CU Bancorp - FORM 10-Q - November 8, 2016

CU Bancorp - FORM 10-Q - November 8, 2016

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EX-31.2 - EX-31.2 - CU Bancorp	d261623dex312.htm
EX-32.1 - EX-32.1 - CU Bancorp	d261623dex321.htm
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EX-3.2 - EX-3.2 - CU Bancorp	d261623dex32.htm

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

(Mark One)

☒	QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended September 30, 2016

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

For the transition period from to

CU BANCORP

(Exact name of registrant as specified in its charter)

Commission File Number 001-35683


California		90-0779788
(State or other jurisdiction of incorporation or organization)		(I.R.S. Employer Identification No.)

818 West 7^th Street, Suite 220 Los Angeles, California		90017
(Address of principal executive offices)		(Zip Code)

(213) 430-7000

(Registrant’s telephone number, including area code)

Not applicable

(Former name, former address and former fiscal year, if changed since last report)

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 during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes ☒ No ☐

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of “accelerated filer and large accelerated filer” in Rule 12b-2 of the Exchange Act. (Check one):

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

As of November 1, 2016 the number of shares outstanding of the registrant’s no par value Common Stock was 17,678,438.

Page 1 of 77

CU BANCORP

September 30, 2016 FORM 10-Q

TABLE OF CONTENTS

PART I. FINANCIAL INFORMATION


	ITEM 1.	Financial Statements

		Consolidated Balance Sheets September 30, 2016 (Unaudited) and December 31, 2015	3

		Consolidated Statements of Income Three and Nine Months Ended September 30, 2016 and 2015 (Unaudited)	4

		Consolidated Statements of Comprehensive Income Three and Nine Months Ended September 30, 2016 and 2015 (Unaudited)	5

		Consolidated Statements of Changes in Shareholders’ Equity Nine Months Ended September 30, 2016 and 2015 (Unaudited)	6

		Consolidated Statements of Cash Flows Nine Months Ended September 30, 2016 and 2015 (Unaudited)	7

		Notes to the Consolidated Financial Statements (Unaudited)	9

	ITEM 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	42

		Overview	45

		Results of Operations	50

		Financial Condition	61

		Liquidity	66

		Dividends	68

		Regulatory Matters	69

	ITEM 3.	Quantitative and Qualitative Disclosures About Market Risk	72

	ITEM 4.	Controls and Procedures	74

PART II. OTHER INFORMATION

	ITEM 1.	Legal Proceedings	75

	ITEM 1A.	Risk Factors	75

	ITEM 2.	Unregistered Sales of Equity Securities and Use of Proceeds	75

	ITEM 3.	Defaults Upon Senior Securities	75

	ITEM 4.	Mine Safety Disclosures	75

	ITEM 5.	Other Information	76

	ITEM 6.	Exhibits	76

	Signatures		77

Page 2 of 77

CU BANCORP

CONSOLIDATED BALANCE SHEETS

(Dollars in thousands, except share data)


	September 30, 2016			December 31, 2015
	(Unaudited)			(Audited)
ASSETS
Cash and due from banks	$	47,701		$	50,960
Interest earning deposits in other financial institutions		244,205			171,103

Total cash and cash equivalents		291,906			222,063
Certificates of deposit in other financial institutions		51,490			56,860
Investment securities available-for-sale, at fair value		375,094			315,785
Investment securities held-to-maturity, at amortized cost		40,073			42,036

Total investment securities		415,167			357,821
Loans		1,974,941			1,833,163
Allowance for loan loss		(18,371	)		(15,682	)

Net loans		1,956,570			1,817,481
Premises and equipment, net		4,354			5,139
Deferred tax assets, net		15,614			17,033
Other real estate owned, net		—			325
Goodwill		64,603			64,603
Core deposit and leasehold right intangibles, net		6,665			7,671
Bank owned life insurance		50,889			49,912
Accrued interest receivable and other assets		35,914			35,734

Total Assets	$	2,893,172		$	2,634,642

LIABILITIES AND SHAREHOLDERS’ EQUITY
LIABILITIES
Non-interest bearing demand deposits	$	1,399,320		$	1,288,085
Interest bearing transaction accounts		284,154			261,123
Money market and savings deposits		786,882			679,081
Certificates of deposit		35,033			58,502

Total deposits		2,505,389			2,286,791
Securities sold under agreements to repurchase		24,251			14,360
Subordinated debentures, net		9,817			9,697
Accrued interest payable and other liabilities		20,785			16,987

Total Liabilities		2,560,242			2,327,835

Commitments and Contingencies (Note 13)
SHAREHOLDERS’ EQUITY
Serial Preferred Stock – authorized, 50,000,000 shares: Series A, non-cumulative perpetual preferred stock, $1,000 per share liquidation preference, 16,400 shares authorized, 16,400 shares issued and outstanding at September 30, 2016 and December 31, 2015, respectively		17,021			16,995
Common stock – authorized, 75,000,000 shares no par value, 17,673,438 and 17,175,389 shares issued and outstanding at September 30, 2016 and December 31, 2015, respectively		234,383			230,688
Additional paid-in capital		24,847			23,017
Retained earnings		56,296			36,923
Accumulated other comprehensive income (loss)		383			(816	)

Total Shareholders’ Equity		332,930			306,807

Total Liabilities and Shareholders’ Equity	$	2,893,172		$	2,634,642

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

Page 3 of 77

CU BANCORP

CONSOLIDATED STATEMENTS OF INCOME

(Unaudited)

(Dollars in thousands, except per share data)


	Three Months Ended September 30,				Nine Months Ended September 30,
	2016		2015		2016		2015
Interest Income
Interest and fees on loans	$	23,958	$	21,689	$	69,701	$	62,239
Interest on investment securities		1,419		1,124		4,066		3,355
Interest on interest bearing deposits in other financial institutions		478		293		1,334		741

Total Interest Income		25,855		23,106		75,101		66,335

Interest Expense
Interest on interest bearing transaction accounts		102		105		300		303
Interest on money market and savings deposits		524		427		1,519		1,218
Interest on certificates of deposit		46		53		110		150
Interest on securities sold under agreements to repurchase		13		9		38		21
Interest on subordinated debentures		122		110		359		326

Total Interest Expense		807		704		2,326		2,018

Net Interest Income		25,048		22,402		72,775		64,317
Provision for loan losses		697		705		2,382		2,831

Net Interest Income After Provision For Loan Losses		24,351		21,697		70,393		61,486

Non-Interest Income
Gain on sale of securities, net		141		—		141		—
Gain on sale of SBA loans, net		189		640		1,228		1,278
Deposit account service charge income		1,210		1,159		3,621		3,453
Other non-interest income		1,518		1,189		3,863		3,960

Total Non-Interest Income		3,058		2,988		8,853		8,691

Non-Interest Expense
Salaries and employee benefits (includes stock based compensation expense of $939 and $810 for the three months, and $2,664 and $2,130 for the nine months ended September 30, 2016 and 2015, respectively)		10,335		9,744		30,409		28,175
Occupancy		1,673		1,465		4,548		4,300
Data processing		657		596		1,910		1,872
Legal and professional		1,434		412		2,560		1,914
FDIC deposit assessment		389		370		1,098		1,054
Merger expenses		—		146		—		498
OREO loss and expenses		2		153		85		179
Office services expenses		413		383		1,136		1,204
Other operating expenses		1,864		1,798		5,297		5,696

Total Non-Interest Expense		16,767		15,067		47,043		44,892

Net Income Before Provision for Income Tax Expense		10,642		9,618		32,203		25,285
Provision for income tax expense		4,059		3,355		11,916		9,556

Net Income		6,583		6,263		20,287		15,729
Preferred stock dividends and discount accretion		304		293		914		877

Net Income available to common shareholders	$	6,279	$	5,970	$	19,373	$	14,852

Earnings Per Share
Basic earnings per share	$	0.36	$	0.36	$	1.13	$	0.90
Diluted earnings per share	$	0.36	$	0.35	$	1.11	$	0.88

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

Page 4 of 77

CU BANCORP

CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME

(Unaudited)

(Dollars in thousands)


	Three Months Ended September 30,					Nine Months Ended September 30,
	2016			2015		2016			2015
Net Income	$	6,583		$	6,263	$	20,287		$	15,729
Other Comprehensive Income, net of tax:
Net change in unrealized gain (loss) on available-for-sale investment securities, net of tax		(313	)		311		1,281			73
Reclassification of (gain) loss on investment securities available-for-sale to net income, net of tax		(82	)		—		(82	)		—

Other Comprehensive Income (Loss)		(395	)		311		1,199			73

Comprehensive Income	$	6,188		$	6,574	$	21,486		$	15,802

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

Page 5 of 77

CU BANCORP

CONSOLIDATED STATEMENTS OF SHAREHOLDERS’ EQUITY

(Unaudited)

(Dollars in thousands)


	Preferred Stock				Common Stock
	Issued and Outstanding Shares		Amount		Issued and Outstanding Shares			Amount		Additional Paid-in Capital			Retained Earnings			Accumulated Other Comprehensive Income (Loss)			Total Shareholders’ Equity
Balance at December 31, 2014		16,400	$	16,004		16,683,856		$	226,389	$	19,748		$	16,861		$	190		$	279,192

Net issuance of restricted stock		—		—		68,625			—		—			—			—			—
Exercise of stock options		—		—		158,315			1,434		—			—			—			1,434
Stock based compensation expense		—		—		—			—		2,130			—			—			2,130
Restricted stock repurchase		—		—		(39,860	)		—		(856	)		—			—			(856	)
Excess tax benefit – stock based compensation		—		—		—			—		788			—			—			788
Preferred stock dividends and discount accretion		—		735		—			—		—			(877	)		—			(142	)
Net income		—		—		—			—		—			15,729			—			15,729
Other comprehensive income		—		—		—			—		—			—			73			73

Balance at September 30, 2015		16,400	$	16,739		16,870,936		$	227,823	$	21,810		$	31,713		$	263		$	298,348


Balance at December 31, 2015		16,400	$	16,995		17,175,389		$	230,688	$	23,017		$	36,923		$	(816	)	$	306,807

Net issuance of restricted stock		—		—		121,434			—		—			—			—			—
Exercise of stock options		—		—		411,964			3,695		—			—			—			3,695
Stock based compensation expense		—		—		—			—		2,664			—			—			2,664
Restricted stock repurchase		—		—		(35,349	)		—		(834	)		—			—			(834	)
Excess tax benefit – stock based compensation		—		—		—			—		772			—			—			772
Reclassification of excess tax benefits (1)											(772	)								(772	)
Preferred stock dividends and discount accretion		—		26		—			—		—			(914	)		—			(888	)
Net income		—		—		—			—		—			20,287			—			20,287
Other comprehensive income		—		—		—			—		—			—			1,199			1,199

Balance at September 30, 2016		16,400	$	17,021		17,673,438		$	234,383	$	24,847		$	56,296		$	383		$	332,930

(1)	Represents the reclassification from additional paid-in capital to provision for income tax expense during the first two quarters of 2016, related to the Company’s early adoption of ASU 2016-09. See Note 2, Recent Accounting Pronouncements, for additional information.

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

Page 6 of 77

CU BANCORP

CONSOLIDATED STATEMENTS OF CASH FLOWS

(Unaudited)

(Dollars in thousands)


	Nine Months Ended September 30,
	2016			2015
Cash flows from operating activities:
Net income:	$	20,287		$	15,729
Adjustments to reconcile net income to net cash provided by operating activities:
Provision for loan losses		2,382			2,831
Provision for unfunded loan commitments		169			87
Stock based compensation expense		2,664			2,130
Depreciation		1,064			1,062
Net accretion of discounts/premiums for loans acquired and deferred loan fees/costs		(6,751	)		(6,553	)
Net amortization from investment securities		3,126			2,343
Increase in bank owned life insurance		(977	)		(947	)
Amortization of core deposit intangibles		961			1,262
Amortization of time deposit premium		(2	)		(10	)
Net (accretion) amortization of leasehold right intangible asset and liabilities		(174	)		4
Accretion of subordinated debenture discount		119			119
Loss on disposal of fixed assets		30			—
Valuation write-downs on OREO		—			133
Loss on sale of OREO		14			—
Gain on sale of securities, net		(141	)		—
Gain on sale of SBA loans, net		(1,228	)		(1,278	)
Decrease (increase) in deferred tax assets		549			(790	)
Decrease (increase) in accrued interest receivable and other assets		(180	)		2,484
Increase (decrease) in accrued interest payable and other liabilities		3,811			(327	)
Net excess in tax benefit on stock compensation		—			(788	)
Increase in fair value of derivative swap liability		35			591

Net cash provided by operating activities		25,758			18,082

Cash flows from investing activities:
Purchases of investment securities		(118,124	)		(57,597	)
Proceeds from sales of investment securities		4,519			—
Proceeds from repayment and maturities from investment securities		55,346			30,135
Loans originated, net of principal payments		(133,492	)		(139,844	)
Purchases of premises and equipment		(309	)		(666	)
Proceeds from sale of OREO		311			—
Net decrease in certificates of deposit in other financial institutions		5,370			17,759
Purchase of bank owned life insurance		—			(9,869	)

Net cash used in investing activities		(186,379	)		(160,082	)

Cash flows from financing activities:
Net increase in Non-interest bearing demand deposits		111,235			215,714
Net increase in Interest bearing transaction accounts		23,031			51,309
Net increase in Money market and savings deposits		107,801			47,617
Net decrease in Certificates of deposit		(23,467	)		(2,510	)
Net increase in Securities sold under agreements to repurchase		9,891			7,287
Net proceeds from stock options exercised		3,695			1,434
Restricted stock repurchase		(834	)		(856	)
Dividends paid on preferred stock		(888	)		(142	)
Net excess in tax benefit on stock compensation		—			788

Net cash provided by financing activities		230,464			320,641

Net increase in cash and cash equivalents		69,843			178,641
Cash and cash equivalents, beginning of period		222,063			132,586

Cash and cash equivalents, end of period	$	291,906		$	311,227

Page 7 of 77

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

CU BANCORP

CONSOLIDATED STATEMENTS OF CASH FLOWS (Continued)

(Unaudited)

(Dollars in thousands)


	Nine Months Ended September 30,
	2016		2015
Supplemental disclosures of cash flow information:
Cash paid for interest	$	2,469	$	2,127
Net cash paid for taxes	$	7,319	$	6,767
Supplemental disclosures of non-cash investing activities:
Net change in unrealized gain on available-for-sale investment securities, net of tax	$	1,199	$	73
Loans transferred to other real estate owned	$	—	$	575

Page 8 of 77

CU BANCORP

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

September 30, 2016

(Unaudited)

Note 1 - Basis of Financial Statement Presentation

CU Bancorp (the “Company”) is a bank holding company whose operating subsidiary is California United Bank. As a bank holding company, CU Bancorp is subject to regulation of the Federal Reserve Board (“FRB”). The term “Company”, as used throughout this document, refers to the consolidated financial statements of CU Bancorp and California United Bank.

California United Bank (the “Bank”) is a full-service commercial business bank offering a broad range of banking products and services including: deposit services, lending and cash management to small and medium-sized businesses, to non-profit organizations, to business principals and entrepreneurs, to the professional community, including attorneys, certified public accountants, financial advisors, healthcare providers and investors. The Bank opened for business in 2005. Its current headquarters office is located in Los Angeles, California. As a state chartered non-member bank, the Bank is subject to regulation by the California Department of Business Oversight (“DBO”) and the Federal Deposit Insurance Corporation (“FDIC”). The deposits of the Bank are insured by the FDIC to the maximum amount allowed by law.

The consolidated financial statements include the accounts of the Company and the Bank. Significant intercompany items have been eliminated in consolidation. The accounting and reporting policies of the Company conform to U.S. generally accepted accounting principles (“GAAP”) and pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”).

CU Bancorp is the common shareholder of Premier Commercial Statutory Trust I, Premier Commercial Statutory Trust II, and Premier Commercial Statutory Trust III, entities which were acquired in the merger with Premier Commercial Bancorp (“PC Bancorp”). These trusts were established for the sole purpose of issuing trust preferred securities and do not meet the criteria for consolidation. For more detail, see Note 8 – Borrowings and Subordinated Debentures.

Certain information and footnote disclosures presented in the annual consolidated financial statements are not included in the interim consolidated financial statements. Accordingly, the accompanying unaudited interim consolidated financial statements should be read in conjunction with the 2015 Annual Report on Form 10-K. In the opinion of management, the accompanying interim consolidated financial statements contain all necessary adjustments of a normal recurring nature, to present fairly the consolidated financial position of the Company and the results of its operations for the interim periods presented.

Use of Estimates in the Preparation of Consolidated Financial Statements

The preparation of consolidated financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and the amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. In addition, these accounting principles require the disclosure of contingent assets and liabilities as of the date of the consolidated financial statements.

Estimates that are particularly susceptible to significant change relate to the determination of the allowance for loan loss and various assets and liabilities measured at fair value. While management uses the most current available information to recognize losses on loans, future additions to the allowance for loan loss may be necessary based on, among other factors, changes in local economic conditions. In addition, regulatory agencies, as an integral part of their examination process, periodically review the Company’s allowance for loan loss. Regulatory agencies may require the Company to recognize changes to the allowance for loan loss based on their judgment about information available to them at the time of their examination.

Business Segments

The Company is organized and operates as a single reporting segment, principally engaged in commercial business banking. The Company conducts its lending and deposit operations through nine full service branch offices located in Los Angeles, Orange, Ventura and San Bernardino counties.

Page 9 of 77

Note 2 - Recent Accounting Pronouncements

Accounting Standards Adopted in 2016

In March 2016, the FASB issued Accounting Standards Update (“ASU”) 2016-09, Compensation – Stock Compensation (Topic 718): Improvements to Employee Share-Based Payment Accounting, to reduce the complexity of certain aspects of the accounting for employee share-based payment transactions. As a result of this ASU, changes applicable to all entities include: 1) The threshold to qualify for equity classification would permit withholding up to the maximum individual statutory tax rate in the applicable jurisdictions. Also, the ASU provides that cash paid by an employer when directly withholding shares for tax-withholding purposes would be classified as a financing activity on the statement of cash flows; 2) An entity would be allowed to make an entity-wide accounting policy election to either estimate the number of awards that are expected to vest or account for forfeitures when they occur; 3) All excess tax benefits and tax deficiencies would be recognized as income tax expense or benefit in the income statement. An entity also would recognize excess tax benefits regardless of whether the benefit reduces taxes payable in the current period. Further, excess tax benefits would not be separated from other income tax cash flows and thus would be classified along with other cash flows as an operating activity. ASU 2016-09 is effective for public entities for interim and annual periods beginning after December 15, 2016. In the third quarter of 2016, the Company elected the early adoption of this standard which requires the Company to reflect the adjustments resulting from the adoption effective January 1, 2016, the beginning of the annual period that includes the interim period of adoption. Adoption of this standard had the following impact on the Company’s consolidated financial statements:

•

Excess tax benefits are recognized in the provision for income tax expense rather than through additional paid-in capital. The Company’s early adoption of ASU 2016-09 resulted in the reclassification of $772 thousand from additional paid-in capital to provision for income tax expense during the first two quarters of 2016. During the third quarter of 2016, the Company recognized a benefit of $142 thousand in provision for income tax expense for the excess tax benefits that occurred between July 1, 2016 and September 30, 2016. These tax benefits reduced the Company’s effective tax rate by 1.33% and 2.84% for the three months and nine months ended September 30, 2016. The Company had no previously unrecognized excess tax benefits.

•

Excess tax benefits are presented as operating activities rather than as an inflow from financing activities and an outflow from operating activities in the consolidated statements of cash flows. The Company’s early adoption of ASU 2016-09 resulted in the prospective presentation of $914 thousand of excess tax benefits included in the change of accrued interest payable and other liabilities under operating activities in the consolidated statement of cash flows for the nine months ended September 30, 2016.

•

Employee taxes paid when an employer withholds shares for tax-withholding purposes continue to be presented as financing activities in the consolidated statements of cash flows. The Company had no awards receiving liability treatment as a result of the guidance in effect prior to ASU 2016-09. Therefore, the change from minimum to up to maximum statutory rate on tax withholdings had no impact to the consolidated financial statements as a result of the early adoption. However, withheld taxes may be higher than the minimum tax rate beginning in July 2016.

•

Forfeitures are accounted for when they occur.

Recent Accounting Standards Not Yet Effective

In May 2014, the FASB issued ASU 2014-09, Revenue from Contracts with Customers (Topic 606), which replaced existing revenue recognition guidance for contracts to provide goods or services to customers and amended existing guidance related to recognition of gains and losses on the sale of certain nonfinancial assets such as real estate. ASU 2014-09 established a principles-based approach to recognizing revenue that applies to all contracts other than those covered by other authoritative GAAP guidance. Quantitative and qualitative disclosures regarding the nature, amount, timing and uncertainty of revenue and cash flows were also required. ASU 2014-09 was to be effective for interim and annual periods beginning after December 15, 2016 and was to be applied on either a modified retrospective or full retrospective basis. In August 2015, the FASB issued ASU 2015-14 which defers the original effective date for all entities by one year. Public business entities should apply the guidance in ASU 2015-14 to annual reporting periods beginning after December 15, 2017, including interim reporting periods within that reporting period. Earlier application is permitted only as of annual reporting periods beginning after December 15, 2016, including interim reporting periods within that reporting period. The Company is currently evaluating the impact of this ASU on its consolidated financial statements.

In January 2016, the FASB issued ASU 2016-01, Financial Instruments–Overall: Recognition and Measurement of Financial Assets and Financial Liabilities. Changes to the current GAAP model primarily affect the accounting for equity investments, financial liabilities under the fair value option, and the presentation and disclosure requirements for financial instruments. In addition, the FASB clarified guidance related to the valuation allowance assessment when recognizing

Page 10 of 77

deferred tax assets resulting from unrealized losses on available-for-sale debt securities. The accounting for other financial instruments, such as loans, investments in debt securities, and financial liabilities is largely unchanged. The classification and measurement guidance will be effective for public business entities in fiscal years beginning after December 15, 2017, including interim periods within those fiscal years. Entities can early adopt the provision to record fair value changes for financial liabilities under the fair value option resulting from instrument-specific credit risk in other comprehensive income. Early adoption of these provisions can be elected for all financial statements of fiscal years and interim periods that have not yet been issued or that have not yet been made available for issuance. The Company is currently evaluating the impact of this ASU on its consolidated financial statements.

In February 2016, the FASB issued ASU 2016-02, Leases (Topic 842). The most significant change for lessees is the requirement under the new guidance to recognize right-of-use assets and lease liabilities for all leases not considered short-term leases. By definition, a short-term lease is one in which: (a) the lease term is 12 months or less and (b) there is not an option to purchase the underlying asset that the lessee is reasonably certain to exercise. For short-term leases, lessees may elect an accounting policy by class of underlying asset under which right-of-use assets and lease liabilities are not recognized and lease payments are generally recognized as expense over the lease term on a straight-line basis. This change will result in lessees recognizing right-of-use assets and lease liabilities for most leases currently accounted for as operating leases under the legacy lease accounting guidance. Examples of changes in the new guidance affecting both lessees and lessors include: (a) defining initial direct costs to only include those incremental costs that would not have been incurred if the lease had not been entered into, (b) requiring related party leases to be accounted for based on their legally enforceable terms and conditions, (c) eliminating the additional requirements that must be applied today to leases involving real estate and (d) revising the circumstances under which the transfer contract in a sale-leaseback transaction should be accounted for as the sale of an asset by the seller-lessee and the purchase of an asset by the buyer-lessor. In addition, both lessees and lessors are subject to new disclosure requirements. ASU 2016-02 is effective for public entities for interim and annual periods beginning after December 15, 2018. The Company is currently evaluating the impact of this ASU on its consolidated financial statements.

