ITEM 1.
BUSINESS
Community Bancorp
Community Bancorp is the bank holding company for Community Bank of Nevada, a Nevada State chartered bank headquartered in Las Vegas, and Community Bank of Arizona, an Arizona state chartered bank headquartered in Phoenix, Arizona (collectively “the Company”). Through its subsidiary banks Community Bancorp delivers an array of commercial bank products and services with an emphasis on customer relationships and personalized service. At December 31, 2007, the Company had total assets of $1.7 billion, gross loans of $1.4 billion, total deposits of $1.2 billion and stockholders’ equity of $235.1 million.
Community Bank of Nevada was organized in July 1995 by local community leaders and experienced bankers with the purpose of providing superior community banking services to the greater Las Vegas area. Community Bancorp was formed in 2002 and Community Bank of Nevada became its wholly-owned subsidiary. As a result of this reorganization, shareholders of Community Bank of Nevada became shareholders of Community Bancorp. In the fourth quarter of 2004, Community Bancorp successfully completed its initial public offering (“IPO”) and concurrent listing of common stock on the NASDAQ Global Market. In the offering, $39.3 million was raised, net of expenses, and certain selling shareholders received net proceeds of $16.5 million.
In September 2006, Community Bank of Arizona (formerly Cactus Commerce Bank) was acquired adding the Company’s first full-service bank outside of Nevada. Community Bank of Arizona was established in November 2003, primarily to serve small business and professional customers.
The Company focuses on meeting the banking needs associated with the population and economic growth of the greater Las Vegas and Phoenix areas. Customers are generally small to medium size businesses (e.g., less than $50 million in annual revenues) that desire personalized commercial banking products and services, with an emphasis on relationship banking and prefer locally-managed banking institutions that provide personalized service.
Historically, the Company has focused its lending activities on commercial real estate loans, construction loans and land acquisition and development loans, which comprised 81.7% of its loan portfolio at December 31, 2007. While this continues to be a large part of the Company’s business, management believes significant opportunities for growth exist in commercial and industrial (C&I) and Small Business Administration (SBA) loans.
As of December 31, 2007, the Company had thirteen full-service branches and various administrative offices located in greater Las Vegas, Nevada and three full-service branches, one administrative office and one loan production office (LPO) located in greater Phoenix, Arizona. Six of the branches located in greater Las Vegas were opened as de novo branches (one in 2007), three branches were added in 2005 with the acquisition of Bank of Commerce and four branches were added in 2006 with the acquisition of Valley Bancorp. The Company’s Arizona operations commenced with the purchase of Community Bank of Arizona, which consisted of one branch. During 2007, the Company expanded its Arizona operations through the opening of two de novo branches and an administrative office.
The Company’s headquarters are located at 400 South 4th Street, Suite 215, Las Vegas, Nevada 89101 and its telephone number is (702) 878-0700. The Company’s website can be accessed at www.communitybanknv.com. None of the information on or hyperlinked from the Company’s website is incorporated herein.
Strategies
The Company’s growth and operating strategies are centered on creating long term benefit to our shareholders, customers and employees. The key elements of the Company’s growth and operating strategies are:
Growth Strategies
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Capitalize on organic growth opportunities for loans and deposits in the Las Vegas and Phoenix markets.
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Expand franchise value through establishment or acquisition of new branches or banks in markets that offer regional continuity, including the greater Las Vegas and Phoenix markets.
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Continue to grow commercial real estate lending by maintaining the professional respect of the community’s developers and leveraging background and depth of experienced lenders.
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Expand commercial and industrial lending, as well as small business relationships and SBA loans which commonly are associated with deposits that are a lower cost funding source.
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Continue as a public company with common stock that is quoted and traded on a global stock market.
Operating Strategies
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Maintain high asset quality by maintaining rigorous loan underwriting standards and credit risk management practices.
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Continue to actively manage interest rate and market risks by closely matching the volume and maturity of interest rate sensitive assets to interest rate sensitive liabilities in order to mitigate adverse effects of rapid changes in interest rates.
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Diversify revenue sources by expanding product lines and maximizing products to each client relationship.
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Enhance risk management functions by proactively managing sound procedures and committing experienced human resources to this effort.
Market Area
The Company currently operates in what management believes to be some of the most attractive markets in the western United States. The market areas have historically reported high per capita income and experienced some of the fastest population growth in the country.
Nevada
The primary market area served by Community Bank of Nevada is Clark County, Nevada. Clark County is one of the fastest growing areas in the United States. According to the Center for Business and Economic Research based at the University of Nevada, Las Vegas, or the CBER, between 2002 and 2007, Clark County’s population grew from approximately 1.5 million to 2.0 million. This growth has been driven by a variety of factors, including growth in the service economy associated with the hospitality and gaming industries, affordable housing, the benefits of no state income tax, a growing base of senior and retirement communities, and general recreational opportunities associated with a favorable climate.
Arizona
The primary market area served by Community Bank of Arizona is the greater Phoenix metropolitan area, in Maricopa County. According to the Economic and Business Research Center based at The Eller College of Management, The University of Arizona, Tucson, the greater Phoenix population is in excess of 3.9 million persons at December 31, 2007. The Phoenix metropolitan area contains companies operating in the following industries: 1) aerospace, 2) high-tech, 3) manufacturing, 4) construction, 5) energy, 6) transportation, 7) minerals and mining and 8) financial services.
