan portfolio to better match changes in the deposit base and other funding sources of the Company; and (iv) it is an alternative interest earning use of funds when loan demand is weak or when deposits grow more rapidly than loans.

 

At December 31, 2014, investment securities totaled $79.7 million compared to $106.3 million at December 31, 2013. The decline in securities during the year was primarily attributable to the sale of $59.9 million of securities, which resulted in a gain of $1.2 million. Proceeds from these sales were primarily utilized to fund our loan growth during the year. The Company’s investment portfolio is primarily composed of residential mortgage-backed securities issued by the Federal National Mortgage Association and the Federal Home Loan Mortgage Corporation and debt securities issued by Government Sponsored Agencies. The underlying loans for the mortgage backed securities are residential mortgages that were primarily originated beginning in 2003 through the current period. These loans are geographically dispersed throughout the United States. At December 31, 2014 and 2013, the weighted average rate and weighed average life of these residential-mortgage backed securities were 1.82% and 2.12%, respectively, and 3.64 years and 3.85 years, respectively. At December 31, 2014 and 2013, the weighted average rate and weighed average life of debt securities issued by Government Sponsored Agencies were 1.89% and none respectively, and 5.07 years and none, respectively. At December 31, 2014 and 2013, the unrealized gains in the investment portfolio were $275,000 and $89,000, respectively. We will continue to evaluate the Company’s investments and liquidity needs and will adjust the amount of investment securities accordingly.

 

See Note 2 “Investment Securities” in Part II, Item 8. “Financial Statements and Supplementary Data” for more information regarding investment securities at December 31, 2014 and 2013.

 

The following is a summary of the investments categorized as Available for Sale at December 31, 2012:

 

 

		December 31, 2012
						Gross				Gross
		Amortized				Unrealized				Unrealized				Fair
(in thousands)		Cost				Gains				Losses				Value
Investments–Available for Sale
U.S. Gov’t Treasuries		$	2,136			$	71			$	—			$	2,207
Corporate Notes			34,534				741				—				35,275
Residential Mortgage-Backed Securities			140,416				3,345				(18	)			143,743
Total		$	177,086			$	4,157			$	(18	)		$	181,225

 

The Company did not have any investment securities categorized as “Held to Maturity” or “Trading” at December 31, 2014, 2013 or 2012.

 

 

Loans

 

Loans, net of the allowance for loan losses and deferred loan origination costs/unearned fees, increased 15.7%, or $58.9 million, from $376.3 million at December 31, 2013 to $435.3 million at December 31, 2014. As of December 31, 2014 and 2013, total loans outstanding totaled $442.9 million and $383.5 million, respectively. The majority of growth within our loan portfolio related to increases of $18.3 million in commercial real estate loans, $16.0 million in residential loans, $15.3 million in commercial loans and $7.0 million in construction and land development loans. Loan originations were $226.3 million during the year ended December 31, 2014, compared to $232.5 million during the same period last year. The following table sets forth the comparison of our loan portfolio by major categories as of the dates indicated:

 

		December 31,
		2014								2013								2012								2011								2010
(dollars in thousands)		Amount Outstanding				Percent of Total				Amount Outstanding				Percent of Total				Amount Outstanding				Percent of Total				Amount Outstanding				Percent of Total				Amount Outstanding				Percent of Total
Commercial (1)		$	91,694				20.7	%		$	76,397				19.9	%		$	58,769				22.0	%		$	70,945				30.4	%		$	67,411				37.6	%
Commercial real estate			185,752				42.0	%			167,419				43.7	%			110,031				41.3	%			70,269				30.2	%			54,456				30.4	%
Residential			98,806				22.3	%			82,795				21.6	%			53,162				19.9	%			54,944				23.6	%			21,707				12.1	%
Land and construction			37,075				8.4	%			30,102				7.8	%			19,080				7.2	%			16,670				7.2	%			15,462				8.6	%
Consumer and other (2)			29,458				6.6	%			26,787				7.0	%			25,584				9.6	%			20,140				8.6	%			20,235				11.3	%
Loans, gross			442,785				100.0	%			383,500				100.0	%			266,626				100.0	%			232,968				100.0	%			179,271				100.0	%
Plus — net deferred costs			71								48								45								37								22
Less — allowance for loan losses			(7,599	)							(7,236	)							(6,015	)							(5,284	)							(5,283	)
Loans, net		$	435,257							$	376,312							$	260,656							$	227,721							$	174,010

 

---

(1)

Unsecured commercial loan balances were $25.1 million, $13.2 million, $10.0 million, $11.5 million, and $11.0 million at December 31, 2014, 2013, 2012, 2011, and 2010, respectively.

(2)

Unsecured consumer and other loan balances were $5.1 million, $2.3 million, $901,000, $2.8 million, and $1.9 million at December 31, 2014, 2013, 2012, 2011, and 2010, respectively.

 

As of December 31, 2014, substantially all of the Company’s loan customers are located in Southern California. Additionally, the Company does not have any subprime mortgages.

 

The table below reflects the maturity distribution for the loans (except for the consumer and other loans) in our loan portfolio at December 31, 2014 and 2013:

						Greater than one year
		One Year or				through				Greater than
(in thousands)		Less				five years				five years				Total
At December 31, 2014:
Commercial Loans
Floating rate		$	43,459			$	22,789			$	1,730			$	67,978
Fixed rate			3,488				18,330				1,898				23,716
Real Estate Loans
Floating rate			71,402				54,303				60,240				185,945
Fixed rate			9,789				76,419				49,480				135,688
		$	128,138			$	171,841			$	113,348			$	413,327
At December 31, 2013:
Commercial Loans
Floating rate		$	29,712			$	16,518			$	2,324			$	48,554
Fixed rate			7,070				20,368				405				27,843
Real Estate Loans
Floating rate			38,745				41,972				68,902				149,619
Fixed rate			22,688				51,696				56,313				130,697
		$	98,215			$	130,554			$	127,944			$	356,713

 

As of December 31, 2014 and 2013, $15.4 million and $8.2 million, respectively, of our floating rate loans were at or below their floor rates. The weighted average minimum interest rate on these loans was 3.89% and 4.26% at December 31, 2014 and 2013, respectively. Included within floating rate loans are hybrid adjustable rate loans, which typically reprice after an initial fixed period of three to five years.

 

 

Non-Performing Assets

 

The following table sets forth non-accrual loans and other real estate owned (“OREO”) at December 31, 2014, 2013, 2012, 2011 and 2010:

		December 31,
(dollars in thousands)		2014				2013				2012				2011				2010
Non-accrual loans:
Commercial		$	632			$	706			$	1,509			$	2,175			$	1,693
Commercial real estate			—				—				—				3,756				5,080
Residential			—				—				—				—				—
Land and Construction			—				—				—				1,330				—
Consumer and other			—				29				345				345				345
Total non-accrual loans			632				735				1,854				7,606				7,118
OREO			—				90				90				—				845
Total non-performing assets		$	632			$	825			$	1,944			$	7,606			$	7,963
Non-performing assets to total loans and OREO			0.14	%			0.22	%			0.73	%			3.26	%			4.42	%
Non-performing assets to total assets			0.11	%			0.15	%			0.39	%			1.88	%			2.58	%

 

Non-accrual loans totaled $632,000 and $735,000 at December 31, 2014 and 2013, respectively. There were no accruing loans past due 90 days or more at December 31, 2014 and 2013. Gross interest income that would have been recorded on non-accrual loans had they been current in accordance with their original terms was $38,000 and $44,000 for the years ended December 31, 2014 and 2013, respectively. As a percentage of total assets, the amount of non-performing assets was 0.11% and 0.15% at December 31, 2014 and 2013, respectively.

 

At December 31, 2014, non-accrual loans consisted of two commercial loans totaling $632,000. At December 31, 2013, non-accrual loans consisted of two commercial loans totaling $706,000 and one consumer and other loan totaling $29,000.

 

During the year ended December 31, 2014, the Bank disposed of its OREO for approximately $137,000, recognizing a gain of $47,000 in connection with this disposition. At December 31, 2013, OREO consisted of one undeveloped land property totaling $90,000. This property is located in Southern California.

 

At December 31, 2014 and 2013, the recorded investment in impaired loans was $681,000 and $953,000, respectively. At December 31, 2014, the Company had a $20,000 specific allowance for loan losses on $60,000 of impaired loans. At December 31, 2013, the Company had a $35,000 specific allowance for loan losses on $135,000 of impaired loans. There were $621,000 and $818,000, respectively, of impaired loans with no specific allowance for loan losses at December 31, 2014 and 2013, respectively. The average outstanding balance of impaired loans for the year ended December 31, 2014 was $849,000, compared to $1.2 million for the same period last year. As of December 31, 2014 and 2013, there was $632,000 and $735,000 million, respectively, of impaired loans on non-accrual status. During the years ended December 31, 2014 and 2013, interest income recognized on impaired loans subsequent to their classification as impaired was $8,000 and $9,000, respectively. The Company stops accruing interest on these loans on the date they are classified as non-accrual and reverses any uncollected interest that had been previously accrued as income. The Company may begin recognizing interest income on these loans as cash interest payments are received, if collection of principal is reasonably assured.

 

 

Allowance for Loan Losses

 

The allowance for loan losses (the “ALL”) is established through a provision for loan losses charged to operations and represents an estimate of credit losses inherent in the Company’s loan portfolio that have been incurred as of the balance sheet date. Loan losses are charged against the ALL when management believes that principal is uncollectible. Subsequent repayments or recoveries, if any, are credited to the ALL. Management periodically assesses the adequacy of the ALL by reference to many quantitative and qualitative factors that may be weighted differently at various times depending on prevailing conditions. These factors include, among other elements:

 

•

the risk characteristics of various classifications of loans;

 

•

general portfolio trends relative to asset and portfolio size;

 

•

asset categories;

 

•

potential credit concentrations;

 

•

delinquency trends within the loan portfolio;

 

•

changes in the volume and severity of past due and other classified loans;

 

•

historical loss experience and risks associated with changes in economic, social and business conditions; and

 

•

the underwriting standards in effect when the loan was made.

 

Accordingly, the calculation of the adequacy of the ALL is not based solely on the level of non-performing assets. The quantitative factors, included above, are utilized by our management to identify two different risk groups (1) individual loans (loans with specifically identifiable risks); and (2) homogeneous loans (groups of loan with similar characteristics). We base the allocation for individual loans on the results of our impairment analysis, which is typically based on the present value of the expected future cash flows discounted at the loan’s effective interest rate or by using the loan’s most recent market value or the fair value of the collateral, if the loan is collateral dependent. Homogenous groups of loans are allocated reserves based on the loss ratio assigned to the pool based on its risk grade. The loss ratio is determined based primarily on the historical loss experience of our loan portfolio. These loss ratios are then adjusted, if determined necessary, based on other factors including, but not limited to, historical peer group loan loss data and the loss experience of other financial institutions. Loss ratios for all categories of loans are evaluated on a quarterly basis. Historical loss experience is determined based on a rolling migration analysis of each loan category within our portfolio. This migration analysis estimates loss factors based on the performance of each loan category over a four and a half year time period. These quantitative calculations are based on estimates and actual losses may vary materially and adversely from the estimates.

 

The qualitative factors, included above, are also utilized to identify other risks inherent in the portfolio and to determine whether the estimated credit losses associated with the current portfolio might differ from historical loss trends or the loss ratios discussed above. We estimate a range of exposure for each applicable qualitative factor and evaluate the current condition and trend of each factor. Because of the subjective nature of these factors, the actual losses incurred may vary materially and adversely from the estimated amounts.

 

In addition, regulatory agencies, as a part of their examination process, periodically review the Bank’s ALL, and may require the Bank to take additional provisions to increase the ALL based on their judgment about information available to them at the time of their examinations. No assurance can be given that adverse future economic conditions or other factors will not lead to increased delinquent loans, further provisions for loan losses and/or charge-offs. Management believes that the ALL as of December 31, 2014 and 2013 was adequate to absorb probable incurred credit losses inherent in the loan portfolio.

 

 

 

The following is a summary of the activity for the ALL for the years ended December 31, 2014, 2013, 2012 and 2011:

 

(in thousands)		Commercial				Commercial Real Estate				Residential				Land and Construction				Consumer and Other				Total
Year Ended December 31, 2014:
Allowance for loan losses:
Beginning balance		$	1,583			$	3,660			$	758			$	811			$	424			$	7,236
Provision for loan losses			115				165				(220	)			5				35				100
Charge-offs			—				—				—				—				—				—
Recoveries			54				—				209				—				—				263
Ending balance		$	1,752			$	3,825			$	747			$	816			$	459			$	7,599
Year Ended December 31, 2013:
Allowance for loan losses:
Beginning balance		$	2,277			$	2,450			$	508			$	411			$	369			$	6,015
Provision for loan losses			(1,765	)			1,210				250				400				5				100
Charge-offs			—				—				—				—				—				—
Recoveries			1,071				—				—				—				50				1,121
Ending balance		$	1,583			$	3,660			$	758			$	811			$	424			$	7,236
Year Ended December 31, 2012:
Allowance for loan losses:
Beginning balance		$	2,584			$	1,252			$	583			$	516			$	349			$	5,284
Provision for loan losses			(305	)			485				(75	)			(100	)			(5	)			—
Charge-offs			(26	)			(400	)			—				(5	)			—				(431	)
Recoveries			24				1,113				—				—				25				1,162
Ending balance		$	2,277			$	2,450			$	508			$	411			$	369			$	6,015
Year Ended December 31, 2011:
Allowance for loan losses:
Beginning balance		$	2,812			$	888			$	213			$	995			$	375			$	5,283
Provision for loan losses			(724	)			894				370				(209	)			(56	)			275
Charge-offs			(223	)			(530	)			—				(270	)			—				(1,023	)
Recoveries			719				—				—				—				30				749
Ending balance		$	2,584			$	1,252			$	583			$	516			$	349			$	5,284

 

The following is a summary of activity for the ALL for the year ended December 31, 2010:

 

(in thousands)		December 31, 2010
Beginning balance		$	5,478
Provision for loan losses			2,775
Charge-offs:
Commercial			(2,321	)
Commercial real estate			(900	)
Consumer and other			(190	)
Total Charge-offs			(3,411	)
Recoveries:
Commercial			386
Commercial real estate			20
Consumer and other			35
Total Recoveries			441
Ending balance		$	5,283

 

There were no loans acquired with deteriorated credit quality during the years ended December 31, 2014 and 2013.

 

The ALL was $7.6 million, or 1.72% of our total loan portfolio, at December 31, 2014, compared to $7.2 million, or 1.89% of our total loan portfolio, at December 31, 2013. At December 31, 2014 and 2013, our non-performing loans were $632,000 and $735,000, respectively. The ratio of our ALL to non-performing loans was 1,203.03% and 984.26% at December 31, 2014 and 2013, respectively. In addition, our ratio of non-performing loans to total loans was 0.14% and 0.19% at December 31, 2014 and December 31, 2013, respectively. The ALL is impacted by inherent risk in the loan portfolio, including the level of our non-performing loans, as well as specific reserves and charge-off activities. The remaining portion of our ALL is allocated to our performing loans based on the quantitative and qualitative factors discussed above.