In June, 2016, the FASB issued ASU 2016-13, Financial Instruments – Credit Losses (Topic 326), which introduces new guidance for the accounting for credit losses on instruments within its scope. The new guidance introduces an approach based on expected losses to estimate credit losses on certain types of financial instruments. It also modifies the impairment model for available-for-sale (AFS) debt securities and provides for a simplified accounting model for purchased financial assets with credit deterioration since their origination. Current expected credit losses (“CECL”) model, will apply to: (1) financial assets subject to credit losses and measured at amortized cost, and (2) certain off-balance sheet credit exposures. This includes loans, held-to-maturity debt securities, loan commitments, financial guarantees, and net investments in leases, as well as reinsurance and trade receivables. Upon initial recognition of the exposure, the CECL model requires an entity to estimate the credit losses expected over the life of an exposure (or pool of exposures). The estimate of expected credit losses (ECL) should consider historical information, current information, and reasonable and supportable forecasts, including estimates of prepayments. Financial instruments with similar risk characteristics should be grouped together when estimating ECL. ASU 2016-13 is effective for public entities for interim and annual periods beginning after December 15, 2019. Early application of the guidance will be permitted for all entities for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years. The Company is currently evaluating the impact of this ASU on its consolidated financial statements.

In August, 2016, the FASB issued ASU 2016-15, Statement of Cash Flows (Topic 230): Classification of Certain Cash Receipts and Cash Payments (a consensus of the FASB Emerging Issues Task Force), which addresses eight classification issues related to the statement of cash flows:

•

Debt prepayment of debt extinguishment costs

•

Settlement of zero-coupon bonds

•

Contingent consideration payments made after a business combination

•

Proceeds from the settlement of insurance claims

•

Proceeds from the settlement of corporate-owned life insurance policies, including bank-owned life insurance policies

•

Distributions received from equity method investees

•

Beneficial interests in securitization transactions

•

Separately identifiable cash flows and application of the predominance principle

ASU 2016-15 is effective for public business entities for fiscal years beginning after December 15, 2017, and interim periods within those fiscal years. Early adoption is permitted, including adoption in an interim period. The Company is currently evaluating the impact of this ASU on its consolidated financial statements.

Page 11 of 77

Note 3 - Computation of Book Value and Tangible Book Value per Common Share

Book value per common share was calculated by dividing total shareholders’ equity less preferred stock, by the number of common shares issued and outstanding. Tangible book value per common share was calculated by dividing tangible common equity, by the number of common shares issued and outstanding. The tables below present the computation of book value and tangible book value per common share as of the dates indicated (dollars in thousands, except share and per share data):


	September 30, 2016		December 31, 2015
Total Shareholders’ Equity	$	332,930	$	306,807
Less: Preferred stock		17,021		16,995
Less: Goodwill		64,603		64,603
Less: Core deposit and leasehold right intangibles, net		6,665		7,671

Tangible common equity	$	244,641	$	217,538

Common shares issued and outstanding		17,673,438		17,175,389
Book value per common share	$	17.87	$	16.87

Tangible book value per common share	$	13.84	$	12.67

Note 4 - Computation of Earnings per Common Share

On July 1, 2016, and effective January 1, 2016, the Company early adopted ASU 2016-09 which provides improvements to the accounting for employee share-based payments. In calculating potential common shares used to determine diluted earnings per share, U.S. GAAP requires the Company to use the treasury stock method. The new standard requires that assumed proceeds under the treasury stock method be modified to exclude the amount of excess tax benefits that would have been recognized in additional paid-in capital. The early adoption had a favorable impact of $0.01 per share for both basic and diluted earnings per common share for the three months ended September 30, 2016, and a favorable impact of $0.06 and $0.05 per share for basic and diluted earnings per common share, respectively, for the nine months ended September 30, 2016. See Note 2. Recent Accounting Pronouncements for additional information.

Basic and diluted earnings per common share were determined by dividing net income available to common shareholders by the applicable basic and diluted weighted average common shares outstanding. The following table shows weighted average basic common shares outstanding, potential dilutive shares related to stock options, unvested restricted stock, and weighted average diluted shares for the periods indicated (dollars in thousands, except share and per share data):


	Three Months Ended September 30,				Nine Months Ended September 30,
	2016		2015		2016		2015
Net Income	$	6,583	$	6,263	$	20,287	$	15,729
Less: Preferred stock dividends and discount accretion		304		293		914		877

Net Income available to common shareholders	$	6,279	$	5,970	$	19,373	$	14,852

Weighted average basic common shares outstanding		17,339,491		16,541,380		17,197,117		16,477,206
Dilutive effect of potential common share issuances from stock options and restricted stock		265,896		456,684		312,458		446,296

Weighted average diluted common shares outstanding		17,605,387		16,998,064		17,509,575		16,923,502

Income per common share
Basic	$	0.36	$	0.36	$	1.13	$	0.90
Diluted	$	0.36	$	0.35	$	1.11	$	0.88
Anti-dilutive shares not included in the calculation of diluted earnings per share		—		—		1,000		43,259

Page 12 of 77

Note 5 - Investment Securities

The investment securities portfolio has been classified into two categories: available-for-sale (“AFS”) and held-to-maturity (“HTM”).

The following tables present the amortized cost, gross unrealized gains and losses, and fair values of investment securities by major category as of the dates indicated (dollars in thousands):


			Gross Unrealized
September 30, 2016	Amortized Cost		Gains		Losses		Fair Market Value
Available-for-sale:
U.S. Govt Agency and Sponsored Agency - Note Securities	$	7,003	$	1	$	—	$	7,004
U.S. Govt Agency - SBA Securities		107,759		582		367		107,974
U.S. Govt Agency - GNMA Mortgage-Backed Securities		25,123		207		116		25,214
U.S. Govt Sponsored Agency - CMO & Mortgage-Backed Securities		146,632		1,030		424		147,238
Corporate Securities		501		1		—		502
Asset Backed Securities		7,303		—		281		7,022
U.S. Treasury Notes		80,112		65		37		80,140

Total available-for-sale		374,433		1,886		1,225		375,094
Held-to-maturity:
Municipal Securities		40,073		620		2		40,691

Total held-to-maturity		40,073		620		2		40,691

Total investment securities	$	414,506	$	2,506	$	1,227	$	415,785


			Gross Unrealized
December 31, 2015	Amortized Cost		Gains		Losses		Fair Market Value
Available-for-sale:
U.S. Govt Agency and Sponsored Agency - Note Securities	$	1,014	$	—	$	—	$	1,014
U.S. Govt Agency - SBA Securities		93,674		399		583		93,490
U.S. Govt Agency - GNMA Mortgage-Backed Securities		30,916		202		418		30,700
U.S. Govt Sponsored Agency - CMO & Mortgage-Backed Securities		97,693		250		789		97,154
Corporate Securities		4,016		7		—		4,023
Municipal Securities		1,010		1		—		1,011
Asset Backed Securities		7,890		—		243		7,647
U.S. Treasury Notes		80,981		—		235		80,746

Total available-for-sale		317,194		859		2,268		315,785
Held-to-maturity:
Municipal Securities		42,036		335		32		42,339

Total held-to-maturity		42,036		335		32		42,339

Total investment securities	$	359,230	$	1,194	$	2,300	$	358,124

Page 13 of 77

The Company’s investment securities portfolio at September 30, 2016 consists of A-rated or above investment-grade securities. At September 30, 2016 and December 31, 2015, securities with a market value of $194 million and $197 million, respectively, were pledged as collateral for securities sold under agreements to repurchase, public deposits, outstanding standby letters of credit, bankruptcy deposits, and other purposes as required by various statutes and agreements. See Note 8 – Borrowings and Subordinated Debentures.

The following tables present the gross unrealized losses and fair values of AFS and HTM investment securities that were in unrealized loss positions, summarized and classified according to the duration of the loss period as of the dates indicated (dollars in thousands).


	< 12 Continuous Months				> 12 Continuous Months				Total
September 30, 2016	Fair Value		Gross Unrealized Loss		Fair Value		Gross Unrealized Loss		Fair Value		Gross Unrealized Loss
Available-for-sale investment securities:
U.S. Govt. Agency SBA Securities	$	46,340	$	184	$	19,285	$	183	$	65,625	$	367
U.S. Govt. Agency – GNMA Mortgage-Backed Securities		2,521		27		8,878		89		11,399		116
U.S. Govt. Sponsored Agency – CMO & Mortgage-Backed Securities		41,497		292		11,498		132		52,995		424
Asset Backed Securities		—		—		7,022		281		7,022		281
U.S Treasury Notes		10,098		37		—		—		10,098		37

Total available-for-sale investment securities	$	100,456	$	540	$	46,683	$	685	$	147,139	$	1,225

Held-to-maturity investment securities:
Municipal Securities	$	700	$	1	$	313	$	1	$	1,013	$	2

Total held-to-maturity investment securities	$	700	$	1	$	313	$	1	$	1,013	$	2


	< 12 Continuous Months				> 12 Continuous Months				Total
December 31, 2015	Fair Value		Gross Unrealized Loss		Fair Value		Gross Unrealized Loss		Fair Value		Gross Unrealized Loss
Available-for-sale investment securities:
U.S. Govt. Agency SBA Securities	$	53,852	$	428	$	7,935	$	154	$	61,787	$	582
U.S. Govt. Agency – GNMA Mortgage-Backed Securities		5,417		47		14,296		371		19,713		418
U.S. Govt. Sponsored Agency – CMO & Mortgage-Backed Securities		67,475		564		10,024		225		77,499		789
Asset Backed Securities		2,928		54		4,719		190		7,647		244
U.S Treasury Notes		80,745		235		—		—		80,745		235

Total available-for-sale investment securities	$	210,417	$	1,328	$	36,974	$	940	$	247,391	$	2,268

Held-to-maturity investment securities:
Municipal Securities	$	5,669	$	16	$	2,392	$	16	$	8,061	$	32

Total held-to-maturity investment securities	$	5,669	$	16	$	2,392	$	16	$	8,061	$	32

The unrealized losses in each of the above categories are associated with the general fluctuation of market interest rates and are not an indication of any deterioration in the credit quality of the security issuers. Further, the Company does not intend to sell these securities and is not more-likely-than-not to be required to sell the securities before the recovery of its amortized cost basis. Accordingly, the Company had no securities that were classified as other-than-temporarily impaired at September 30, 2016 or December 31, 2015, and did not recognize any impairment charges in the consolidated statements of income.

Page 14 of 77

The amortized cost, fair value and the weighted average yield of debt securities at September 30, 2016, are reflected in the table below (dollars in thousands). Maturity categories are determined as follows:

•

U.S. Govt. Agency, U.S. Treasury Notes and U.S. Govt. Sponsored Agency bonds and notes – maturity date

•

U.S. Govt. Sponsored Agency CMO or Mortgage-Backed Securities, U.S. Govt. Agency GNMA Mortgage-Backed Securities, Asset Backed Securities and U.S. Gov. Agency SBA Securities – estimated cash flow taking into account estimated pre-payment speeds

•

Investment grade Corporate Bonds and Municipal Securities – the earlier of the maturity date or the expected call date

Although, U.S. Government Agency and U.S. Government Sponsored Agency Mortgage-Backed and CMO securities have contractual maturities through 2048, the expected maturity will differ from the contractual maturities because borrowers or issuers may have the right to prepay such obligations without penalties.


	September 30, 2016
Maturities Schedule of Securities (Dollars in thousands)	Amortized Cost		Fair Value		Weighted Average Yield
Available-for-sale:
Due through one year	$	99,048	$	99,243		1.21	%
Due after one year through five years		170,285		170,343		1.45	%
Due after five years through ten years		79,234		79,523		1.93	%
Due after ten years		25,866		25,985		2.30	%

Total available-for-sale	$	374,433	$	375,094		1.54	%
Held-to-maturity:
Due through one year	$	2,950	$	2,956		1.49	%
Due after one year through five years		36,389		36,972		1.59	%
Due after five years through ten years		734		763		1.97	%

Total held-to-maturity	$	40,073	$	40,691		1.59	%

Total investment securities	$	414,506	$	415,785		1.55	%

The weighted average yields in the above table are based on effective rates of book balances at the end of the period.

Investment in Federal Home Loan Bank (FHLB) Common Stock

The Company’s investment in the common stock of the FHLB of San Francisco is carried at cost and was $9.2 million at September 30, 2016 and $8.0 million at December 31, 2015. The investment in FHLB stock is included in accrued interest receivable and other assets in the consolidated balance sheets and is periodically evaluated for impairment. Based on the capital adequacy of the FHLB and its overall financial condition, no impairment losses have been recorded.

See Note 8 - Borrowings and Subordinated Debentures for a detailed discussion regarding the Company’s borrowings and the related requirements to hold FHLB common stock.

Page 15 of 77

Note 6 - Loans

The following table presents the composition of the Company’s loan portfolio as of the dates indicated (dollars in thousands):


	September 30, 2016		December 31, 2015
*Commercial and Industrial Loans:*	$	499,439	$	537,368
*Loans Secured by Real Estate:*
Owner-Occupied Nonresidential Properties		430,218		407,979
Other Nonresidential Properties		610,267		533,168
Construction, Land Development and Other Land		172,441		125,832
1-4 Family Residential Properties		122,955		114,525
Multifamily Residential Properties		100,003		71,179

Total Loans Secured by Real Estate		1,435,884		1,252,683

*Other Loans:*		39,618		43,112

Total Loans	$	1,974,941	$	1,833,163

Loan balances in the table above include net deferred fees and net discounts for a total of $17 million and $22 million as of September 30, 2016 and December 31, 2015, respectively.

Small Business Administration Loans

Included in the loan portfolio is $31 million in loans that were originated under the guidelines of the Small Business Administration (“SBA”) program of which $5 million is guaranteed. The total portfolio of the SBA contractual loan balances serviced by the Company at September 30, 2016 was $109 million, of which $78 million has been sold.

At September 30, 2016, there were no loans classified as held for sale. At September 30, 2016, the balance of SBA 7a loans originated during the quarter is $425 thousand, of which $319 thousand is guaranteed by the SBA. The Company does not currently plan on selling these loans, but it may choose to do so in the future.

Page 16 of 77

Allowance for Loan Loss

The following table is a summary of the activity for the allowance for loan loss for the periods indicated (dollars in thousands):


	Three Months Ended September 30,						Nine Months Ended September 30,
	2016			2015			2016			2015
Allowance for loan loss at beginning of period	$	18,476		$	14,124		$	15,682		$	12,610
Provision for loan losses		697			705			2,382			2,831
Net (charge-offs) recoveries:
Charge-offs		(807	)		(42	)		(827	)		(933	)
Recoveries		5			178			1,134			457

Net (charge-offs) recoveries		(802	)		136			307			(476	)

Allowance for loan loss at end of period	$	18,371		$	14,965		$	18,371		$	14,965

Net (charge-offs) recoveries to average loans		(0.04	)%		0.01	%		0.02	%		(0.03	)%


	September 30, 2016			December 31, 2015
Allowance for loan loss to total loans		0.93	%		0.86	%
Allowance for loan loss to total loans accounted for at historical cost, which excludes loans and the related allowance for loans acquired through acquisition		1.20	%		1.25	%

Page 17 of 77

The following tables present, by portfolio segment, the changes in the allowance for loan loss and the recorded investment in loans as of the dates and for the periods indicated (dollars in thousands):


	Commercial and Industrial			Construction, Land Development and Other Land		Commercial and Other Real Estate			Other			Total
Three Months Ended September 30, 2016
Allowance for loan loss – Beginning balance	$	8,381		$	2,724	$	6,567		$	804		$	18,476
Provision for loan losses		(559	)		45		1,294			(83	)		697
Net (charge-offs) recoveries:
Charge-offs		(807	)		—		—			—			(807	)
Recoveries		3			—		2			—			5

Net (charge-offs) recoveries		(804	)		—		2			—			(802	)

Ending balance	$	7,018		$	2,769	$	7,863		$	721		$	18,371

Three Months Ended September 30, 2015
Allowance for loan loss – Beginning balance	$	6,244		$	1,607	$	5,799		$	474		$	14,124
Provision for loan losses		181			371		143			10			705
Net (charge-offs) recoveries:
Charge-offs		—			—		(42	)		—			(42	)
Recoveries		177			—		1			—			178

Net (charge-offs) recoveries		177			—		(41	)		—			136

Ending balance	$	6,602		$	1,978	$	5,901		$	484		$	14,965


	Commercial and Industrial			Construction, Land Development and Other Land		Commercial and Other Real Estate			Other			Total
Nine Months Ended September 30, 2016
Allowance for loan loss – Beginning balance	$	5,924		$	2,076	$	6,821		$	861		$	15,682
Provision for loan losses		791			693		1,038			(140	)		2,382
Net (charge-offs) recoveries:
Charge-offs		(827	)		—		—			—			(827	)
Recoveries		1,130			—		4			—			1,134

Net recoveries		303			—		4			—			307

Ending balance	$	7,018		$	2,769	$	7,863		$	721		$	18,371

Nine Months Ended September 30, 2015
Allowance for loan loss – Beginning balance	$	5,864		$	1,684	$	4,802		$	260		$	12,610
Provision for loan losses		1,176			294		1,137			224			2,831
Net (charge-offs) recoveries:
Charge-offs		(891	)		—		(42	)		—			(933	)
Recoveries		453			—		4			—			457

Net (charge-offs)		(438	)		—		(38	)		—			(476	)

Ending balance	$	6,602		$	1,978	$	5,901		$	484		$	14,965

Page 18 of 77

The following tables present both the allowance for loan loss and the associated loan balance classified by loan portfolio segment and by credit evaluation methodology (dollars in thousands):


	Commercial and Industrial		Construction, Land Development and Other Land		Commercial and Other Real Estate		Other		Total
September 30, 2016
Allowance for loan loss:
Individually evaluated for impairment	$	—	$	—	$	—	$	—	$	—
Collectively evaluated for impairment		7,018		2,769		7,863		721		18,371
Purchased credit impaired (loans acquired with deteriorated credit quality)		—		—		—		—		—

Total Allowance for Loan Loss	$	7,018	$	2,769	$	7,863	$	721	$	18,371

Loans receivable:
Individually evaluated for impairment	$	456	$	—	$	252	$	—	$	708
Collectively evaluated for impairment		498,669		172,441		1,261,789		39,618		1,972,517
Purchased credit impaired (loans acquired with deteriorated credit quality)		314		—		1,402		—		1,716

Total Loans Receivable	$	499,439	$	172,441	$	1,263,443	$	39,618	$	1,974,941


	Commercial and Industrial		Construction, Land Development and Other Land		Commercial and Other Real Estate		Other		Total
December 31, 2015
Allowance for loan loss:
Individually evaluated for impairment	$	—	$	—	$	—	$	—	$	—
Collectively evaluated for impairment		5,924		2,076		6,821		861		15,682
Purchased credit impaired (loans acquired with deteriorated credit quality)		—		—		—		—		—

Total Allowance for Loan Loss	$	5,924	$	2,076	$	6,821	$	861	$	15,682

Loans receivable:
Individually evaluated for impairment	$	558	$	—	$	649	$	—	$	1,207
Collectively evaluated for impairment		536,333		125,832		1,124,667		43,112		1,829,944
Purchased credit impaired (loans acquired with deteriorated credit quality)		477		—		1,535		—		2,012

Total Loans Receivable	$	537,368	$	125,832	$	1,126,851	$	43,112	$	1,833,163

Page 19 of 77

Credit Quality of Loans

The Company utilizes an internal loan classification system as a means of reporting problem and potential problem loans. Under the Company’s loan risk rating system, loans are classified as “Pass,” with problem and potential problem loans as “Special Mention,” “Substandard,” “Doubtful” and “Loss”. Individual loan risk ratings are updated continuously or at any time the situation warrants. In addition, management regularly reviews problem loans to determine whether any loan requires a classification change, in accordance with the Company’s policy and applicable regulations. The grading analysis estimates the capability of the borrower to repay the contractual obligations of the loan agreements as scheduled or at all. The internal loan classification risk grading system is based on experiences with similarly graded loans.

The Company’s internally assigned grades are as follows:

•

Pass – loans which are protected by the current net worth and paying capacity of the obligor or by the value of the underlying collateral. There are several different levels of Pass rated credits, including “Watch” which is considered a transitory grade for pass rated loans that require greater monitoring. Loans not meeting the criteria of special mention, substandard, doubtful or loss that have been analyzed individually as part of the above described process are considered to be pass-rated loans.

•

Special Mention – loans where a potential weakness or risk exists, which could cause a more serious problem if not corrected. Special Mention loans do not currently expose the Company to sufficient risk to warrant classification as a Substandard, Doubtful or Loss classification, but possess weaknesses that deserve management’s close attention.

•

Substandard – loans that have a well-defined weakness based on objective evidence and can be characterized by the distinct possibility that the Company will sustain some loss if the deficiencies are not corrected.

•

Doubtful – loans classified as doubtful have all the weaknesses inherent in those classified as substandard with the added characteristic that the weaknesses present make collection or liquidation in full, on the basis of currently existing facts, conditions and values, highly questionable and improbable.

•

Loss – loans classified as a loss are considered uncollectible, or of such value that continuance as an asset is not warranted.

The following tables present the risk category of loans by class of loans based on the most recent internal loan classification as of the dates indicated (dollars in thousands):


	Commercial and Industrial		Construction, Land Development and Other Land		Commercial and Other Real Estate		Other		Total
September 30, 2016
Pass	$	445,172	$	172,441	$	1,234,950	$	36,701	$	1,889,264
Special Mention		18,939		—		4,747		—		23,686
Substandard		35,328		—		23,746		2,917		61,991
Doubtful		—		—		—		—		—

Total	$	499,439	$	172,441	$	1,263,443	$	39,618	$	1,974,941

December 31, 2015
Pass	$	503,006	$	125,832	$	1,101,548	$	40,132	$	1,770,518
Special Mention		16,041		—		6,494		43		22,578
Substandard		18,321		—		18,809		2,937		40,067
Doubtful		—		—		—		—		—

Total	$	537,368	$	125,832	$	1,126,851	$	43,112	$	1,833,163

Page 20 of 77

Aging Analysis of Past Due and Non-Accrual Loans

The following tables present an aging analysis of the recorded investment of past due loans and non-accrual loans as of the dates indicated (dollars in thousands):


	31-60 Days Past Due		61-90 Days Past Due		Greater than 90 Days Past Due and Accruing		Total Past Due and Accruing		Total Non Accrual		Current		Total Loans
September 30, 2016
Commercial and Industrial	$	—	$	—	$	—	$	—	$	769	$	498,670	$	499,439
Construction, Land Development and Other Land		—		—		—		—		—		172,441		172,441
Commercial and Other Real Estate		—		—		—		—		454		1,262,989		1,263,443
Other		—		—		—		—		—		39,618		39,618

Total	$	—	$	—	$	—	$	—	$	1,223	$	1,973,718	$	1,974,941


	31-60 Days Past Due		61-90 Days Past Due		Greater than 90 Days Past Due and Accruing		Total Past Due and Accruing		Total Non Accrual		Current		Total Loans
December 31, 2015
Commercial and Industrial	$	—	$	—	$	—	$	—	$	1,032	$	536,336	$	537,368
Construction, Land Development and Other Land		—		—		—		—		—		125,832		125,832
Commercial and Other Real Estate		—		—		—		—		1,019		1,125,832		1,126,851
Other		—		—		—		—		—		43,112		43,112

Total	$	—	$	—	$	—	$	—	$	2,051	$	1,831,112	$	1,833,163

Page 21 of 77

Impaired Loans

A loan is identified as impaired when it is probable that interest and principal will not be collected according to the contractual terms of the original loan agreement. Generally, these loans are rated substandard or worse. Most impaired loans are classified as nonaccrual. However, there are some loans that are designated impaired due to doubt regarding collectability according to contractual terms, but are both fully secured by collateral and are current in their interest and principal payments. These impaired loans that are not classified as nonaccrual continue to pay as agreed. Impaired loans are measured for allowance requirements based on the present value of expected future cash flows discounted at the loan’s effective interest rate or, as a practical expedient, at the loan’s observable market price or the fair value of the collateral if the loan is collateral dependent. The amount of an impairment allowance, if any and any subsequent changes are charged against the allowance for loan loss. In certain cases, portions of impaired loans are charged-off to the fair value of the loan instead of establishing a valuation allowance and are included, when applicable, in the table below as impaired loans “with no specific allowance recorded.” The valuation allowance disclosed below is included in the allowance for loan loss reported in the consolidated balance sheets as of September 30, 2016 and December 31, 2015.