Business Activities
The Company provides full-service banking services primarily in the Las Vegas and Phoenix metropolitan markets with a focus on small to medium size businesses. Many of these businesses provide goods and services, directly or indirectly, for the development of the infrastructure that services the growing population specific to the aforementioned markets. Customers include developers, contractors, professionals, distribution and service businesses, local residential home builders and manufacturers. Further, a broad range of traditional banking services and
products are offered to individuals, including personal checking and savings accounts and other consumer banking products, including electronic banking, as well as lending products.
The Company originates a variety of loans, including commercial real estate and construction loans, secured and unsecured C&I loans, residential real estate loans, SBA loans, and, to a lesser extent, consumer loans. In addition to direct loan origination, the Company utilizes relationships within the banking industry to participate in loans that meet its credit criteria. The amount of purchased (bought) participation loans at December 31, 2007 constituted approximately 11.8% of the Company’s total loan portfolio.
Management has emphasized the utilization of variable rate pricing for the majority of loan commitments. Among the variety of credit products provided, only the permanent commercial real estate loans have competitive pressures to provide a fixed rate pricing. The Company has remained competitive in the fixed rate market with a rate product that adjusts every 36 to 60 months, tied to recognized indexes (e.g., Prime and LIBOR).
The Company manages its loan portfolio to provide for an adequate return and a diversification of risk. The Company has consistently maintained strong asset quality.
The Company’s lending activities are concentrated in three main categories, as described below.
Real Estate Loans. The Company’s real estate loan portfolio consists of: 1) commercial, 2) residential and 3) construction and land development loans. Commercial real estate (“CRE”) loans totaled $370.5 million, or 30.8% of the real estate loan portfolio. Owner occupied commercial real estate loans were approximately 50.5% of the commercial category. Residential loans totaled $43.2 million, or 3.6% of the real estate portfolio, and include farmland loans and loans for custom homes to high net worth borrowers. This loan category does not contain any conventional mortgage or subprime loans. Construction and land development loans totaled $789.2 million, or 65.6% of the real estate portfolio, and includes loans for undeveloped land of $178.3 million.
To manage the concentration of loans in CRE and the inherently higher risk associated with construction lending (see “Item 1A.
ITEM 1A.
RISK FACTORS
An investment in the Company’s common stock is subject to risks inherent to our business. The material risks and uncertainties that management believes may affect the Company’s business are described below. Before making an investment decision, you should carefully consider the risks and uncertainties described below together with all of the other information included or incorporated by reference in this Report. The risks and uncertainties described below are not the only ones facing the Company’s business. Additional risks and uncertainties that management is not aware of or focused on or that management currently deems immaterial may also impair the Company’s operations. This Report is qualified in its entirety by these risk factors.
If any of the following risks actually occur, the Company’s financial condition and results of operations could be materially and adversely affected. If this were to happen, the value of the Company’s common stock could decline significantly, and you could lose all or part of your investment.
Factors Relating to the Company’s Markets and Business
Continued deterioration in economic conditions in any of the Company’s market areas, and particularly a slowdown in either gaming and tourism activities or the real estate market in Las Vegas, could adversely affect the Company’s business, financial condition, results of operations and prospects. Such deterioration could result in a variety of adverse consequences to the Company, including a reduction in net income and the following:
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Loan delinquencies may increase, which could cause an increase to the provisions for loan losses;
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Problem assets, other real estate owned, and foreclosures may increase, which could result in higher operating expenses, as well as possible increases in the provisions for loan losses;
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Demand for products and services may decline, including specifically, the demand for loans, which would cause revenues (net interest income and non-interest income) to decline; and
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Collateral for loans may decline in value, in turn reducing a customer’s borrowing power, and thus reducing the value of assets and collateral associated with the Company’s loans, which could cause decreases in net interest income and increase the provision for loan losses.
The greater Las Vegas area economy has grown dramatically during the past several years. The failure of this economy to sustain such growth in the future could seriously affect the Company’s ability to grow and to be profitable.
The Company’s assets have grown to $1.7 billion as of December 31, 2007 compared to $400.6 million at December 31, 2002. This growth has been fueled, in part, by the significant growth in the greater Las Vegas area. Diminished growth of this market in the future could have a significant adverse impact on the Company’s continued growth and profitability.
The residential real estate market in Las Vegas deteriorated significantly during 2007 which has led to, among other things, a decrease in the Company’s ability to grow loans in the construction and commercial real estate sectors. Continuing economic weakness in the local economy and on the national level will adversely impact the Company’s profitability and its ability to sustain its historical growth rate.
The current changing economic environment poses significant challenges for the Company.
The Company is operating in a challenging and uncertain economic environment, including generally uncertain national and local conditions. Financial institutions continue to be affected by the softening of the real estate market and constrained financial markets. While the Company has very limited direct exposure to the residential real estate market and has no subprime residential loans or securities backed by such loans, the Company’s real estate portfolio as well as its commercial and industrial loans may continue to be adversely impacted by these trends. As a result, continued declines in real estate values, home sales volumes and financial stress on borrowers as a result of the uncertain economic environment, including job losses, interest rate resets on adjustable rate mortgage loans and other factors could have adverse effects on the Company’s borrowers which would adversely affect its financial condition and results of operations. This deterioration in economic conditions could result in losses beyond that which is provided for in the Company’s allowance for loan losses.
The Las Vegas market area is substantially dependent on gaming and tourism revenue, and a decrease in gaming or tourism could seriously hurt the Company’s business and prospects.
While the Company has operations in Arizona, its business is currently concentrated in the greater Las Vegas area, which has a unique economy in the United States for its level of dependence on services and industries related to gaming and tourism. Any event that negatively impacts the tourism or gaming industry will adversely impact the Las Vegas economy.