 

 

Allocation of the Allowance for Loan Losses

 

		December 31,
		2014								2013								2012								2011								2010
(dollars in thousands)		Balance of Allowance for Loan Losses				Percentage of Loans in Each Category				Balance of Allowance for Loan Losses				Percentage of Loans in Each Category				Balance of Allowance for Loan Losses				Percentage of Loans in Each Category				Balance of Allowance for Loan Losses				Percentage of Loans in Each Category				Balance of Allowance for Loan Losses				Percentage of Loans in Each Category
Commercial and real estate loans		$	7,140				93.3	%		$	6,812				93.0	%		$	5,646				90.4	%		$	4,935				91.4	%		$	4,994				88.7	%
Consumer and other loans			459				6.7				424				7.0				369				9.6				349				8.6				289				11.3
Total		$	7,599				100.0	%		$	7,236				100.0	%		$	6,015				100.0	%		$	5,284				100.0	%		$	5,283				100.0	%

 

Deferred Tax Asset

 

A valuation allowance is required if it is “more likely than not” that a deferred tax asset will not be realized. The determination of the realizability of the deferred tax assets is highly subjective and dependent upon judgment concerning management’s evaluation of both positive and negative evidence, including historic financial performance, the forecasts of future income, existence of feasible tax planning strategies, length of statutory carryforward periods, and assessments of the current and future economic and business conditions. Management evaluates the positive and negative evidence and determines the realizability of the deferred tax asset on a quarterly basis. Management may reestablish a valuation allowances in the future to the extent that it is determined that it is “more likely than not” that these assets will not be realized.

 

During the year ended December 31, 2009, we established a full valuation allowance against the Company’s deferred tax assets after we determined that it was “more likely than not” that the Company would not be able to realize the benefit of the deferred tax asset. During the year ended December 31, 2013, management reassessed the need for this valuation allowance and concluded that a valuation allowance was no longer appropriate and that it is “more likely than not” that these assets will be realized. As a result, management reversed the valuation allowance as an income tax benefit in the Consolidated Statements of Operations and Comprehensive Income. In making this determination, management analyzed, among other things, our recent history of earnings and cash flows, forecasts of future earnings, improvements in the credit quality of the Company’s loan portfolio, the nature and timing of future deductions and benefits represented by the deferred tax assets and our cumulative earnings for the 12 quarters preceding the reversal of this valuation allowance.

 

At December 31, 2014 and 2013, we had a net deferred tax asset of approximately $3.0 million and $3.1 million, respectively. Our net deferred tax asset at December 31, 2014, primarily consists of deferred tax assets related to the allowance for loan losses and equity compensation.

 

See Note 16 “Income Taxes” in Part II, Item 8. “Financial Statements and Supplementary Data” for more information regarding the Company’s income taxes and deferred tax assets at December 31, 2014 and 2013.

 

Deposits

 

The Company’s activities are largely based in the Los Angeles metropolitan area. The Company’s deposit base is also primarily generated from this area.

 

At December 31, 2014, total deposits were $503.2 million compared to $452.8 million at December 31, 2013, representing an increase of 11.1%, or $50.4 million. This increase is primarily due to growth within our non-interest bearing deposits of $45.3 million, due to continued core deposit gathering efforts. Total core deposits, which include non-interest bearing demand deposits, interest bearing demand deposits, and money market deposits and savings, were $462.4 million and $409.8 million at December 31, 2014 and 2013, respectively. Non-interest bearing deposits represent 56.1% of total deposit at December 31, 2014, compared to 52.3% at December 31, 2013.

 

 

The following table reflects a summary of deposit categories by dollar and percentage at December 31, 2014 and 2013:

 

		December 31, 2014								December 31, 2013
(dollars in thousands)		Amount				Percent of Total				Amount				Percent of Total
Non-interest bearing demand deposits		$	282,217				56.1	%		$	236,869				52.3	%
Interest bearing checking			25,492				5.1	%			21,005				4.6	%
Money market deposits and savings			154,706				30.7	%			151,879				33.6	%
Certificates of deposit			40,757				8.1	%			43,013				9.5	%
Total		$	503,172				100.0	%		$	452,766				100.0	%

 

At December 31, 2014, the Company had two certificates of deposit with the State of California Treasurer’s Office for a total of $38.0 million, which represented 7.6% of total deposits. The Company was required to pledge $41.8 million of investment securities at December 31, 2014 in connection with these certificates of deposit. Each of these deposits outstanding at December 31, 2014 is scheduled to mature in the first quarter of 2015. The Company intends to renew each of these deposits at maturity. However, there can be no assurance that the State of California Treasurer’s Office will continue to maintain deposit accounts with the Company. For further information on the Company’s certificates of deposit with the State of California Treasurer’s Office, see Part I, Item 1. Financial Statements - Note 8 “Deposits.”

 

At December 31, 2014 and 2013, the Company had $505,000 and $2.1 million, respectively, of Certificate of Deposit Accounts Registry Service (“CDARS”) reciprocal deposits, which represented 0.1% and 0.5%, respectively, of total deposits.

 

The aggregate amount of certificates of deposit of $100,000 or more at December 31, 2014 and 2013, was $40.0 million and $42.1 million, respectively.

 

Scheduled maturities of certificates of deposit in amounts of $100,000 or more at December 31, 2014, including deposit accounts with the State of California Treasurer’s Office and CDARS were as follows:

 

(in thousands)
Due within 3 months or less		$	39,148
Due after 3 months and within 6 months			—
Due after 6 months and within 12 months			807
Due after 12 months			—
Total		$	39,955

  

Liquidity and Asset/Liability Management

 

Liquidity, as it relates to banking, is the ability to meet loan commitments and to honor deposit withdrawals through either the sale or maturity of existing assets or the acquisition of additional funds through deposits or borrowing. The Company’s main sources of funds to provide liquidity are its cash and cash equivalents, paydowns and maturities of investments, loan repayments, and increases in deposits and borrowings. The Company also maintains lines of credit with the Federal Home Loan Bank, or FHLB, and other correspondent financial institutions.

 

The liquidity ratio (the sum of cash and cash equivalents and available for sale investments, excluding amounts required to be pledged for operating requirements, divided by total assets) was 15.7% and 19.4% at December 31 2014 and 2013, respectively.

 

At December 31, 2014 and 2013, the Company had a borrowing/credit facility secured by a blanket lien on eligible loans at the FHLB of $146.0 million and $169.9 million, respectively. The Company had $17.5 million and $27.5 million of long-term borrowings outstanding under this borrowing/credit facility with the FHLB at December 31, 2014 and 2013, respectively. The Company had no overnight borrowings outstanding under this borrowing/credit facility at December 31, 2014 and 2013.

 

 

The following table summarizes the outstanding long-term borrowings under the borrowing/credit facility secured by a blanket lien on eligible loans at the FHLB at December 31, 2014 and 2013 (dollars in thousands):

 

						December 31,
Maturity Date		Interest Rate				2014				2013
May 23, 2014			1.14%				—				2,500
December 29, 2014			0.83%				—				5,000
December 30, 2014			0.74%				—				2,500
May 26, 2015			1.65%				2,500				2,500
May 23, 2016			2.07%				2,500				2,500
December 29, 2016			1.38%				5,000				5,000
December 30, 2016			1.25%				2,500				2,500
May 2, 2018			0.93%				5,000				5,000
Total						$	17,500			$	27,500

 

At December 31, 2014 and 2013, the Company also had $27.0 million in Federal fund lines of credit available with other correspondent banks that could be used to disburse loan commitments and to satisfy demands for deposit withdrawals. Each of these lines of credit is subject to conditions that the Company may not be able to meet at the time when additional liquidity is needed. The Company did not have any borrowings outstanding under these lines of credit at December 31, 2014. As of December 31, 2014 and 2013, the Company had pledged $2.5 million of corporate notes related to these lines of credit.

 

Management believes the level of liquid assets and available credit facilities are sufficient to meet current and anticipated funding needs. In addition, the Bank’s Asset/Liability Management Committee oversees the Company’s liquidity position by reviewing a monthly liquidity report. Management is not aware of any trends, demands, commitments, events or uncertainties that will result or are reasonably likely to result in a material change in the Company’s liquidity.

 

Capital Expenditures

 

As of December 31, 2014, the Company was not subject to any material commitments for capital expenditures. For capital adequacy, see Part I, Item 1. Business — “Capital Standards.”

 

Capital Resources

 

At December 31, 2014, the Company had total stockholders’ equity of $61.7 million, which included $121,000 in common stock, $71.7 million in additional paid-in capital, $1.7 million in accumulated deficit, $162,000 in accumulated other comprehensive income, and $8.7 million in treasury stock.

 

Off-Balance Sheet Arrangements

 

In the normal course of business, the Company is a party to financial instruments with off-balance sheet risk. These financial instruments include commitments to extend credit and letters of credit. To varying degrees, these instruments involve elements of credit and interest rate risk in excess of the amount recognized in the statement of financial position.

 

(in thousands)		December 31, 2014				December 31, 2013
Commitments to extend credit		$	146,403			$	104,330
Commitments to extend credit to directors and officers (undisbursed amount)		$	747			$	1,604
Standby/commercial letters of credit		$	2,670			$	2,616
Guarantees on revolving credit card limits		$	672			$	574
Outstanding credit card balances		$	136			$	73

 

The Company maintains an allowance for unfunded commitments, based on the level and quality of the Company’s undisbursed loan funds, which comprises the majority of the Company’s off-balance sheet risk. As of December 31, 2014 and 2013, the allowance for unfunded commitments was $320,000 and $270,000, respectively, which represented 0.21% and 0.25%, respectively, of the undisbursed commitments and letters of credit, respectively.

 

 

 

Management is not aware of any other off-balance sheet arrangements that have or are reasonably likely to have a current or future effect on the Company’s financial condition, changes in financial condition, and results of operations, liquidity, capital expenditures or capital resources that is material to investors.

 

For further information on commitments and contingencies, see Part II, Item 8. Financial Statements and Supplementary Data - Note 6 “Related Party Transactions” and Note 10 “Commitments and Contingencies.”

 

Item 7A.         Quantitative and Qualitative Disclosure About Market Risk

 

Not applicable.

 

Item 8.                         Financial Statements and Supplementary Data

 

Financial statements are filed as a part of this report hereof beginning on page 41 and are incorporated herein by reference.

 

Item 9.                        Changes In and Disagreements with Accountants on Accounting and Financial Disclosure

 

None.

 

Item 9A.     Controls and Procedures

 

Evaluation of Disclosure Controls and Procedures

 

The Company maintains disclosure controls and procedures (as such term is defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act), designed to ensure that information required to be disclosed by us in the reports that we file or submit under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the U.S. Securities and Exchange Commission’s rules and forms and that such information is accumulated and communicated to management, including the Principal Executive Officer and the Principal Financial Officer, as appropriate, to allow for timely decisions regarding required disclosure. In designing and evaluating the disclosure controls and procedures, management recognizes that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives, and management is required to apply its judgment in evaluating the cost-benefit relationship of possible controls and procedures.

 

The Company’s management, with the participation of our Principal Executive Officer and Principal Financial Officer, has evaluated the effectiveness of our disclosure controls and procedures as of the end of the period covered by this Annual Report on Form 10-K. Based on such evaluation, our Principal Executive Officer and Principal Financial Officer have concluded that, as of the end of such period, our disclosure controls and procedures are effective in ensuring that information required to be disclosed by the Company in the reports filed or submitted under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the U.S. Securities and Exchange Commission’s rules and forms, and is accumulated and communicated to management, including the Principal Executive Officer and the Principal Financial Officer, as appropriate, to allow for timely decisions regarding required disclosure.

 

Management’s Report on Internal Control over Financial Reporting

 

Management of the Company is responsible for establishing and maintaining adequate internal control over financial reporting. The Company’s internal control over financial reporting is a process designed under the supervision of the Company’s Principal Executive and Principal Financial Officers to provide reasonable assurance regarding the reliability of financial reporting and the preparation of the Company’s financial statements for external reporting purposes in accordance with U.S. generally accepted accounting principles.

 

As of December 31, 2014, management conducted an assessment of the effectiveness of the Company’s internal control over financial reporting based on the framework established in the 2013 Internal Control — Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (“COSO”). Based on this assessment, management has determined that the Company’s internal control over financial reporting as of December 31, 2014 is effective.

 

This Annual Report on Form 10-K does not include an attestation report of our registered public accounting firm regarding internal control over financial reporting pursuant to rules of the SEC applicable to nonaccelerated filers.

 

 

Changes in Internal Controls

 

There have not been any changes in the Company’s internal control over financial reporting that occurred during the quarter ended December 31, 2014, that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.

 

Item 9B.     Other Information

 

Subsequent Event

 

On September 11, 2013, the Board of Directors of the Bank entered into a stipulation and consent to the issuance of a consent order with the OCC consenting to the issuance of a consent order (the “Consent Order”) by the OCC, effective as of that date. The Consent Order required the Bank to take corrective action to enhance its program and procedures for compliance with the Bank Secrecy Act and other anti-money laundering statutes and regulations. On February 23, 2015, the Board of Directors of the Bank was notified by the OCC that the OCC is terminating its Consent Order with the Bank, dated September 11, 2013, effective immediately.

 

 

PART III

 

Item 10.      Directors, Executive Officers and Corporate Governance

 

Information required by this item will be contained in our definitive proxy statement for our 2015 Annual Meeting of Stockholders (the “Proxy Statement”), to be filed pursuant to Regulation 14A with the Securities and Exchange Commission within 120 days of December 31, 2014. Such Information is incorporated herein by reference.

 

Item 11.                 Executive Compensation

 

Information required by this item will be contained in our Proxy Statement, to be filed pursuant to Regulation 14A with the Securities and Exchange Commission within 120 days of December 31, 2014. Such information is incorporated herein by reference.

 

Item 12.                  Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters

 

Information required by this item will be contained in our Proxy Statement to be filed pursuant to Regulation 14A with the Securities and Exchange Commission within 120 days of December 31, 2014.

 

Such information is incorporated herein by reference.

 

Item 13.                 Certain Relationships and Related Transactions, and Director Independence

 

Information required by this item will be contained in our Proxy Statement to be filed pursuant to Regulation 14A with the Securities and Exchange Commission within 120 days of December 31, 2014. Such information is incorporated herein by reference.

 

Item 14.                  Principal Accountant Fees and Services

 

Information required by this item will be contained in our Proxy Statement to be filed pursuant to Regulation 14A with the Securities and Exchange Commission within 120 days of December 31, 2014. Such information is incorporated herein by reference.

 

 

 PART IV

 

Item 15.                 Exhibits, Financial Statement Schedules

 

(a)	The following documents are filed as part of this Annual Report on Form 10-K:

 

1.

Consolidated Financial Statements. Reference is made to Part II, Item 8, of this Annual Report on Form 10-K.

 

2.

Consolidated Financial Statement Schedules. These schedules are omitted as the required information is inapplicable or the information is presented in the consolidated financial statements or related notes.

 

3.