The following tables present, by loan portfolio segment, the recorded investment and unpaid principal balances for impaired loans with the associated allowance amount, if applicable, for the dates and periods indicated (dollars in thousands). This table excludes purchased credit impaired loans (loans acquired in acquisitions with deteriorated credit quality) of $1.7 million and $2.0 million at September 30, 2016 and December 31, 2015, respectively.


	September 30, 2016						December 31, 2015
	Recorded Investment		Unpaid Principal Balance		Related Allowance		Recorded Investment		Unpaid Principal Balance		Related Allowance
With no specific allowance recorded:
Commercial and Industrial	$	456	$	1,402	$	—	$	558	$	1,027	$	—
Commercial and Other Real Estate		252		286		—		649		692		—
With an allowance recorded:
Commercial and Industrial		—		—		—		—		—		—
Total
Commercial and Industrial		456		1,402		—		558		1,027		—
Commercial and Other Real Estate		252		286		—		649		692		—

Total	$	708	$	1,688	$	—	$	1,207	$	1,719	$	—


	Three Months Ended September 30,								Nine Months Ended September 30,
	2016				2015				2016				2015
	Average Recorded Investment		Interest Income Recognized		Average Recorded Investment		Interest Income Recognized		Average Recorded Investment		Interest Income Recognized		Average Recorded Investment		Interest Income Recognized
With no specific allowance recorded:
Commercial and Industrial	$	418	$	—	$	2,118	$	—	$	396	$	—	$	1,757	$	—
Commercial and Other Real Estate		252		—		99		—		254		—		104		—
With a specific allowance recorded:
Commercial and Industrial		—		—		1,328		—		—		—		1,328		—
Commercial and Other Real Estate		—		—		413		—		—		—		550		—
Total:
Commercial and Industrial		418		—		3,446		—		396		—		3,085		—
Commercial and Other Real Estate		252		—		512		—		254		—		654		—

Total	$	670	$	—	$	3,958	$	—	$	650	$	—	$	3,739	$	—

Page 22 of 77

The following is a summary of additional information pertaining to impaired loans for the periods indicated (dollars in thousands):


	Three Months Ended September 30,				Nine Months Ended September 30,
	2016		2015		2016		2015
Interest foregone on impaired loans	$	22	$	81	$	68	$	238
Cash collections applied to reduce principal balance	$	230	$	23	$	282	$	186
Interest income recognized on cash collections	$	—	$	—	$	—	$	—

Troubled Debt Restructuring

The Company’s loan portfolio contains certain loans that have been modified in a Troubled Debt Restructuring (“TDR”), where economic concessions have been granted to borrowers experiencing financial difficulties. Loans are restructured in an effort to maximize collections. Economic concessions can include: reductions to the stated interest rate, payment extensions, principal forgiveness or other actions.

The modification process includes evaluation of impairment based on the present value of expected future cash flows, discounted at the effective interest rate of the original loan agreement, except when the sole (remaining) source of repayment for the loan is the operation or liquidation of the loan collateral. In these cases, management uses the current fair value of the collateral, less selling costs, to evaluate the loan for impairment. If management determines that the value of the modified loan is less than the recorded investment in the loan (net of previous charge-offs and unamortized premium or discount) impairment is recognized through a specific allowance or a charge-off.

The following tables include the recorded investment and unpaid principal balances for troubled debt restructured loans at September 30, 2016 and December 31, 2015 (dollars in thousands). These tables include TDR loans that were purchased credit impaired (“PCI”). TDR loans that are non-PCI loans are included in the Impaired Loans tables above. As of September 30, 2016, there were two PCI loans that are considered to be TDR loans with a recorded investment of $115 thousand and unpaid principal balances of $287 thousand.


	As of and for the Three Months Ended September 30, 2016						As of and for the Nine Months Ended September 30, 2016
	Recorded Investment		Unpaid Principal Balance		Interest Income Recognized		Recorded Investment		Unpaid Principal Balance		Interest Income Recognized
Commercial and Industrial	$	533	$	1,230	$	—	$	533	$	1,230	$	—

Total	$	533	$	1,230	$	—	$	533	$	1,230	$	—


	As of and for the Three Months Ended September 30, 2015						As of and for the Nine Months Ended September 30, 2015
	Recorded Investment		Unpaid Principal Balance		Interest Income Recognized		Recorded Investment		Unpaid Principal Balance		Interest Income Recognized
Commercial and Industrial	$	1,780	$	2,385	$	—	$	1,780	$	2,385	$	—
Commercial and Other Real Estate		99		105		—		99		105		—

Total	$	1,879	$	2,490	$	—	$	1,879	$	2,490	$	—

Page 23 of 77


	As of and for the Twelve Months Ended December 31, 2015
	Recorded Investment		Unpaid Principal Balance		Interest Income Recognized
Commercial and Industrial	$	627	$	1,363	$	—

Total	$	627	$	1,363	$	—

The following table shows the pre- and post-modification recorded investment in TDR loans by loan segment that have occurred during the periods indicated (dollars in thousands):


	Three Months Ended September 30,
	2016						2015
	Number of Loans		Pre- Modification Recorded Investment		Post- Modification Recorded Investment		Number of Loans		Pre- Modification Recorded Investment		Post- Modification Recorded Investment
Troubled Debt Restructured Loans:
Commercial and Industrial		1	$	650	$	184		3	$	1,335	$	1,335

Total		1	$	650	$	184		3	$	1,335	$	1,335


	Nine Months Ended September 30,
	2016						2015
	Number of Loans		Pre- Modification Recorded Investment		Post- Modification Recorded Investment		Number of Loans		Pre- Modification Recorded Investment		Post- Modification Recorded Investment
Troubled Debt Restructured Loans:
Commercial and Industrial		1	$	650	$	184		3	$	1,335	$	1,335

Total		1	$	650	$	184		3	$	1,335	$	1,335

There have been no payment defaults in the three or nine months ended September 30, 2016 or September 30, 2015 subsequent to modification on troubled debt restructured loans that have been modified within the last twelve months.

Loans are restructured in an effort to maximize collections. Impairment analyses are performed on the Company’s troubled debt restructured loans in conjunction with the normal allowance for loan loss process. The Company’s troubled debt restructured loans are analyzed to ensure adequate cash flow or collateral supports the outstanding loan balance.

There were no commitments to lend additional funds to borrowers whose terms have been modified in troubled debt restructurings at September 30, 2016 or December 31, 2015.

Loans Acquired Through Acquisition

The following table reflects the accretable net discount for acquired loans for the periods indicated (dollars in thousands):


	Three Months Ended September 30,						Nine Months Ended September 30,
	2016			2015			2016			2015
Balance, beginning of period	$	11,928		$	18,255		$	14,610		$	21,402
Accretion, included in interest income		(1,229	)		(1,463	)		(3,879	)		(4,140	)
Reclassifications to non-accretable yield		—			(5	)		(32	)		(475	)

Balance, end of period	$	10,699		$	16,787		$	10,699		$	16,787

Page 24 of 77

The above table reflects the fair value adjustment on the loans acquired from mergers that will be amortized to loan interest income based on the effective yield method over the remaining life of the loans. These amounts do not include the fair value adjustments on the purchased credit impaired loans acquired from mergers.

Purchased Credit Impaired Loans

PCI loans are acquired loans with evidence of deterioration of credit quality since origination and it is probable at the acquisition date, that the Company will not be able to collect all contractually required amounts.

When the timing and/or amounts of expected cash flows on such loans are not reasonably estimable, no interest is accreted and the loan is reported as a non-accrual loan; otherwise, if the timing and amounts of expected cash flows for PCI loans are reasonably estimable, then interest is accreted and the loans are reported as accruing loans.

The non-accretable difference represents the difference between the undiscounted contractual cash flows and the undiscounted expected cash flows, and also reflects the estimated credit losses in the acquired loan portfolio at the acquisition date and can fluctuate due to changes in expected cash flows during the life of the PCI loans.

The following table reflects the outstanding balance and related carrying value of PCI loans as of the dates indicated (dollars in thousands):


	September 30, 2016				December 31, 2015
	Unpaid Principal Balance		Carrying Value		Unpaid Principal Balance		Carrying Value
Commercial and Industrial	$	639	$	314	$	2,331	$	477
Commercial and Other Real Estate		2,007		1,402		2,250		1,535
Other		—		—		61		—

Total	$	2,646	$	1,716	$	4,642	$	2,012

The following table reflects the activities in the accretable net discount for PCI loans for the period indicated (dollars in thousands):


	Three Months Ended September 30,						Nine Months Ended September 30,
	2016			2015			2016			2015
Balance, beginning of period	$	205		$	286		$	246		$	324
Accretion, included in interest income		(22	)		(20	)		(63	)		(58	)
Reclassifications from non-accretable yield		—			—			—			—

Balance, end of period	$	183		$	266		$	183		$	266

Note 7 – Qualified Affordable Housing Project Investments

The Company’s investment in Qualified Affordable Housing Projects that generate Low Income Housing Tax Credits (“LIHTC”) was $3.4 million at September 30, 2016 and $3.7 million at December 31, 2015. The funding liability for the LIHTC at September 30, 2016 was $647 thousand compared to $1.1 million at December 31, 2015. The amount of tax credits and other tax benefits recognized was $143 thousand and $436 thousand for the three and nine months ended September 30, 2016 and $146 thousand and $436 thousand for the three and nine months ended September 30, 2015, respectively. Further, the amount of amortization expense included in the provision for income taxes was $112 thousand and $336 thousand for the three and nine months ended September 30, 2016 and $114 thousand and $343 thousand for the three and nine months ended September 30, 2015, respectively. These investments and related tax credits are described more fully in Note 11 – Qualified Affordable Housing Project Investments in the Company’s Form 10-K for the year ended December 31, 2015.

Page 25 of 77

Note 8 - Borrowings and Subordinated Debentures

Securities Sold Under Agreements to Repurchase

The Company enters into certain transactions, the legal form of which are sales of securities under agreements to repurchase (“Repos”) at a later date at a set price. Securities sold under agreements to repurchase generally mature within 1 day to 180 days from the issue date and are routinely renewed.

As discussed in Note 5 – Investment Securities, the Company has pledged certain investments as collateral for these agreements. Securities with a fair value of $55 million and $47 million were pledged to secure the Repos at September 30, 2016 and December 31, 2015, respectively.

The tables below describe the terms and maturity of the Company’s securities sold under agreements to repurchase as of the dates indicated (dollars in thousands):

September 30, 2016

Date Issued

Amount

Interest Rate

Original
Term

Maturity Date

September 30, 2016

24,251

0.10% – 0.25%

3 days

October 3, 2016

Total

24,251

0.24%

December 31, 2015

Date Issued

Amount

Interest Rate

Original
Term

Maturity Date

December 31, 2015

14,360

0.08% – 0.25%

4 days

January 4, 2016

Total

14,360

0.19%

FHLB Borrowings

The Company maintains a secured credit facility with the FHLB, allowing the Company to borrow on an overnight and term basis. The Company’s credit facility with the FHLB is $694 million, which represents approximately 25% of the Bank’s total assets, as reported by the Bank in its June 30, 2016 Federal Financial Institution Examination Council (FFIEC) Call Report.

As of September 30, 2016, the Company had $953 million of loan collateral pledged with the FHLB which provides $633 million in borrowing capacity. The Company has $17 million in investment securities pledged with the FHLB to support this credit facility. In addition, the Company must maintain an investment in the capital stock of the FHLB. Under the FHLB Act, the FHLB has a statutory lien on the FHLB capital stock that the Company owns and the FHLB capital stock serves as further collateral under the borrowing line.

The Company had no outstanding advances (borrowings) with the FHLB as of September 30, 2016 or December 31, 2015.

Subordinated Debentures

The following table summarizes the terms of each issuance of subordinated debentures outstanding as of the dates indicated (dollars in thousands):


September 30, 2016
Series	Amount (in thousands)			Issuance Date		Maturity Date		Rate Index			Current Rate			Next Reset Date
Trust I	$	6,186			12/10/04		03/15/35		3 month LIBOR + 2.05	%		2.90	%		12/15/16
Trust II		3,093			12/23/05		03/15/36		3 month LIBOR + 1.75	%		2.60	%		12/15/16
Trust III		3,093			06/30/06		09/18/36		3 month LIBOR + 1.85	%		2.70	%		12/15/16

Subtotal		12,372
Unamortized fair value adjustment		(2,555	)

Net	$	9,817

Page 26 of 77



December 31, 2015
Series	Amount (in thousands)			Issuance Date		Maturity Date		Rate Index			Current Rate			Next Reset Date
Trust I	$	6,186			12/10/04		03/15/35		3 month LIBOR + 2.05	%		2.56	%		03/15/16
Trust II		3,093			12/23/05		03/15/36		3 month LIBOR + 1.75	%		2.26	%		03/15/16
Trust III		3,093			06/30/06		09/18/36		3 month LIBOR + 1.85	%		2.36	%		03/15/16

Subtotal		12,372
Unamortized fair value adjustment		(2,675	)

Net	$	9,697

The Company had an aggregate outstanding contractual balance of $12.4 million in subordinated debentures at September 30, 2016. These subordinated debentures were acquired as part of the PC Bancorp merger and were issued to trusts originally established by PC Bancorp, which in turn issued trust preferred securities. These subordinated debentures were issued in three separate series. Each issuance had a maturity of 30 years from their approximate date of issue. All three subordinated debentures are variable rate instruments that reprice quarterly based on the three month London Interbank Offered Rate (“LIBOR”) plus a margin (see tables above). All three subordinated debentures had their interest rates reset in September 2016 at the current three month LIBOR plus their index, and will continue to reprice quarterly through their maturity date. All three subordinated debentures are currently callable at par with no prepayment penalties.

Under Dodd Frank, trust preferred securities are excluded from Tier 1 capital, unless such securities were issued prior to May 19, 2010 by a bank holding company with less than $15 billion in assets. CU Bancorp assumed approximately $12.4 million of junior subordinated debt securities issued to various business trust subsidiaries of PC Bancorp and funded through the issuance of approximately $12.0 million of floating rate capital trust preferred securities. These junior subordinated debt securities were issued prior to May 19, 2010. Because CU Bancorp has less than $15 billion in assets, the trust preferred securities that CU Bancorp assumed from PC Bancorp continue to be included in Tier 1 capital, subject to a limit of 25% of Tier 1 capital elements.

Interest payments made by the Company on subordinated debentures are considered dividend payments under FRB regulations. Notification to the FRB is required prior to the Company declaring and paying a dividend during any period in which the Company’s quarterly net earnings are insufficient to fund the dividend amount. This notification requirement is included in regulatory guidance regarding safety and soundness surrounding capital and includes other non-financial measures such as asset quality, financial condition, capital adequacy, liquidity, future earnings projections, capital planning and credit concentrations. Should the FRB object to the dividend payments, the Company would be precluded from paying interest on the subordinated debentures after giving notice within 15 days before the payment date. Payments would not commence until approval is received or the Company no longer needs to provide notice under applicable guidance. The Company has the right, assuming no default has occurred, to defer payments of interest on the subordinated debentures at any time for a period not to exceed 20 consecutive quarters. The Company has not deferred any interest payments.

Note 9 - Derivative Financial Instruments

The Company is exposed to certain risks relating to its ongoing business operations and utilizes interest rate swap agreements (“swaps”) as part of its asset/liability management strategy to help manage its interest rate risk position. The Company has two counterparty banks.

Derivative Financial Instruments Acquired from 1^st Enterprise Bank

At September 30, 2016, the Company has twelve interest rate swap agreements with customers and twelve offsetting interest-rate swaps with a counterparty bank. The swap agreements are not designated as hedging instruments. The purpose of entering into offsetting derivatives not designated as a hedging instrument is to provide the Company a variable-rate loan receivable and provide the customer the financial effects of a fixed-rate loan without creating significant interest rate risk in the Company’s earnings.

The structure of the swaps is as follows: The Company enters into a swap with its customers to allow them to convert variable rate loans to fixed rate loans, and at the same time, the Company enters into a swap with the counterparty bank to allow the Company to pass on the interest-rate risk associated with fixed rate loans. The net effect of the transaction allows the Company to receive interest on the loan from the customer at a variable rate based on LIBOR plus a spread. The

Page 27 of 77

changes in the fair value of the swaps primarily offset each other and therefore should not have a significant impact on the Company’s results of operations. The interest rate swap derivatives acquired from 1^st Enterprise Bank are subject to a master netting arrangement with one counterparty bank. None of the derivative assets and liabilities are offset in the balance sheet.

The Company believes the risk of loss associated with counterparty borrowers relating to interest rate swaps is mitigated as the loans with swaps are underwritten to take into account potential additional exposure, although there can be no assurances in this regard since the performance of the swaps is subject to market and counterparty risk. At September 30, 2016 and December 31, 2015, the total notional amount of the Company’s swaps with the counterparty bank was $27 million and $28 million, respectively.

The following tables present the fair values of the asset and liability of the Company’s derivative instruments acquired from 1^st Enterprise Bank as of the dates and periods indicated (dollars in thousands):


	September 30, 2016		December 31, 2015
Interest rate swap contracts fair value	$	1,484	$	881

Balance sheet location		Accrued Interest Receivable and Other Assets		Accrued Interest Receivable and Other Assets

	September 30, 2016		December 31, 2015
Interest rate swap contracts fair value	$	1,484	$	881

Balance sheet location		Accrued Interest Payable and Other Liabilities		Accrued Interest Payable and Other Liabilities

Derivative Financial Instruments Acquired from PC Bancorp

At September 30, 2016, the Company also has sixteen pay-fixed, receive-variable, interest rate swaps with one counterparty bank that are designed to convert fixed rate loans into variable rate loans.

The following table presents the notional amount and the fair values of the asset and liability of the Company’s derivative instruments acquired from PC Bancorp as of the dates indicated (dollars in thousands):


	Fair Value Hedges
	September 30, 2016		December 31, 2015
Total interest rate contracts notional amount	$	22,001	$	25,938

Derivatives not designated as hedging instruments:
Interest rate swap contracts fair value	$	156	$	313
Derivatives designated as hedging instruments:
Interest rate swap contracts fair value		940		1,351

Total interest rate contracts fair value	$	1,096	$	1,664

Balance sheet location		Accrued Interest Payable and Other Liabilities		Accrued Interest Payable and Other Liabilities

Page 28 of 77

The Effect of Derivative Instruments on the Consolidated Statements of Income

The following table summarizes the effect of derivative financial instruments on the consolidated statements of income for the periods indicated (dollars in thousands):


	Three Months Ended September 30,						Nine Months Ended September 30,
	2016			2015			2016			2015
Derivatives not designated as hedging instruments:
Interest rate swap contracts – loans
Increase in fair value of interest rate swap contracts	$	66		$	41		$	156		$	124
Payments on interest rate swap contracts on loans		(60	)		(66	)		(181	)		(198	)

Net decrease in other non-interest income		6			(25	)		(25	)		(74	)

Derivatives designated as hedging instruments:
Interest rate swap contracts – loans
Increase in fair value of interest rate swap contracts	$	249		$	142		$	412		$	583
Increase (decrease) in fair value of hedged loans		(68	)		191			215			279
Payment on interest rate swap contracts on loans		(202	)		(275	)		(657	)		(846	)

Net decrease in interest income on loans	$	(21	)	$	58		$	(30	)	$	16

Under all of the Company’s interest rate swap contracts, the Company is required to pledge and maintain collateral for the credit support under these agreements. At September 30, 2016, the Company has pledged $2.3 million in investment securities, $2.7 million in certificates of deposit, for a total of $5.0 million, as collateral under the swap agreements.

Page 29 of 77

Note 10 – Balance Sheet Offsetting

Assets and liabilities relating to certain financial instruments, including derivatives, and securities sold under repurchase agreements (“Repos”), may be eligible for offset in the consolidated balance sheets as permitted under accounting guidance. The Company’s interest rate swap derivatives are subject to a master bilateral netting and offsetting arrangement under specific conditions as defined within a master agreement governing all interest rate swap contracts that the Company and the counterparty banks have entered into. In addition, the master agreement under which the interest rate contracts have been written require the pledging of assets by the Company based on certain risk thresholds. The Company has pledged a certificate of deposit and investment securities as collateral under the swap agreements. The pledged collateral under the swap agreements are reported in the Company’s consolidated balance sheets, unless the Company defaults under the master agreement. The Company currently does not net or offset the interest rate swap contracts in its consolidated balance sheets, as reflected within the table below.

The Company’s securities sold under repurchase agreements represent transactions the Company has entered into with several deposit customers. These transactions represent the sale of securities on an overnight or on a term basis to our deposit customers under an agreement to repurchase the securities from the customers the next business day or at maturity. There is an individual contract for each customer with only one transaction per customer. There is no master agreement that provides for the netting arrangement or the offsetting of these individual transactions or for the netting of collateral positions. The Company does not net or offset the Repos in its consolidated balance sheets as reflected within the table below.

The table below presents the Company’s financial instruments that may be eligible for offsetting which include securities sold under agreements to repurchase that have no enforceable master netting arrangement and derivative securities that could be offset in the consolidated financial statements due to an enforceable master netting arrangement (dollars in thousands):


	Gross Amounts Recognized in the Consolidated Balance Sheets		Gross Amounts Offset in the Consolidated Balance Sheets		Net Amounts of Assets / Liabilities Presented in the Consolidated Balance Sheets		Gross Amounts Not Offset in the Consolidated Balance Sheets				Net Amount (Collateral over liability balance required to be pledged)
	Gross Amounts Recognized in the Consolidated Balance Sheets		Gross Amounts Offset in the Consolidated Balance Sheets				Financial Instruments		Collateral Pledged
September 30, 2016
Financial Assets:
Interest rate swap contracts fair value (See Note 9 – Derivative Financial Instruments)	$	1,484	$	—	$	1,484	$	1,484	$	—	$	—

Total	$	1,484	$	—	$	1,484	$	1,484	$	—	$	—

Financial Liabilities:
Interest rate swap contracts fair value (See Note 9 – Derivative Financial Instruments)	$	2,580	$	—	$	2,580	$	2,580	$	5,041	$	2,461
Securities sold under agreements to repurchase (See Note 8 – Borrowings and Subordinated Debentures)		24,251		—		24,251		24,251		55,250		30,999

Total	$	26,831	$	—	$	26,831	$	26,831	$	60,291	$	33,460

Page 30 of 77


	Gross Amounts Recognized in the Consolidated Balance Sheets		Gross Amounts Offset in the Consolidated Balance Sheets		Net Amounts of Assets / Liabilities Presented in the Consolidated Balance Sheets		Gross Amounts Not Offset in the Consolidated Balance Sheets				Net Amount (Collateral over liability balance required to be pledged)
	Gross Amounts Recognized in the Consolidated Balance Sheets		Gross Amounts Offset in the Consolidated Balance Sheets				Financial Instruments		Collateral Pledged
December 31, 2015
Financial Assets:
Interest rate swap contracts fair value (See Note 9 – Derivative Financial Instruments)	$	881	$	—	$	881	$	881	$	—	$	—

Total	$	881	$	—	$	881	$	881	$	—	$	—

Financial Liabilities:
Interest rate swap contracts fair value (See Note 9 – Derivative Financial Instruments)	$	2,545	$	—	$	2,545	$	2,545	$	4,759	$	2,214
Securities sold under agreements to repurchase (See Note 8 – Borrowings and Subordinated Debentures)		14,360		—		14,360		14,360		46,596		32,236

Total	$	16,905	$	—	$	16,905	$	16,905	$	51,355	$	34,450

Note 11 - Stock Options and Restricted Stock

Equity Compensation Plans

The Company’s 2007 Equity and Incentive Plan (“Equity Plan”) was adopted by the Company in 2007 and replaced two prior equity compensation plans. The Equity Plan provides for significant flexibility in determining the types and terms of awards that may be made to participants. The Equity Plan was revised and approved by the Company’s shareholders in 2011 and adopted by the Company as part of the Bank holding company reorganization. This plan is designed to promote the interest of the Company in aiding the Company to attract and retain employees, officers and non-employee directors who are expected to contribute to the future success of the organization. The Equity Plan is intended to provide participants with incentives to maximize their efforts on behalf of the Company through stock-based awards that provide an opportunity for stock ownership. This plan provides the Company with a flexible equity incentive compensation program, which allows the Company to grant stock options, restricted stock, restricted stock award units and performance units. Certain options and share awards provide for accelerated vesting, if there is a change in control, as defined in the Equity Plan. These plans are described more fully in Note 16 - Stock Options and Restricted Stock in the Company’s Form 10-K for the year ended December 31, 2015.