Gaming and tourism revenue (whether or not such tourism is directly related to gaming) is vulnerable to various factors. A prolonged national economic downturn could have a significant adverse effect on the economy of the Las Vegas area. Virtually any development or event that could dissuade travel or spending related to gaming and tourism, whether inside or outside of Las Vegas, could adversely affect the Las Vegas economy. In this regard, the Las Vegas economy may be more susceptible than the economies of other cities to issues such as higher gasoline and other fuel prices, increased airfares, unemployment levels, recession, rising interest rates, and other economic conditions, whether domestic or foreign.
An expansion of permissible gaming activities in other states, particularly in California, may lead to a decline in gaming revenue in Las Vegas, which could hurt the Company’s business and prospects.
Las Vegas competes with other areas of the country for gaming revenue, and it is possible that the expansion of gaming operations in other states, as a result of changes in laws or otherwise, could significantly reduce gaming revenue in the greater Las Vegas area. This is particularly true of gaming operations in California, a state from which Nevada generally, and Las Vegas in particular, draws substantial year-round visitors. Agreements negotiated between the State of California and certain Indian tribes as well as other proposals currently under consideration in California may result in substantial additional casinos throughout the state. In addition, other California legislative proposals could permit an expansion of gaming activities allowed in card clubs, including the addition of slot machines. A dramatic growth in casino gaming in California or other states could have a substantial adverse effect on gaming revenue in Nevada, including the Las Vegas area, which would adversely affect the Las Vegas economy and the Company’s business.
A terrorist act, or the mere threat of a terrorist act, may adversely affect the Las Vegas economy and may cause substantial harm to the Company’s business.
Gaming and tourism are also susceptible to certain political conditions or events, such as military hostilities and acts of terrorism, whether domestic or foreign. The effects of the terrorist attacks of September 11, 2001, on gaming and tourism in Las Vegas were substantial for a few months. Reduced civilian air traffic in large part caused a reduction in revenue and employee layoffs in many hotels and casinos. This resulted in a substantial loss of
revenues for these businesses. Any direct attack on locations in Las Vegas would likely have an even greater adverse impact on the Company’s local economy.
The Company has a high concentration of loans secured by real estate and further deterioration in the real estate market, for any reason, could hurt its business and prospects.
At December 31, 2007, 84.8% of the Company’s loan portfolio was comprised of real estate loans. Undeveloped land loans, which are included in the categories below, represent approximately 15% of total gross loans secured by real estate. Within the real estate loan portfolio, approximately:
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65% are construction and land development loans, including undeveloped land;
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31% are commercial real estate loans; and
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4% are residential real estate loans.
These real estate loans are concentrated in the greater Las Vegas area. A further deterioration in the local economy could have a material adverse effect on a borrower’s ability to repay these loans due to either loss of the borrower’s employment or a reduction in the borrower’s business. Further, such reduction in the local economy could severely impair the value of the real property held as collateral. As a result, the value of real estate collateral securing the Company’s loans could be reduced. This could reduce the Company’s ability to recover on defaulted loans by foreclosing and selling the real estate collateral which would increase the likelihood the Company may suffer losses on defaulted loans.
At December 31, 2007, 96% of the Company’s real estate loan portfolio consisted of commercial real estate loans, land development and construction loans. Most of the Company’s loan originations in recent years have been commercial real estate and land development and construction loans and management intends to continue to participate in this type of lending. Historically, commercial real estate loans and land development and construction loans generally expose a lender to a greater risk of loss than one- to four-family residential or certain other types of loans. Repayment of commercial real estate loans generally depends, in large part, on sufficient income from the property or the borrower’s business, respectively, to cover operating expenses and debt service. Commercial real estate loans and land development and construction loans typically involve larger loan balances to single borrowers or groups of related borrowers compared to other types of loans. Changes in economic conditions that are beyond the control of the borrower and lender could affect the value of the collateral for the loan, the future cash flow of the affected property, or the marketability of a project with respect to loans originated for the acquisition, development and construction of a project.
In addition, federal banking regulators issued final guidance regarding commercial real estate lending. This guidance suggests that institutions that are potentially exposed to significant CRE concentration risk will be subject to increased regulatory scrutiny. Institutions that have experienced rapid growth in CRE lending, have notable exposure to a specific type of CRE lending, or are approaching or exceed certain supervisory criteria that measure an institution’s CRE portfolio against its capital levels, may be subject to such increased regulatory scrutiny. The Company’s CRE portfolio may be viewed as falling within one or more of the foregoing categories, and accordingly the Company may become subject to increased regulatory scrutiny. If it is determined by the regulators that the Company has an undue concentration in CRE lending, it may be required to maintain levels of capital in excess of the statutory minimum requirements and/or be required to reduce its concentration in CRE loans.
Factors Relating to the Company’s Business
The Company’s future success involves both its ability to grow and manage such growth. Management must also continue to manage the risks inherent in the banking business. The Company may not be able to sustain its historical growth rates, be able to grow at all, or successfully manage any growth, whether or not the greater Las Vegas or Phoenix area economies continue to grow. This could result in a variety of adverse consequences to the Company, including the following:
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Inability to realize any benefit from the investment of resources made to support future growth;
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Failure to attract or retain experienced commercial bankers or other key employees;
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Inability to maintain adequate controls and systems; and
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Failure to comply with applicable federal, state and local laws, rules and regulations.
The Company may not be able to continue its historical growth rate.
As previously noted, the Company’s assets have grown to $1.7 billion as of December 31, 2007 from $400.6 million at December 31, 2002. The Company’s business strategies include, among other things:
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Continued growth of assets, loans, deposits and customer base;
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Expansion through acquisition or the establishment of new branches or banks in high growth markets, such as the greater Las Vegas and Phoenix areas, and similar high growth markets;
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Recruitment of experienced commercial bankers and other key employees; and
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Effective leveraging of capital.