Exhibits. The exhibits to this Annual Report on Form 10-K listed below have been included only with the copy of this report filed with the Securities and Exchange Commission. Copies of individual exhibits will be furnished to shareholders upon written request to 1st Century Bancshares, Inc. and payment of a reasonable fee.

 

						Incorporated by Reference
Exhibit Number		Exhibit Description		Filed Herewith		Form		File No.		Exhibit		Filing Date
2.1		Plan of Reorganization, dated December 18, 2007, by and between 1st Century Bancshares, Inc. and the 1st Century Bank, N.A.				8-K		333-148302		2.1		01/11/08
3.1		Certificate of Incorporation of 1st Century Bancshares, Inc.				8-K		333-148302		3.1		01/11/08
3.2		Bylaws of 1st Century Bancshares, Inc.				8-K		333-148302		3.2		01/11/08
4.1		Form of Common Stock certificate.				8-A		000-53050		4.1		01/30/08
10.1		Lease Amendment #1 by and between 1875/1925 Century Park East Company and 1st Century Bank, N.A., dated June 9, 2006.				10-K		000-53050		10.3		03/17/08
10.2		Lease Amendment #2 by and between 1875/1925 Century Park East Company and 1st Century Bank, N.A., dated October 9, 2007.				10-K		000-53050		10.4		03/17/08
10.3		Lease Amendment #3 by and between 1875/1925 Century Park East Company and 1st Century Bank, N.A., dated December 4, 2012.				8-K		001-34226		10.1		12/06/12
10.4		Amended and Restated 2005 Equity Incentive Plan.				S-8		333-148303		4.3		12/21/07
10.5		Equity Incentive Plan Form of Stock Option Grant Agreement.				S-8		333-148303		4.4		12/21/07
10.6		Form of Resale Restriction Agreement.				10-K		000-53050		10.8		03/17/08
10.7		Form of Restricted Stock Grant Agreement.				S-8		333-148303		4.5		12/21/07
10.8		Director and Employee Stock Option Plan.				S-8		333-148302		4.3		12/21/07
10.9		Director and Employee Stock Option Agreement.				S-8		333-148302		4.4		12/21/07
10.10		Founder Stock Option Plan.				S-8		333-190621		10.1		08/14/13

 

 

Incorporated by Reference

Exhibit Number

Exhibit Description

Filed Herewith

Form

File No.

Exhibit

Filing Date

10.11

Founder Stock Option Agreement.

S-8

333-190621

10.2

08/14/13

10.12

2013 Equity Incentive Plan.

8-K

001-34226

10.1

05/10/13

10.13

Notice of Grant and Stock Option Agreement.

8-K

001-34226

10.2

05/10/13

10.14

Notice of Grant and Restricted Stock Agreement.

8-K

001-34226

10.3

05/10/13

10.15

Restricted Stock Unit Agreement.

8-K

001-34226

10.4

05/10/13

10.16

Stock Appreciation Rights Grant Agreement.

8-K

001-34226

10.5

05/10/13

10.17

Employment Agreement between Alan I. Rothenberg and 1st Century Bancshares, Inc. dated November 4, 2012.

10-Q

001-34226

10.1

11/08/11

10.18

Employment Agreement between Jason P. DiNapoli and 1st Century Bancshares, Inc. dated November 4, 2012.

10-Q

001-34226

10.2

11/08/11

10.19

Severance Agreement between Bradley S. Satenberg and 1st Century Bancshares, Inc. dated November 4, 2012.

10-Q

001-34226

10.3

11/08/11

10.20

Severance Agreement between J. Kevin Sampson and 1st Century Bancshares, Inc. dated November 4, 2012.

10-Q

001-34226

10.4

11/08/11

14

Code of Ethics.

10-K

000-53050

14

03/17/08

21

Subsidiary of the Registrant.

X

23

Consent of Independent Registered Public Accounting Firm.

X

31.1

Rule 13a-14(a) Certification of the Chief Executive Officer.

X

31.2

Rule 13a-14(a) Certification of the Chief Financial Officer.

X

32

Section 1350 Certification of the Chief Executive Officer and Chief Financial Officer.

X

101.INS

XBRL Instance Document.

X

101.SCH

XBRL Taxonomy Extension Schema Document.

X

101.CAL

XBRL Taxonomy Extension Calculation Linkbase Document.

X

101.DEF

XBRL Taxonomy Extension Definition Linkbase Document.

X

101.LAB

XBRL Taxonomy Extension Label Linkbase Document.

X

101.PRE

XBRL Taxonomy Extension Presentation Linkbase Document.

X

 

(b)	Exhibits - See exhibit index included in Item 15(a)3 of this Annual Report on Form 10-K.

 

(c)	Financial Statement Schedules - See Item 15(a)2 of this Annual Report on Form 10-K.

 

 

SIGNATURES

 

In accordance with section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized, on the 5th day of March, 2015.

 

	1ST CENTURY BANCSHARES, INC.
	By:	/s/ Alan I. Rothenberg.
		Alan I. Rothenberg
		Chairman and Chief Executive Officer
	By:	/s/ Jason P. DiNapoli.
		Jason P. DiNapoli
		President and Chief Operating Officer

 

 

In accordance with the Securities Exchange Act of 1934, as amended, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the dates indicated.

 

Signature		Title		Date
/s/ William W. Brien.
William W. Brien, M.D.		Director		March 5, 2015
/s/ Dave Brooks.		Director		March 5, 2015
Dave Brooks
/s/ Joseph J. Digange.		Director		March 5, 2015
Joseph J. Digange
/s/ Jason P. DiNapoli.		President and Chief Operating Officer, Director		March 5, 2015
Jason P. DiNapoli
/s/ Eric M. George.		Director		March 5, 2015
Eric George
/s/ Alan D. Levy.		Director		March 5, 2015
Alan D. Levy
/s/ Robert A. Moore.		Director		March 5, 2015
Robert A. Moore
/s/ Barry D. Pressman.		Director		March 5, 2015
Barry D. Pressman, M.D.
/s/ Alan I. Rothenberg.		Chairman of the Board and Chief Executive Officer		March 5, 2015
Alan I. Rothenberg		(Principal Executive Officer)
/s/ Bradley S. Satenberg.		Executive Vice President and Chief Financial Officer
Bradley S. Satenberg		(Principal Financial and Accounting Officer)		March 5, 2015
/s/ Nadine I. Watt.		Director		March 5, 2015
Nadine I. Watt
/s/ Lewis N. Wolff.		Director		March 5, 2015
Lewis N. Wolff
/s/ Stanley R. Zax.		Director		March 5, 2015
Stanley R. Zax

 

 

Financial Statements and Supplementary Data

 

Index to Financial Statements

 

1st Century Bancshares, Inc.

 

	Page
Consolidated Balance Sheets as of December 31, 2014 and 2013	42
Consolidated Statements of Operations and Comprehensive Income for the years ended December 31, 2014 and 2013	43
Consolidated Statements of Changes in Stockholders’ Equity for the years ended December 31, 2014 and 2013	44
Consolidated Statements of Cash Flows for the years ended December 31, 2014 and 2013	45
Notes to Consolidated Financial Statements	46
Report of Independent Registered Public Accounting Firm	72

 

 

1st Century Bancshares, Inc.

Consolidated Balance Sheets

(in thousands, except share and per share data)

 

		December 31, 2014				December 31, 2013
ASSETS
Cash and due from banks		$	7,484			$	6,648
Interest-earning deposits at other financial institutions			50,980				38,040
Total cash and cash equivalents			58,464				44,688
Investment securities — Available for Sale (“AFS”), at estimated fair value			79,689				106,272
Loans, net of allowance for loan losses of $7,599 and $7,236 at December 31, 2014 and 2013, respectively			435,257				376,312
Premises and equipment, net			1,460				1,285
Federal Home Loan Bank (“FHLB”) and Federal Reserve Bank (“FRB”) stock			4,822				4,632
Accrued interest and other assets			5,526				4,956
Total Assets		$	585,218			$	538,145
LIABILITIES AND STOCKHOLDERS’ EQUITY
Non-interest bearing demand deposits		$	282,217			$	236,869
Interest bearing deposits:
Interest bearing checking (“NOW”)			25,492				21,005
Money market deposits and savings			154,706				151,879
Certificates of deposit less than $100			802				870
Certificates of deposit of $100 or greater			39,955				42,143
Total deposits			503,172				452,766
Other borrowings			17,500				27,500
Accrued interest and other liabilities			2,853				2,491
Total Liabilities			523,525				482,757
Commitments and contingencies (Note 10)
Stockholders’ Equity:
Preferred stock, $0.01 par value — 10,000,000 shares authorized, none issued and outstanding at December 31, 2014 and 2013, respectively			—				—
Common stock, $0.01 par value — 50,000,000 shares authorized, 12,129,310 and 11,378,710 issued at December 31, 2014 and 2013, respectively			121				114
Additional paid-in capital			71,736				67,231
Accumulated deficit			(1,675	)			(4,036	)
Accumulated other comprehensive income			162				52
Treasury stock at cost — 1,988,869 and 1,897,902 shares at December 31, 2014 and 2013, respectively			(8,651	)			(7,973	)
Total Stockholders’ Equity			61,693				55,388
Total Liabilities and Stockholders’ Equity		$	585,218			$	538,145

 

The accompanying notes are an integral part of these consolidated financial statements.

 

 

1st Century Bancshares, Inc.

Consolidated Statements of Operations and Comprehensive Income

(in thousands, except per share data)

 

		Years Ended December 31,
		2014				2013
Interest and fee income on:
Loans		$	16,998			$	14,014
Investments			1,729				2,709
Other			488				293
Total interest and fee income			19,215				17,016
Interest expense on:
Deposits			442				483
Borrowings			314				325
Total interest expense			756				808
Net interest income			18,459				16,208
Provision for loan losses			100				100
Net interest income after provision for loan losses			18,359				16,108
Non-interest income:
Gain on sale of AFS investment securities			1,178				822
Other operating income			533				971
Total non-interest income			1,711				1,793
Non-interest expenses:
Compensation and benefits			9,202				8,173
Occupancy			1,699				1,456
Professional fees			734				833
Technology			836				739
Marketing			427				335
FDIC assessments			373				274
Other operating expenses			2,535				2,287
Total non-interest expenses			15,806				14,097
Income before income taxes			4,264				3,804
Income tax provision (benefit)			1,903				(3,059	)
Net income		$	2,361			$	6,863
Other Comprehensive Income:
Net change in unrealized gains on AFS investments, net of tax			110				(2,384	)
Comprehensive Income		$	2,471			$	4,479
Basic earnings per share		$	0.25			$	0.79
Diluted earnings per share		$	0.24			$	0.76

 

The accompanying notes are an integral part of these consolidated financial statements.

 

 

1st Century Bancshares, Inc.

Consolidated Statements of Changes in Stockholders’ Equity

Years ended December 31, 2014 and 2013

(in thousands, except share data)

 

		Common Stock								Additional								Accumulated Other				Treasury Stock								Total
		Issued Shares				Amount				Paid-in Capital				Accumulated Deficit				Comprehensive Income				Number of Shares				Amount				Stockholders’ Equity
Balance at December 31, 2012			10,965,560			$	110			$	65,038			$	(10,899	)		$	2,436				(1,828,432	)		$	(7,512	)		$	49,173
Restricted stock issued			138,500				1				(1	)			—				—				—				—				—
Forfeiture of restricted stock			(12,250	)			(0	)			(24	)			—				—				—				—				(24	)
Exercise of stock option			286,900				3				1,432				—				—				—				—				1,435
Earned restricted stock compensation, net of estimated forfeitures			—				—				786				—				—				—				—				786
Shares surrendered to pay taxes on stock based compensation			—								—												(69,365	)			(461	)			(461	)
Common stock repurchased			—				—				—				—				—				(105	)			(0	)			—
Net income			—				—				—				6,863				—				—				—				6,863
Other comprehensive loss			—				—				—				—				(2,384	)			—				—				(2,384	)
Balance at December 31, 2013			11,378,710			$	114			$	67,231			$	(4,036	)		$	52				(1,897,902	)		$	(7,973	)		$	55,388
Restricted stock issued			228,000				2				(2	)			—				—				—				—				—
Exercise of stock option			522,600				5				2,638				—				—				—				—				2,643
Earned restricted stock compensation, net of estimated forfeitures			—				—				879				—				—				—				—				879
Excess tax benefit from stock based compensation			—				—				990				—				—				—				—				990
Shares surrendered to pay taxes on stock based compensation			—				—				—				—				—				(90,967	)			(678	)			(678	)
Net income			—				—				—				2,361				—				—				—				2,361
Other comprehensive income			—				—				—				—				110				—				—				110
Balance at December 31, 2014			12,129,310			$	121			$	71,736			$	(1,675	)		$	162				(1,988,869	)		$	(8,651	)		$	61,693

 

The accompanying notes are an integral part of these consolidated financial statements.

 

 

1st Century Bancshares, Inc.

Consolidated Statements of Cash Flows

(in thousands)

 

		Years ended December 31,
		2014				2013
Cash flows from operating activities:
Net income		$	2,361			$	6,863
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation and amortization of premises and equipment			491				508
Amortization of premiums on investment securities, net			812				1,623
Provision for loan losses			100				100
Deferred income tax expense (benefit)			67				(3,175	)
Accretion of deferred loan fees and costs, net			(15	)			(23	)
Gain on sale of AFS investment securities			(1,178	)			(822	)
Non-cash stock compensation, net of forfeitures			879				762
Excess tax benefit related to stock option exercises and vesting of restricted stock			(990	)			—
Gain on sale of OREO			(47	)			—
Decrease in accrued interest and other assets			186				122
Increase in accrued interest and other liabilities			362				350
Net cash provided by operating activities			3,028				6,308
Cash flows from investing activities:
Activities in AFS investment securities:
Purchases			(50,284	)			(5,943	)
Maturities and principal reductions			16,325				40,132
Proceeds from sale of securities			61,095				35,912
Increase in loans, net			(59,030	)			(115,733	)
Proceeds from sale of OREO			137				—
Purchase of premises and equipment			(666	)			(773	)
Purchase of FRB stock and FHLB stock			(190	)			(854	)
Net cash used in investing activities			(32,613	)			(47,259	)
Cash flows from financing activities:
Net increase in deposits			50,406				36,085
Net repayments of short-term borrowings			—				(4,475	)
Proceeds from other long-term borrowings			—				5,000
Repayment of other long-term borrowings			(10,000	)			(2,500	)
Proceeds from exercise of stock options			2,643				1,435
Excess tax benefit related to stock option exercises and vesting of restricted stock			990				—
Shares surrendered to pay taxes on vesting of stock based compensation			(678	)			(461	)
Net cash provided by financing activities			43,361				35,084
Increase (decrease) in cash and cash equivalents			13,776				(5,867	)
Cash and cash equivalents, beginning of year			44,688				50,555
Cash and cash equivalents, end of year		$	58,464			$	44,688
Supplemental disclosure of cash flow information:
Cash paid during the year for:
Interest		$	761			$	936
Income taxes		$	1,033			$	193

The accompanying notes are an integral part of these consolidated financial statements.

 

 

1st Century Bancshares, Inc.