On July 1, 2016, and effective January 1, 2016, the Company early adopted ASU 2016-09 which provides improvements to the accounting for employee share-based payments. See Note 2. Recent Accounting Pronouncements for additional information.

At September 30, 2016, future compensation expense related to unvested restricted stock grants are reflected in the table below (dollars in thousands):


Future Restricted Stock Expense
Remainder of 2016	$	842
2017		1,910
2018		667
2019		185
Thereafter		36

Total	$	3,640

Page 31 of 77

At September 30, 2016, the weighted-average period over which the total compensation cost related to unvested restricted stock grants not yet recognized is 2.5 years. There was no future compensation expense related to unvested stock options as of September 30, 2016. All stock options outstanding at September 30, 2016 are vested.

Stock Options

The following table summarizes the share option activity under the plans as of the date and for the period indicated:


	Shares			Weighted Average Exercise Price		Weighted Average Remaining Contractual Term (in years)		Aggregate Intrinsic Value (in thousands)
Outstanding stock options at December 31, 2015		557,471		$	10.57		0.8	$	8,248
Granted		—
Exercised		(411,964	)
Forfeited		—
Expired		(4,500	)

Outstanding stock options at September 30, 2016		141,007		$	14.87		0.8	$	1,121

Exercisable options at September 30, 2016		141,007		$	14.87		0.8	$	1,121
Unvested options at September 30, 2016		—		$	—		—	$	—

The total intrinsic value of options exercised during the three months ended September 30, 2016 and 2015 was $127 thousand and $606 thousand, respectively, and during the nine months ended September 30, 2016 and 2015, was $5.7 million and $1.9 million, respectively.

Restricted Stock

The weighted-average grant-date fair value per share in the table below is calculated by taking the total aggregate cost of the restricted shares issued divided by the number of shares of restricted stock issued. The aggregate cost of the restricted stock was calculated by multiplying the number of shares granted at each of the grant dates by the closing stock price of the Company’s common stock on the date of the grant. The following table summarizes the restricted stock activity under the Equity Plan for the period indicated:


	Number of Shares			Weighted-Average Grant-Date Fair Value per Share
Restricted Stock:
Unvested at December 31, 2015		311,458		$	19.29
Granted		132,809			23.12
Vested		(87,031	)		17.53
Cancelled and forfeited		(11,375	)		20.88

Unvested at September 30, 2016		345,861		$	21.37

Restricted stock compensation expense was $939 thousand and $745 thousand for the three month period ended September 30, 2016 and 2015, respectively, and $2.7 million and $2.0 million for the nine month period ended September 30, 2016 and 2015, respectively. Restricted stock awards reflected in the table above are valued at the closing stock price on the date of grant and are expensed to stock based compensation expense over the period for which the related service is performed. In 2015, the Company granted 40 thousand shares of Restricted Stock Unit (“RSU”) under the Equity Plan to one of its executive officers. Such grant is reflected in the table above. The shares of common stock underlying the 40 thousand shares of RSU will not be issued until the RSUs vest and are not included in the Company’s shares issued and outstanding as of September 30, 2016. The RSUs are valued at the closing stock price on the date of grant and are expensed to stock based compensation expense over the period for which the related service is performed.

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Note 12 - Shareholders’ Equity

Common Stock

Holders of shares of the Company’s common stock are entitled to one vote for each share held of record on all matters voted upon by shareholders. Furthermore, the holders of the Company’s common stock have no preemptive rights to subscribe for new issue securities, and shares of the Company’s common stock are not subject to redemption, conversion, or sinking fund provisions.

With respect to the payment of dividends, after the preferential dividends upon all other classes and series of stock entitled thereto have been paid or declared and set apart for payment, then the holders of the Company’s common stock are entitled to such dividends as may be declared by the Company’s board of directors out of funds legally available under the laws of the State of California.

Upon the Company’s liquidation or dissolution, the assets legally available for distribution to holders of the Company’s shares of common stock, after payment of all the Company’s obligations and payment of any liquidation preference of all other classes and series of stock entitled thereto, including the Company’s preferred stock, are distributable ratably among the holders of the Company’s common stock.

During 2016, the Company issued 411,964 shares of stock from the exercise of stock options for a total value of $3.7 million. The Company also issued 132,809 shares of restricted stock to the Company’s directors and employees, cancelled 11,375 shares of unvested restricted stock related to employee turnover and cancelled 35,349 shares that had a value of $834 thousand when employees elected to pay their tax obligation via the repurchase of the stock by the Company. The Equity Plan, as amended, allows employees to make an election to have a portion of their restricted stock that became vested during the year repurchased by the Company to provide funds to pay the employee’s tax obligation related to the vesting of the stock.

Preferred Stock

The Company completed the merger with 1^st Enterprise on November 30, 2014. As part of the Merger Agreement, 16,400 shares of preferred stock issued by 1^st Enterprise as part of the Small Business Lending Fund (SBLF) program of the United States Department of the Treasury was converted into 16,400 CU Bancorp preferred shares with substantially identical terms. CU Bancorp Preferred Stock has a liquidation preference amount of $1 thousand per share, designated as the Company’s Non-Cumulative Perpetual Preferred Stock, Series A. The U.S. Department of the Treasury is the sole holder of all outstanding shares of CU Bancorp Preferred Stock. The CU Bancorp Preferred Stock had an estimated life of four years and the fair value was $16 million at the merger date, resulting in a net discount of $479 thousand. The life-to-date and the year-to-date accretion on the net discount as of September 30, 2016 are $1.1 million and $26 thousand, respectively. The net carrying value of the CU Bancorp Preferred Stock is $17 million ($16 million plus of $0.6 million net premium) as of September 30, 2016.

Dividends on the Company’s Series A Preferred Stock are payable quarterly in arrears if authorized and declared by the Company’s board of directors out of legally available funds, on a non-cumulative basis, on the $1 thousand per share liquidation preference amount. Dividends are payable on January 1, April 1, July 1 and October 1 of each year. The current coupon dividend rate was adjusted to 9% on March 1, 2016 through perpetuity. However, the dividend yield through November 30, 2018 approximates 7% as a result of business combination accounting. Dividends on the Series A Preferred Stock are non-cumulative. There is no sinking fund with respect to dividends on the Series A Preferred Stock. So long as the Company’s Series A Preferred Stock remains outstanding, the Company may declare and pay dividends on the common stock only if full dividends on all outstanding shares of Series A Preferred Stock for the most recently completed dividend period have been or are contemporaneously declared and paid. In the event of any voluntary or involuntary liquidation, dissolution or winding up of the affairs of the Company, holders of the Series A Preferred Stock will be entitled to receive for each share of Series A Preferred Stock, out of the Company’s assets or proceeds available for distribution to the Company’s shareholders, subject to any rights of the Company’s creditors, before any distribution of assets or proceeds is made to or set aside for the holders of the common stock, payment of an amount equal to the sum of (i) the $1 thousand liquidation preference amount per share and (ii) the amount of any accrued and unpaid dividends on the Series A Preferred Stock. To the extent the assets or proceeds available for distribution to shareholders are not sufficient to fully pay the liquidation payments owing to the holders of the Series A Preferred Stock and the holders of any other class or series of the stock ranking equally with the Series A Preferred Stock, the holders of the Series A Preferred Stock and such the Company’s stock will share ratably in the distribution. Holders of the Series A Preferred Stock have no right to exchange or convert their shares into common stock or any other securities and do not have voting rights.

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Accumulated Other Comprehensive Income (Loss)

The following table presents the changes in accumulated other comprehensive income (loss) by component for the periods indicated (dollars in thousands):


	Three Months Ended September 30,						Consolidated Statement of Income Line Item for Reclassified Items
	2016			2015
Beginning balance, net of tax	$	778		$	(48	)
Net unrealized gain (loss) arising during the period		(540	)		536
Related tax effect		227			(225	)
Reclassification of (gain) loss on investment securities available-for-sale to net income		(141	)		—		Gain on sale of securities, net
Related tax effect		59			—		Provision for income tax expense

Other Comprehensive Income (Loss)		(395	)		311

Ending balance	$	383		$	263

	Nine Months Ended September 30,						Consolidated Statement of Income Line Item for Reclassified Items
	2016			2015
Beginning balance, net of tax	$	(816	)	$	190
Net unrealized gain (loss) arising during the period		2,210			121
Related tax effect		(929	)		(48	)
Reclassification of (gain) loss on investment securities available-for-sale to net income		(141	)		—		Gain on sale of securities, net
Related tax effect		59			—		Provision for income tax expense

Other Comprehensive Income (Loss)		1,199			73

Ending balance	$	383		$	263

Note 13 - Commitments and Contingencies

Litigation

From time to time the Company is a party to claims and legal proceedings arising in the ordinary course of business. The Company accrues for any probable loss contingencies that are estimable and discloses any material losses. As of September 30, 2016, there were no legal proceedings against the Company the outcome of which are expected to have a material adverse impact on the Company’s financial position, results of operations or cash flows, as a whole.

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Financial Instruments with Off Balance Sheet Risk

See Note 21 – Commitments and Contingencies in the Company’s Form 10-K for the year ended December 31, 2015. Financial instruments with off balance sheet risk include commitments to extend credit of $920 million and $806 million at September 30, 2016 and December 31, 2015, respectively. Included in the aforementioned commitments were standby letters of credit outstanding of $87 million and $73 million at September 30, 2016 and December 31, 2015. The Company also has a reserve for estimated losses on unfunded loan commitments of $778 thousand and $608 thousand at September 30, 2016 and December 31, 2015, respectively. These reserves are included in other liabilities on the consolidated balance sheets.

Note 14 - Fair Value Information

Fair Value Measurement

Fair value is defined as the price that would be received to sell an asset or paid to transfer a liability in the principal or most advantageous market for an asset or liability in an orderly transaction between market participants at the measurement date. ASC Topic 825 requires disclosure of the fair value of financial assets and financial liabilities, including those financial assets and financial liabilities that are not measured and reported at fair value on a recurring basis or on a non-recurring basis. The methodologies for estimating the fair value of financial assets and financial liabilities that are recorded at fair value, and those that are not recorded at fair value, are discussed below.

In accordance with accounting guidance, the Company groups its financial assets and financial liabilities measured at fair value in three levels, based on the markets in which the assets and liabilities are traded and the reliability of the assumptions used to determine fair value. These levels are as follows:

•

Level 1 – Observable unadjusted quoted market prices in active markets for identical assets and liabilities that the reporting entity has the ability to access at the measurement date.

•

Level 2 – Significant other observable market based inputs, other than Level 1 prices such as quoted prices for similar assets or liabilities or unobservable inputs that are corroborated by market data. This includes quoted prices in markets that are not active, or other inputs that are observable or can be corroborated by observable market data, either directly or indirectly. This would include those financial instruments that are valued using models or other valuation methodologies where substantially all of the assumptions are observable in the marketplace, can be derived from observable market data or are supported by observable levels at which transactions are executed in the marketplace.

•

Level 3 – Significant unobservable inputs that reflect a reporting entity’s evaluation about the assumptions that market participants would use in pricing an asset or liability. Assets measured utilizing level 3 are for positions that are not traded in active markets or are subject to transfer restrictions, and or where valuations are adjusted to reflect illiquidity and or non-transferability. These assumptions are not corroborated by market data. This is comprised of financial instruments whose fair value is estimated based on internally developed models or methodologies utilizing significant inputs that are generally less readily observable from objective sources. Management uses a combination of reviews of the underlying financial statements, appraisals and management’s judgment regarding credit quality to determine the value of the financial asset or liability.

A financial instrument’s level within the fair value hierarchy is based on the lowest level of input that is significant to the fair value measurement. Management maximizes the use of observable inputs and attempts to minimize the use of unobservable inputs when determining fair value measurements. The following is a description of both the general and specific valuation methodologies used for certain instruments measured at fair value, as well as the general classification of these instruments pursuant to the valuation hierarchy.

Cash and due from banks: The carrying amount is assumed to be the fair value because of the liquidity of these instruments.

Interest earning deposits in other financial institutions: The carrying amount is assumed to be the fair value given the short-term nature of these deposits.

Investment Securities Available-for-Sale and Held-to-Maturity: The fair value of securities available-for-sale and held-to-maturity may be determined by obtaining quoted prices in active markets, when available, from nationally recognized securities exchanges (Level 1 financial assets). If quoted market prices are not available, the fair value is determined by

Page 35 of 77

matrix pricing, which is a mathematical technique widely used in the securities industry to value debt securities without relying exclusively on quoted prices for the specific securities but rather by relying on the securities’ relationship to other benchmark quoted securities which are observable market inputs (Level 2 financial assets). Debt securities’ pricing is generally obtained from one of the matrix pricing models developed from one of the three national pricing agencies. In cases where significant credit valuation adjustments are incorporated into the estimation of fair value, reported amounts are classified as Level 3 financial assets.

Securities classified as available-for-sale are accounted for at their current fair value rather than amortized historical cost. Unrealized gains or losses are excluded from net income and reported as an amount net of taxes as a separate component of accumulated other comprehensive income included in shareholders’ equity. Securities classified as held-to-maturity are accounted for at their amortized historical cost. As of each reporting date, both the available-for-sale and held-to-maturity securities are evaluated for OTTI on an individual basis.

The Company considers the inputs utilized to fair value the available-for-sale and held-to-maturity investment securities to be observable market inputs and classified these financial assets within the Level 2 fair value hierarchy. Management bases the fair value for these investments primarily on third party price indications provided by independent pricing sources utilized by the Company’s bond accounting system to obtain market pricing on its individual securities. Vining Sparks, who provides the Company with its bond accounting system, utilizes pricing from three independent third party pricing sources for pricing of securities. These third party pricing sources utilize quoted market prices, or when quoted market prices are not available, the fair values are estimated using nationally recognized third-party vendor pricing models, of which the inputs are observable. However, the fair value reported may not be indicative of the amounts that could be realized in an actual market exchange.

The fair value of the Company’s U.S. Agency and available-for-sale and held-to-maturity investment securities are calculated using an option adjusted spread model from one of the nationally recognized third-party pricing models. Depending on the assumptions used and the treasury yield curve and other interest rate assumptions, the fair value could vary significantly in the near term.

Loans: The fair value for loans is estimated by discounting the expected future cash flows using current interest rates at which similar loans would be made to borrowers with similar credit ratings for the same remaining maturities. Loans are segregated by type such as commercial and industrial, commercial real estate, construction and other loans with similar credit characteristics and are further segmented into fixed and variable interest rate loan categories. Expected future cash flows are projected based on contractual cash flows, adjusted for estimated credit losses and estimated prepayments. The inputs utilized in determining the fair value of loans are unobservable and accordingly, these financial assets are classified within Level 3 of the fair value hierarchy.

Impaired Loans: The fair value of impaired loans is determined based on an evaluation at the time the loan is originally identified as impaired, and periodically thereafter, at the lower of cost or fair value. Fair value on impaired loans is measured based on the value of the collateral securing these loans, less costs to sell, if the loan is collateral dependent, or based on the cash flows for non-collateral dependent loans discounted at the loan’s original effective rate. Collateral dependent loans may be secured by either real estate and/or business assets including equipment, inventory and/or accounts receivable and is determined based on appraisals performed by qualified licensed appraisers hired by the Company. Appraised and reported values may be discounted based on management’s historical knowledge, changes in market conditions from the time of valuation, and/or management’s expertise and knowledge of the client and client’s business. Such discounts are typically significant and unobservable. For unsecured loans, the estimated future cash flows of the business or borrower, discounted at the loan’s original effective rate, are used in determining the fair value. Impaired loans are reviewed and evaluated on at least a quarterly basis for additional impairment and adjusted accordingly, based on the same factors identified above. The inputs utilized in determining the fair value of impaired loans are unobservable and accordingly, these financial assets are classified within Level 3 of the fair value hierarchy.

Interest Rate Swap Contracts:

The fair value of the interest rate swap contracts are provided by independent third party vendors that specialize in interest rate risk management and fair value analysis using a model that utilizes current market data to estimate cash flows of the interest rate swaps utilizing the future London Interbank Offered Rate (“LIBOR”) yield curve for accruing and the future Overnight Index Swap Rate (“OIS”) yield curve for discounting through the maturity date of the interest rate swap contract. The future LIBOR yield curve is the primary input in the valuation of the interest rate swap contracts. Both the LIBOR and OIS yield curves are readily observable in the marketplace. Accordingly, the interest rate swap contracts are classified within Level 2 of the fair value hierarchy.

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Other Real Estate Owned: The fair value of other real estate owned is generally based on real estate appraisals (unless more current market information is available) less estimated costs to sell. 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 appraisers to adjust for differences between the comparable sales and income data available. Such adjustments are typically significant. The inputs utilized in determining the fair value of other real estate owned are unobservable and accordingly, these financial assets are classified within Level 3 of the fair value hierarchy.

SBA Servicing Asset: A servicing asset is recorded at fair value upon the sale of an SBA loan. The fair value of this asset is based on the estimated discounted future cash flows utilizing market based discount rates and estimated prepayment speeds. The discount rate was based on the current U.S. Treasury yield curve, plus a spread for marketplace risk associated with these assets. Prepayment speeds were selected based on the historical prepayments of similar SBA pools. The prepayment speeds determine the timing of the cash flows. The SBA servicing asset is amortized over the contractual life of the loans based on an effective yield approach. In addition, the Company’s servicing asset is evaluated regularly for impairment by discounting the estimated future cash flows using market-based discount rates and prepayment speeds. If the calculated present value of the servicing asset declines below the Company’s current carrying value, the servicing asset is written down to its present value. Based on the Company’s methodology in its valuation of the SBA servicing asset, the current carrying value is estimated to approximate the fair value. The inputs utilized in determining the fair value of SBA servicing asset are unobservable and accordingly, these financial assets are classified within Level 3 of the fair value hierarchy.

Non-Maturing Deposits: The fair values for non-maturing deposits (deposits with no contractual termination date), which include non-interest bearing demand deposits, interest bearing transaction accounts, money market deposits and savings accounts are equal to their carrying amounts, which represent the amounts payable on demand. Because the carrying value and fair value are by definition identical, and accordingly non-maturity deposits are classified within Level 1 of the fair value hierarchy, these balances are not listed in the following tables.

Maturing Deposits: The fair values of fixed maturity certificates of deposit (time deposits) are estimated using a discounted cash flow calculation that applies current market deposit interest rates to the Company’s current certificates of deposit interest rates for similar term certificates. The inputs utilized in determining the fair value of maturing deposits are observable and accordingly, these financial liabilities are classified within Level 2 of the fair value hierarchy.

Securities Sold under Agreements to Repurchase (“Repos”): The fair value of securities sold under agreements to repurchase is estimated based on the discounted value of future cash flows expected to be paid on the deposits. The carrying amounts of Repos with maturities of 90 days or less approximate their fair values. The fair value of Repos with maturities greater than 90 days is estimated based on the discounted value of the contractual future cash flows. The inputs utilized in determining the fair value of securities sold under agreements to repurchase are observable and accordingly, these financial liabilities are classified within Level 2 of the fair value hierarchy.

Subordinated Debentures: The fair value of the three variable rate subordinated debentures (“debentures”) is estimated using a discounted cash flow calculation that applies the three month LIBOR plus the margin index at September 30, 2016, to the cash flows from the debentures, based on the actual interest rate the debentures were accruing at September 30, 2016. Because all three of the debentures re-priced on September 15, 2016 based on the current three month LIBOR index rate plus the index margin at that date, and with relatively little to no change in the three month LIBOR index rate from the re-pricing date through September 30, 2016, the current face value of the debentures and their calculated fair value are approximately equal. The inputs utilized in determining the fair value of subordinated debentures are observable and accordingly, these financial liabilities are classified within Level 2 of the fair value hierarchy.

Fair Value of Commitments: Loan commitments that are priced on an index plus a margin to a market rate of interest are reported at the carrying value of the loan commitment. Loan commitments on which the committed fixed interest rate is less than the current market rate were insignificant at September 30, 2016 and December 31, 2015.

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Assets and Liabilities Measured at Fair Value on a Recurring Basis

The following table summarizes the financial assets and financial liabilities measured at fair value on a recurring basis as of the dates indicated, segregated by the level of the valuation inputs within the fair value hierarchy utilized to measure fair value (dollars in thousands):


	Fair Value		Quoted Prices in Active Markets for Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)
Financial Assets – September 30, 2016
Investment securities available-for-sale	$	375,094	$	—	$	375,094	$	—
Interest Rate Swap Contracts		1,484		—		1,484		—
Financial Liabilities – September 30, 2016
Interest Rate Swap Contracts	$	2,580	$	—	$	2,580	$	—
Financial Assets – December 31, 2015
Investment securities available-for-sale	$	315,785	$	—	$	315,785	$	—
Interest Rate Swap Contracts		881		—		881		—
Financial Liabilities – December 31, 2015
Interest Rate Swap Contracts	$	2,545	$	—	$	2,545	$	—

At September 30, 2016 and at December 31, 2015 the Company had no financial assets or liabilities that were measured at fair value on a recurring basis that required the use of significant unobservable inputs (Level 3). Additionally, there were no transfers of assets either between Level 1 and Level 2 nor in or out of Level 3 of the fair value hierarchy for assets measured on a recurring basis for the period ended September 30, 2016.

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Assets Measured at Fair Value on a Non-recurring Basis

The Company may be required periodically, to measure certain financial assets and financial liabilities at fair value on a nonrecurring basis, that is, the instruments are not measured at fair value on an ongoing basis, but are subject to fair value adjustments in certain circumstances (for example, when there is evidence of impairment). These include assets that are measured at the lower of cost or fair value that were recognized at fair value below cost at the end of or during the period.

There were no transfers of assets either between Level 1 and Level 2 nor in or out of Level 3 of the fair value hierarchy for assets measured on a non-recurring basis during the three or nine months ended September 30, 2016.