However, the Company may encounter unanticipated obstacles in implementing these strategies, including the continued deterioration of the residential real estate sector in the Company’s market areas. If management is unable to expand the Company’s business, as anticipated, the Company may not be able to maintain profitability, and there can be no assurance that it will be able to sustain historical growth rates.
A component of the Company’s business strategy is to expand into high growth markets by opening new branches or organizing new banks and/or acquiring other financial institutions. Management may not be able to successfully implement this part of the Company’s business strategy, and therefore its market value and profitability may suffer.
Growth through acquisitions of banks represents a component of the Company’s business strategy and has significantly impacted the Company’s results over the last several years. Acquisition activity for the foreseeable future will likely be limited as a result of current credit issues encountered by many financial institutions and the recent decline in the Company’s stock price. Additionally, any future acquisitions will be accompanied by the risks commonly encountered in acquisitions. These risks include, among other things:
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Difficulty of integrating the operations and personnel of acquired banks and branches;
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Potential disruption of ongoing banking business;
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Inability of management to maximize the Company’s financial and strategic position by the successful implementation of uniform product offerings and the incorporation of uniform technology into product offerings and control systems; and
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Inability to maintain uniform standards, controls, procedures and policies and the impairment of relationships with employees and customers as a result of changes in management.
The Company cannot make assurances that it will be successful in overcoming these risks or any other problems encountered in connection with acquisitions. The inability to improve the operating performance of acquired banks or to integrate their operations successfully could have a material adverse effect on the Company’s business, financial condition, results of operations and cash flows. In addition, the Company could incur substantial expenses, including the expenses of integrating the business of the acquired bank with its existing business.
Management expects that competition for qualified acquisition candidates to be significant. The Company may compete with other banks or financial service companies with similar acquisition strategies, many of which may be larger or have greater financial and other resources. The purchase price of banks that might be attractive acquisition candidates may significantly exceed the fair values of their net assets. As a result, material goodwill and other intangible assets would be required to be recorded. The Company cannot assure you that it will be able to successfully identify and acquire suitable banks on acceptable terms and conditions.
Depending upon the structure of an acquisition and the consideration the Company may utilize, it may not seek your approval as a shareholder. Further, acquisitions may be structured to include cash consideration that may result in the depletion of a substantial portion of the Company’s available cash.
Besides the acquisition of existing financial institutions, the Company may consider the organization of new banks in high growth areas, especially in markets outside of the greater Las Vegas and Phoenix areas. The Company may also consider the opening of new branch offices. Any organization of a new bank or opening of new branches carries with it numerous risks, including the following:
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Inability to obtain all required regulatory approvals;
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Significant costs and anticipated operating losses during the application and organizational phases, and the first years of operations of the new bank;
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Inability to secure the services of qualified senior management;
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Non-acceptance of the services of a new bank owned and managed by a bank holding company headquartered outside of the market area of the new bank;
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Additional strain on management resources and internal systems and controls; and
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Inability to secure required capital.
The Company’s growth could be hindered unless it is able to recruit additional qualified employees.
Prior to the deterioration of the residential real estate sector during the second half of 2007, the greater Las Vegas and Phoenix metropolitan areas had experienced a period of rapid economic growth over the past several years. These growth periods have placed a premium on highly qualified employees in a number of industries, including the financial services industry. The Company’s business plan includes, and is dependent upon, hiring and retaining highly of qualified and motivated executives and employees at every level. Management expects to experience substantial competition in its endeavor to identify, hire and retain top-quality employees. If the Company is unable to hire and retain qualified employees in the near term, it may be unable to successfully execute it business strategies and/or be unable to successfully manage its growth.
Management believes its current personnel and infrastructure is adequate to support the Company’s current size. However, future success will depend on the ability of the Company’s executives and employees to continue to implement and improve operational, financial and management controls and processes, reporting systems and procedures, and to manage a growing number of client relationships. In this regard, the Company may not be able to successfully implement improvements to its management information and control systems and control procedures and processes in an efficient or timely manner. In particular, controls and procedures must be able to accommodate additional increases in loan volume and the infrastructure that comes with new branches.
Additionally, if the management is unable to locate additional qualified personnel to manage future expansion (consistent with the Company’s strategies) it may experience compliance and operational issues, have to slow the pace of growth or have to incur additional expenditures beyond current projections to support such growth, any one of which could adversely affect on the Company’s business.
The Company’s business would be harmed if it lost the services of any of its key executives.
The Company believes that its success to date and prospects for future success are substantially dependent on the executive management teams of Community Bancorp, Community Bank of Nevada and Community Bank of Arizona. The loss of the services of any of these key executives could have an adverse effect on the Company’s business and in light of the relatively small pool of persons involved in the greater Las Vegas area banking industry, replacing key members of the executive management teams or senior officers with equally competent persons who are also familiar with the Company’s market areas may prove difficult.
There is intense competition in the Company’s market areas and management cannot assure you that it will be able to successfully compete.
Commercial banking in the greater Las Vegas and Phoenix metropolitan areas is a highly competitive business. Increased competition in the Company’s markets may result in a reduction in volume of loans and deposits. The Company competes for loans, deposits and customers primarily with the local offices of major banks and with other community banks in its market as well as credit unions, small loan companies, insurance companies, mortgage companies, finance companies, brokerage houses, other financial institutions, and out-of-state financial intermediaries, some of which are not subject to the same degree of regulation and restriction and some of which have greater financial resources. Technological advances continue to contribute to greater competition in domestic and international products and services. Ultimately, the Company may not be able to compete successfully against current and future competitors.