Notes To Consolidated Financial Statements

 

(1)	Summary of Significant Accounting Policies

 

Nature of Operations

 

1^st Century Bancshares, Inc., a Delaware corporation (“Bancshares”) is a bank holding company with one subsidiary, 1^st Century Bank, National Association (the “Bank”). The Bank commenced operations on March 1, 2004 in the State of California operating under the laws of a National Association (“N.A.”) regulated by the Office of the Comptroller of the Currency (the “OCC”). The Bank is a commercial bank that focuses on closely held and family owned businesses and their employees, professional service firms, real estate professionals and investors, the legal, accounting and medical professions, and small and medium-sized businesses and individuals principally in Los Angeles County. The Bank provides a wide range of banking services to meet the financial needs of the local residential community, with an orientation primarily directed toward owners and employees of the Bank’s business client base. The Bank is subject to both the regulations of and periodic examinations by the OCC, which is the Bank’s federal regulatory agency. Bancshares and the Bank are collectively referred to herein as “the Company.”

 

Basis of Presentation

 

The consolidated financial statements include the accounts of Bancshares and the Bank. All inter-company accounts and transactions have been eliminated in consolidation.

 

Certain items in the 2013 consolidated financial statements have been reclassified to conform to the 2014 presentation. Reclassifications had no effect on prior year net income or shareholders’ equity.

 

The Company’s accounting and reporting policies conform to U.S. generally accepted accounting principles (“GAAP”) and to general practices within the banking industry. A summary of the significant accounting and reporting policies consistently applied in the preparation of the accompanying consolidated financial statements follows:

 

Use of Estimates

 

Management is required to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the consolidated financial statements and the reported amounts of revenues and expenses during the reporting period.  Significant assumptions and estimates used by management in preparation of the consolidated financial statements include assumptions and assessments made in connection with calculating the allowance for loan losses and determining the realizability of the Company’s deferred tax assets. Certain assumptions and estimates could prove to be incorrect and cause actual results to differ materially and adversely from the amounts reported in the consolidated financial statements included herewith.

 

Cash and Cash Equivalents

 

Cash and cash equivalents include cash and due from banks, interest earning deposits at other financial institutions with original maturities less than 90 days and all highly liquid investments with original maturities of less than 90 days.

 

Cash Flows

 

Cash and cash equivalents include cash, deposits with other financial institutions with maturities fewer than 90 days, and federal funds sold. Net cash flows are reported for loan and deposit transactions, interest bearing deposits in other financial institutions and short-term borrowings.

 

Investment Securities

 

Investment securities are classified in three categories. Debt securities that management has a positive intent and ability to hold to maturity are classified as “Held to Maturity” or “HTM” and are recorded at amortized cost. Debt and equity securities bought and held principally for the purpose of selling in the near term are classified as “Trading” securities and are measured at fair value, with unrealized gains and losses included in earnings. Debt and equity securities not classified as “Held to Maturity” or “Trading” with readily determinable fair values are classified as “Available for Sale” or “AFS” and are recorded at fair value, with unrealized gains and losses excluded from earnings and reported in other comprehensive income. The Company uses estimates from third parties in arriving at fair value determinations which are derived in accordance with fair value measurement standards.

 

 

Purchase premiums and discounts are recognized in interest income using the interest method over the terms of the securities. Declines in the fair value of investment securities below their cost that are deemed to be other-than-temporary are reflected in earnings as realized losses to the extent the impairment is related to credit losses. The amount of the impairment related to other factors is recognized in other comprehensive income provided that management does not have the intent to sell the securities and it is more likely than not that management will not have to sell the security before recovery of its cost basis. In estimating other-than-temporary impairment losses, management considers (1) the length of time and the extent to which the fair value has been less than cost, (2) the financial condition and near-term prospects of the issuer, and (3) the intent and ability of the Company to retain its investment in the issuer for a period of time sufficient to allow for any anticipated recovery in fair value. Gains and losses on the sale of securities are recorded on the trade date and are determined using the specific identification method.

 

Federal Reserve Bank Stock and Federal Home Loan Bank Stock

 

The Bank is a member of the Federal Reserve System (“Fed” or “FRB”). FRB stock is carried at cost and is considered a nonmarketable equity security. Cash dividends from the FRB are reported as interest income on an accrual basis.

 

The Bank is a member and stockholder of the capital stock of the Federal Home Loan Bank of San Francisco (“FHLB of San Francisco” or “FHLB”). Members are required to own a certain amount of stock based on the level of borrowings and other factors, and may invest in additional amounts. FHLB of San Francisco stock is carried at cost and is considered a nonmarketable equity security. Both cash and stock dividends are reported as interest income.

 

Loans

 

Loans, net, are stated at the unpaid principal balances less the allowance for loan losses and unamortized deferred fees and costs. Loan origination fees, net of related direct costs, are deferred and accreted to interest income as an adjustment to yield over the respective maturities of the loans using the effective interest method.

 

Interest on loans is accrued as earned on a daily basis, except where reasonable doubt exists as to the collection of interest and principal, in which case the accrual of interest is discontinued and the loan is placed on non-accrual status. Loans are placed on non-accrual at the time principal or interest is 90 days delinquent unless well secured and in the process of collection. Interest on non-accrual loans is accounted for on a cash-basis or cost-recovery method, until qualifying for return to accrual status. In order for a loan to return to accrual status, all principal and interest amounts owed must be brought current and future payments must be reasonably assured.

 

A loan is charged-off at any time the loan is determined to be uncollectible. Collateral dependent loans, which generally include commercial real estate loans, residential loans, and construction and land loans, are typically charged down to their fair value of collateral less selling costs when a loan is impaired or on non-accrual status. All other loans are typically charged-off when, based upon current available facts and circumstances, it’s determined that either: (1) a loan is uncollectible, (2) repayment is determined to be protracted beyond a reasonable time frame, or (3) the loan is classified as a loss determined by either the Bank’s internal review process or by external examiners.

 

Loans are considered impaired when, based upon current information and events, it is probable that the Company will be unable to collect all principal and interest amounts due according to the original contractual terms of the loan agreement on a timely basis. The Company evaluates impairment on a loan-by-loan basis. Once a loan is determined to be impaired, the impairment is measured based on the present value of the expected future cash flows discounted at the loan’s effective interest rate or by using the loan’s most recent market value or the fair value of the collateral if the loan is collateral dependent. Loans that experience insignificant payment delays or payment shortfalls are generally not considered to be impaired.

 

When the measurement of an impaired loan is less than the recorded amount of the loan, a valuation allowance is established by recording a charge to the provision for loan losses. Subsequent increases or decreases in the valuation allowance for impaired loans are recorded by adjusting the existing valuation allowance for the impaired loan with a corresponding charge or credit to the provision for loan losses. The Company’s policy for recognizing interest income on impaired loans is the same as that for non-accrual loans.

 

 

Troubled Debt Restructurings

 

In situations where, for economic or legal reasons related to a borrower’s financial difficulties, management may grant a concession for other than an insignificant period of time to the borrower that would not otherwise be considered, the related loan is classified as a troubled debt restructuring (“TDR”). Management strives to identify borrowers in financial difficulty early and work with them to modify their loans to more affordable terms before their loan reaches nonaccrual status. Concessions may include interest rate reductions or below market interest rates, principal forgiveness, restructuring amortization schedules and other actions intended to minimize potential losses.

 

Allowance for Loan Losses

 

The allowance for loan losses is established through a provision for loan losses charged to operations and represents an estimate of credit losses inherent in the Company’s loan portfolio that have been incurred as of the balance sheet date. Loan losses are charged against the allowance when management believes that principal is uncollectible. Subsequent repayments or recoveries, if any, are credited to the allowance. Management periodically assesses the adequacy of the allowance for loan losses by reference to many quantitative and qualitative factors that may be weighted differently at various times depending on prevailing conditions. The provisions reflect management’s evaluation of the adequacy of the allowance based, in part, upon the historical loss experience of the loan portfolio, as well as estimates from historical peer group loan loss data and the loss experience of other financial institutions, augmented by management judgment. During this process, loans are separated into the following portfolio segments: commercial loans, commercial real estate, residential, land and construction, and consumer and other loans. The relative significance of risk considerations vary by portfolio segment. For commercial loans, commercial real estate loans and land and construction, the primary risk consideration is a borrower’s ability to generate sufficient cash flows to repay their loan. Secondary considerations include the creditworthiness of guarantors and the valuation of collateral. In addition to the creditworthiness of a borrower, the type and location of real estate collateral is an important risk factor for commercial real estate and land and construction loans. The primary risk consideration for residential loans and consumer loans are a borrower’s personal cash flow and liquidity, as well as collateral value.

 

Loss ratios for all portfolio segments are evaluated on a quarterly basis. Loss ratios associated with historical loss experience are determined based on a rolling migration analysis of each portfolio segment within the portfolio. This migration analysis estimates loss factors based on the performance of each portfolio segment over a four and a half year time period. These loss ratios are then adjusted, if determined necessary, based on other factors including, but not limited to, historical peer group loan loss data and the loss experience of other financial institutions. Management carefully monitors changing economic conditions, the concentrations of loan categories, values of collateral, the financial condition of the borrowers, the history of the loan portfolio, and historical peer group loan loss data to determine the adequacy of the allowance for loan losses. As a part of this process, management typically focuses on loan-to-value (“LTV”) percentages to assess the adequacy of loss ratios of collateral dependent loans within each portfolio segment discussed above, trends within each portfolio segment, as well as general economic and real estate market conditions where the collateral and borrower are located. For loans that are not collateral dependent, which generally consist of commercial and consumer and other loans, management typically focuses on general business conditions where the borrower operates, trends within the portfolio, and other external factors to evaluate the severity of loss factors. The allowance is based on estimates and actual losses may vary from the estimates.

 

In addition, regulatory agencies, as a part of their examination process, periodically review the Bank’s allowance for loan losses, and may require the Bank to make additions to the allowance based on their judgment about information available to them at the time of their examinations. No assurance can be given that adverse future economic conditions will not lead to increased delinquent loans, and increases in the provision for loan losses and/or charge-offs. Management believes that the allowance as of December 31, 2014 and 2013 was adequate to absorb probable incurred credit losses inherent in the loan portfolio.

 

Other Real Estate Owned

 

OREO represents real estate acquired through or in lieu of foreclosure. OREO is held for sale and is initially recorded at fair value less estimated costs of disposition at the date of foreclosure, establishing a new cost basis. Subsequent to foreclosure, valuations are periodically performed by management and the assets are carried at the lower of cost or estimated fair value less costs of disposition. OREO is included in accrued interest and other assets within the Consolidated Balance Sheets and the net operating results, if any, from OREO are recognized as non-interest expense within the Consolidated Statements of Operations and Comprehensive Income.

 

 

Furniture, Fixtures and Equipment, net

 

Leasehold improvements and furniture, fixtures and equipment are carried at cost, less depreciation and amortization. Furniture, fixtures and equipment are depreciated using the straight-line method over the estimated useful life of the asset (three to ten years). Leasehold improvements are depreciated using the straight-line method over the terms of the related leases or the estimated lives of the improvements, whichever is shorter.

 

Advertising Costs

 

Advertising costs are expensed as incurred.

 

Income Taxes

 

The Company files consolidated federal and combined state income tax returns. Income tax expense or benefit is the total of the current year income tax payable or refundable and the change in the deferred tax assets and liabilities (excluding deferred tax assets and liabilities related to components of other comprehensive income). Deferred tax assets and liabilities are the expected future tax amounts for the temporary differences between carrying amounts and tax basis of assets and liabilities, computed using enacted tax rates.

 

Deferred income tax assets and liabilities are determined using the liability (or balance sheet) method. Under this method, the net deferred tax asset or liability is determined based on the tax effects of the temporary differences between the book and tax bases of the various balance sheet assets and liabilities and gives current recognition to changes in the rates and laws. A valuation allowance, if needed, reduces deferred tax assets to the amount expected to be realized. The Company records a valuation allowance if it believes, based on all available evidence, that it is “more likely than not” that the future tax assets will not be realized. This assessment requires management to evaluate the Company’s ability to generate sufficient future taxable income or use eligible tax carrybacks, if any, to determine the need for a valuation allowance.

 

During the year ended December 31, 2009, management established a full valuation allowance against the Company’s deferred tax assets after we determined that it was “more likely than not” that the Company would not be able to realize the benefit of the deferred tax asset. During the year ended December 31, 2013, management reassessed the need for this valuation allowance and concluded that a valuation allowance was no longer appropriate and that it is more likely than not that these assets will be realized. As a result, management reversed the valuation allowance as an income tax benefit in the Consolidated Statements of Operations and Comprehensive Income. In making this determination, management analyzed, among other things, the Company’s recent history of earnings and cash flows, forecasts of future earnings, improvements in the credit quality of the Company’s loan portfolio, the nature and timing of future deductions and benefits represented by the deferred tax assets and our cumulative earnings for the 12 quarters preceding the reversal of this valuation allowance.

 

At December 31, 2014 and 2013, the Company had a net deferred tax asset of approximately $3.0 million and $3.1 million, respectively.

 

At December 31, 2014 and 2013, the Company did not have any tax benefits disallowed under accounting standards for uncertainties in income taxes. A tax position is recognized as a benefit only if it is “more likely than not” that the tax position would be sustained in a tax examination, with a tax examination being presumed to occur. The amount recognized is the largest amount of tax benefit that is greater than 50% likely of being realized on examination. For tax positions not meeting the “more likely than not” test, no tax benefit is recorded. If applicable, the Company has elected to record interest accrued and penalties related to unrecognized tax benefits in tax expense.

 

See Note 16 “Income Taxes” for further discussion regarding the Company’s tax positions at December 31, 2014 and 2013.

 

Comprehensive Income

 

Accounting principles generally require that recognized revenue, expenses, gains and losses be included in net income. However, certain changes in assets and liabilities, such as unrealized gains and losses on Available for Sale securities, are reported as a separate component of the stockholders’ equity section of the Consolidated Balance Sheets and, along with net income, are components of comprehensive income.

 

 

Earnings per Share

 

The Company reports both basic and diluted earnings per share. Basic earnings per share is determined by dividing net income by the average number of shares of common stock outstanding, while diluted earnings per share is determined by dividing net income by the average number of shares of common stock outstanding adjusted for the dilutive effect of common stock equivalents. Potential dilutive common shares related to outstanding stock options and restricted stock are determined using the treasury stock method. For the years ended December 31, 2014 and 2013, there were 350,073 and 370,073, respectively, of stock options that were excluded from the diluted earnings per share calculation due to their antidilutive impact. For the years ended December 31, 2014 and 2013, there were 3,278 and 91,660, respectively, of weighted average restricted shares that were excluded from the diluted earnings per share calculation due to their antidilutive impact.