The following table presents the balances of assets and liabilities measured at fair value on a non-recurring basis by caption and by level within the fair value hierarchy as of the dates indicated (dollars in thousands):


	Fair Value		Quoted Prices in Active Markets for Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)
Financial Assets – September 30, 2016
Collateral dependent impaired loans with specific valuation allowance and/or partial charge-offs (non-purchased credit impaired loans)	$	242	$	—	$	—	$	242
Other real estate owned		—		—		—		—

Total	$	242	$	—	$	—	$	242

Financial Assets – December 31, 2015
Collateral dependent impaired loans with specific valuation allowance and/or partial charge-offs (non-purchased credit impaired loans)	$	—	$	—	$	—	$	—
Other real estate owned		325		—		—		325

Total	$	325	$	—	$	—	$	325

The following table presents the significant unobservable inputs used in the fair value measurements for Level 3 assets and liabilities measured at fair value on a recurring or non-recurring basis as of the dates indicated (dollars in thousands):


	Fair Value		Valuation Methodology	Valuation Model and/or Factors	Unobservable Input Values
Financial Assets – September 30, 2016
Collateral dependent impaired loans with specific valuation allowance and/or partial charge-off	$	58	Balance represents 100% guaranty by the SBA	Not Applicable	Not Applicable
		184	Assignment of expected proceeds from collateral sale	Not Applicable	Not Applicable

Total	$	242

Financial Assets – December 31, 2015
Collateral dependent impaired loans with specific valuation allowance and/or partial charge-off	$	—	—	—	—
Other real estate owned	$	325	Broker opinion of value	Sales approach Estimated selling costs	6%

Total	$	325

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Fair Value of Financial Assets and Liabilities

ASC Topic 825, “Financial Instruments,” requires disclosure of the estimated fair value of certain financial instruments and the methods and significant assumptions used to estimate such fair values. Additionally, certain financial instruments and all nonfinancial instruments are excluded from the applicable disclosure requirements. The estimated fair value amounts have been determined by the Company using available market information and appropriate valuation methodologies. However, considerable judgment is required to develop the estimates of fair value. Accordingly, the estimates presented below are not necessarily indicative of the amounts the Company could have realized in a current market exchange as of September 30, 2016 and December 31, 2015. The use of different market assumptions and/or estimation methodologies may have a material effect on the estimated fair value amounts. The description of the valuation methodologies used for financial assets and liabilities recorded at fair value and for those not recorded at fair value has been described above.

The table below presents the carrying values and estimated fair values of certain financial instruments based on their fair value hierarchy indicated (dollars in thousands):


					Fair Value Measurements
	Carrying Amount		Estimated Fair Value		Quoted Prices in Active Markets for Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)
September 30, 2016
Financial Assets
Cash and due from banks	$	47,701	$	47,701	$	47,701	$	—	$	—
Interest earning deposits in other financial institutions		244,205		244,205		244,205		—		—
Investment securities available-for-sale		375,094		375,094		—		375,094		—
Investment securities held-to-maturity		40,073		40,691		—		40,691		—
Loans, net		1,956,570		1,993,667		—		—		1,993,667
Interest rate swap contracts		1,484		1,484		—		1,484		—
Financial Liabilities
Certificates of deposit		35,033		35,033		—		35,033		—
Securities sold under agreements to repurchase		24,251		24,251		—		24,251		—
Subordinated debentures		9,817		12,372		—		12,372		—
Interest rate swap contracts		2,580		2,580		—		2,580		—
December 31, 2015
Financial Assets
Cash and due from banks	$	50,960	$	50,960	$	50,960	$	—	$	—
Interest earning deposits in other financial institutions		171,103		171,103		171,103		—		—
Investment securities available-for-sale		315,785		315,785		—		315,785		—
Investment securities held-to-maturity		42,036		42,339		—		42,339		—
Loans, net		1,817,481		1,851,220		—		—		1,851,220
Interest rate swap contracts		881		881		—		881		—
Financial Liabilities										—
Certificates of deposit		58,502		58,502		—		58,502		—
Securities sold under agreements to repurchase		14,360		14,360		—		14,360		—
Subordinated debentures		9,697		12,372		—		12,372		—
Interest rate swap contracts		2,545		2,545		—		2,545		—

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Note 15 – Subsequent Events

We have evaluated events that have occurred subsequent to September 30, 2016 and have concluded there are no subsequent events that would require disclosure or recognition in the accompanying interim consolidated financial statements.

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ITEM 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

See “Cautionary Statement for Purposes of the “Safe Harbor” Provisions of the Private Securities Litigation Reform Act of 1995” below relating to “forward-looking” statements included in this report.

The following is management’s discussion and analysis of the major factors that influenced the results of the operations and financial condition of CU Bancorp, (“the Company”) for the current period. This analysis should be read in conjunction with the audited financial statements and accompanying notes included in the Company’s 2015 Annual Report on Form 10-K and with the unaudited financial statements and notes as set forth in this report.

CAUTIONARY STATEMENT FOR PURPOSES OF THE “SAFE HARBOR” PROVISIONS OF THE

PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995

Statements contained in this Quarterly Report on Form 10-Q (this “Report”) that are not historical facts or that discuss our expectations, beliefs or views regarding our future operations or future financial performance, or financial or other trends in our business or in the markets in which we operate, constitute “forward-looking statements” within the meaning of Section 27A of the Securities Act of 1933, as amended (the “Securities Act”), and Section 21E of the Securities Exchange Act of 1934, as amended (the “Exchange Act”). We have made forward-looking statements in this document about the Company, for which the Company claims the protection of the safe harbor provisions contained in the Private Securities Litigation Reform Act of 1995.

The Company’s forward-looking statements include descriptions of management’s plans or objectives for future operations, products or services, and forecasts of the Company’s revenues, earnings or other measures of economic performance. These forward-looking statements involve risks and uncertainties and are based on the beliefs and assumptions of management and on the information available to management at the time that this report was prepared and can be identified by the fact that they do not relate strictly to historical or current facts. They often include the words “believe,” “expect,” “intend,” “estimate,” “approximate,” “anticipate,” “project,” “assume,” “believe,” “plan,” “predict,” “likely,” or variations of these words as well as words of similar meaning, or future or conditional verbs such as “will,” “would,” “should,” “could,” or “may.”

Although we believe that management’s assumptions are reasonable, they are not guarantees of future performance and some will inevitably prove to be incorrect. As a result, our 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 relying on forward-looking statements to anticipate future results or trends.

We make forward-looking statements as set forth above and regarding projected sources of funds, availability of acquisition and growth opportunities, dividends, adequacy of our allowance for loan losses and provision for loan losses, our loan portfolio and subsequent charge-offs and our consent order with federal and state regulatory agencies (“Consent Order”). Forward-looking statements involve substantial risks and uncertainties, many of which are difficult to predict and are generally beyond our control. There are many factors that could cause actual results to differ materially from those contemplated by these forward-looking statements. Risks and uncertainties that could cause our financial performance to differ materially from our goals, plans, expectations and projections expressed in forward-looking statements include those set forth in our filings with the SEC, Item 1A of our Annual Report on Form 10-K, and the following:

•

Current and future economic and market conditions in the United States generally or in the communities we serve, including the effects of declines in property values, high unemployment rates and overall slowdowns in economic growth should these events occur.

•

The effects of trade, monetary and fiscal policies and laws.

•

Possible losses of businesses and population in the Los Angeles, Orange, Ventura, San Bernardino or Riverside Counties.

•

Loss of customer checking and money-market account deposits as customers pursue other higher-yield investments, particularly in a rising interest rate environment.

•

Possible changes in consumer and business spending and saving habits and the related effect on our ability to increase assets and to attract deposits.

•

Competitive market pricing factors.

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•

Deterioration in economic conditions that could result in increased loan losses.

•

Risks associated with concentrations in real estate related loans.

•

Risks associated with concentrations in deposits.

•

Loss of significant customers.

•

Market interest rate volatility.

•

Possible changes in the creditworthiness of customers and the possible impairment of the collectability of loans.

•

Changes in the speed of loan prepayments, loan origination and sale volumes, loan loss provisions, charge offs or actual loan losses.

•

Compression of our net interest margin.

•

Stability of funding sources and continued availability of borrowings to the extent necessary.

•

Changes in legal or regulatory requirements.

•

The inability of our internal disclosure controls and procedures to prevent or detect all errors or fraudulent acts.

•

Inability of our framework to manage risks associated with our business, including operational risk and credit risk, to mitigate all risk or loss to us.

•

Our ability to keep pace with technological changes, including our ability to identify and address cyber-security risks such as data security breaches, “denial of service” attacks, “hacking” and identity theft.

•

The effects of man-made and natural disasters, including, but not limited to earthquakes, floods, droughts, brush fires, tornadoes and hurricanes.

•

The effect of labor and port slowdowns on small businesses.

•

Risks of loss of funding for the Small Business Administration (“SBA”), or SBA loan programs, or changes in those programs.

•

Lack of take-out financing or problems with sales or lease-up with respect to our construction loans.

•

Our ability to recruit and retain key management and staff.

•

Availability of, and competition for, acquisition opportunities.

•

Significant decline in the market value of the Company that could result in an impairment of goodwill.

•

Regulatory limits on the Bank’s ability to pay dividends to the Company.

•

The uncertainty of obtaining regulatory approval for various merger and acquisition opportunities.

•

New accounting pronouncements.

•

The impact of the Dodd-Frank Wall Street Reform and Consumer Protection Act (“Dodd-Frank Act”) and related rules and regulations on the Company’s business operations and competitiveness.

•

Our ability to comply with applicable capital and liquidity requirements (including the finalized Basel III capital standards), including our ability to generate capital internally or raise capital on favorable terms.

•

Increased regulation of the securities markets, including the securities of the Company, whether pursuant to the Sarbanes-Oxley Act of 2002, or otherwise.

•

Our ability to demonstrate compliance with the Consent Order to the satisfaction of the FDIC and the California Department of Business Oversight (CDBO).

•

The possibility that any expansionary activities or new products or services will be impeded while the FDIC and CDBO’s joint Consent Order remains outstanding.

•

Our ability to employ and retain additional qualified BSA staff or third parties.

•

Our ability to comply with the requirements set forth in the Consent Order

•

The effects of any damage to our reputation resulting from developments related to any of the items identified above.

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Forward-looking statements speak only as of the date they are made. The Company does not undertake to update forward-looking statements to reflect circumstances or events that occur after the date the forward-looking statements are made or to reflect the occurrence of unanticipated events and specifically disclaims any obligation to revise or update such forward looking statements for any reason, except as may be required by applicable law. You should consider any forward looking statements in light of this explanation, and we caution you about relying on forward-looking statements.

For a more complete discussion of these risks and uncertainties, see the Company’s Annual Report on Form 10-K for the year ended December 31, 2015 and particularly, Item 1A, titled “Risk Factors.”

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OVERVIEW

California United Bank (the “Bank”) is a full-service commercial business bank offering a broad range of banking products and services including: deposit services, lending and cash management to small and medium-sized businesses in Los Angeles, Orange, Ventura, San Bernardino and Riverside counties, to non-profit organizations, to business principals and entrepreneurs, to the professional community, including attorneys, certified public accountants, financial advisors, healthcare providers and investors. The Bank opened for business in 2005, with its current headquarters office located in Los Angeles, California. As a state chartered non-member bank, the Bank is subject to regulation by the California Department of Business Oversight, (the “DBO”) and the Federal Deposit Insurance Corporation (“FDIC”). The deposits of the Bank are insured by the FDIC, to the maximum amount allowed by law.

Total assets increased $259 million or 10% from December 31, 2015 to $2.9 billion mainly due to deposit growth of $219 million and net income of $20 million. Loan growth during the nine months ended September 30, 2016 was concentrated primarily in Other Nonresidential Property loans of $77 million, Construction, Land Development and Other Land loans of $47 million, multifamily residential properties loans of $29 million and Owner-Occupied Nonresidential Properties loans of $22 million, offset by a $38 million decrease in Commercial and Industrial loans. At September 30, 2016, commercial and industrial loans, and owner-occupied real estate loans combined were $930 million or 47% of total loans, compared to $945 million or 52% of total loans.

Funding the Company’s loan growth for the nine months ended September 30, 2016 were increases in non-interest bearing demand deposits of $111 million and money market and savings deposits of $108 million. At both September 30, 2016 and December 31, 2015, non-interest bearing deposits represented 56% of total deposits. Tangible book value per common share was $13.84, $12.67 and $12.42 at September 30, 2016, December 31, 2015 and September 30, 2015, respectively.

CRITICAL ACCOUNTING POLICIES AND ESTIMATES

The discussion and analysis of our financial condition and results of operations are based upon our consolidated financial statements, which have been prepared in accordance with U.S. generally accepted accounting principles (“GAAP”). The preparation of these consolidated financial statements requires management to make estimates and judgments that affect the reported amounts of assets and liabilities, revenues and expenses, and related disclosures of contingent assets and liabilities at the date of our financial statements. Actual results may differ from these estimates under different assumptions or conditions.

Various elements of our accounting policies, by their nature, are inherently subject to estimation techniques, valuation assumptions, and other subjective assessments. We have identified several accounting policies that, due to judgments, estimates, and assumptions inherent in those policies, are essential to an understanding of our consolidated financial statements. These policies relate to the accounting for business combinations, evaluation of goodwill for impairment, methodologies that determine our allowance for loan loss, the valuation of impaired loans, the classification and valuation of investment securities, accounting for derivatives financial instruments and hedging activities, and accounting for income taxes.

Our critical accounting policies are described in greater detail in our 2015 Annual Report on Form 10-K, Item 7 – Management’s Discussion and Analysis of Financial Condition and Results of Operations – Critical Accounting Policies and Estimates. We believe that our most critical accounting policies upon which our financial condition depends, and which involve the most complex or subjective decisions or assessment, are as follows:

Business Combinations

The Company has a number of fair value adjustments recorded within the consolidated financial statements that relate to the business combinations with California Oaks State Bank “COSB”, Premier Commercial Bancorp “PC Bancorp” and 1^st Enterprise Bank “1^st Enterprise” on December 31, 2010, July 31, 2012 and November 30, 2014, respectively. These fair value adjustments include goodwill, fair value adjustments on loans, core deposit intangible assets, other intangible

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assets, fair value adjustments to acquired lease obligations, fair value adjustments to certificates of deposit and fair value adjustments on derivatives. The assets and liabilities acquired through acquisitions have been accounted for at fair value as of the date of the acquisition. The goodwill that was recorded on the transactions represented the excess of the purchase price over the fair value of net assets acquired. Goodwill is not amortized and is reviewed for impairment on October 1st of each year. If an event occurs or circumstances change that result in the Company’s fair value declining below its book value, the Company would perform an impairment analysis at that time.

Based on the Company’s 2015 goodwill impairment analysis, no impairment to goodwill has occurred. The Company is a sole reporting unit for evaluation of goodwill.

The core deposit intangibles on non-maturing deposits, which represent the intangible value of depositor relationships resulting from deposit liabilities assumed through acquisitions, are being amortized over the projected useful lives of the deposits. The weighted average remaining life of the core deposit intangible is estimated at approximately 5 years at September 30, 2016. Core deposit intangibles are reviewed for impairment whenever events or changes in circumstances indicate that the carrying value may not be recoverable.

Loans acquired through acquisition are recorded at fair value at acquisition date without a carryover of the related Allowance. Purchased Credit Impaired (“PCI”) loans are acquired loans with evidence of deterioration of credit quality since origination and it is probable, at the acquisition date, that the Company will not be able to collect all contractually required amounts. When the timing and/or amounts of expected cash flows on such loans are not reasonably estimable, no interest is accreted and the loan is reported as a non-accrual loan; otherwise, if the timing and amounts of expected cash flows for PCI loans are reasonably estimable, then interest is accreted and the loans are reported as accruing loans. The non-accretable difference represents the difference between the undiscounted contractual cash flows and the undiscounted expected cash flows, and also reflects the estimated credit losses in the acquired loan portfolio at the acquisition date and can fluctuate due to changes in expected cash flows during the life of the PCI loans. For non-PCI loans, loan fair value adjustments consist of an interest rate premium or discount and a credit component on each individual loan and are amortized to loan interest income based on the effective yield method over the remaining life of the loans. Subsequent decreases to the expected cash flows for both PCI and non-PCI loans will result in a provision for loan losses.

Allowance for Loan Loss

The allowance for loan loss (“Allowance”) is established by a provision for loan losses that is charged against income, increased by charges to expense and decreased by charge-offs (net of recoveries). Loan charge-offs are charged against the Allowance when management believes the collectability of loan principal becomes unlikely. Subsequent recoveries, if any, are credited to the Allowance.

The Allowance is an amount that management believes will be adequate to absorb estimated charge-offs related to specifically identified loans, as well as probable loan charge-offs inherent in the balance of the loan portfolio, based on an evaluation of the collectability of existing loans and prior loss experience. Management carefully monitors changing economic conditions, the concentrations of loan categories and collateral, the financial condition of the borrowers, the history of the loan portfolio, as well as historical peer group loan loss data to determine the adequacy of the Allowance. The Allowance is based upon estimates, and actual charge-offs may vary from the estimates. No assurance can be given that adverse future economic conditions will not lead to delinquent loans, increases in the provision for loan losses and/or charge-offs. These evaluations are inherently subjective, as they require estimates that are susceptible to significant revisions as conditions change. In addition, regulatory agencies, as an integral part of their examination process, may require changes to the Allowance based on their judgment about information available at the time of their examinations. Management believes that the Allowance as of September 30, 2016 is adequate to absorb known and probable losses in the loan portfolio.

The Allowance consists of specific and general components. The specific component relates to loans that are categorized as impaired. For loans that are categorized as impaired, a specific allowance is established when the fair value of the impaired loan is lower than the recorded investment of that loan. The general component covers non-impaired loans and is based on the type of loan and historical charge-off experience adjusted for qualitative factors.

While the general allowance covers all non-impaired loans and is based on historical loss experience adjusted for the various qualitative factors, the change in the Allowance from one reporting period to the next may not directly correlate to the rate of change of nonperforming loans for the following reasons:

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•

A loan moving from the impaired performing status to an impaired non-performing status does not mandate an automatic increase in allowance. The individual loan is evaluated for a specific allowance requirement when the loan moves to the impaired status, not when the loan moves to non-performing status. In addition, the impaired loan is reevaluated at each subsequent reporting period. Impairment is measured based on the present value of the 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 the loan’s observable market price or the fair value of the collateral if the loan is collateral dependent.

•

Not all impaired loans require a specific allowance. The payment performance of the borrower may require an impaired classification, but the collateral evaluation may support adequate collateral coverage. For a number of impaired loans in which borrower performance is in question, the collateral coverage may be sufficient. In those instances, neither a general allowance nor a specific allowance is assessed.

Investment Securities

The Company currently classifies its investment securities under the available-for-sale and held-to-maturity classifications. Under the available-for-sale classification, securities can be sold in response to certain conditions, such as changes in interest rates, changes in the credit quality of the securities, when the credit quality of a security does not conform with current investment policy guidelines, fluctuations in deposit levels or loan demand or need to restructure the portfolio to better match the maturity or interest rate characteristics of liabilities with assets. Securities classified as available-for-sale are accounted for at their current fair value rather than amortized cost. Unrealized gains or losses are excluded from net income and reported as a separate component of accumulated other comprehensive income (loss) included in shareholders’ equity. Under the held-to-maturity classification, if the Company has the intent and the ability at the time of purchase to hold these securities until maturity, they are classified as held-to-maturity and are stated at amortized cost.

As of each reporting date, the Company evaluates the securities portfolio to determine if there has been an other-than-temporary impairment (“OTTI”) on each of the individual securities in the investment securities portfolio. If it is probable that the Company will be unable to collect all amounts due according to the contractual terms of a debt security not impaired at acquisition, an OTTI shall be considered to have occurred. Once an OTTI is considered to have occurred, the credit portion of the loss is required to be recognized in current earnings, while the non-credit portion of the loss is recorded as a separate component of shareholders’ equity.

In estimating whether an other-than-temporary impairment loss has occurred, management considers, among other things, (i) the length of time and the extent to which the fair value has been less than cost, (ii) the financial condition and near-term prospects of the issuer, (iii) the current liquidity and volatility of the market for each of the individual security categories, (iv) the current slope and shape of the Treasury yield curve, along with where the economy is in the current interest rate cycle, (v) the spread differential between the current spread and the long-term average spread for that security category, (vi) the projected cash flows from the specific security type, (vii) any financial guarantee and financial condition of the guarantor and (viii) the intent and ability of the Company to retain its investment in the issue for a period of time sufficient to allow for any anticipated recovery in fair value.

If it’s determined that an OTTI exists on a debt security, the Company then determines if (a) it intends to sell the security or (b) it is more likely than not that it will be required to sell the security before its anticipated recovery. If either of the conditions is met, the Company will recognize the amount of the OTTI in earnings equal to the difference between the security’s fair value and its adjusted cost basis. If neither of the conditions is met, the Company determines (a) the amount of the impairment related to credit loss and (b) the amount of the impairment due to all other factors. The difference between the present value of the cash flows expected to be collected and the amortized cost basis is the credit loss. The credit loss is the portion of the other-than-temporary impairment that is recognized in earnings and is a reduction to the cost basis of the security. The portion of total impairment related to all other factors is included in other comprehensive income. Significant judgment is required in this analysis that includes, but is not limited to assumptions regarding the collectability of principal and interest, future default rates, future prepayment speeds, the amount of current delinquencies that will result in defaults and the amount of eventual recoveries expected on the underlying collateral.

Realized gains and losses on sales of securities are recognized in earnings at the time of sale and are determined on a specific-identification basis. Purchase premiums and discounts are recognized in interest income using the interest method over the expected maturity term of the securities. For mortgage-backed securities, the amortization or accretion is based on estimated average lives of the securities. The lives of these securities can fluctuate based on the amount of prepayments received on the underlying collateral of the securities. The amount of prepayments varies from time to time based on the interest rate environment and the rate of turnover of mortgages.

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Derivative Financial Instruments and Hedging Activities

All derivative instruments (interest rate swap contracts) were recognized on the consolidated balance sheet at their current fair value. For derivatives designated as fair value hedges, changes in the fair value of the derivative and hedged item related to the hedged risk are recognized in earnings. Accounting Standards Codification (“ASC”) Topic 815 establishes the accounting and reporting standards requiring that every derivative instrument (including certain derivative instruments embedded in other contracts) be recorded in the balance sheet as either an asset or liability measured at its fair value. ASC Topic 815 requires that changes in the derivative’s fair value be recognized currently in earnings unless specific hedge accounting criteria are met. Accounting for qualifying hedges allows a derivative’s gains and losses to offset related results on the hedged item in the income statement, and requires that a company must formally document, designate and assess the effectiveness of transactions that receive hedge accounting.

On the date a derivative contract is entered into by the Company, the Company will designate the derivative contract as either a fair value hedge (i.e. a hedge of the fair value of a recognized asset or liability), a cash flow hedge (i.e. a hedge of the variability of cash flows to be received or paid related to a recognized asset or liability), or a stand-alone derivative (i.e. an instrument with no hedging designation). For a derivative designated as a fair value hedge, the changes in the fair value of the derivative and of the hedged item attributable to the hedged risk are recognized in earnings. If the derivative is designated as a cash flow hedge, the effective portions of changes in the fair value of the derivative are recorded in other comprehensive income and are recognized in the income statement when the hedged item affects earnings. Changes in the fair value of derivatives that do not qualify for hedge accounting are reported currently in earnings, as other non-interest income. At inception and on an ongoing basis, the derivatives that are used in hedging transactions are evaluated as to how effective they are in offsetting changes in fair values or cash flows of hedged items.

The Company will discontinue hedge accounting prospectively when it is determined that the derivative is no longer effective in offsetting change in the fair value of the hedged item, the derivative expires or is sold, is terminated, or management determines that designation of the derivative as a hedging instrument is no longer appropriate. When hedge accounting is discontinued, the Company will continue to carry the derivative on the balance sheet at its fair value (if applicable), but will no longer adjust the hedged asset or liability for changes in fair value. The adjustments of the carrying amount of the hedged asset or liability will be accounted for in the same manner as other components of the carrying amount of that asset or liability, and the adjustments are amortized to interest income over the remaining life of the hedged item upon the termination of hedge accounting.

Income Taxes

The Company provides for current federal and state income taxes payable and for deferred taxes that result from differences between financial accounting rules and tax laws governing the timing of recognition of various income and expense items. The Company recognizes deferred income tax assets and liabilities for the future tax effects of such temporary differences based on the difference between the financial statement and tax bases of the existing assets and liabilities using the statutory rate expected in the years in which the differences are expected to reverse. The effect on deferred taxes of any enacted change in tax rates is recognized in income in the period that includes the enactment date. A valuation allowance is established to the extent necessary to reduce the deferred tax asset to the level at which it is “more likely than not” that the tax assets or benefits will be realized. Realization of tax benefits for deductible temporary differences and loss carryforwards depends on having sufficient taxable income of an appropriate character within the carryback and carryforward period and that current tax law will allow for the realization of those tax benefits.