The Company’s allowance for loan losses may not be adequate to cover actual losses, particularly given the relatively large individual loan size.
A significant source of risk arises from the possibility that losses could be sustained because borrowers, guarantors and related parties may fail to perform in accordance with their loan terms. This risk increases during periods of economic deterioration such as was experienced during the second half of 2007 and continuing into 2008. The underwriting and credit monitoring policies that management has adopted to address this risk may not prevent unexpected losses that could have a material adverse affect on the Company. The Company’s average loan size at December 31, 2007 was approximately $952,000 (excluding credit card, overdraft and purchased participation loans). This relatively large average loan size, while an advantage from a cost generation standpoint, can adversely impact the Company if the larger loans become delinquent, unstable, impaired, uncollectible or inadequately collateralized.
Like all financial institutions, the Company maintains an allowance for loan losses to provide for loan defaults and non-performance. However, the allowance for loan losses may not be adequate to cover actual loan losses, and future provisions for loan losses could materially and adversely affect the Company’s business. The allowance for loan losses is based on the Company’s prior experience, as well as an evaluation of the known risks in the current portfolio, composition and growth of the loan portfolio and other economic factors. The determination of the appropriate level of loan loss allowance is an inherently complex process and is based on numerous assumptions. The amount of actual losses is susceptible to changes in economic, operating and other conditions, including changes in interest rates, that may be beyond the Company’s control and these losses may exceed current estimates. Management cannot assure you that it will not increase the allowance for loan losses further or that regulators will not require the Company to increase this allowance. Either of these occurrences could adversely affect the Company’s business and prospects.
The Company’s future earnings could be negatively impacted if an impairment of goodwill is recognized.
The Company recorded $113.6 million of goodwill from its merger-related activities during 2005 and 2006. Goodwill represents the difference between the fair value of the net assets (tangible and intangible) acquired and the acquisition price. In accordance with SFAS No. 141, goodwill is not amortized but tested for impairment annually. Impairment testing consists of comparing the fair value of reporting units (e.g., segments) with its carrying amount, including goodwill. An impairment loss would be recorded to the extent the carrying value of the goodwill exceeds the fair value of goodwill. If the Company is unable to sustain its growth and expand its profitability, an impairment of goodwill could be recognized which would adversely affect future earnings.
Provisions in the Company’s articles of incorporation and bylaws may limit the ability of another party to acquire the Company.
Various provisions of the Company’s articles of incorporation and by-laws could delay or prevent a third-party from acquiring the Company, even if doing so might be beneficial to our shareholders. These provisions provide for, among other requirements, advance notice for nomination of directors and limitations on the ability of shareholders
to call a special meeting of shareholders, which can make minority shareholder representation on the board of directors more difficult to establish.
The Company is subject to interest rate risk.
The Company’s earnings and cash flows are largely dependent upon the Company’s net interest income. Net interest income is the difference between interest income earned on interest earning assets such as loans and securities and interest expense paid on interest bearing liabilities such as deposits and borrowed funds. Interest rates are highly sensitive to many factors that are beyond the Company’s control, including, but not limited to, general economic conditions and policies of various governmental and regulatory agencies and, in particular, the Federal Reserve Board. Changes in monetary policy, including changes in interest rates, could influence not only the amount of interest the Company receives on loans and securities and the amount of interest paid on deposits and borrowings, but such changes could also affect the Company’s ability to originate loans and obtain deposits as well as the fair value of its financial assets and liabilities. If the interest paid on deposits and other borrowings increases at a faster rate than the interest received on loans and other investments, net interest income, and therefore earnings, could be adversely affected. Conversely, earnings could also be adversely affected if the interest received on loans and other investments fall more quickly than the interest paid on deposits and other borrowings.
Although management believes it has implemented effective asset and liability management strategies to reduce the potential effects of changes in interest rates on the results of operations, the Company’s net interest margin has been compressing over the past six quarters. Any substantial, unexpected and/or prolonged change in market interest rates could have a material adverse effect on the Company’s financial condition and results of operations. If short-term interest rates continue to decrease in 2008 as they did in January 2008, the Company may experience further compression of its net interest margin.
The Company cost of funds could increase if wholesale core deposits are unavailable.
The Company has funded a part of its loan growth through the use of wholesale core deposits. These deposits can be called with 30 to 60 days notice and have a floating interest rate indexed to the federal funds rate. If these products are unavailable in the future, management might have to secure alternative funding liabilities under terms and conditions (e.g., rates and duration) that could adversely affect the Company’s earnings.
The Company is subject to extensive government regulation. These regulations could adversely affect the Company’s business, financial condition, results of operations or cash flows.
The Company is subject to extensive regulation by federal and state governmental authorities and subject to various laws, judicial and administrative decisions imposing requirements and restrictions on part or all of its operations. Because the Company’s business is highly regulated, the laws, rules and regulations applicable to it are subject to regular modification and change. There are currently proposed laws, rules and regulations that, if adopted, would impact its operations. Management cannot assure you that these proposed laws, rules and regulations, or any other laws, rules or regulations, will not be adopted in the future, which could adversely affect the Company’s business, financial condition, results of operations or cash flows.
The Company’s Stock Trades Less Frequently Than Others.
Although the Company’s common stock is listed for trading on the NASDAQ Global Market, the trading volume of our common stock is less than that of other larger financial services companies. A public trading market having the desired characteristics of depth, liquidity and orderliness depends on the presence of willing buyers and sellers of our common stock at any given time. This presence depends on the individual decisions of investors and general economic and market conditions over which the Company has no control. The Company’s stock price could fall due to lower trading volume of our common stock, significant sales of our common stock or the expectation of these sales.