		Years ended December 31,
(dollars in thousands)		2014				2013
Net income		$	2,361			$	6,863
Average number of common shares outstanding			9,431,727				8,660,641
Effect of dilution of stock options			13,811				161,046
Effect of dilution of restricted stock			295,710				257,955
Average number of common shares outstanding used to calculate diluted earnings per common share			9,741,248				9,079,642

 

Fair Value of Financial Instruments

 

The Company is required to make certain disclosures about its use of fair value measurements in the preparation of its financial statements. These standards establish a three-level hierarchy for disclosure of assets and liabilities recorded at fair value.  The classification of assets and liabilities within the hierarchy is based on whether the inputs to the valuation methodology used for measurement are observable or unobservable. Observable inputs reflect market-derived or market-based information obtained from independent sources, while unobservable inputs reflect management’s estimates about market data.

 

Level 1

Valuation is based upon quoted prices for identical instruments traded in active markets. Level 1 instruments include securities traded on active exchange markets, such as the New York Stock Exchange, as well as U.S. Treasury securities that are traded by dealers or brokers in active over-the-counter markets.

 

Level 2

Valuation is based upon quoted prices for similar instruments in active markets, quoted prices for identical or similar instruments in markets that are not active, and model-based valuation techniques for which all significant assumptions are observable in the market. Level 2 instruments include securities traded in less active dealer or broker markets.

 

Level 3

Valuation is generated from model-based techniques that use at least one significant assumption not observable in the market. These unobservable assumptions reflect estimates of assumptions that market participants would use in pricing the asset or liability. Valuation techniques include use of option pricing models, discounted cash flow models and similar techniques.

 

Stock-Based Compensation

 

The Company has granted restricted stock awards to directors, employees, and a vendor under the 1st Century Bancshares 2005 Amended and Restated Equity Incentive Plan (the “Equity Incentive Plan”). The restricted stock awards are considered fixed awards as the number of shares and fair value is known at the date of grant and the fair value at the grant date is amortized over the vesting and/or service period.

 

Recent Accounting Pronouncements

 

In January 2014, the Financial Accounting Standard Board (FASB) issued Accounting Standard Update (ASU) No. 2014-04, Receivables – Troubled Debt Restructurings by Creditors (Subtopic 310-40) – Reclassification of Residential Real Estate Collateralized Consumer Mortgage Loans upon Foreclosure (ASU 2014-04). The amendments of ASU are intended to clarify when a creditor should be considered to have received physical possession of residential real estate property collateralizing a consumer mortgage loan such that the loan should be derecognized and the real estate recognized. This ASU is effective for annual periods beginning after December 15, 2014 and interim periods beginning after December 15, 2015. The Company does not expect the adoption of ASU 2014-04 will have any effect on its financial statements and disclosures.

 

 

In April 2014, the FASB issued ASU No. 2014-08, Presentation of Financial Statements (Topic 205) and Property, Plant, and Equipment (Topic 360) – Reporting Discontinued Operations and Disclosures of Disposals of Components of an Entity (ASU 2014-08). The amendments in ASU 2014-08 change the criteria for reporting discontinued operations and improve related disclosures. This ASU also addresses sources of confusion and inconsistent application related to financial reporting of discontinued operations guidance. ASU 2014-08 will be effective for annual financial statements with fiscal years beginning on or after December 31, 2014 and interim periods thereafter. The Company is currently evaluating the effects ASU 2014-08 will have on its financial statements and disclosures, if any.

 

In May 2014, the FASB issued ASU No. 2014-09, Revenue from Contracts with Customers (Topic 606) (ASU 2014-09). This update to the ASC is the culmination of efforts by the FASB and the International Accounting Standards Board (IASB) to develop a common revenue standard for U.S. GAAP and International Financial Reporting Standards (IFRS). ASU 2014-09 supersedes Topic 605 – Revenue Recognition and most industry-specific guidance. The core principal of the guidance is that an entity should recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. The guidance in ASU 2014-09 describes a 5-step process entities can apply to achieve the core principle of revenue recognition and requires disclosures sufficient to enable users of financial statements to understand the nature, amount, timing, and uncertainty of revenue and cash flows arising from contracts with customers and the significant judgments used in determining that information. The amendments in ASU 2014-9 are effective for annual reporting periods beginning after December 15, 2016, including interim periods within that reporting period and early application is not allowed. The Company is currently evaluating the effects of ASU 2014-04 on its financial statements and disclosures, if any.

 

In August 2014, the FASB issued ASU No. 2014-15, Presentation of Financial Statements – Going Concern (Subtopic 205-40) (ASU 2014-15). The objective of ASU 2014-15 is to define management’s responsibility to evaluate whether there is substantial doubt about an organization’s ability to continue as a going concern and provide related disclosures. Currently, GAAP does not provide guidance to evaluate whether there is substantial doubt regarding an organization’s ability to continue as a going concern. This ASU provides guidance to an organization’s management, with principles and definitions to reduce diversity in the timing and content of financial statement disclosures commonly provided by organizations. ASU 2014-15 is effective for periods ending after December 15, 2016 and interim periods within annual periods beginning after December 15, 2016.

 

(2)	Investment Securities

 

The following is a summary of the investments categorized as Available for Sale at December 31, 2014 and 2013:

 

						Gross				Gross
		Amortized				Unrealized				Unrealized				Fair
(in thousands)		Cost				Gains				Losses				Value
At December 31, 2014:
Investments — Available for Sale
U.S Treasuries and Government Agencies		$	25,973			$	160			$	(5	)		$	26,128
Corporate Notes			2,528				10				—				2,538
Residential Mortgage-Backed Securities			50,913				275				(165	)			51,023
Total		$	79,414			$	445			$	(170	)		$	79,689
At December 31, 2013:
Investments — Available for Sale
Corporate Notes		$	3,074			$	34			$	—			$	3,108
Residential Mortgage-Backed Securities			103,109				959				(904	)			103,164
Total		$	106,183			$	993			$	(904	)		$	106,272

 

The Company did not have any investment securities categorized as “Held to Maturity” or “Trading” at December 31, 2014 or 2013. At December 31, 2014 and 2013, there were no holdings of securities of any one issuer other than the U.S. government or its agencies, in an amount greater than 10% of shareholders’ equity.

 

Additionally, at December 31, 2014 and 2013, the carrying amount of securities pledged to the State of California Treasurer’s Office to secure their deposits was $48.4 million and $45.4 million, respectively. Deposits from the State of California were $38.0 million at both December 31, 2014 and 2013.

 

 

The following table summarizes the fair value of AFS securities and the weighted average yield of investment securities by contractual maturity at December 31, 2014. Residential mortgage-backed securities are included in maturity categories based on their stated maturity date. Expected maturities may differ from contractual maturities because issuers may have the right to call or prepay obligations. The weighted average life of these securities was 4.02 years at December 31, 2014.

 

(dollars in thousands)

Available for Sale		1 Year or Less				Weighted Average Yield				After 1 Through 5 Years				Weighted Average Yield				After 5 Through 10 Years				Weighted Average Yield				After 10 Years				Weighted Average Yield				Total				Weighted Average Yield
U.S. Treasuries and Government Agencies		$	—				—	%		$	10,020				1.66	%		$	16,108				2.03	%		$	—				—	%		$	26,128				1.89	%
Corporate Notes			2,538				1.35				—				—				—				—				—				—				2,538				1.35
Residential Mortgage-Backed Securities			—				—				516				5.51				22,825				1.51				27,682				2.01				51,023				1.82
Total		$	2,538				1.35	%		$	10,536				1.85	%		$	38,933				1.73	%		$	27,682				2.01	%		$	79,689				1.83	%

 

A total of 26 and 36 securities had unrealized losses at December 31, 2014 and 2013, respectively. Information pertaining to securities with gross unrealized losses aggregated by investment category and length of time that individual securities have been in a continuous loss position, follows:

 

		Less than Twelve Months								Twelve Months or More
(in thousands)		Gross Unrealized Losses				Fair Value				Gross Unrealized Losses				Fair Value
At December 31, 2014:
Investments-Available for Sale
U.S Treasuries and Government Agencies		$	(5	)		$	8,057			$	—			$	—
Residential Mortgage-Backed Securities			(35	)			11,694				(130	)			17,651
At December 31, 2013:
Investments-Available for Sale
Residential Mortgage-Backed Securities		$	(904	)		$	51,847			$	—			$	—

 

The Company’s assessment that it has the ability to continue to hold impaired investment securities along with its evaluation of their future performance provide the basis for it to conclude that its impaired securities are not other-than-temporarily impaired. In assessing whether it is more likely than not that the Company will be required to sell any impaired security before its anticipated recovery, which may be at their maturity, it considers the significance of each investment, the amount of impairment, as well as the Company’s liquidity position and the impact on the Company’s capital position. As a result of its analyses, the Company determined at December 31, 2014 and 2013 that the unrealized losses on its securities portfolio on which impairments had not been recognized are temporary.

 

(3)	Loans, Allowance for Loan Losses, and Non-Performing Assets

 

Loans

 

As of December 31, 2014 and 2013, total loans outstanding totaled $442.8 million and $383.5 million, respectively. The categories of loans listed below are grouped in accordance with the primary purpose of the loans, but in the aggregate 83.5% and 86.9% of all loans are secured by real estate at December 31, 2014 and 2013, respectively.

 

		December 31,
		2014								2013
		Amount				Percent				Amount				Percent
(dollars in thousands)		Outstanding				of Total				Outstanding				of Total
Commercial (1)		$	91,694				20.7	%		$	76,397				19.9	%
Commercial real estate			185,752				42.0	%			167,419				43.7	%
Residential			98,806				22.3	%			82,795				21.6	%
Land and construction			37,075				8.4	%			30,102				7.8	%
Consumer and other (2)			29,458				6.6	%			26,787				7.0	%
Loans, gross			442,785				100.0	%			383,500				100.0	%
Net deferred costs			71								48
Less — allowance for loan losses			(7,599	)							(7,236	)
Loans, net		$	435,257							$	376,312

 

---

(1)

Unsecured commercial loan balances were $25.1 million and $13.2 million at December 31, 2014 and 2013, respectively.

(2)

Unsecured consumer and other loan balances were $5.1 million and $2.3 million at December 31, 2014 and 2013, respectively.

 

 

As of December 31, 2014 and 2013, substantially all of the Company’s loan customers were located in Southern California.

 

Allowance for Loan Losses and Recorded Investment in Loans

 

The following is a summary of activities for the allowance for loan losses and recorded investment in loans as of December 31, 2014 and 2013, respectively.

(in thousands)		Commercial				Commercial Real Estate				Residential				Land and Construction				Consumer and Other				Total
For the Year Ended December 31, 2014:
Allowance for loan losses:
Beginning balance		$	1,583			$	3,660			$	758			$	811			$	424			$	7,236
Provision for loan losses			115				165				(220	)			5				35				100
Charge-offs			—				—				—				—				—				—
Recoveries			54				—				209				—				—				263
ending balance		$	1,752			$	3,825			$	747			$	816			$	459			$	7,599
As of December 31, 2014:
Ending balance: individually evaluated for impairment		$	20			$	—			$	—			$	—			$	—			$	20
Ending balance: collectively evaluated for impairment			1,732				3,825				747				816				459				7,579
Total		$	1,752			$	3,825			$	747			$	816			$	459			$	7,599
Loans:
Ending balance: individually evaluated for impairment		$	632			$	—			$	—			$	—			$	49			$	681
Ending balance: collectively evaluated for impairment			91,062				185,752				98,806				37,075				29,409				442,104
Total		$	91,694			$	185,752			$	98,806			$	37,075			$	29,458			$	442,785
For the Year Ended December 31, 2013:
Allowance for loan losses:
Beginning balance		$	2,277			$	2,450			$	508			$	411			$	369			$	6,015
Provision for loan losses			(1,765	)			1,210				250				400				5				100
Charge-offs			—				—				—				—				—				—
Recoveries			1,071				—				—				—				50				1,121
Ending balance		$	1,583			$	3,660			$	758			$	811			$	424			$	7,236
As of December 31, 2013:
Ending balance: individually evaluated for impairment		$	35			$	—			$	—			$	—			$	—			$	35
Ending balance: collectively evaluated for impairment			1,548				3,660				758				811				424				7,201
Total		$	1,583			$	3,660			$	758			$	811			$	424			$	7,236
Loans:
Ending balance: individually evaluated for impairment		$	924			$	—			$	—			$	—			$	29			$	953
Ending balance: collectively evaluated for impairment			75,473				167,419				82,795				30,102				26,758				382,547
Total		$	76,397			$	167,419			$	82,795			$	30,102			$	26,787			$	383,500

 

There were no loans acquired with deteriorated credit quality as of December 31, 2014 and 2013.

 

In addition to the allowance for loan losses, the Company also estimates probable losses related to unfunded lending commitments. Unfunded lending commitments are subject to individual reviews and are analyzed and segregated by product type. These classifications, in conjunction with an analysis of historical loss experience, current economic conditions, performance trends within specific portfolio segments and any other pertinent information, result in the estimation of the reserve for unfunded lending commitments. Provision for credit losses related to unfunded lending commitments is reported in other operating expenses in the Consolidated Statements of Operations and Comprehensive Income. The allowance held for unfunded lending commitments is reported in accrued interest and other liabilities within the accompanying Consolidated Balance Sheets, and not as part of the allowance for loan losses in the above tables. As of December 31, 2014 and 2013, the allowance for unfunded lending commitments was $320,000 and $270,000, respectively and is primarily related to $146.4 million and $104.3 million in commitments to extend credit to customers and $2.7 million and $2.6 million in standby/commercial letters of credit at December 31, 2014 and 2013, respectively.

 

 

Non-Performing Assets

 

The following table presents an aging analysis of the recorded investment of past due loans as of December 31, 2014 and 2013. Payment activity is reviewed by management on a monthly basis to determine the performance of each loan. Loans are considered to be non-performing when a loan is greater than 90 days delinquent. Loans that are 90 days or more past due may still accrue interest if they are well-secured and in the process of collection. Total additions to non-performing loans during the years ended December 31, 2014 and 2013 were none and $198,000, respectively. Non-performing loans represented 0.1% and 0.2% of total loans at December 31, 2014 and 2013, respectively. There were no accruing loans past due 90 days or more at December 31, 2014 and 2013.

 

(in thousands)		30-59 Days Past Due				60-89 Days Past Due				> 90 Days Past Due				Total Past Due				Current				Total
As of December 31, 2014:
Commercial		$	—			$	60			$	572			$	632			$	91,062			$	91,694
Commercial real estate			—				—				—				—				185,752				185,752
Residential			—				—				—				—				98,806				98,806
Land and construction			—				—				—				—				37,075				37,075
Consumer and other			—				—				—				—				29,458				29,458
Totals		$	—			$	60			$	572			$	632			$	442,153			$	442,785
As of December 31, 2013:
Commercial		$	187			$	—			$	706			$	893			$	75,504			$	76,397
Commercial real estate							—				—				—				167,419				167,419
Residential			—				—				—				—				82,795				82,795
Land and construction			—				—				—				—				30,102				30,102
Consumer and other			—				—				29				29				26,758				26,787
Totals		$	187			$	—			$	735			$	922			$	382,578			$	383,500

 

The following table sets forth non-accrual loans and other real estate owned at December 31, 2014 and 2013:

 

		December 31,
(dollars in thousands)		2014				2013
Non-accrual loans:
Commercial		$	632			$	706
Commercial real estate			—				—
Land and construction			—				—
Consumer and other			—				29
Total non-accrual loans			632				735
OREO			—				90
Total non-performing assets		$	632			$	825
Non-performing assets to gross loans and OREO			0.14	%			0.22	%
Non-performing assets to total assets			0.11	%			0.15	%

 

 

Credit Quality Indicators

 

The following table represents the credit exposure by internally assigned grades at December 31, 2014 and 2013. This grading analysis estimates the capability of the borrower to repay the contractual obligations of the loan agreements in accordance with the loan terms. The Company’s internal credit risk grading system is based on management’s experiences with similarly graded loans. Credit risk grades are reassessed each quarter based on any recent developments potentially impacting the creditworthiness of the borrower, as well as other external statistics and factors, which may affect the risk characteristics of the respective loan.