The Company is required to account for uncertainty associated with the tax positions it has taken or expects to be taken on past, current and future tax returns. Where there may be a degree of uncertainty as to the tax realization of an item, the Company may only record the tax effects (expense or benefits) from an uncertain tax position in the consolidated financial statements if, based on its merits, the position is more likely than not to be sustained on audit by the taxing authorities. Management does not believe that it has any material uncertain tax positions taken to date that are not more likely than not to be realized. Interest and penalties related to uncertain tax positions are recorded as part of other operating expense.

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Current Accounting Developments

In March 2016, the FASB issued ASU 2016-09, Compensation – Stock Compensation (Topic 718): Improvements to Employee Share-Based Payment Accounting, to reduce the complexity of certain aspects of the accounting for employee share-based payment transactions. In the third quarter of 2016, the Company elected the early adoption of this standard which requires the Company to reflect the adjustments resulting from the adoption effective January 1, 2016, the beginning of the annual period that includes the interim period of adoption. The most significant impact of the new guidance resulted in recognition of excess tax benefits within the provision for income tax expense, which resulted in an increase to net income available to common shareholders and earnings per share. For additional information and the impact of the adoption, see Note 2, “Recent Accounting Pronouncements,” in Item 1. “Financial Statements.”

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RESULTS OF OPERATIONS

Key Performance Measures

The following table presents key performance measures for the periods indicated and the dollar and percentage changes between the periods (dollars in thousands, except per share data):


	Three Months Ended September 30,												Nine Months Ended September 30,
	Amounts						Increase (Decrease)						Amounts						Increase (Decrease)
	2016			2015			$			%			2016			2015			$			%
Net Income Available to Common Shareholders	$	6,279		$	5,970		$	309			5.18	%	$	19,373		$	14,852		$	4,521			30.44	%

Earnings per share
Basic	$	0.36		$	0.36		$	—			—	%	$	1.13		$	0.90		$	0.23			25.56	%
Diluted	$	0.36		$	0.35		$	0.01			2.86	%	$	1.11		$	0.88		$	0.23			26.14	%
Return on average assets (1)		0.87	%		0.93	%		(0.06	)%		(6.45	)%		0.93	%		0.82	%		0.11	%		13.41	%
Return on average tangible common equity (2)		10.30	%		11.48	%		(1.18	)%		(10.28	)%		11.10	%		9.95	%		1.15	%		11.56	%
Net interest margin (3)		3.72	%		3.79	%		(0.07	)%		(1.85	)%		3.77	%		3.87	%		(0.10	)%		(2.58	)%
Efficiency ratio (4)		59.96	%		59.34	%		0.62	%		1.04	%		57.73	%		61.49	%		(3.76	)%		(6.11	)%

(1)	Return on average assets is calculated by dividing net income available to common shareholders by the average assets for the period.

(2)	Return on average tangible common equity is calculated by dividing the Company’s net income available to common shareholders by average tangible common equity for the period. See the tables for return on average tangible common equity calculation and reconciliation to average common equity.

(3)	Net interest margin represents net interest income as a percent of interest earning assets.

(4)	Efficiency ratio represents non-interest expense as a percent of net interest income plus non-interest income, excluding gain on sale of securities, net.

Non-GAAP Financial Measure - Average Tangible Common Equity (TCE) Calculation and Reconciliation to Total Average Shareholders’ Equity

The Company utilizes the term TCE, a non-GAAP financial measure. The Company’s management believes TCE is useful because it is a measure utilized by both regulators and market analysts in evaluating the Company’s financial condition and capital strength. TCE represents common shareholders’ equity less goodwill and certain intangible assets. Return on Average Tangible Common Equity represents annualized net income available to common shareholders as a percent of average tangible common equity. A calculation of the Company’s Return on Average Tangible Common Equity is provided in the table below for the periods indicated (dollars in thousands):


	Three Months Ended September 30,						Nine Months Ended September 30,
	2016			2015			2016			2015
Average Tangible Common Equity Calculation
Total average shareholders’ equity	$	331,024		$	295,189		$	322,056		$	288,719
Less: Average serial preferred stock		17,063			16,565			17,092			16,329
Less: Average goodwill		64,603			63,950			64,603			63,959
Less: Average core deposit and leasehold right intangibles		6,792			8,423			7,149			8,885

Average Tangible Common Equity	$	242,566		$	206,251		$	233,212		$	199,546

Annualized Net Income Available to Common Shareholders	$	24,980		$	23,685		$	25,878		$	19,857
Return on Average Tangible Common Equity		10.30	%		11.48	%		11.10	%		9.95	%

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Operations Performance Summary

Three Months Ended September 30, 2016 Compared to Three Months Ended September 30, 2015

Net income available to common shareholders for the three months ended September 30, 2016 was $6.3 million, or $0.36 per diluted share, compared to $6.0 million, or $0.35 per diluted share for the three months ended September 30, 2015. The $309 thousand increase, or 5.2%, was primarily due to a $2.3 million increase in loan interest income, which is the result of the Company’s strong organic loan growth since the prior period, offset by a $1.7 million, or 11.3% increase in non-interest expense. Included in the increase of non-interest expense were one-time expenses of $1.2 million in the three months ended September 30, 2016, of which $957 thousand were BSA compliance expenses related to the Consent Order, and $203 thousand in one-time expenses associated with the closing the Company’s Simi Valley administrative office. Salaries and other benefits expense increased $462 thousand, or 5.2%, as the Company’s active full-time equivalent employees grew to 285 at September 30, 2016, an increase of 19 from September 30, 2015. There were no merger expenses in the three months ended September 30, 2016, compared to $146 thousand in the year-ago period.

Nine Months Ended September 30, 2016 Compared to Nine Months Ended September 30, 2015

Net income available to common shareholders for the nine months ended September 30, 2016 was $19.4 million, or $1.11 per diluted share, compared to $14.9 million, or $0.88 per diluted share for the nine months ended September 30, 2015. The $4.5 million increase, or 30.4%, was primarily driven by an increase in interest income on loans of $7.5 million, or 12.0 %, which is the result of the Company’s strong organic loan growth since the prior period, offset by a $2.2 million increase in non-interest expense. Non-interest income increased slightly by $162 thousand or 1.9% while non-interest expense had an increase of $2.2 million, or 4.8%. Included in the increase of non-interest expense were one-time expenses of $1.2 million in the three months ended September 30, 2016, of which $957 thousand were BSA compliance expenses related to the Consent Order, and $203 thousand in one-time expenses associated with the closing the Company’s Simi Valley administrative office. Salaries and other benefits expense increased $1.7 million, or 6.5%, as the Company’s active full-time equivalent employees grew to 285 at September 30, 2016, an increase of 19 from September 30, 2015. Further, as a result of the early adoption of ASU 2016-09 on July 1, 2016, effective January 1, 2016, excess tax benefits of $914 thousand was recognized as a reduction to provision for income tax expense for the nine months ended September 30, 2016. For additional information and the impact of the adoption, see Note 2, “Recent Accounting Pronouncements,” in Item 1. “Financial Statements.”

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Average Balances, Interest Income and Expense, Yields and Rates

Three and Nine Months Ended September 30, 2016 and 2015

The following tables present the Company’s average balance sheets, together with the total dollar amounts of interest income and interest expense and the weighted average interest yield/rate for the periods presented. All average balances are daily average balances (dollars in thousands).


	Three Months Ended
	September 30, 2016							September 30, 2015
	Average Balance		Interest		Average Yield/Rate (6)			Average Balance		Interest		Average Yield/Rate (6)
Interest Earning Assets:
Deposits in other financial institutions	$	317,678	$	478		0.59	%	$	329,640	$	293		0.35	%
Investment securities (1)		392,454		1,419		1.45	%		281,476		1,124		1.60	%
Loans (2)		1,965,509		23,958		4.85	%		1,735,977		21,689		4.96	%

Total interest earning assets		2,675,641		25,855		3.84	%		2,347,093		23,106		3.91	%
Non-interest earning assets		209,981							212,301

Total Assets	$	2,885,622						$	2,559,394

Interest Bearing Liabilities:
Interest bearing transaction accounts	$	278,983	$	102		0.14	%	$	268,877	$	105		0.15	%
Money market and savings deposits		789,208		524		0.26	%		701,189		427		0.24	%
Certificates of deposit		46,197		46		0.39	%		61,243		53		0.34	%

Total interest bearing deposits		1,114,388		672		0.24	%		1,031,309		585		0.23	%
Securities sold under agreements to repurchase		21,893		13		0.24	%		15,306		9		0.23	%
Subordinated debentures		9,831		122		4.86	%		9,703		110		4.44	%

Total interest bearing liabilities		1,146,112		807		0.28	%		1,056,318		704		0.26	%
Non-interest bearing demand deposits		1,389,196							1,190,170

Total funding sources		2,535,308							2,246,488
Non-interest bearing liabilities		19,290							17,717
Shareholders’ Equity		331,024							295,189

Total Liabilities and Shareholders’ Equity	$	2,885,622						$	2,559,394

Excess of interest earning assets over funding sources	$	140,333						$	100,605
Net interest income			$	25,048						$	22,402

Net interest rate spread (3)						3.56	%						3.65	%
Net interest margin (4)						3.72	%						3.79	%
Core net interest margin (5)						3.60	%						3.64	%

(1)	Average balances of investment securities available-for-sale are presented on an amortized cost basis and thus do not include the unrealized market gain or loss on the securities.

(2)	Average balances of loans are calculated net of deferred loan fees and fair value discounts, but would include non-accrual loans which have a zero yield.

(3)	Net interest rate spread represents the yield earned on average total interest earning assets less the rate paid on average total interest bearing liabilities.

(4)	Net interest margin is computed by dividing net interest income by average total interest earning assets.

(5)

Core net interest margin is computed by dividing annualized net interest income, excluding accelerated accretion of fair value discounts earned on early loan payoffs of acquired loans and interest recovered or reversed on non-accrual loans or other significant items based on management’s judgement, by average total interest-earning assets. See the reconciliation table for core net interest margin.

(6)	Annualized.

Page 52 of 77


	Nine Months Ended
	September 30, 2016							September 30, 2015
	Average Balance		Interest		Average Yield/Rate (6)			Average Balance		Interest		Average Yield/Rate (6)
Interest Earning Assets:
Deposits in other financial institutions	$	297,943	$	1,334		0.59	%	$	264,560	$	741		0.37	%
Investment securities (1)		373,493		4,066		1.45	%		272,820		3,355		1.64	%
Loans (2)		1,908,097		69,701		4.88	%		1,686,967		62,239		4.93	%

Total interest earning assets		2,579,533		75,101		3.89	%		2,224,347		66,335		3.99	%
Non-interest earning assets		211,295							209,094

Total Assets	$	2,790,828						$	2,433,441

Interest Bearing Liabilities:
Interest bearing transaction accounts	$	279,386	$	300		0.14	%	$	254,092	$	303		0.16	%
Money market and savings deposits		752,138		1,519		0.27	%		681,852		1,218		0.24	%
Certificates of deposit		51,839		110		0.28	%		61,875		150		0.32	%

Total interest bearing deposits		1,083,363		1,929		0.24	%		997,819		1,671		0.22	%
Securities sold under agreements to repurchase		22,550		38		0.23	%		12,896		21		0.22	%
Subordinated debentures		9,770		359		4.83	%		9,624		326		4.47	%

Total interest bearing liabilities		1,115,683		2,326		0.28	%		1,020,339		2,018		0.26	%
Non-interest bearing demand deposits		1,335,878							1,106,491

Total funding sources		2,451,561							2,126,830
Non-interest bearing liabilities		17,211							17,892
Shareholders’ Equity		322,056							288,719

Total Liabilities and Shareholders’ Equity	$	2,790,828						$	2,433,441

Excess of interest earning assets over funding sources	$	127,972						$	97,517
Net interest income			$	72,775						$	64,317

Net interest rate spread (3)						3.61	%						3.73	%
Net interest margin (4)						3.77	%						3.87	%
Core net interest margin (5)						3.65	%						3.77	%

(1)	Average balances of investment securities available-for-sale are presented on an amortized cost basis and thus do not include the unrealized market gain or loss on the securities.

(2)	Average balances of loans are calculated net of deferred loan fees and fair value discounts, but would include non-accrual loans which have a zero yield.

(3)	Net interest rate spread represents the yield earned on average total interest earning assets less the rate paid on average total interest bearing liabilities.

(4)	Net interest margin is computed by dividing net interest income by average total interest earning assets.

(5)

(6)	Annualized.

Page 53 of 77

Net Changes in Average Balances, Composition, Yields and Rates

Three and Nine Months Ended September 30, 2016 and 2015

The following tables set forth the composition of average interest earning assets and average interest bearing liabilities by category and by the percentage of each category to the total for the periods indicated, including the change in average balance, composition, and yield/rate between these respective periods (dollars in thousands):


	Three Months Ended September 30,
	2016								2015								Increase (Decrease)
	Average Balance		% of Total			Average Yield/ Rate (6)			Average Balance		% of Total			Average Yield/ Rate (6)			Average Balance			% of Total			Average Yield/ Rate (6)
Interest Earning Assets:
Deposits in other financial institutions	$	317,678		11.9	%		0.59	%	$	329,640		14.0	%		0.35	%	$	(11,962	)		(2.1	)%		0.24	%
Investment securities (1)		392,454		14.7	%		1.45	%		281,476		12.0	%		1.60	%		110,978			2.7	%		(0.15	)%
Loans (2)		1,965,509		73.4	%		4.85	%		1,735,977		74.0	%		4.96	%		229,532			(0.6	)%		(0.11	)%

Total interest earning assets	$	2,675,641		100	%		3.84	%	$	2,347,093		100.0	%		3.91	%	$	328,548						(0.07	)%
Interest Bearing Liabilities:
Non-interest bearing demand deposits	$	1,389,196		54.8	%				$	1,190,170		53.0	%				$	199,026			1.8	%
Interest bearing transaction accounts		278,983		11.0	%		0.14	%		268,877		12.0	%		0.15	%		10,106			(1.0	)%		(0.01	)%
Money market and savings deposits		789,208		31.1	%		0.26	%		701,189		31.2	%		0.24	%		88,019			(0.1	)%		0.02	%
Certificates of deposit		46,197		1.8	%		0.39	%		61,243		2.7	%		0.34	%		(15,046	)		(0.9	)%		0.05	%

Total deposits		2,503,584		98.7	%		0.11	%		2,221,479		98.9	%		0.10	%		282,105			(0.2	)%		0.01	%
Securities sold under agreements to repurchase		21,893		0.9	%		0.24	%		15,306		0.7	%		0.23	%		6,587			0.2	%		0.01	%
Subordinated debentures		9,831		0.4	%		4.86	%		9,703		0.4	%		4.44	%		128			—	%		0.42	%

Total borrowings		31,724		1.3	%		1.69	%		25,009		1.1	%		1.89	%		6,715			0.2	%		(0.20	)%

Total funding sources	$	2,535,308		100	%		0.13	%	$	2,246,488		100.0	%		0.12	%	$	288,820						0.01	%

Excess of interest earning assets over funding sources	$	140,333							$	100,605							$	39,728
Net interest rate spread (3)							3.56	%							3.65	%								(0.09	)%
Net interest margin (4)							3.72	%							3.79	%								(0.07	)%
Core net interest margin (5)							3.60	%							3.64	%								(0.04	)%

(1)	Average balances of investment securities available-for-sale are presented on an amortized cost basis and thus do not include the unrealized market gain or loss on the securities.

(2)	Average balances of loans are calculated net of deferred loan fees and fair value discounts, but would include non-accrual loans which have a zero yield.

(3)	Net interest rate spread represents the yield earned on average total interest earning assets less the rate paid on average total interest bearing liabilities.

(4)	Net interest margin is computed by dividing net interest income by average total interest earning assets.

(5)

(6)	Annualized.

Page 54 of 77


	Nine Months Ended September 30,
	2016								2015								Increase (Decrease)
	Average Balance		% of Total			Average Yield/ Rate (6)			Average Balance		% of Total			Average Yield/ Rate (6)			Average Balance			% of Total			Average Yield/ Rate (6)
Interest Earning Assets:
Deposits in other financial institutions	$	297,943		11.5	%		0.59	%	$	264,560		11.9	%		0.37	%	$	33,383			(0.4	)%		0.22	%
Investment securities (1)		373,493		14.5	%		1.45	%		272,820		12.3	%		1.64	%		100,673			2.2	%		(0.19	)%
Loans (2)		1,908,097		74.0	%		4.88	%		1,686,967		75.8	%		4.93	%		221,130			(1.8	)%		(0.05	)%

Total interest earning assets	$	2,579,533		100	%		3.89	%	$	2,224,347		100.0	%		3.99	%	$	355,186						(0.10	)%
Interest Bearing Liabilities:
Non-interest bearing demand deposits	$	1,335,878		54.5	%				$	1,106,491		52.0	%				$	229,387			2.5	%
Interest bearing transaction accounts		279,386		11.4	%		0.14	%		254,092		11.9	%		0.16	%		25,294			(0.5	)%		(0.02	)%
Money market and savings deposits		752,138		30.7	%		0.27	%		681,852		32.1	%		0.24	%		70,286			(1.4	)%		0.03	%
Certificates of deposit		51,839		2.1	%		0.28	%		61,875		2.9	%		0.32	%		(10,036	)		(0.8	)%		(0.04	)%

Total deposits		2,419,241		98.7	%		0.11	%		2,104,310		98.9	%		0.11	%		314,931			(0.2	)%		—	%
Securities sold under agreements to repurchase		22,550		0.9	%		0.23	%		12,896		0.6	%		0.22	%		9,654			0.3	%		(0.01	)%
Subordinated debentures		9,770		0.4	%		4.83	%		9,624		0.5	%		4.47	%		146			(0.1	)%		0.36	%

Total borrowings		32,320		1.3	%		1.64	%		22,520		1.1	%		2.06	%		9,800			0.2	%		(0.42	)%

Total funding sources	$	2,451,561		100	%		0.13	%	$	2,126,830		100.0	%		0.13	%	$	324,731						—	%

Excess of interest earning assets over funding sources	$	127,972							$	97,517							$	30,455
Net interest rate spread (3)							3.61	%							3.73	%								(0.12	)%
Net interest margin (4)							3.77	%							3.87	%								(0.10	)%
Core net interest margin (5)							3.65	%							3.77	%								(0.12	)%

(1)	Average balances of investment securities available-for-sale are presented on an amortized cost basis and thus do not include the unrealized market gain or loss on the securities.

(2)	Average balances of loans are calculated net of deferred loan fees and fair value discounts, but would include non-accrual loans which have a zero yield.

(3)	Net interest rate spread represents the yield earned on average total interest earning assets less the rate paid on average total interest bearing liabilities.

(4)	Net interest margin is computed by dividing net interest income by average total interest earning assets.

(5)

(6)	Annualized.

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Volume and Rate Variance Analysis of Net Interest Income

Three and Nine Months Ended September 30, 2016 and 2015

The following table presents the dollar amount of changes in interest income and interest expense due to changes in average balances of interest earning assets and interest bearing liabilities and changes in interest rates. For each category of interest earning assets and interest bearing liabilities, information is provided on changes attributable to: (i) changes in volume (i.e. changes in average balance multiplied by prior period rate) and (ii) changes in rate (i.e. changes in rate multiplied by prior period average balance). For purposes of this table, changes attributable to both rate and volume which cannot be segregated have been allocated proportionately based on the absolute dollar amounts of the changes due to volume and rate (dollars in thousands):


	Three Months Ended September 30, 2016 vs. 2015
	Increase (Decrease) Due To
	Volume			Rate			Total
Interest Income
Loans	$	2,797		$	(528	)	$	2,269
Deposits in other financial institutions		(9	)		194			185
Investment securities		440			(145	)		295

Total interest income		3,228			(479	)		2,749

Interest Expense
Interest bearing transaction accounts		4			(7	)		(3	)
Money market and savings deposits		56			41			97
Certificates of deposit		(13	)		6			(7	)

Total deposits		47			40			87
Securities sold under agreements to repurchase		3			1			4
Subordinated debentures, net		2			10			12

Total borrowings		5			11			16

Total interest expense		52			51			103

Net Interest Income	$	3,176		$	(530	)	$	2,646


	Nine Months Ended September 30, 2016 vs. 2015
	Increase (Decrease) Due To
	Volume			Rate			Total
Interest Income
Loans	$	8,178		$	(716	)	$	7,462
Deposits in other financial institutions		98			495			593
Investment securities		1,258			(547	)		711

Total interest income		9,534			(768	)		8,766

Interest Expense
Interest bearing transaction accounts		32			(35	)		(3	)
Money market and savings deposits		130			171			301
Certificates of deposit		(24	)		(16	)		(40	)

Total deposits		138			120			258
Securities sold under agreements to repurchase		15			2			17
Subordinated debentures, net		6			27			33

Total borrowings		21			29			50

Total interest expense		159			149			308

Net Interest Income	$	9,375		$	(917	)	$	8,458

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Non-GAAP Financial Measure - Reconciliation of Core Net Interest Margin to Net Interest Margin

The following table represents a reconciliation of GAAP net interest margin to core net interest margin (a non-GAAP financial measure) used by the Company. The table presents the information for the periods indicated (dollars in thousands):


	Three Months Ended September 30,						Nine Months Ended September 30,
	2016			2015			2016			2015
Net Interest Income	$	25,048		$	22,402		$	72,775		$	64,317
Less:
Accelerated accretion of fair value adjustment on early loan payoffs and other associated payoff benefits on acquired loans		806			881			2,362			1,666

Core Net Interest Income	$	24,242		$	21,521		$	70,413		$	62,651

Net interest margin		3.72	%		3.79	%		3.77	%		3.87	%
Core net interest margin		3.60	%		3.64	%		3.65	%		3.77	%

Composition of Net Deferred Loan Fees, Costs and Fair Value Discounts

The following table reflects the composition of the net deferred loan fees, costs and fair value discounts at September 30, 2016 and December 31, 2015 (dollars in thousands):


	September 30, 2016		December 31, 2015
Accretable loan discount	$	10,882	$	14,856
Non-Accretable loan discount		424		2,061

Remaining loan discount on acquired loans		11,306		16,917
Net deferred loan fees on organic loans		5,548		4,575

Total	$	16,854	$	21,492

Three Months Ended September 30, 2016 Compared to Three Months Ended September 30, 2015

The net interest margin decreased 7 basis points to 3.72% for the three months ended September 30, 2016, compared to 3.79% for the three months ended September 30, 2015. The decrease in net interest margin is primarily due to average loans being a lower percentage of interest earning assets for the quarter ended September 30, 2016 than for the same quarter a year ago, due to strong growth in average deposits. Additionally, the existing low interest rate environment continues to contribute to the loan yield compression, as new loans have been originated at lower interest rates than those loans that have been paid off in 2015 and 2016. Loan yield compression has been mitigated as real estate loans become a higher percentage of the loan mix than commercial and industrial loans. Loan yields on real estate loans including construction loans are typically higher than the yields on commercial and industrial loans. The net interest margin for both quarters was positively impacted by the recognition of fair value discounts earned on early payoffs of acquired loans. For the quarter ended September 30, 2016, the Company recorded $629 thousand in discounts earned on early loan payoffs of acquired loans and other associated payoff benefits of $177 thousand, which had a positive impact on the net interest margin of 12 basis points. For the quarter ended September 30, 2015, the Company recorded $560 thousand in discounts earned on early loan payoffs of acquired loans and other associated payoff benefits of $321 thousand, which had a positive impact on the net interest margin of 15 basis points.