The Company’s Stock Price is Affected by a Variety of Factors.
Stock price volatility may impact resale of your common stock when desired or at attractive prices. The Company’s stock price can fluctuate significantly in response to a variety of factors discussed in this section including, among other reasons:
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Actual or anticipated variations in quarterly results of operations;
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Recommendations by securities analysts;
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Operating and stock price performance of other companies that investors deem comparable to the Company;
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News reports relating to trends, concerns and other issues in the financial services industry;
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Perceptions in the marketplace regarding the Company and/or its competitors.
• General economic conditions nationally or within the Company’s primary markets.
The Company’s Common Stock Is Not An Insured Deposit.
The Company’s common stock is not a bank deposit and, therefore, is not insured against loss by the FDIC, any other deposit insurance fund or by any other public or private entity. Investment in the Company’s common stock is inherently risky for the reasons described in this “Risk Factors” section and elsewhere in this Report and is subject to the same market forces that affect the price of common stock in any company. As a result, if you acquire the Company’s common stock, you may lose some or all of your investment.
ITEM 1B.
ITEM 1B.
UNRESOLVED STAFF COMMENTS
Not applicable.
ITEM 2.
ITEM 2.
PROPERTIES
The Company’s headquarters are located at 400 South 4th Street, Suite 215, Las Vegas, Nevada 89101, which it occupies under a ten-year lease agreement, expiring in August 2012. As of December 31, 2007, the Company operated 16 branch facilities, one loan production office and various administrative offices in Nevada and Arizona, of which 7 are owned and 14 are leased, with expiration dates ranging from November 2008 to March 2018. During 2007, the Company purchased two lots in the Phoenix metropolitan area and anticipates completing construction of new branches in 2008. In January 2008, the Company executed a new ten year lease agreement in the Las Vegas, Nevada area for a new branch anticipated to be opened during 2008.
Management believes the properties are adequately covered by insurance and that the existing facilities are adequate for present and anticipated future use.
ITEM 3.
ITEM 3.
LEGAL PROCEEDINGS
There are no material pending legal proceedings to which the Company is a party or to which any of its properties are subject. There are no material proceedings known to Management to be contemplated by any governmental authority. The Company is involved in a variety of litigation matters in the ordinary course of its business and anticipates that it will become involved in new litigation matters from time-to-time in the future.
ITEM 4.
ITEM 4.
SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
Not applicable.
PART II
ITEM 5.
ITEM 5.
MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES
Market Information
The Company’s common stock is listed on the NASDAQ Global Market and traded under the symbol CBON. The following table sets forth the high and low closing prices of the Company’s common stock for the year and during each quarter in 2007 and 2006, as reported by the NASDAQ Global Market.
Holders
As of February 29, 2008, there were approximately 4,000 stockholders of record. At such date, the Company’s directors and executive officers owned approximately 7.0% of the outstanding shares. There are no other classes of common equity outstanding.
Dividends
The Company’s has not declared a cash dividend since 2002, as it has used its current and retained earnings to support continued growth. Management does not foresee any circumstances in the immediate future in which it would consider paying cash dividends on the Company’s common stock.
Under Nevada law, a corporation may not pay a dividend if, after giving effect to the dividend, (i) the corporation would not be able to pay its debts as they become due; or (ii) the corporation’s assets would be less than the sum of its total liabilities plus the amount that would be needed, if the corporations were to be dissolved at the time of distribution, to satisfy the dissolution rights of any preferred shareholders.
Under Arizona law, a corporation may pay dividends on the same basis as any other Arizona corporation. A corporation may not make a distribution to shareholders if to do so would render the corporation insolvent or unable to pay its debts as they become due. However, an Arizona bank may not declare a non-stock dividend out of capital surplus without the approval of the Superintendent.
Additionally, the Company’s junior subordinated debt agreements contain provisions which prohibit the paying of dividends if it defers payment of interest on outstanding trust preferred securities (See “Item I. Business - Supervision and Regulation - Capital Adequacy”) and certain other borrowings contain dividend restrictions.
The holding company is a legal entity separate and distinct from Community Bank of Nevada and Community Bank of Arizona. Since the holding company has no significant assets other than Community
Bank of Nevada and Community Bank of Arizona, it will be dependent upon dividends from Community Bank of Nevada and Community Bank of Arizona for cash with which to pay dividends when, and if, the Company’s dividend policy changes.
Further, federal and state banking regulations place certain restrictions on dividends paid by Community Bank of Nevada or Community Bank of Arizona to Community Bancorp.
In addition, dividends paid by Community Bank of Nevada or Community Bank of Arizona, as the case may be, to Community Bancorp would be prohibited if the effect thereof would cause either subsidiaries’ capital to be reduced below applicable minimum capital requirements. For a discussion of the regulatory limitations on the ability of the banks to pay dividends, see “Item 1. Federal and State Regulation of Community Bank of Nevada and Community Bank of Arizona - Dividends.”
Securities Authorized for Issuance under Equity Compensation Plans
The following table provides information as of December 31, 2007 with respect to options outstanding and available under the Company’s 2005 Equity Based Compensation Plan, which is its only equity compensation plan:
Note - securities remaining available for future issuance reset annually at March 24 to 15% of the Company’s outstanding common stock reduced for any restricted shares issued.
Recent Sales of Unregistered Securities
None.