 

The Company’s internally assigned grades are as follows:

 

Pass – Strong credit with no existing or known potential weaknesses deserving of management’s close attention.

Special Mention – Potential weaknesses that deserve management’s close attention. Borrower and guarantor’s capacity to meet all financial obligations is marginally adequate or deteriorating.

Substandard – Inadequately protected by the paying capacity of the Borrower and/or collateral pledged. The borrower or guarantor is unwilling or unable to meet loan terms or loan covenants for the foreseeable future.

Doubtful – All the weakness inherent in one classified as Substandard with the added characteristic that those weaknesses in place make the collection or liquidation in full, on the basis of current conditions, highly questionable and improbable.

Loss – Considered uncollectible or no longer a bankable asset. This classification does not mean that the asset has absolutely no recoverable value. In fact, a certain salvage value is inherent in these loans. Nevertheless, it is not practical or desirable to defer writing off a portion or whole of a perceived asset even though partial recovery may be collected in the future.

 

(in thousands)		Commercial				Commercial Real Estate				Residential				Land and Construction				Consumer and Other
As of December 31, 2014:
Grade:
Pass		$	90,235			$	185,201			$	98,806			$	37,075			$	29,409
Special Mention			180				—				—				—				—
Substandard			1,279				551				—				—				49
Total		$	91,694			$	185,752			$	98,806			$	37,075			$	29,458
As of December 31, 2013:
Grade:
Pass		$	73,824			$	166,828			$	82,795			$	26,801			$	26,503
Special Mention			1,149				—				—				3,301				206
Substandard			1,424				591				—				—				78
Total		$	76,397			$	167,419			$	82,795			$	30,102			$	26,787

 

There were no loans assigned to the Doubtful or Loss grade as of December 31, 2014 and 2013.

 

Impaired Loans

 

The following table includes the recorded investment and unpaid principal balances for impaired loans with the associated allowance amount, if applicable. Management determined the specific allowance based on the present value of expected future cash flows, discounted at the loan’s effective interest rate, except when the remaining source of repayment for the loan is the operation or liquidation of the collateral. In those cases, the current fair value of the collateral, less selling costs was used to determine the specific allowance recorded. Also presented in the table below are the average recorded investments in the impaired loans and the related amount of interest recognized during the time within the period that the impaired loans were impaired. When the ultimate collectability of the total principal of an impaired loan is in doubt and the loan is on nonaccrual status, all payments are applied to principal, under the cost recovery method. When the ultimate collectability of the total principal of an impaired loan is not in doubt and the loan is on non-accrual status, contractual interest is credited to interest income when received, under the cash basis method. The average balances are calculated based on the month-end balances of the loans of the period reported.

 

 

(in thousands)		Recorded Investment				Unpaid Principal Balance				Related Allowance				Average Recorded Investment
As of and for the year ended December 31, 2014:
With no related allowance recorded:
Commercial		$	572			$	848			$	—			$	707
Commercial real estate			—				—				—				—
Residential			—				—				—				—
Land and construction			—				—				—				—
Consumer and other			49				49				—				36
With an allowance recorded:
Commercial		$	60			$	74			$	20			$	106
Commercial real estate			—				—				—				—
Residential			—				—				—				—
Land and construction			—				—				—				—
Consumer and other			—				—				—				—
Totals:
Commercial		$	632			$	922			$	20			$	813
Commercial real estate		$	—			$	—			$	—			$	—
Residential		$	—			$	—			$	—			$	—
Land and construction		$	—			$	—			$	—			$	—
Consumer and other		$	49			$	49			$	—			$	36
As of and for the year ended December 31, 2013:
With no related allowance recorded:
Commercial		$	789			$	1,065			$	—			$	841
Commercial real estate			—				—				—				—
Residential			—				—				—				—
Land and construction			—				—				—				—
Consumer and other			29				29				—				240
With an allowance recorded:
Commercial		$	135			$	142			$	35			$	155
Commercial real estate			—				—				—				—
Residential			—				—				—				—
Land and construction			—				—				—				—
Consumer and other			—				—				—				—
Totals:
Commercial		$	924			$	1,207			$	35			$	996
Commercial real estate		$	—			$	—			$	—			$	—
Residential		$	—			$	—			$	—			$	—
Land and construction		$	—			$	—			$	—			$	—
Consumer and other		$	29			$	29			$	—			$	240

 

During the years ended December 31, 2014 and 2013, the average balance of impaired loans was $849,000 and $1.2 million, respectively. As of December 31, 2014 and 2013, there was $632,000 and $735,000, respectively, of impaired loans on non-accrual status. During the year ended December 31, 2014 and 2013, interest income recognized on impaired loans subsequent to their classification as impaired was $8,000 and $9,000, respectively. The Company stops accruing interest on these loans on the date they are classified as non-accrual and reverses any uncollected interest that had been previously accrued as income. The Company may begin recognizing interest income on these loans as cash interest payments are received, if collection of principal is reasonably assured.

 

 

Troubled Debt Restructurings

 

Troubled debt restructurings for the years ended December 31, 2014 and 2013 are set forth in the following table.

 

		For the Years Ended December 31,
		2014												2013
(dollars in thousands)		Number of Loans				Pre Modification Outstanding Recorded Investment				Post Modification Outstanding Recorded Investment				Number of Loans				Pre Modification Outstanding Recorded Investment				Post Modification Outstanding Recorded Investment
Troubled Debt Restructurings:
Commercial			1			$	50			$	50				—			$	—			$	—

 

The modification in connection with the troubled debt restructurings during the year ended December 31, 2014 was primarily related to extending the amortization period of this loan. The impact on the Company’s determination of the allowance for loan losses related to these troubled debt restructurings was not material and resulted in no charge-offs during the years ended December 31, 2014 and 2013. During the year ended December 31, 2014, there had been no defaults on any loans that were modified as troubled debt restructurings during the preceding twelve months. During the year ended December 31, 2013, there was one commercial loan, with a recorded investment of $572,000 at December 31, 2013, that defaulted within twelve months of its modification date. A troubled debt restructuring is considered to be in default once it becomes 60 days or more past due following a modification.

 

(4)	Derivative Financial Instruments

 

The fair value of derivative positions outstanding is included in accrued interest receivable and other assets and accrued interest payable and other liabilities in the accompanying Consolidated Balance Sheets and in the net change in each of these financial statement line items in the accompanying Consolidated Statements of Cash Flows.

 

Interest Rate Derivatives. The Company utilizes interest rate swaps to facilitate the needs of its customers. The Company has entered into interest rate swaps that are not designated as hedging instruments. These derivative contracts relate to transactions in which the Company enters into an interest rate swap with a customer while at the same time entering into an offsetting interest rate swap with another financial institution. In connection with each swap transaction, the Company agrees to pay interest to the customer on a notional amount at a variable interest rate and receive interest from the customer on a similar notional amount at a fixed interest rate. At the same time, the Company agrees to pay another financial institution the same fixed interest rate on the same notional amount and receive the same variable interest rate on the same notional amount. The transaction allows the Company’s customer to effectively convert a variable rate loan to a fixed rate. Because the Company acts as an intermediary for its customer, changes in the fair value of the underlying derivative contracts for the most part offset each other and do not significantly impact the Company’s results of operations.

 

The notional amounts and estimated fair values of interest rate derivative contracts outstanding at December 31, 2014 and 2013 are presented in the following table. The Company obtains dealer quotations to value its interest rate derivative contracts.

 

		December 31, 2014								December 31, 2013
(in thousands)		Notional Amount				Estimated Fair Value				Notional Amount				Estimated Fair Value
Non-hedging interest rate derivatives:
Commercial loan interest rate swaps		$	2,650			$	(23	)		$	2,706			$	15
Commercial loan interest rate swaps		$	(2,650	)		$	23			$	(2,706	)		$	(15	)

 

The weighted-average rates paid and received for interest rate swaps outstanding at December 31, 2014 and 2013 were as follows:

 

		December 31, 2014 Weighted-Average								December 31, 2013 Weighted-Average
		Interest Rate Paid				Interest Rate Received				Interest Rate Paid				Interest Rate Received
Non-hedging interest rate swaps			3.37	%			4.85	%			3.37	%			4.85	%
Non-hedging interest rate swaps			4.85	%			3.37	%			4.85	%			3.37	%

 

 

Gains, Losses and Derivative Cash Flows. For non-hedging derivative instruments, gains and losses due to changes in fair value and all cash flows are included in other non-interest income and other non-interest expense in the accompanying Consolidated Statements of Operations and Comprehensive Income.

 

As stated above, the Company enters into non-hedge related derivative positions primarily to accommodate the business needs of its customers. Upon the origination of a derivative contract with a customer, the Company simultaneously enters into an offsetting derivative contract with a third party. The Company recognizes immediate income based upon the difference in the bid/ask spread of the underlying transactions with its customers and the third party. Because the Company acts only as an intermediary for its customer, subsequent changes in the fair value of the underlying derivative contracts for the most part offset each other and do not significantly impact the Company’s results of operations.

 

(5)	Comprehensive Income

 

Comprehensive income, which includes net income, the net change in unrealized gains on investment securities available for sale and the reclassification of net gains included in earnings, is presented below:

 

		For the Years Ended December 31,
(in thousands)		2014				2013
Net income		$	2,361			$	6,863
Other comprehensive income:
Change in net unrealized gains (losses) on investment securities available for sale, net of tax expense (benefit) of $561 and ($1,327), respectively			804				(1,900	)
Reclassification for net gains included in earnings, net of tax expense of $484 and $338, respectively			(694	)			(484	)
Comprehensive income		$	2,471			$	4,479

 

Reclassification adjustments of $1.2 million and $822,000 for the years ended December 31, 2014 and 2013, respectively, are included in non-interest income within the Consolidated Statements of Operations and Comprehensive Income. Income tax expense associated with these reclassification adjustments for the years ended December 31, 2014 and 2013 was $484,000 and $338,000, respectively, and is included in income tax provision within the Consolidated Statements of Operations and Comprehensive Income.

 

Activity of investment securities available for sale included in accumulated other comprehensive income, net of tax, is as follows:

 

		For the Years Ended December 31,
(in thousands)		2014				2013
Beginning balance		$	52			$	2,436
Other comprehensive income (loss) before reclassifications			804				(1,900	)
Amounts reclassified from accumulated other comprehensive income			(694	)			(484	)
Net other comprehensive income (loss)			110				(2,384	)
Ending balance		$	162			$	52

 

(6)	Related Party Transactions

 

In the normal course of business, the Company may make loans to officers and directors, as well as loans to companies and individuals affiliated with or guaranteed by officers and directors of the Company. Gross loan commitments for officers and directors of the Company were $3.1 million at both December 31, 2014 and 2013. The outstanding balances for these loans were $2.4 million and $1.5 million at December 31, 2014 and 2013, respectively.

 

The following is a summary of related party loan activities for the years ended December 31, 2014 and 2013:

 

		December 31,
(in thousands)		2014				2013
Beginning balance		$	1,514			$	792
Credits granted			1,030				1,265
Repayments			(193	)			(543	)
Ending balance		$	2,351			$	1,514

 

  

Deposits by officers and directors of the Company at December 31, 2014 and 2013 totaled approximately $8.5 million and $6.0 million, respectively.

 

(7)	Premises and Equipment

 

Premises and equipment are stated at cost less accumulated depreciation and amortization. The depreciation and amortization are computed on a straight line basis over the lesser of the lease term, or the estimated useful lives of the assets, generally three to ten years.

 

Premises and equipment at December 31, 2014 and 2013 are comprised of the following:

 

		December 31,
(in thousands)		2014				2013
Leasehold improvements		$	1,537			$	1,316
Furniture & equipment			2,803				2,515
Software			847				767
Total			5,187				4,598
Accumulated depreciation			(3,727	)			(3,313	)
Premises and equipment, net		$	1,460			$	1,285

 

Depreciation and amortization included in occupancy expense for the years ended December 31, 2014 and 2013 amounted to $491,000 and $508,000, respectively.

 

(8)

Deposits

 

The following table reflects the summary of deposit categories by dollar and percentage at December 31, 2014 and 2013:

 

		December 31, 2014								December 31, 2013
(dollars in thousands)		Amount				Percent of Total				Amount				Percent of Total
Non-interest bearing demand deposits		$	282,217				56.1	%		$	236,869				52.3	%
Interest bearing demand deposits			25,492				5.1	%			21,005				4.6	%
Money market deposits and savings			154,706				30.7	%			151,879				33.6	%
Certificates of deposit			40,757				8.1	%			43,013				9.5	%
Total		$	503,172				100.0	%		$	452,766				100.0	%

 

At December 31, 2014, the Company had two certificates of deposits with the State of California Treasurer’s Office for a total of $38.0 million that represented 7.6% of total deposits. Each of these deposits are scheduled to mature in the first quarter of 2015. The Company intends to renew each of these deposits at maturity. However, there can be no assurance that the State of California Treasurer’s Office will continue to maintain deposit accounts with the Company. At December 31, 2013, the Company had four certificate of deposit accounts with the State of California Treasurer’s Office for a total of $38.0 million that represented 8.4% of total deposits. The Company was required to pledge $41.8 million of investment securities at both December 31, 2014 and 2013, in connection with these certificates of deposit.

 

At December 31, 2014, the Company had $505,000 of Certificate of Deposit Accounts Registry Service (“CDARS”) reciprocal deposits, which represented 0.1% of total deposits. At December 31, 2013, the Company had $2.1 million of CDARS reciprocal deposits, which represented 0.5% of total deposits.

 

The aggregate amount of certificates of deposit of $100,000 or greater at December 31, 2014 and 2013 was $40.0 million and $42.1 million, respectively. At December 31, 2014, the maturity distribution of certificates of deposit of $100,000 or greater, including deposit accounts with the State of California Treasurer’s Office and CDARS, was as follows: $39.1 million maturing in six months or less, $807,000 maturing in six months to one year and none maturing in more than one year.

 

 

The table below sets forth the range of interest rates, amount and remaining maturities of the certificates of deposit at December 31, 2014.

 

(dollars in thousands)		Six months and less				Greater than six months through one year				Greater than one year
0.00% to 0.99%		$	39,705			$	914			$	98
1.00% to 1.99%			—				12				28
Total		$	39,705			$	926			$	126

 

(9)	Other Borrowings

 

At December 31, 2014 and 2013, the Company had a borrowing/credit facility secured by a blanket lien on eligible loans at the FHLB of $146.0 million and $169.9 million, respectively. The Company had $17.5 million and $27.5 million of long-term borrowings outstanding under this borrowing/credit facility with the FHLB at December 31, 2014 and 2013, respectively. The Company had no overnight borrowings outstanding under this borrowing/credit facility at December 31, 2014 and 2013.