Nine Months Ended September 30, 2016 Compared to Nine Months Ended September 30, 2015

The net interest margin decreased 10 basis points to 3.77% for the nine months ended September 30, 2016, compared to 3.87% for the nine months ended September 30, 2015. The decrease in net interest margin is primarily due to average loans being a lower percentage of interest earning assets. The existing low interest rate environment continues to

Page 57 of 77

contribute to the loan yield compression, as new loans have been originated at lower interest rates than those loans that have been paid off in 2015 and 2016. For the nine months ended September 30, 2016, the Company recorded $1.9 million in discounts earned on early loan payoffs of acquired loans and other associated payoff benefits of $462 thousand, which had a positive impact on the net interest margin of 12 basis points. For the nine months ended September 30, 2015, the Company recorded $1.1 million in discounts earned on early loan payoffs of acquired loans and other associated payoff benefits of $522 thousand, which had a positive impact on the net interest margin of 11 basis points.

Provision for Loan Losses

Provision for loan losses for the three months ended September 30, 2016 was $697 thousand compared to $705 thousand for the three months ended September 30, 2015. The Company had $66 million of net organic loan growth for the quarter ended September 30, 2016, compared to $89 million for the same quarter a year ago. Net charge-offs for the three months ended September 30, 2016 were $802 thousand, compared to net recoveries of $136 thousand in 2015.

Provision for loan losses for the nine months ended September 30, 2016 was $2.4 million, compared to $2.8 million for the nine months ended September 30, 2015. The Company had $277 million of net organic loan growth for the nine months ended September 30, 2016, compared to $246 million for the nine months ended September 30, 2015. Net recoveries for the nine months ended September 30, 2016 were $307 thousand compared to net charge-offs of $476 thousand in 2015. See further discussion in Balance Sheet Analysis, Allowance for Loan Loss.

Non-Interest Income

The following table lists the major components of the Company’s non-interest income for the periods indicated (dollars in thousands):


	Three Months Ended September 30,				Increase (Decrease)						Nine Months Ended September 30,				Increase (Decrease)
	2016		2015		$			%			2016		2015		$			%
Gain on sale of securities, net	$	141		—	$	141			—	%	$	141	$	—	$	141			—	%
Gain on sale of SBA loans, net		189		640		(451	)		(70.5	)%		1,228		1,278		(50	)		(3.9	)%
Deposit account service charge income		1,210		1,159		51			4.4	%		3,621		3,453		168			4.9	%
Letters of credit income		279		187		92			49.2	%		844		506		338			66.8	%
Transaction referral income		278		—		278			100	%		308		408		(100	)		(24.5	)%
Dividend income in equity securities		222		409		(187	)		(45.7	)%		593		1,106		(513	)		(46.4	)%
BOLI income		328		333		(5	)		(1.5	)%		976		947		29			3.1	%
Other non-interest income		411		260		151			58.1	%		1,142		993		149			15.0	%

Total Non-Interest Income	$	3,058	$	2,988	$	70			2.3	%	$	8,853	$	8,691	$	162			1.9	%

Three Months Ended September 30, 2016 Compared to Three Months Ended September 30, 2015

Non-interest income increased $70 thousand or 2.3% to $3.1 million for the three months ended September 30, 2016 compared to $3.0 million for the three months ended September 30, 2015. The increase is primarily driven by a $278 thousand increase in transaction referral income, a $141 thousand of gain on sale of securities, a $92 thousand increase in letters of credit income, offset by a $451 thousand decrease in gain on sale of SBA loans. The $640 thousand gain on sale of SBA loans in the three months ended September 30, 2015 was the highest in Company history. The increase in non-interest income for the three months ended September 30, 2016 is further offset by a $187 thousand decrease in dividend income related to the Company’s investment in FHLB stock. In light of the consistent increase in the quarterly dividend rate from the FHLB in 2015, the Company began to accrue for the dividend as it was earned beginning in the third quarter of 2015. Previously the Company recorded the dividend as income in the period received; as a result, the accrual of $200 thousand for the dividend earned in the third quarter of 2015, which was received early in the fourth quarter of 2015, overlapped with the second quarter dividend payment of $200 thousand received and recorded as income early in the third quarter of 2015.

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Nine Months Ended September 30, 2016 Compared to Nine Months Ended September 30, 2015

Non-interest income increased $162 thousand or 1.9% to $8.9 million for the nine months ended September 30, 2016 compared to $8.7 million for the nine months ended September 30, 2015. This change was mainly due to a $338 thousand increase in letters of credit income, a $168 thousand increase in deposit account service charge income and a $141 increase in gain on sale of securities, offset by a $100 thousand decrease of transactional referral income and a $513 thousand decrease of dividend income related to the Company’s investment in FHLB stock. The decrease in dividend income is due to a $296 thousand special dividend received from the FHLB in the second quarter of 2015, coupled with the recognition of two quarters of dividend in the third quarter of 2015, as mentioned in the previous paragraph.

Non-Interest Expense

The following table lists the major components of the Company’s non-interest expense for the periods indicated (dollars in thousands):


	Three Months Ended September 30,				Increase (Decrease)						Nine Months Ended September 30,				Increase (Decrease)
	2016		2015		$			%			2016		2015		$			%
Salaries and employee benefits	$	9,396	$	8,934	$	462			5.2	%	$	27,745	$	26,045	$	1,700			6.5	%
Stock based compensation expense		939		810		129			15.9	%		2,664		2,130		534			25.1	%
Occupancy		1,673		1,465		208			14.2	%		4,548		4,300		248			5.8	%
Data processing		657		596		61			10.2	%		1,910		1,872		38			2.0	%
Legal and professional		1,434		412		1,022			248.1	%		2,560		1,914		646			33.8	%
FDIC deposit assessment		389		370		19			5.1	%		1,098		1,054		44			4.2	%
Merger related expenses		—		146		(146	)		(100	)%		—		498		(498	)		(100	)%
OREO loss and expenses		2		153		(151	)		(98.7	)%		85		179		(94	)		(52.5	)%
Office services expenses		413		383		30			7.8	%		1,136		1,204		(68	)		(5.6	)%
Core deposit intangible amortization		320		419		(99	)		(23.6	)%		961		1,262		(301	)		(23.9	)%
Other operating expenses		1,544		1,379		165			11.97	%		4,336		4,434		(98	)		(2.2	)%

Total Non-Interest Expense	$	16,767	$	15,067	$	1,700			11.3	%	$	47,043	$	44,892	$	2,151			4.8	%

Three Months Ended September 30, 2016 Compared to Three Months Ended September 30, 2015

Non-interest expense increased by $1.7 million or 11.3% to $16.8 million for the three months ended September 30, 2016 compared to $15.1 million for the three months ended September 30, 2015. The increase was largely related to the increases in salaries and employee benefits and legal and professional fees. The Company recorded one-time expenses of $1.2 million in the third quarter of 2016, of which $957 thousand were BSA expenses related to the Consent Order, and $203 thousand in one-time expenses associated with closing the Company’s Simi Valley administrative office. The following table shows the Company’s various non-recurring, non-interest expense related to the Consent Order and the Simi Valley office closure for the three months ended September 30, 2016:


Nonrecurring Costs Associated with BSA and Office Closure	Three Months Ended September 30, 2016
Non-Interest Expense
Salaries and employee benefits	$	106,090
Occupancy		246,673
Legal and professional		601,822
FDIC deposit assessment		15,000
Other operating expenses		190,717

Total Non-Interest Expense	$	1,160,302

Further, the increase in salaries and other benefits expense is attributable to the increase in the Company’s active full-time equivalent employees, which grew to 285 at September 30, 2016, an increase of 19 from September 30, 2015, with the majority of the increase attributable to the hiring of seven full-time equivalent employees near the end of the second quarter of 2016 and the hiring of an additional five in the third quarter of 2016. These hires were made in order to support the high level of customer service CUB provides, as well as address expanding regulatory and compliance requirements.

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There were no merger expenses in the three months ended September 30, 2016, compared to $146 thousand in the year-ago period.

Nine Months Ended September 30, 2016 Compared to Nine Months Ended September 30, 2015

Non-interest expense increased $2.1 million or 4.8% to $47.0 million for the nine months ended September 30, 2016 compared to $44.9 million for the nine months ended September 30, 2015. The increase was largely related to increases in salaries and employee benefits and legal and professional fees, offset by decreases in merger related expenses and core deposit intangible amortization. The following table shows the Company’s various non-recurring, non-interest expense related to the Consent Order and the Simi Valley office closure for the nine months ended September 30, 2016:


Nonrecurring Costs Associated with BSA and Office Closure	Nine Months Ended September 30, 2016
Non-Interest Expense
Salaries and employee benefits	$	106,090
Occupancy		246,673
Legal and professional		606,822
FDIC deposit assessment		15,000
Other operating expenses		288,485

Total Non-Interest Expense	$	1,263,070

Income Taxes

The Company’s effective tax rate is impacted by BOLI income and interest income from tax exempt securities and loans which are excluded from taxable income, and beginning in 2016, deductions from excess tax benefits from the exercise or vesting of share-based awards. In the third quarter of 2016, the Company elected the early adoption of ASU 2016-09, retroactively effective as of January 1, 2016. As a result of this new standard, excess tax benefits from exercise or vesting of share-based awards are now included as a reduction in provision for income tax expense in the period in which the exercise or vesting occurs. The impact of such excess tax benefits reduced the Company’s effective tax rate from 39.5% to 38.1% for the three months ended September 30, 2016, and from 39.8% to 37.0% for the nine months ended September 30, 2016. For the three months and the nine months ended September 30, 2016, the number of options exercised were 15,000 and 411,964, respectively. The tax rate will have more volatility, depending on the volume of vestings and exercises as well as the associated excess tax benefits generated. For additional information and the impact of the adoption, see Note 2, “Recent Accounting Pronouncements,” in Item 1. “Financial Statements.” In addition, the Company has invested in Qualified Affordable Housing Projects “LIHTC” that generate tax credits and benefits for the Company.

The effective tax rate for the three months ended September 30, 2016 was 38.1% compared to 34.9% for the three months ended September 30, 2015. For the three months ended September 30, 2015, the Company recognized a combined one-time benefit of $465 thousand primarily relating to the filing of the final 1^st Enterprise tax returns and the CU Bancorp tax return for the year ended December 31, 2014. The effective tax rate for the nine months ended September 30, 2016 was 37.0% compared to 37.8% for the nine months ended September 30, 2015. The Company operates in the Federal and California jurisdictions and the blended statutory tax rate for Federal and California income taxes is 42.05%.

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FINANCIAL CONDITION

Balance Sheet Analysis

Total assets increased $259 million during the nine months ended September 30, 2016, to $2.9 billion with an increase of $70 million in cash and cash equivalents, an increase of $57 million in investment securities, and an increase of $142 million in loans. The increase in loans from the end of the prior year was due to organic loan growth. Net organic loan growth during the period was $277 million, partially offset by $135 million of pay downs in the acquired loan portfolios from the COSB, PC Bancorp acquisitions and 1^st Enterprise merger.

Funding the asset growth for the Company for the first nine months of 2016 was the growth in deposits of $219 million and net income of $20 million. Further, the deposit growth of $219 million is the result of a $111 million increase in non-interest bearing deposits and a $108 million increase in money market and savings deposits. Non-interest bearing deposits represented 56% of total deposits at both September 30, 2016, and December 31, 2015.

Lending

The following table presents the composition of the loan portfolio at the dates indicated (dollars in thousands):


	September 30, 2016					December 31, 2015
	Amount		% of Total			Amount		% of Total
Commercial and Industrial Loans:	$	499,439		25	%	$	537,368		29	%
Loans Secured by Real Estate:
Owner-Occupied Nonresidential Properties		430,218		22	%		407,979		23	%
Other Nonresidential Properties		610,267		31	%		533,168		29	%
Construction, Land Development and Other Land		172,441		9	%		125,832		7	%
1-4 Family Residential Properties		122,955		6	%		114,525		6	%
Multifamily Residential Properties		100,003		5	%		71,179		4	%

Total Loans Secured by Real Estate		1,435,884		73	%		1,252,683		69	%

Other Loans:		39,618		2	%		43,112		2	%

Total Loans	$	1,974,941		100	%	$	1,833,163		100	%

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The following table is a breakout of the Company’s gross loans stratified by the industry concentration of the borrower by their respective NAICS code at the dates indicated (dollars in thousands):


	September 30, 2016					December 31, 2015
	Amount		% of Total			Amount		% of Total
Real Estate	$	1,008,655		51	%	$	857,021		47	%
Manufacturing		172,659		9	%		174,773		10	%
Construction		161,393		8	%		161,618		9	%
Wholesale		115,546		6	%		134,093		7	%
Hotel/Lodging		119,200		6	%		105,741		6	%
Finance		95,212		5	%		87,734		5	%
Professional Services		56,646		3	%		60,952		3	%
Healthcare		50,091		3	%		47,293		3	%
Other Services		45,621		2	%		45,002		3	%
Retail		29,134		2	%		38,928		2	%
Restaurant/Food Service		24,109		1	%		26,226		1	%
Administrative Services		19,385		1	%		23,736		1	%
Transportation		17,739		1	%		22,237		1	%
Information		29,094		1	%		20,171		1	%
Education		8,671		—	%		9,244		1	%
Management		7,120		—	%		8,137		—	%
Entertainment		9,805		1	%		6,188		—	%
Other		4,861		—	%		4,069		—	%

Total Loans	$	1,974,941		100	%	$	1,833,163		100	%

The Company’s loan origination and lending activities continue to be focused primarily on direct contact with its borrowers through the Company’s relationship managers and/or executive officers. We continue to establish new relationships and expand our current business. Total loans were $2.0 billion at September 30, 2016, an increase of $142 million or 7.7%, from $1.8 billion at December 31, 2015. The Company had approximately $277 million of net organic loan growth, which was partially offset by approximately $135 million in loan pay downs from the acquired loan portfolios. The increase in total loans from the end of the prior year included a $22 million increase in the owner-occupied non-residential properties portfolio, a $77 million increase in the other nonresidential real estate properties portfolio, a $47 million increase in the construction, land development and other land portfolio, and a $29 million increase in the multifamily residential properties portfolio. These increases were offset by a decrease of $38 million in commercial and industrial loans. The yields on new loans originated during the first three quarters of 2016 have averaged 4.13%.

While commercial and industrial loans declined by $38 million from December 31, 2015, the Company’s commercial line of credit commitments have remained stable at $887 million at both September 30, 2016 and December 31, 2015, and the Company’s commercial and industrial line of credit utilization was 45% at September 30, 2016, and 46% as of December 31, 2015. The decrease in commercial and industrial loans was due to various reasons including the sale of two of our customer’s businesses during the second quarter of 2016, and the loss of two relationships in the third quarter, one which was risk rated substandard, and the other where a competitor offered an aggressive structure that we chose not to match. Due to the dynamic nature of commercial and industrial lending, actual credit utilization may experience ebbs and flows.

Commercial and industrial loans and owner-occupied real estate loans combined were $930 million or 47% of total loans at September 30, 2016, compared to $945 million or 52% at December 31, 2015. Of the total commercial and industrial loans, 19% was unsecured at both September 30, 2016 and December 31, 2015.

Other non-residential loans increased by $77 million from the end of the prior year, which included one new hotel loan near Disneyland of $15 million originated during the third quarter of 2016. The Company originates other non-residential loans with well-structured terms and guarantees, primarily collateralized by commercial buildings. Multifamily residential properties increased by $29 million, primarily related to three new loans totaling $18 million in Los Angeles County and one loan of $8 million in San Bernardino County.

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Included in loan growth from the end of the prior year was a $47 million increase in the construction lending portfolio, which primarily consists of 1-4 single family and multifamily construction projects in Los Angeles County undertaken by customers that have long-term relationships with the Company.

The Company had 55 commercial banking relationship managers and 9 commercial real estate relationship managers at September 30, 2016. This compares to 53 commercial banking relationship managers and 9 commercial real estate relationship managers at December 31, 2015.

The Company provides commercial loans, including working capital and equipment financing, real estate loans, including construction and consumer loans, generally to business principals, entrepreneurs and professionals. The Company currently does not offer residential mortgages to consumers other than home equity lines of credit. In addition, we have not made any loans to finance leveraged buyouts. The Company’s real estate construction loans are primarily short-term loans made to finance the construction of 1-4 single family and multifamily residential properties. On occasion, the Company originates loans to finance the construction of single family residences to established developers and owner-occupiers. The Company’s construction lending is to known relationships, doing projects the builder/developer has experience with, and the majority are with recourse and are rarely speculative in nature. The Company’s credit approval process includes an examination of the collateral, cash flow and debt service coverage of the loan, as well as the financial condition and credit references of the borrower and guarantors, where applicable. The Company’s senior management is actively involved in its lending activities, collateral valuation and review process. The Company obtains independent third party appraisals of loans secured by real property as required by applicable federal law and regulations. There is also a Board of Directors Loan Committee (“BODLC”) comprised of senior management and outside directors that monitors the loan portfolio on at least a quarterly basis.

The Company believes that it manages credit risk closely in its loan portfolio and uses a variety of policy and procedure guidelines and analytical tools to achieve its asset quality objectives.

We do not have any concentrations in our loan portfolio except for the level of loans that are secured by real estate and the level of loans to the real estate industry as presented in the tables above. Although the Bank’s real estate concentration this quarter ending September 30, 2016 exceeds 300% of total risk based capital, the Company has maintained its relationship based approach to lending which has resulted in nominal charge-off experience in the real estate portfolio since the Company’s inception. Management plans to continue originating the same quality real estate loans that are currently included in its loan portfolio.

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Allowance for Loan Loss

The Allowance increased by $105 thousand, to $18 million during the quarter ended September 30, 2016, due to a provision for loan losses of $697 thousand with net charge-offs of $802 thousand. The Allowance as a percentage of total loans was 0.93% at September 30, 2016 and 0.86% at December 31, 2015. The increase in the allowance ratio is primarily due to net organic loan growth. The Allowance as a percentage of loans (excluding loan balances and the related Allowance on loans acquired through acquisition) was 1.20% and 1.25%, respectively, at September 30, 2016 and December 31, 2015. The decrease in the allowance ratio related to organic loans was directly attributable to the strong credit performance of the loan portfolio in 2016, which reflects the Company’s continuing commitment to prudent underwriting and credit management.

The Company’s management considered the following factors in evaluating the allowance for loan loss at September 30, 2016:

•

During the nine months ended September 30, 2016 there were five loan charge-offs totaling $827 thousand and loan recoveries of $1.1 million. Of the $1.1 million recoveries, $800 thousand was related to an acquired construction loan.

•

There were eleven non-accrual loans totaling $1.2 million with no specific allowance required at September 30, 2016

•

The overall growth and composition of the loan portfolio

•

Changes to the overall economic conditions within the markets in which the Company makes loans

•

Concentrations within the loan portfolio

•

The remaining fair value adjustments on loans acquired through acquisition

Management has considered various material elements of potential risk within the loan portfolio, including classified credits, pools of loans with similar characteristics, economic factors, trends in the loan portfolio and changes in the Company’s lending policies, procedures and underwriting criteria. In addition, management recognized the potential for unforeseen events to occur when evaluating the qualitative factors in all categories of its analysis.

The Company analyzes historical net charge-offs in various loan portfolio segments when evaluating the allowance. For loan segments without a meaningful historical loss experience, the analysis is adjusted to consider regulatory peer group loss experience in those loan segments. The loss analysis is then adjusted for qualitative factors that may have an impact on loss experience in the particular loan segments.

The Allowance and the reserve for unfunded loan commitments are significant estimates that can and do change based on management’s process in analyzing the loan portfolio and on management’s assumptions about specific borrowers and applicable economic and environmental conditions, among other factors. In considering all of the above factors, management believes that the Allowance at September 30, 2016 is adequate. Although the Company maintains its Allowance at a level which it considers adequate to provide for probable loan losses, there can be no assurance that such losses will not exceed the estimated amounts, thereby adversely affecting future results of operations.

The following table is a summary of the activity for the Allowance as of the dates and for the periods indicated (dollars in thousands):


	Three Months Ended September 30,						Nine Months Ended September 30,
	2016			2015			2016			2015
Allowance for loan loss at beginning of period	$	18,476		$	14,124		$	15,682		$	12,610
Provision for loan losses		697			705			2,382			2,831
Net (charge-offs) recoveries:
Charge-offs		(807	)		(42	)		(827	)		(933	)
Recoveries		5			178			1,134			457

Net (charge-offs) recoveries		(802	)		136			307			(476	)

Allowance for loan loss at end of period	$	18,371		$	14,965		$	18,371		$	14,965

Net (charge-offs) recoveries to average loans		(0.04	)%		0.01	%		0.02	%		(0.03	)%

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The following is a summary of our asset quality data and key ratios at the dates indicated (dollars in thousands):


	September 30, 2016			December 31, 2015
Loans originated by the Bank on non-accrual	$	—		$	89
Loans acquired through acquisition that are on non-accrual		1,223			1,962

Total non-accrual loans		1,223			2,051
Other Real Estate Owned		—			325

Total non-performing assets	$	1,223		$	2,376

Net charge-offs (recoveries) year to date	$	(307	)	$	2,009
Non-accrual loans to total loans		0.06	%		0.11	%
Total non-performing assets to total assets		0.04	%		0.09	%
Allowance for loan losses to total loans		0.93	%		0.86	%
Allowance for loan losses to total loans accounted at historical cost, which excludes loans acquired by acquisition		1.20	%		1.25	%
Allowance for loan losses to non-accrual loans accounted at historical cost, which excludes non-accrual loans acquired by acquisition and related allowance		—			17583	%
Allowance for loan losses to total non-accrual loans		1503	%		764	%

Deposits

The following table presents the balance of each major category of deposits at the dates indicated (dollars in thousands):


	September 30, 2016					December 31, 2015
	Amount		% of Total			Amount		% of Total
Non-interest bearing demand deposits	$	1,399,320		56	%	$	1,288,085		56	%
Interest bearing transaction accounts		284,154		11	%		261,123		11	%
Money market and savings deposits		786,882		32	%		679,081		30	%
Certificates of deposit		35,033		1	%		58,502		3	%

Total deposits	$	2,505,389		100	%	$	2,286,791		100	%

Total deposits increased $219 million to $2.5 billion at September 30, 2016, primarily due to a $111 million increase in non-interest bearing demand deposits, a $108 million increase in money market and savings deposits, a $23 million increase in interest bearing transaction accounts, offset by a decrease of $23 million in certificates of deposit. The strong growth in deposits during this period came primarily from existing relationships. Non-interest bearing deposits represented 56% of total deposits at September 30, 2016 and December 31, 2015.

Management believes one of the strengths of the Company continues to be its core deposit franchise with a cost of deposits of 0.11% for the three and nine months ended September 30, 2016.

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LIQUIDITY

The following table provides a summary of the Bank’s primary and secondary liquidity levels at the dates indicated (dollars in thousands):


	September 30, 2016			December 31, 2015
	Amount			Amount
Primary Liquidity-On Balance Sheet:
Cash and due from banks	$	47,701		$	50,960
Interest earning deposits in other financial institutions		244,205			171,103
Investment securities available-for-sale		375,094			315,785
Less: pledged cash and due from banks		—			—
Less: pledged investment securities		(194,485	)		(197,251	)

Total primary liquidity	$	472,515		$	340,597

Ratio of primary liquidity to total deposits		18.9	%		14.9	%
Additional Liquidity Not Included In Primary Liquidity:
Certificates of deposit in other financial institutions	$	51,490		$	56,860
Less: Certificate of deposits pledged		(2,731	)		(2,731	)

Total additional liquidity	$	48,759		$	54,129

Secondary Liquidity-Off-Balance Sheet:
Available Borrowing Capacity:
Total secured borrowing capacity with FHLB	$	694,084		$	544,132
Fed Funds borrowing lines		72,000			72,000
Secured credit line with the FRBSF		7,802			18,708

Total secondary liquidity	$	773,886		$	634,840

As of September 30, 2016, the Company’s primary sources of liquidity consisted of the balances reflected in the table above. The Company’s primary overnight liquidity consisted of cash and due from banks and interest earning deposits at financial institutions. The amount of funds maintained directly with the Federal Reserve included in interest earning deposits in other financial institutions was $172 million and $102 million, at September 30, 2016 and December 31, 2015, respectively. The next source of liquidity is the money market accounts at other banks. Furthermore, the Company has collateralized borrowings and unsecured borrowing facilities. In addition, the Company has $49 million in unpledged certificates of deposits in other financial institutions where the average maturity is approximately 6 months that could be utilized over time to supplement the liquidity needs of the Company.