Purchases of Equity Securities by the Issuer and Affiliated Purchasers
The Board of Directors at its regular meeting of July 25, 2007, authorized the purchase of up to 5% of the Company’s outstanding shares as of June 30, 2007, or 520,996 shares, over the next twelve months. All shares were, and will be, purchased at current market prices on the date of transaction. During the quarters ended September 30, 2007 and December 31, 2007, the total number of shares repurchased was 42,800 and 273,400, respectively, at a weighted average price of $23.03 and $19.80, respectively. As of December 31, 2007, the Company could repurchase up to an additional 204,796 shares under the July 2007 authorization.
During the third and fourth quarters of 2007, shares repurchase activity was as follows:
Performance Graph
The following graph compares the percentage change in the cumulative shareholder return on the Company’s common stock during the period of December 10, 2004 through December 31, 2007, rather than five previous years, as the Company became a registered company as of December 10, 2004.
ITEM 6.
ITEM 6.
SELECTED FINANCIAL DATA
Selected Consolidated Financial Data
The selected financial information in the table below as of and for the years ended December 31, 2007, 2006, 2005, 2004 and 2003 is derived from the Company’s audited consolidated financial statements. Results for past years are not necessarily indicative of results that may be expected for any future period.
SUMMARY CONSOLIDATED FINANCIAL DATA AND OTHER DATA
(1)
There were no dividends declared in 2007, 2006, and 2005. The dividend payout ratios for 2004 and 2003 are based on stock dividends.
(2)
Net interest margin represents net interest income on a tax equivalent basis as a percentage of average interest-earning assets.
(3)
Efficiency ratio represents non-interest expenses, excluding provision for loan losses, as a percentage of the aggregate of net interest income and non-interest income.
(4)
Non-performing loans are defined as loans that are past due 90 days or more plus loans placed in non-accrual status.
(5)
Non-performing assets are defined as assets that are past due 90 days or more plus assets placed in non-accrual status plus other real estate owned.
ITEM 7.
ITEM 7.
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATION
The following discussion and analysis should be read in conjunction with the Company’s consolidated financial statements and notes to the consolidated financial statements included in Item 8 of this Report as well as “Item 1A. Risk Factors.”
As of December 31, 2007, the Company operated in two reportable segments: Community Bank of Nevada and Community Bank of Arizona. Community Bancorp is included in the “other” category because it represents an overhead function rather than an operating segment.
Overview
Since Community Bank of Nevada commenced operations in 1995, it has experienced consistent growth in total assets and profitability. Through its 2006 acquisition, the Company expanded operations to the Phoenix metropolitan market area. Growth has been fueled by the significant population and economic growth of the greater Las Vegas, and now by the Phoenix, markets (e.g., areas in which the Company operates). The growth in the greater Las Vegas area has accompanied significant investments in the gaming and tourism industry. The significant population increases in the Las Vegas and Phoenix market areas has resulted in an increase in the acquisition of undeveloped/developed land for residential and commercial development, the construction of residential communities, shopping centers and office buildings, and the development and expansion of the businesses and professions that provide essential goods and services to this expanded population. The Company’s results have been influenced by the following strategies, which were implemented in order to benefit from these market factors:
•
Reduce cost of funds by attracting a higher share of non-interest bearing deposit accounts;
•
Provide competitive CRE loans, construction loans and land acquisition and development loans, and C&I loans to high quality borrowers;
•
Focus and commitment to profitable banking relationships;
•
Encourage business development of profitable customer relationships with a “pay for performance” compensation culture;
•
Maintain disciplined controls over non-interest expense in order to consistently grow on a profitable basis;
•
Maintain strong underwriting standards and credit administration functions as well as increase lending capacity by the growth in capital base; and
•
Add seasoned professionals to the staff with banking expertise, local market knowledge and a network of client relationships.
•
Continue to look for acquisition opportunities to expand the Company’s franchise value.
KEY FACTORS IN EVALUATING FINANCIAL CONDITION AND OPERATING PERFORMANCE
Return to shareholders. For 2007, the Company’s return on average shareholders’ equity (“ROAE”) was 8.9% compared to 11.6% for 2006. The decrease in ROAE was due in part to the issuance of approximately 3.0 million shares of Community Bancorp common stock, resulting in an increase of $94.7 million in the Company’s equity, as part of the October 2006 acquisition of Valley Bancorp.
Diluted earnings per share were $1.95 for 2007, compared to $1.92 for 2006. The moderate growth in the Company’s diluted earnings per share, compared to the increases in net income during the same years, reflects the issuance of approximately 3.0 million shares in the fourth quarter 2006 as part of the acquisition of Valley Bancorp.
Return on average assets. Return on average assets (“ROAA”) was 1.2% for 2007 compared to 1.4% in 2006. The relatively stable ROAA from year to year reflects the Company’s increase in average earning assets and elimination of excess liquidity which off-set the impact of the increase in non-interest bearing assets (goodwill and core deposit intangibles), resulting from the Company’s 2006 acquisitions.
Asset quality. Non-performing loans as of December 31, 2007 were $12.1 million compared to $647,000 at December 31, 2006. As a percentage of total gross loans, non-performing loans increased to 0.85% at December 31, 2007 as compared to 0.05% at December 31, 2006. The increase in non-performing loans from December 31, 2006 is composed of non-accrual commercial and industrial, commercial real estate and construction and land development loans that are well secured with sufficient loan to values. At December 31, 2007 three credit relationships accounted for approximately $9.2 million of the non accrual loans with the balance of the non-accrual loans related to 18 borrowers with loan balances that range from $5,000 to $550,000.