 

The following table summarizes the outstanding long-term borrowings under the borrowing/credit facility secured by a blanket lien on eligible loans at the FHLB at December 31, 2014 and 2013 (dollars in thousands):

 

						December 31,
Maturity Date		Interest Rate				2014				2013
May 23, 2014			1.14%			$	—			$	2,500
December 29, 2014			0.83%				—				5,000
December 30, 2014			0.74%				—				2,500
May 26, 2015			1.65%				2,500				2,500
May 23, 2016			2.07%				2,500				2,500
December 29, 2016			1.38%				5,000				5,000
December 30, 2016			1.25%				2,500				2,500
May 2, 2018			0.93%				5,000				5,000
Total						$	17,500			$	27,500

 

At December 31, 2014, the Company also had $27.0 million in Federal fund lines of credit available with other correspondent banks that could be used to disburse loan commitments and to satisfy demands for deposit withdrawals. Each of these lines of credit is subject to conditions that the Company may not be able to meet at the time when additional liquidity is needed. The Company did not have any borrowings outstanding under these lines of credit at December 31, 2014. As of December 31, 2014 and 2013, the Company had pledged $2.5 million and $3.1 million, respectively of corporate notes related to these lines of credit.

 

(10)	Commitments and Contingencies

 

Commitments to Extend Credit

 

The Company is party to financial instruments with off-balance sheet risk in the normal course of business to meet the financing needs of its customers. These financial instruments include commitments to extend credit, standby/commercial letters of credit and guarantees on revolving credit card limits. These instruments involve various levels and elements of credit and interest rate risk in excess of the amount recognized in the accompanying consolidated financial statements. The contract or notional amounts of those instruments reflect the extent of involvement the Company has in particular classes of financial instruments. The Company had $146.4 million and $104.3 million in commitments to extend credit to customers and $2.7 million and $2.6 million in standby/commercial letters of credit at December 31, 2014 and 2013, respectively. The Company also guarantees the outstanding balance on credit cards offered at the Company, but underwritten by another financial institution. The outstanding balances on these credit cards were $136,000 and $73,000 as of December 31, 2014 and 2013, respectively.

 

 

Lease Commitments

 

The Company leases office premises under three operating leases that will expire in December 2018, May 2019 and June 2024, respectively. Rental expense, which is included in occupancy expense, was $951,000 and $739,000 for the years ended December 31, 2014 and 2013, respectively.

 

The projected minimum rental payments under the term of the leases at December 31, 2014 are as follows (in thousands):

 

Years ending December 31,
2015		$	956
2016			985
2017			1,015
2018			1,046
2019			834
Thereafter			3,600
Total		$	8,436

 

Litigation

 

The Company from time to time is party to lawsuits, which arise out of the normal course of business. At December 31, 2014 and 2013, the Company did not have any litigation that management believes will have a material impact on the Consolidated Balance Sheets or Consolidated Statements of Operations and Comprehensive Income.

 

Restricted Stock

 

The following table sets forth the Company’s future restricted stock expense, net of estimated forfeitures (in thousands):

 

Years ending December 31,
2015		$	554
2016			359
2017			202
2018			129
2019			103
Thereafter			124
Total		$	1,471

 

(11)	Fair Value Measurements

 

The following tables present information about the Company’s assets and liabilities measured at fair value on a recurring and non-recurring basis as of December 31, 2014 and 2013, and indicate the fair value hierarchy of the valuation techniques utilized by the Company to determine such fair value. The Company’s assessment of the significance of a particular input to the fair value measurement in its entirety requires judgment, and considers factors specific to the asset or liability

 

 

Assets and Liabilities Measured on a Recurring Basis

 

Assets and liabilities measured at fair value on a recurring basis are summarized below:

 

						Fair Value Measurements Using
(in thousands)		Fair Value				Quoted Prices in Active Markets for Identical Assets (Level 1)				Other Observable Inputs (Level 2)				Significant Unobservable Inputs (Level 3)
At December 31, 2014:
Investments-Available for Sale
U.S. Treasuries and Government Agencies		$	26,128			$	3,885			$	22,243			$	—
Corporate Notes			2,538				—				2,538				—
Residential Mortgage-Backed Securities			51,023				—				51,023				—
Derivative Assets – Interest Rate Swaps			23				—				23				—
Derivative Liabilities – Interest Rate Swaps			23				—				23				—
At December 31, 2013:
Investments-Available for Sale
Corporate Notes		$	3,108			$	—			$	3,108			$	—
Residential Mortgage-Backed Securities			103,164				—				103,164				—
Derivative Assets – Interest Rate Swaps			15				—				15				—
Derivative Liabilities – Interest Rate Swaps			15				—				15				—

 

AFS securities — As of December 31, 2014 and 2013, the Level 2 fair value of the Company’s residential mortgage-backed securities was $51.0 million and $103.2 million, respectively. These securities consist primarily of agency mortgage-backed securities issued by the Federal National Mortgage Association (FNMA) and the Federal Home Loan Mortgage Corporation (FHLMC). The underlying loans for these securities are residential mortgages that were primarily originated beginning in the year of 2003 through the current period. These loans are geographically dispersed throughout the United States. At December 31, 2014 and 2013, the weighted average rate and weighted average life of these securities were 1.82% and 2.12%, respectively, and 3.64 years and 3.85 years, respectively.

 

The valuation for investment securities utilizing Level 2 inputs were primarily determined by quotes received from an independent pricing service using matrix pricing, which is a mathematical technique widely used in the industry to value securities without relying exclusively on quoted market prices for the specific securities, but rather by relying on the securities’ relationship to other benchmark quoted securities. There were no transfers into or out of Level 1 and 2 measurements during the years ended December 31, 2014 and 2013.

 

Assets Measured on a Non-Recurring Basis

 

Assets measured at fair value on a non-recurring basis are summarized below:

 

						Fair Value Measurements Using
(in thousands)		Fair Value				Quoted Prices in Active Markets for Identical Assets (Level 1)				Other Observable Inputs (Level 2)				Significant Unobservable Inputs (Level 3)
At December 31, 2014:
Impaired loans
Commercial		$	612			$	—			$	—			$	612
At December 31, 2013:
Impaired loans
Commercial		$	672			$	—			$	—			$	672
OREO
Land and construction			90				—				—				90
Total		$	762			$	—			$	—			$	762

 

 

Impaired loans — At the time a loan is considered impaired, it is valued at the lower of cost or fair value. The fair value of impaired loans that are collateral dependent is determined using various valuation techniques which are not readily observable in the market place, including consideration of appraised values and other pertinent real estate market data. These appraisals may utilize a single valuation approach or a combination of approaches including comparable sales and the income approach. Adjustments are routinely made in the appraisal process by the independent appraisers to adjust for differences between the comparable sales and income data available. Such adjustments are usually significant and typically result in a Level 3 classification of the inputs for determining fair value. Impaired loans are evaluated on a quarterly basis for additional impairment and adjusted accordingly. The Company recorded net recoveries of $263,000 and $1.1 million on impaired loans during the years ended December 31, 2014 and 2013, respectively.

 

Other real estate owned — OREO represents real estate acquired through or in lieu of foreclosure. OREO is held for sale and is initially recorded at fair value less estimated costs of disposition at the date of foreclosure, establishing a new cost basis. Subsequent to foreclosure, valuations are periodically performed by management and the assets are carried at the lower of cost or estimated fair value less costs of disposition. The fair value of OREO is determined using various valuation techniques which are not readily observable in the market place, including consideration of appraised values and other pertinent real estate market data.

 

(12)	Estimated Fair Value Information

 

The fair value of a financial instrument is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. Fair value is best determined based upon quoted market prices. However, in many cases, there are no quoted market prices for the Company’s various financial instruments. In cases where quoted market prices are not available, fair values are based on estimates using present value or other valuation techniques. Estimated fair value amounts have been determined by using available market information and appropriate valuation methodologies. However, considerable judgment is required to interpret market data to develop the estimates of fair value. Accordingly, the estimates presented are not necessarily indicative of the amounts the Company could realize in a current market exchange.

 

The methods and assumptions used to estimate the fair value of each class of financial instruments for which it is practicable to estimate the value are explained below.

 

Cash and cash equivalents

 

The carrying amounts are considered to be their estimated fair values and are classified as Level 1 because of the short-term maturity of these instruments which includes Federal funds sold and interest-earning deposits at other financial institutions.

 

Investment securities

 

AFS investment securities are carried at fair value, which are based on quoted prices of exact or similar securities, or on inputs that are observable, either directly or indirectly. The Company obtains quoted prices through third party brokers. Investment securities are classified as Level 1 to the extent that they are based on quoted prices for identical instrument traded in active markets. Investment securities are classified as Level 2 for valuations based on quotes prices for similar securities or inputs that are observable, either directly or indirectly.

 

FRB and FHLB stock

 

It is not practical to determine the fair value of FRB and FHLB stock due to restrictions placed on its transferability.

 

Loans, net

 

For loans, the fair value is estimated using market quotes for similar assets or the present value of future cash flows, discounted using the current rate at which similar loans would be made to borrowers with similar credit ratings and for the same maturities and giving consideration to estimated prepayment risk and credit risk. The fair value of loans is determined utilizing estimates resulting in a Level 3 classification.

 

Impaired loans are measured for impairment based on the present value of expected future cash flows discounted at the loan’s effective interest rate, except that as a practical expedient, the Company may measure impairment based on a loan’s observable market price, or the fair value of the collateral (net of estimated costs to sell) if the loan is collateral dependent. The fair value of impaired loans is determined utilizing estimates resulting in a Level 3 classification.

 

 

Off-balance sheet credit-related instruments

 

The fair values of commitments, which include standby letters of credit and commercial letters of credit, are based upon fees currently charged to enter into similar agreements, taking into account the remaining terms of the agreements and the counterparties’ credit standing. The related fees are not considered material to the Company’s financial statements as a whole and the fair market value of the Company’s off-balance sheet credit-related instruments cannot be readily determined. The fair value of these items is determined utilizing estimates resulting in a Level 3 classification.

 

Derivatives

 

The fair value of derivatives is based on valuation models using observable market data as of the measurement date and is classified as Level 2.

 

Deposits

 

For demand deposits, the carrying amount approximates fair value. The fair values of interest bearing checking, savings, and money market deposits are estimated by discounting future cash flows using the interest rates currently offered for deposits of similar products. Because of the short-term maturity of these deposits, the carrying amounts are considered to be their estimated fair values and are classified as Level 1.

 

The fair values of the certificates of deposit are estimated by discounting future cash flows based on the rates currently offered for certificates of deposit with similar interest rates and remaining maturities. The fair value of certificates of deposit is determined utilizing estimates resulting in a Level 2 classification.

 

Other borrowings

 

The fair values of long term FHLB advances are estimated based on the rates currently offered by the FHLB for advances with similar interest rates and remaining maturities. The fair value of other borrowings is determined utilizing estimates resulting in a Level 2 classification.

 

Accrued interest

 

The estimated fair value for both accrued interest receivable and accrued interest payable are considered to be equivalent to the carrying amounts, resulting in a Level 1 classification.

 

 

The estimated fair value and carrying amounts of the financial instruments at December 31, 2014 and 2013 are as follows:

 

 

		Carrying				Fair Value Measurements Using:
(dollars in thousands)		Amount				Level 1				Level 2				Level 3				Total
As of December 31, 2014
Assets
Cash and cash equivalents		$	58,464			$	58,464			$	—			$	—			$	58,464
Investment securities			79,689				3,885				75,804				—				79,689
FRB stock			1,655				—				—				—				N/A
FHLB stock			3,167				—				—				—				N/A
Loans, net			435,257				—				—				433,588				433,588
Non-hedging interest rate swaps			23				—				23				—				23
Accrued interest receivable			1,418				1,418				—				—				1,418
Liabilities
Non-interest bearing deposits		$	282,217			$	282,217			$	—			$	—			$	282,217
Interest bearing deposits			220,955				180,198				40,757				—				220,955
Other borrowings			17,500				—				17,551				—				17,551
Non-hedging interest rate swaps			23				—				23				—				23
Accrued interest payable			23				23				—				—				23
As of December 31, 2013
Assets
Cash and cash equivalents		$	44,688			$	44,688			$	—			$	—			$	44,688
Investment securities			106,272				—				106,272				—				106,272
FRB stock			1,570				—				—				—				N/A
FHLB stock			3,062				—				—				—				N/A
Loans, net			376,312				—				—				376,249				376,249
Non-hedging interest rate swaps			15				—				15				—				15
Accrued interest receivable			1,132				1,132				—				—				1,132
Liabilities
Non-interest bearing deposits		$	236,869			$	236,869			$	—			$	—			$	236,869
Interest bearing deposits			215,897				172,884				43,013				—				215,897
Other borrowings			27,500				—				27,562				—				27,562
Non-hedging interest rate swaps			15				—				15				—				15
Accrued interest payable			29				29				—				—				29

 

 

(13)	Non-Interest Income

 

The following table summarizes the information regarding non-interest income for the years ended December 31, 2014 and 2013, respectively:

 

		Years ended December 31,
(in thousands)		2014				2013
Loan arrangement fees		$	—			$	667
Gain on sale of AFS investment securities			1,178				822
Service charges and other operating income			533				304
Total non-interest income		$	1,711			$	1,793

 

 

(14)	Other Operating Expenses

 

The following table summarizes the information regarding other operating expenses for the years ended December 31, 2014, and 2013, respectively:

 

		Years ended December 31,
(in thousands)		2014				2013
Loan expenses		$	85			$	413
Board of Directors fees/non-cash stock expenses			434				362
OCC assessments			148				135
Branch and production office expenses			777				595
Stationery and supplies			109				89
Insurance			76				87
Dues, memberships and subscriptions			202				123
Stockholders expense			128				136
Telephone			102				122
Delaware Franchise Tax			110				107
Provision for unfunded lending commitments			50				67
Personnel hiring expenses			76				49
Other expenses			238				2
Total other operating expenses		$	2,535			$	2,287

 

(15)	Stock-Based Compensation

 

On May 8, 2013, the shareholders of the Company approved the Company’s 2013 Equity Incentive Plan (the “Plan”), which provides for the grant of up to 750,000 shares of Common Stock to employees, including officers and directors, non-employee directors and consultants. Stock options, stock appreciation rights, restricted stock and other stock awards, and restricted stock units are all available for grant pursuant to the terms and conditions of the Plan. The Plan was established to consolidate and replace all other previous stock plans and the remaining shares available for grant under these previous plans were cancelled.

 

Prior to the approval of the Plan, the Company granted restricted stock awards to directors and employees under the 2005 Equity Incentive Plan. Restricted stock awards are considered fixed awards as the number of shares and fair value is known at the date of grant and the fair value at the grant date is amortized over the requisite service period.