The Company’s long term source of funding has come from the liability side of the balance sheet and has historically been through the growth in non-interest bearing and interest bearing core deposits from new and existing customers. Additional sources of funds from the Company’s asset side of the balance sheet include payments of principal and interest on loans and investment securities. While maturities and scheduled principal amortization on loans are a reasonably predictable source of funds, deposit flows and loan prepayments are greatly influenced by the level of interest rates, economic conditions and competition.

As an additional source of liquidity, the Company maintains credit facilities in the form of Fed Funds Borrowing Lines of $72 million with its primary correspondent banks for the purchase of overnight Federal funds. The lines are subject to availability of funds and have restrictions as to the number of days used, consecutively and in total during a month, $5 million of these credit facilities require the pledging of investment securities.

The Company has established a secured credit facility with the FHLB of San Francisco which allows the Bank to borrow up to 25% of the Bank’s total assets, which equates to a credit line of approximately $694 million at September 30, 2016. The Company currently has no outstanding borrowings with the FHLB. As of September 30, 2016, the Company had $953 million of loan collateral pledged with the FHLB. This level of loan collateral would provide the Company with $633 million in borrowing capacity. The Company also had $17 million in securities serving as collateral for an additional $16 million in borrowing capacity. Any amount of borrowings in excess of the $649 million, up to the Company’s borrowing capacity of $694 million, would require the Company to pledge additional collateral. In addition, the Company must

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maintain a certain investment in the common stock of the FHLB. The Company’s investment in the common stock of the FHLB is $9 million at September 30, 2016. This level of capital would allow the Company to borrow up to $340 million of the $649 million. Any advances from the FHLB in excess of the $340 million would require additional purchases of FHLB common stock.

The Company maintains a secured credit facility with the Federal Reserve Bank of San Francisco (“FRBSF”) which is collateralized by investment securities pledged with the FRBSF. At September 30, 2016, the Company’s available borrowing capacity was $8 million.

The Company maintains investments in short term certificates of deposit with other financial institutions, with an average remaining maturity of approximately 6 months, with various balances maturing monthly. The Company had balances of $51 million and $57 million at September 30, 2016 and December 31, 2015, respectively. At September 30, 2016, $2.7 million of the Company’s certificates of deposit with other financial institutions were pledged as collateral as credit support for the interest rate swap contracts and are not available as a source of liquidity.

The Company’s commitments to extend credit (off-balance sheet liquidity risk) are agreements to lend funds to customers as long as there are no covenant violations as established in the loan agreement. The total commitment amounts do not necessarily represent future cash requirements. Financial instruments with off-balance sheet risk for the Company include both undisbursed loan commitments, as well as undisbursed letters of credit. The Company’s exposure to extend credit was $920 million and $806 million at September 30, 2016 and December 31, 2015, respectively.

The holding company liquidity on a stand-alone basis was $8.7 million and $6.8 million, in cash on deposit at the Bank, at September 30, 2016 and December 31, 2015, respectively. Management believes this amount of cash is currently sufficient to fund the holding company’s cash flow needs over at least the next twelve to twenty-four months.

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DIVIDENDS

To date, the Company has not paid any cash dividends on its common stock. Payment of stock or cash dividends in the future will depend upon earnings, liquidity, financial condition and other factors deemed relevant by our Board of Directors. Notification to the FRB is required prior to declaring and paying a dividend to shareholders that exceeds earnings for the period for which the dividend is being paid. This notification requirement is included in regulatory guidance regarding safety and soundness surrounding capital and includes other non-financial measures such as asset quality, financial condition, capital adequacy, liquidity, future earnings projections, capital planning and credit concentrations. Should the FRB object to dividend payments, the Company would be precluded from declaring and paying dividends, until approval is received or the Company no longer needs to provide notice under applicable guidance.

California law also limits the Company’s ability to pay dividends. A corporation may make a distribution/dividend from retained earnings to the extent that the retained earnings exceed (a) the amount of the distribution plus (b) the amount if any, of dividends in arrears on shares with preferential dividend rights. Alternatively, a corporation may make a distribution/dividend, if, immediately after the distribution, the value of its assets equals or exceeds the sum of (a) its total liabilities plus (b) the liquidation preference of any shares which have a preference upon dissolution over the rights of shareholders receiving the distribution/dividend.

The Bank is subject to certain restrictions on the amount of dividends that may be declared without regulatory approval. Such dividends shall not exceed the lesser of the Bank’s retained earnings or net income for its last three fiscal years (less any distributions to the shareholder made during such period). In addition, the Bank may not pay dividends that would result in its capital being reduced below the minimum requirements for capital adequacy purposes.

The Company completed the merger with 1st Enterprise on November 30, 2014. As part of the Merger Agreement, 16,400 shares of preferred stock issued by 1st Enterprise as part of the Small Business Lending Fund (SBLF) program of the United States Department of the Treasury was converted into 16,400 CU Bancorp preferred shares with substantially identical terms. CU Bancorp Preferred Stock has a liquidation preference amount of $1 thousand per share, designated as the Company’s Non-Cumulative Perpetual Preferred Stock, Series A. The U.S. Department of the Treasury is the sole holder of all outstanding shares of CU Bancorp Preferred Stock.

As of September 30, 2016, both CU Bancorp “the holding company” and the Bank had positive retained earnings and positive net income that would allow either of them to declare and pay a dividend as of September 30, 2016. However, neither the holding company nor the Bank has plans to declare and pay a cash dividend on the common stock at the current time.

The Company has a program to repurchase a portion of an employee’s outstanding restricted stock upon the vesting of this restricted stock, but only in amounts necessary to cover the employee tax withholding obligations at the option of the restricted stockholder (employee). Beginning in July 2016, withheld taxes may be higher than the minimum tax rate as a result of the Company’s early adoption of ASU 2016-09. This program was designed to provide the Bank’s employees with the financial ability to cover their tax liability obligation associated with the vesting of their restricted stock at the date of vesting. These transactions under the State of California Corporations Code are defined as distributions to shareholders.

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REGULATORY MATTERS

Capital Resources

The Company’s objective is to maintain a level of capital that will support sustained asset and loan growth, provide for anticipated credit risks, and ensure that regulatory guidelines and industry standards are met. The Company and the Bank are subject to certain minimum capital adequacy and minimum well capitalized category guidelines adopted by the FRB and the FDIC. These guidelines relate primarily to the Tier 1 leverage ratio, the Common Equity Tier 1 Ratio (“CET1”), the Tier 1 risk-based capital ratio, and the Total risk-based capital ratio.

On October 26, 2015, the Company filed a Form S-3 registration statement for offerings up to $100 million of certain types of securities. If drawn on, proceeds from the offering could be used for general corporate purposes. The registration statement represents capital resources available to the Company as the registration statement is deemed to be effective by the Securities Exchange Commission (SEC) and will be available for three years.

At September 30, 2016, the respective capital ratios of the Company and the Bank exceeded the minimum percentage requirements to be deemed “well-capitalized” for Prompt Corrective Action (“PCA”) purpose and the Basel III minimum capital ratios with buffer (effective January 1, 2016) under the current capital guidelines. The following tables present the regulatory capital ratios requirements and the actual capitalization levels of the Company and the Bank as of the dates indicated (dollars in thousands):

CU Bancorp


	September 30, 2016			December 31, 2015			Well Capitalized			Basel III Minimum with Buffer
	Amount			Amount			(greater than or equal to)
*Regulatory Capital Ratios:*
Tier 1 leverage ratio		9.83	%		9.67	%		5.0	%		NA
Common Equity Tier 1 ratio		9.77	%		9.61	%		6.5	%		5.125	%
Total Tier 1 risk-based capital ratio		10.90	%		10.85	%		8.0	%		6.625	%
Total risk-based capital ratio		11.66	%		11.54	%		10.0	%		8.625	%
*Regulatory Capital Data:*
Common Equity Tier 1	$	248,219		$	223,977
Total Tier 1 capital		276,945			252,681
Total risk-based capital		296,094			268,971
Average total assets*		2,818,315			2,611,774
Risk-weighted assets		2,540,431			2,329,770

*	Represents the average total assets for calculation of the leverage ratio

California United Bank


	September 30, 2016			December 31, 2015			Well Capitalized			Basel III Minimum with Buffer
	Amount			Amount			(greater than or equal to)
*Regulatory Capital Ratios:*
Tier 1 leverage ratio		9.46	%		9.34	%		5.0	%		NA
Common Equity Tier 1 ratio		10.50	%		10.47	%		6.5	%		5.125	%
Total Tier 1 risk-based capital ratio		10.50	%		10.47	%		8.0	%		6.625	%
Total risk-based capital ratio		11.25	%		11.17	%		10.0	%		8.625	%
*Regulatory Capital Data:*
Common Equity Tier 1	$	266,751		$	234,989
Tier 1 capital		266,751			243,989
Total risk-based capital		285,900			260,279
Average total assets*		2,818,604			2,612,206
Risk-weighted assets		2,541,033			2,329,798

*	Represents the average total assets for calculation of the leverage ratio

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In July 2013, the federal bank regulatory agencies adopted final regulations which revised their risk-based and leverage capital requirements for banking organizations to meet requirements of Dodd-Frank and to implement international agreements reached by the Basel Committee on Banking Supervision intended to improve both the quality and quantity of banking organizations’ capital (“Basel III”). Dodd-Frank required the Federal Reserve to apply consolidated capital requirements to depository institution holding companies that are no less stringent than those currently applied to depository institutions.

The following are among the requirements that were phased-in beginning January 1, 2015 under the new capital rules:

•

an increase in the minimum Tier 1 capital ratio from 4.00% to 6.00% of risk-weighted assets;

•

a new category and a required 4.50% of risk-weighted assets ratio is established for CET1 as a subset of Tier 1 capital limited to common equity;

•

a minimum non-risk-based leverage ratio is set at 4.00%;

•

changes in the permitted composition of Tier 1 capital to exclude trust preferred securities (however, trust preferred securities issued prior to May 19, 2010 by a bank holding company with less than $15 billion in assets, such as CU Bancorp, continues to be included in Tier 1 capital, subject to a limit of 25% of Tier 1 capital elements; see further discussion below), mortgage servicing rights and certain deferred tax assets and include unrealized gains and losses on available-for-sale debt and equity securities;

•

the risk-weights of certain assets for purposes of calculating the risk-based capital ratios are changed for high volatility commercial real estate acquisition, development and construction loans, certain past due non-residential mortgage loans and certain mortgage-backed and other securities exposures;

•

an additional “countercyclical capital buffer” is required for larger and more complex institutions; and

•

a new additional capital conservation buffer of 2.5% of risk weighted assets over the period from 2016 to 2019 must be met to avoid limitations on the ability of the Company and the Bank to pay dividends, repurchase shares or pay discretionary bonuses.

Including the capital conservation buffer of 2.5%, the new final capital rule will result in the following minimum ratios: (i) a Tier 1 capital ratio of 8.5%, (ii) a common equity Tier 1 capital ratio of 7.0%, and (iii) a total capital ratio of 10.5%. The new capital conservation buffer requirement phase-in began in January 2016 at 0.625% of risk-weighted assets and will increase each year by 0.625% until fully implemented in January 2019. While the final capital rule sets higher regulatory capital standards for the Company and the Bank, bank regulators may also continue their past policies of expecting banks to maintain additional capital beyond the new minimum requirements. The implementation of the final capital rules or 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 or executive bonuses and require the raising of additional capital.

Under Dodd Frank, trust preferred securities are excluded from Tier 1 capital, unless such securities were issued prior to May 19, 2010 by a bank holding company with less than $15 billion in assets. CU Bancorp assumed approximately $12.4 million of junior subordinated debt securities issued to various business trust subsidiaries of Premier Commercial Bancorp and funded through the issuance of approximately $12.0 million of floating rate capital trust preferred securities. These junior subordinated debt securities were issued prior to May 19, 2010. Because CU Bancorp has less than $15 billion in assets, the trust preferred securities that CU Bancorp assumed from Premier Commercial Bancorp continues to be included in Tier 1 capital, subject to a limit of 25% of Tier 1 capital elements.

The Company also currently includes in its Tier 1 capital an amount of Non-Cumulative Perpetual Preferred Stock, Series A issued under the SBLF program. The U.S. Department of the Treasury is the sole holder of all outstanding shares of CU Bancorp Preferred Stock. Under the Final Rule, the CU Bancorp Preferred Stock continues to be included in Tier 1 Risk-Based Capital because non-cumulative perpetual preferred stock remained classified as Tier 1 capital following the enactment of Dodd Frank.

Dodd-Frank Wall Street Reform and Consumer Protection Act

For a discussion regarding the implementation of the Dodd-Frank Wall Street Reform and Consumer Protection Act, see the Company’s December 31, 2015 Form 10K, Part I, Item 1 – Business – Supervision and Regulation – Legislation and Regulatory Developments – Dodd Frank Wall Street Reform and Consumer Protection Act.

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Consent Order

On September 23, 2016, California United Bank (the “Bank”), the wholly owned subsidiary of CU Bancorp (the “Company”) entered into a Stipulation to the Issuance of a Consent Order with its bank regulatory agencies, the Federal Deposit Insurance Corporation (“FDIC”) and the California Department of Business Oversight (“CDBO”), consenting to the issuance of a consent order (the “Consent Order”) relating to weaknesses in the Bank’s Bank Secrecy Act and Anti-Money Laundering (collectively “BSA”) compliance program. In consenting to the issuance of the Consent Order, the Bank did not admit or deny any charges of unsafe or unsound banking practices related to the BSA compliance program.

Under the terms of the Consent Order the Bank and/or its Board of Directors is required to take certain actions which include, but are not limited to: a) Increasing Board supervision of the BSA compliance program; b) Notification to the regulatory agencies prior to appointment of a new BSA Officer or the executive to whom the BSA Officer reports; c) Formulation of a written action plan describing the actions to be taken to correct BSA/AML related deficiencies, a revised, written BSA/AML compliance program and review and enhancement of the Bank’s BSA risk assessment; d) Performance of a review of BSA staffing needs; e) Enhancement of internal controls to ensure full compliance with the BSA; f) Establishment of an independent testing program for compliance with the BSA rules and regulations; and g) Obtaining regulatory agency consent for expansionary activities such as new branches, offices, delivery channels, products and services.

The Consent Order is expected to result in additional BSA compliance expenses for the Bank and the Company. It may also have the effect of limiting or delaying the Bank’s and the Company’s ability to obtain regulatory approval for certain expansionary activities, to the extent desired by the Company. The Consent Order does not otherwise impact the Bank’s business activities outside of BSA. The Consent Order does not require the Bank to pay any civil money penalty or require additional capital. The Consent Order will remain in effect and be enforceable until it is modified, terminated, suspended or set aside by the FDIC and the CBDO. Management and the Board have expressed their full intention to comply with all parts of the Consent Order at the earliest possible date.

Number of Employees

The number of active full-time equivalent employees increased from 266 at December 31, 2015 to 285 at September 30, 2016.

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ITEM 3. Quantitative and Qualitative Disclosures about Market Risk

The Company’s primary market risk is interest rate risk. Interest rate risk is the potential for economic losses due to future interest rate changes. These economic losses can be reflected as a loss of future net interest income and/or a loss of current fair market values. The objective is to measure the effect on net interest income and to adjust the balance sheet to minimize the inherent risk while at the same time maximizing income. Management realizes certain risks are inherent and that the goal is to identify and minimize the risks. To mitigate interest rate risk, the structure of the Company’s balance sheet is managed with the objective of correlating the movements of interest rates on loans and investments with those of deposits and borrowings.

The Company’s exposure to interest rate risk is reviewed by the Company’s management Asset/Liability Committee formally on a quarterly basis and on an ongoing basis. The main tool used to monitor interest rate risk is a dynamic simulation model that quantifies the estimated exposure of net interest income to sustained interest rate changes. The simulation model estimates the impact of changing interest rates on interest income from all interest earning assets and interest expense paid on all interest bearing liabilities reflected on the Company’s balance sheet. This sensitivity analysis is compared to the Company’s policy limits, which specify a maximum tolerance level for net interest income exposure over a one-year horizon assuming no balance sheet growth, given a 400 basis point upward (maximum) and 300 basis point downward (maximum) shift in interest rates, in 100 basis point increments.

At September 30, 2016, the Company had sixteen pay-fixed, receive-variable interest rate contracts that were designed to convert fixed rate loans into variable rate loans. Fourteen of these swap contacts are designated as fair value hedges. For additional information on these interest rate contracts, see Note 9 – Derivative Financial Instruments located in Part I, Item 1.—Notes to the Consolidated Financial Statements.

The Company has no market risk sensitive instruments held for trading purposes. Management believes that the Company’s market risk is reasonable at this time.

The following depicts the Company’s net interest income sensitivity analysis as of September 30, 2016 (dollars in thousands):


Simulated Rate Changes	Estimated Net Interest Income Sensitivity
+ 400 basis points		32.1	%	$	28,769
+ 100 basis points		7.9	%	$	7,115
- 200 basis points (1)		(7.9	)%	$	(7,042	)

(1)

The simulated rate change under the -200 basis points reflected above actually reflects only a maximum negative 50 basis points or less decline in actual rates based on the current targeted Fed Funds target rate by the government of 0.25% to 0.50%. The -200 simulation model reflects repricing of liabilities of less than 0.25% due to the Company paying significantly less than 25 basis points on its deposit accounts, and higher downward repricing of the Company’s interest earning assets in the -200 simulation model.

The Company is currently asset sensitive. The estimated sensitivity does not necessarily represent our forecast and the results may not be indicative of actual changes to our net interest income. These estimates are based upon a number of assumptions including: the nature and timing of interest rate levels including yield curve shape, prepayments on loans and securities, pricing strategies on loans and deposits and replacement of asset and liability cash flows. The effective duration of the Company’s investment securities portfolio is approximately 1.6 years at September 30, 2016, compared to 2.1 years at December 31, 2015. Management considers the current effective duration to be relatively low and future purchases may increase this measurement if doing so will provide increased earnings while keeping the duration near 2. While the assumptions used are based on current economic and local market conditions, there is no assurance as to the predictive nature of these conditions including how customer preferences or competitor influences might change.

Variable rate loans make up 73% of the loan portfolio. Of the total variable rate loans, 53% are tied to the Prime index with $589 million subject to repricing within 30 days of a 25 basis point increase in Prime rate. However, the Company has floors on some of its loans. At September 30, 2016, 40% of variable rate loans are at their floor, and thus an increase in the underlying index may not necessarily result in an increase in the coupon until the loan index plus margin exceeds that floor. The remaining 47% of the variable rate loans are tied to other indexes with longer repricing frequencies such as the Treasury index and the LIBOR index. The increase in the LIBOR rate during 2016 has not had an effect on our loan yields as only 13% of our variable rate loans are tied to the LIBOR index.

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An additional tool used less frequently by management to monitor interest rate risk includes the standard GAP report, which measures the estimated difference between the amount of interest-sensitive assets and interest-sensitive liabilities anticipated to mature or reprice during future periods, based on certain assumptions. In general, the GAP report presents the carrying amounts of these assets and liabilities in a particular period based on either the date that they first reprice, for variable rate products, or the maturity date, for fixed rate products.

The Company’s static GAP as of September 30, 2016, is not materially different from that reported at December 31, 2015 and is thus not included in this 10-Q. See the Company’s Static Gap reports under “Item7A-Quantitative and Qualitative Disclosures about Market Risk” in the Company’s 2015 Annual Report on Form 10-K.

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ITEM 4. Controls and Procedures

a) Evaluation of disclosure controls and procedures

We carried out an evaluation, under the supervision and with the participation of our management, including our Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act) as of the end of our fiscal year. Based upon that evaluation, our Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures are effective in ensuring that information required to be disclosed by us in reports that we file or submit under the Exchange Act (i) is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms and (ii) is accumulated and communicated to our management, including our Chief Executive Officer and Chief Financial Officer to allow timely decisions regarding required disclosure.

b) Changes in internal controls over financial reporting

There have been no changes in our internal controls over financial reporting (as defined in Rules 13a-15(f) and 15d-15(f) of the Exchange Act) identified during the fiscal quarter that ended September 30, 2016 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

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PART II – OTHER INFORMATION

ITEM 1. Legal Proceedings

From time to time the Company is involved in certain legal actions arising from normal business activities. The Company believes the ultimate resolution of all pending legal actions will not have a material effect on the financial statements of the Company.

ITEM 1A. Risk Factors

In addition to the other information set forth in this Quarterly Report on Form 10-Q, you should carefully consider the risk factors discussed under “Part I. Item 1A. Risk Factors” included in our 2015 Annual Report on Form 10-K for the year ended December 31, 2015. These risk factors could materially and adversely affect our business, financial condition, liquidity, results of operations and capital position, and could cause our actual results to differ materially from our historical results or the results contemplated by the forward-looking statements contained in this Quarterly Report on Form 10-Q. Additional Risk Factors have been set out below in this Quarterly Report on Form 10-Q relative to the Consent Order between the Bank and the FDIC and CDBO disclosed in the Company’s 8-K filing on September 26, 2016.

The Company and the Bank are operating under enhanced regulatory supervision that could materially and adversely affect our business.

On September 23, 2016, California United Bank (the “Bank”), the wholly owned subsidiary of the Company entered into a Stipulation to the Issuance of a Consent Order with its bank regulatory agencies, the Federal Deposit Insurance Corporation (“FDIC”) and the California Department of Business Oversight (“CDBO”), consenting to the issuance of a consent order (the “Consent Order”) relating to weaknesses in the Bank’s Bank Secrecy Act and Anti-Money Laundering (collectively “BSA”) compliance program.

Our failure to comply with the Consent Order may result in additional regulatory action, including civil money penalties against the Bank and its officers and directors or enforcement of the Consent Order through court proceedings, which could have a material and adverse effect on our business, results of operations, financial condition, cash flows and stock price.

ITEM 2. Unregistered Sales of Equity Securities and Use of Proceeds

None.

ITEM 3. Defaults upon Senior Securities

None.

ITEM 4. Mine Safety Disclosures

Not applicable.

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ITEM 5. Other Information

(a) None.

(b) None.

ITEM 6. Exhibits

(a) Index to Exhibits


Exhibit Number		Description

3.2⌂		Amended and Restated Bylaws of California United Bank

31.1⌂		Certification of Chief Executive Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002

31.2⌂		Certification of Chief Financial Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002

32.1⌂		Certification of Chief Executive Officer and Chief Financial Officer Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002

101.INS⌂		XBRL Instance Document

101.SCH⌂		XBRL Taxonomy Extension Schema Document

101.CAL⌂		XBRL Taxonomy Calculation Linkbase Document

101.LAB⌂		XBRL Taxonomy Label Linkbase Document

101 DEF⌂		XBRL Taxonomy Extension Definition Linkbase Document

101.PRE⌂		XBRL Taxonomy Presentation Linkbase Document

⌂	Attached hereto

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SIGNATURES

Pursuant to the requirements of the Security Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

CU BANCORP


Date: November 8, 2016				/s/ DAVID I. RAINER

				David I. Rainer
				Chief Executive Officer

Date: November 8, 2016				/s/ KAREN A. SCHOENBAUM

				Karen A. Schoenbaum
				Chief Financial Officer

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