 

Non-cash stock compensation expense recognized in the Consolidated Statements of Operations and Comprehensive Income related to the restricted stock awards, net of estimated forfeitures, was $879,000 and $749,000 for the years ended December 31, 2014 and 2013, respectively. The fair value of restricted stock awards that vested during the years ended December 31, 2014, and 2013 was $541,000 and $686,000, respectively.

 

The following table reflects the activities related to restricted stock awards outstanding for the years ended December 31, 2014 and 2013, respectively.

 

		Years Ended December 31,
		2014								2013
Restricted Shares		Number of Shares				Weighted Avg Fair Value at Grant Date				Number of Shares				Weighted Avg Fair Value at Grant Date
Beginning balance			529,529			$	4.62				563,516			$	4.23
Granted			228,000				7.63				138,500				5.82
Vested			(141,654	)			3.82				(160,237	)			4.28
Forfeited and surrendered			—				—				(12,250	)			4.56
Ending balance			615,875			$	5.92				529,529			$	4.62

 

The Company recognizes compensation expense for stock options by amortizing the fair value at the grant date over the service, or vesting period.

 

 

 

During the years ended December 31, 2014 and 2013, there were 72,000 and 41,900, respectively, options exercised under the 2004 Founder Stock Option Plan at a weighted average exercise price of $5.00 per share. During the year ended December 31, 2014, the remaining 19,800 of unexercised options under the plan expired and were automatically cancelled. The weighted average exercise price of the cancelled options was $5.00 per share. There were no options cancelled under the plan for the year ended December 31, 2013. The remaining contractual life of the 2004 Founder Stock Options outstanding was 0.15 years at December 31, 2013. All options under the 2004 Founder Stock Option Plan were exercisable at December 31, 2013. At December 31, 2013, the weighted average exercise price of the 91,800 shares outstanding under the 2004 Founder Stock Option Plan was $5.00.

 

There have been no options granted, or cancelled under the Director and Employee Stock Option Plan for the years ended December 31, 2014 or 2013. There have been 450,600 and none options exercised during the years ended December 31, 2014 and 2013, respectively, at a weighted average price of $5.07 per share. The remaining contractual life of the Director and Employee Stock Options outstanding was 0.58 years and 0.79 years at December 31, 2014 and 2013, respectively. All options under the Directors and Employee Stock Option Plan were exercisable at December 31, 2014 and 2013. At December 31, 2014 and 2013, the weighted average exercise price of the 350,073 and 800,673 shares, respectively, outstanding under the Director and Employee Stock Option Plan was $8.06 and $6.37, respectively.

 

The following tables detail the amount of shares authorized and available under all stock plans as of December 31, 2014:

 

		Shares Reserved				Less Shares Previously Exercised/Vested				Less Shares Outstanding				Total Shares Available for Future Issuance
2004 Founder Stock Option Plan			150,000				121,900				—				—
Director and Employee Stock Option Plan			1,434,000				912,524				350,073				—
2005 Equity Incentive Plan			1,200,000				799,398				387,875				—
2013 Equity Incentive Plan			750,000				—				228,000				522,000

 

(16)	Income Taxes

 

The income tax provision (benefit) consists of the following for the years ended December 31, 2014 and 2013:

 

(in thousands)		2014				2013
Current:
Federal		$	1,573			$	92
State			263				24
Deferred:
Federal			(77	)			1,003
State			144				130
			1,903				1,249
Valuation allowance			—				(4,308	)
Income tax provision (benefit)		$	1,903			$	(3,059	)

 

A reconciliation of the amounts computed by applying the federal statutory rate of 34% for 2014 and 2013 to the loss before income tax provision and the effective tax rate are as follows:

 

		2014								2013
(dollars in thousands)		Amount				Percent of Pretax				Amount				Percent of Pretax
Federal income tax provision at statutory rate		$	1,450				34	%		$	1,293				34	%
Changes due to:
State franchise tax, net of federal income tax			310				7	%			272				7	%
Alternative minimum tax			—				—	%			(86	)			(2	)%
Valuation allowance			—				—	%			(4,308	)			(113	)%
Other, net			143				4	%			(230	)			(6	)%
Total income tax provision (benefit)		$	1,903				45	%		$	(3,059	)			(80	)%

 

 

The major components of the net deferred tax assets and liabilities at December 31, 2014 and 2013 are as follows:

 

(in thousands)		2014				2013
Deferred tax assets:
Allowance for loan losses		$	1,336			$	1,295
Equity compensation			646				594
Depreciation			96				118
Accrued compensation			390				394
Deferred rent			228				173
Net operating losses			—				399
Other			562				298
Total deferred tax assets			3,258				3,271
Deferred tax liabilities:
Prepaid expenses			93				39
Federal Home Loan Bank stock dividends			57				57
Net unrealized gains on investment securities			113				88
Total deferred tax liabilities			263				184
Net deferred tax assets		$	2,995			$	3,087

 

A valuation allowance is required if it is “more likely than not” that a deferred tax asset will not be realized. The determination of the realizability of the deferred tax assets is highly subjective and dependent upon judgment concerning management’s evaluation of both positive and negative evidence, including historic financial performance, the forecasts of future income, existence of feasible tax planning strategies, length of statutory carryforward periods, and assessments of the current and future economic and business conditions. Management evaluates the positive and negative evidence and determines the realizability of the deferred tax asset on a quarterly basis.

 

During the year ended December 31, 2009, management established a full valuation allowance against the Company’s deferred tax assets after it was determined that it was “more likely than not” that the Company would not be able to realize the benefit of the deferred tax asset. During the year ended December 31, 2013, management reassessed the need for this valuation allowance and concluded that a valuation allowance was no longer appropriate and that it is more likely than not that these assets will be realized. As a result, management reversed the valuation allowance as an income tax benefit in the Consolidated Statements of Operations and Comprehensive Income. In making this determination, management analyzed, among other things, the Company’s recent history of earnings and cash flows, forecasts of future earnings, improvements in the credit quality of the Company’s loan portfolio, the nature and timing of future deductions and benefits represented by the deferred tax assets and our cumulative earnings for the 12 quarters preceding the reversal of this valuation allowance.

 

At December 31, 2014 and 2013, the Company had a net deferred tax asset of approximately $3.0 million and $3.1 million, respectively.

 

No uncertain tax positions were identified as of December 31, 2014 and 2013, and the Company had no tax reserve for uncertain tax positions at December 31, 2014 and 2013. The Company does not anticipate providing a reserve for uncertain tax positions in the next twelve months. Furthermore, the Company has elected to record interest accrued and penalties related to unrecognized tax benefits in tax expense. At December 31, 2014 and 2013, the Company did not have an accrual for interest and/or penalties associated with uncertain tax positions.

 

The Company files income tax returns in the U.S. federal and California jurisdictions. The Company is no longer subject to U.S. federal and state income tax examinations by tax authorities for years before 2011 and 2010, respectively.

 

(17)	Employee Benefit Plan

 

The Company has a 401(k) plan for all employees and permits voluntary contributions of their salaries on a pre-tax basis, subject to statutory and Internal Revenue Service guidelines. The contributions to the 401(k) plan are invested at the directions of the participants. The Company matches 100% of the employee’s contribution up to the first 3% of the employee’s salary and 50% of the employee’s contribution up to the next 2% of the employee’s salary. The Company’s expense relating to the contributions made to the 401(k) plan for the benefit of the employees for the years ended December 31, 2014 and 2013 was $199,000 and $182,000, respectively.

 

 

(18)	Regulatory Matters

 

Capital

 

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

 

Quantitative measures established by regulation to ensure capital adequacy require the Company and the Bank to maintain minimum amounts and ratios (set forth in the table below) of total and Tier 1 capital (as defined in the regulation) to risk-weighted assets (as defined) and of Tier 1 capital (as defined) to average assets (as defined). Management believes that as of December 31, 2014 and 2013, the Company and the Bank met all capital adequacy requirements to which they are subject.

 

At December 31, 2014, the most recent notification from the OCC categorized the Bank as well capitalized under the regulatory framework for prompt corrective action. To be categorized as well-capitalized, the Bank must maintain minimum total risk-based, Tier 1 risk-based and Tier 1 leverage ratios. There are no conditions or events since the notification that management believes have changed the Bank’s category.

 

The Company’s and the Bank’s capital ratios as of December 31, 2014 and 2013 are presented in the table below:

 

		Company								Bank								For Capital Adequacy Purposes								For the Bank to be Well Capitalized Under Prompt Corrective Measures
(dollars in thousands)		Amount				Ratio				Amount				Ratio				Amount				Ratio				Amount				Ratio
December 31, 2014:
Total Risk-Based Capital Ratio		$	67,275				13.94	%		$	63,339				13.13	%		$	38,603				8.00	%		$	48,253				10.00	%
Tier 1 Risk-Based Capital Ratio		$	61,220				12.69	%		$	57,284				11.87	%		$	19,302				4.00	%		$	28,952				6.00	%
Tier 1 Leverage Ratio		$	61,220				10.05	%		$	57,284				9.40	%		$	24,357				4.00	%		$	30,456				5.00	%
December 31, 2013:
Total Risk-Based Capital Ratio		$	58,620				14.18	%		$	56,555				13.69	%		$	33,062				8.00	%		$	41,326				10.00	%
Tier 1 Risk-Based Capital Ratio		$	53,425				12.93	%		$	51,361				12.43	%		$	16,531				4.00	%		$	24,796				6.00	%
Tier 1 Leverage Ratio		$	53,425				9.70	%		$	51,361				9.32	%		$	22,025				4.00	%		$	27,541				5.00	%

 

On July 2, 2013, the Federal Reserve approved the final rules implementing the Basel Committee on Banking Supervision's (“BCBS”) capital guidelines for U.S. banks. Under the final rules, minimum requirements will increase for both the quantity and quality of capital held by the Company. The rules include a new common equity Tier 1 capital to risk-weighted assets ratio of 4.5% and a common equity Tier 1 capital conservation buffer of 2.5% of risk-weighted assets. The final rules also raise the minimum ratio of Tier 1 capital to risk-weighted assets from 4.0% to 6.0% and require a minimum leverage ratio of 4.0%. The final rules also implement strict eligibility criteria for regulatory capital instruments. On July 9, 2013, the FDIC and OCC also approved, as an interim final rule, the regulatory capital requirements for U.S. banks, following the actions of the FRB. The FDIC and OCC's rules are identical in substance to the final rules issued by the FRB.

 

The phase-in period for the final rules will begin for the Company and the Bank on January 1, 2015, with full compliance with all of the final rule's requirements phased in over a multi-year schedule. Management is currently evaluating the provisions of the final rules and their expected impact.

 

Dividends

 

In the ordinary course of business, Bancshares is dependent upon dividends from the Bank to provide funds for the payment of dividends to shareholders and to provide for other cash requirements. Banking regulations may limit the amount of dividends that may be paid. Approval by regulatory authorities is required if the effect of dividends declared would cause the regulatory capital of the Bank to fall below specified minimum levels. Approval is also required if dividends declared exceed the net profits for that year combined with the retained net profits for the preceding two years. Currently, the Bank is prohibited from paying dividends to Bancshares until such time as the accumulated deficit is eliminated.

 

 

To date, Bancshares has not paid any cash dividends. Payment of stock or cash dividends in the future will depend upon earnings and financial condition and other factors deemed relevant by Bancshares’ Board of Directors, as well as Bancshares’ legal ability to pay dividends. Accordingly, no assurance can be given that any cash dividends will be declared in the foreseeable future.

 

Consent Order

 

On September 11, 2013, the Board of Directors of the Bank entered into a stipulation and consent to the issuance of a consent order with the OCC consenting to the issuance of a consent order (the “Consent Order”) by the OCC, effective as of that date. The Consent Order required the Bank to take corrective action to enhance its program and procedures for compliance with the Bank Secrecy Act (“BSA”) and other anti-money laundering regulations (“AML”).

 

On February 23, 2015, the Board of Directors of the Bank was notified by the OCC that the OCC is terminating its Consent Order with the Bank, dated September 11, 2013, effective immediately.

 

(19)	Parent Company Only Condensed Financial Information

 

The condensed financial statements of 1^st Century Bancshares, Inc. as of and for the years ended December 31, 2014 and 2013 are presented below:

 

 

Condensed Balance Sheets

(in thousands)		December 31, 2014				December 31, 2013
Assets
Cash and due from banks		$	3,961			$	2,082
Investment in subsidiary bank			57,757				53,324
Total Assets		$	61,718			$	55,406
Liabilities and Stockholders’ Equity
Other liabilities		$	25			$	18
Common stock			121				114
Additional paid-in capital			71,736				67,231
Accumulated deficit			(1,675	)			(4,036	)
Accumulated other comprehensive income			162				52
Treasury stock at cost			(8,651	)			(7,973	)
Total Stockholders’ Equity			61,693				55,388
Total Liabilities and Stockholders’ Equity		$	61,718			$	55,406

 

 

Condensed Statements of Operations and Comprehensive Income

		Years ended December 31,
(in thousands)		2014				2013
Interest income		$	—			$	—
Interest expense			—				—
Net interest income			—				—
Compensation and benefits			(33	)			(35	)
Other operating expenses			(60	)			(63	)
Loss before taxes			(93	)			(98	)
Income tax provision			—				—
Loss before equity in undistributed income of subsidiary bank			(93	)			(98	)
Equity in undistributed income of subsidiary bank			2,454				6,961
Net income		$	2,361			$	6,863
Comprehensive income		$	2,471			$	4,479

 

 

Condensed Statements of Cash Flows

 

		Years ended December, 31
(in thousands)		2014				2013
Cash flows from operating activities:
Net income		$	2,361			$	6,863
Adjustments to reconcile net income to net cash used in operations:
Equity in undistributed net income of subsidiary bank			(2,454	)			(6,961	)
Increase in other liabilities			7				—
Net cash used in operating activities			(86	)			(98	)
Cash flows from financing activities:
Proceeds from exercise of stock options			2,643				1,435
Shares surrendered to pay taxes on vesting of restricted stock			(678	)			(461	)
Net cash provided by financing activities			1,965				974
Net change in cash and cash equivalents			1,879				876
Cash and cash equivalents, beginning of year			2,082				1,206
Cash and cash equivalents, end of year		$	3,961			$	2,082

 

 

REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

 

Board of Directors and

Stockholders of 1st Century Bancshares, Inc.

Los Angeles, CA

 

We have audited the accompanying consolidated balance sheets of 1st Century Bancshares, Inc. as of December 31, 2014 and 2013, and the related consolidated statements of operations and comprehensive income, changes in stockholders’ equity, and cash flows for the years then ended. These consolidated financial statements are the responsibility of 1st Century Bancshares, Inc.’s management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits.

 

We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. The Company is not required to have, nor were we engaged to perform an audit of its internal control over financial reporting. Our audit included consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the Company’s internal control over financial reporting. Accordingly, we express no such opinion. An audit also includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provides a reasonable basis for our opinion.

 

In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of 1st Century Bancshares, Inc. as of December 31, 2014 and 2013, and the results of its operations and its cash flows for the years then ended, in conformity with U.S. generally accepted accounting principles.

 

 

	/s/ Crowe Horwath LLP
Sherman Oaks, California
March 5, 2015

 

 

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