Asset growth. Total assets increased by 7.8% to $1.7 billion as of December 31, 2007, from $1.6 billion as of December 31, 2006. The increase in total assets was driven primarily by a $162.0 million increase in net loans off set in part by reductions in cash and cash equivalents and securities of $46.9 million from December 31, 2006 to December 31, 2007. Asset growth during 2007 was funded primarily through increases in interest bearing deposits of $88.6 million, borrowings of $53.5 million, and current year income of $20.4 million, offset in part by a reduction in non-interest bearing deposits of $34.3 million.
Operating efficiency. The Company’s efficiency ratio increased to 53.3% in 2007 compared to 49.9% in 2006. The increase in the efficiency ratio was driven primarily by the 0.31% compression in net interest margin and increases (due to a full year of amortization) of core deposit intangible amortization and costs (e.g., payroll, rent, supplies, etc) associated with opening three new branches and one administrative office.
CRITICAL ACCOUNTING POLICIES
The Company’s accounting policies are integral to understanding its financial results. The most complex accounting policies require management’s judgment to ascertain the valuation of assets, liabilities, commitments and contingencies. The Company has established detailed policies and control procedures that are intended to ensure valuation methods are well controlled and applied consistently from year to year. In addition, the policies and procedures are intended to ensure that the process for changing methodologies occurs in an appropriate manner. The following is a brief description of the Company’s current accounting policies involving significant management valuation judgments.
Allowance for Loan Losses. The allowance for loan losses represents Managements’ best estimate of the probable losses inherent in the existing loan portfolio. The allowance for loan losses is increased by the provision for loan losses charged to expense and reduced by loan charge-offs, net of recoveries.
Management evaluates the Company’s allowance for loan losses on a quarterly basis. Management believes the allowance for loan losses, or ALLL, is a “critical accounting estimate” because it is based upon the assessment of various quantitative and qualitative factors affecting the collectibility of loans, including current economic conditions, past credit experience, delinquency status, the value of the underlying collateral, if any, and a continuing review of the portfolio of loans. For a discussion of the allowance and the Company’s methodology, see “Financial Condition - Loans - Allowance for Loan Losses in this section.”
The Company’s ALLL is based on a number of quantitative and qualitative factors, including levels and trends of past due and nonaccrual loans, asset classifications, loan grades, changes in the volume and mix of loans, collateral value, historical loss experiences, peer group loss experiences, size and complexity of individual credits, and economic conditions. Provisions for loan losses are provided on both a specific and general basis. Specific allowances are provided for impaired credits for which the expected or anticipated loss is measurable. General valuation allowances are based on a portfolio segmentation based on risk grading, with a further evaluation of various quantitative and qualitative factors noted above.
The Company incorporates statistics provided by the FDIC regarding loss percentages experienced by banks in the western United States, as well as an internal five-year loss history, to establish potential risk based on the type of collateral securing each loan. As an additional comparison, data from local banks within the Company’s peer group is reviewed to determine the nature and scope of their losses to date. These reviews provide an understanding of the geographic and size trends in the local banking community. Finally, each credit graded “Special Mention” and below with a loan balance of $200,000 or higher (e.g., an impaired loan) is individually assessed to determine the appropriate loan loss reserve for a particular credit.
Management periodically reviews the qualitative and quantitative loss factors utilized in its analysis of the specific and general allowance for loan losses in an effort to incorporate the current status of the factors described above.
Although Management believes the level of the allowance as of December 31, 2007 was adequate to absorb probable losses in the loan portfolio, a decline in local, economic or other factors could result in increasing losses that cannot be reasonably predicted at this time.
Available- for-Sale Securities. Statement of Financial Accounting Standards (“SFAS”) No. 115, Accounting for Certain Investments in Debt and Equity Securities, requires that available-for-sale securities be carried at fair value. The Company believes this to be a “critical accounting estimate” in that the fair value of a security is based on quoted market prices or, if quoted market prices are not available, fair values are extrapolated from the quoted prices of similar instruments. Management utilizes the services of a reputable third party vendor to assist with the determination of estimated fair values.
Adjustments to the fair value resulting from unrealized gains or losses on available-for-sale securities impact the consolidated financial statements by increasing or decreasing assets and stockholders’ equity. If a decline in fair value of any available-for-sale security is deemed other than temporarily impaired, the security is written down to fair market value with a corresponding charge to operating income.
Goodwill and Other Intangibles. Net assets of entities acquired in purchase transactions are recorded at fair value at the date of acquisition. The historical cost basis of individual assets and liabilities are adjusted to reflect their fair value. Identified intangibles are amortized on a straight-line basis over the period benefited. Goodwill is not amortized for book purposes, although it is reviewed for potential impairment on an annual basis on October 1, or if events or circumstances indicate a potential impairment. The impairment test is performed in two phases. The first step of the goodwill impairment test compares the fair value of the reporting unit with its carrying amount, including goodwill. If the fair value of the reporting unit exceeds its carrying amount, goodwill of the reporting unit is considered not impaired; however, if the carrying amount of the reporting unit exceeds its fair value, an additional procedure must be performed. That additional procedure compares the implied fair value of the reporting unit’s goodwill (as defined in SFAS No. 142, Goodwill and Other Intangible Assets) with the carrying amount of that goodwill. An impairment loss is recorded to the extent that the carrying amount of goodwill exceeds its implied fair value.
Other intangible assets subject to amortization are evaluated for impairment in accordance with SFAS No. 144, Accounting for the Impairment or Disposal of Long Lived Assets. An impairment loss will be recognized if the carrying amount of the intangible asset is not recoverable and exceeds fair value. The carrying amount of the intangible is considered “not recoverable” if it exceeds the sum of the undiscounted cash flows expected to result from the use of the asset.
Share-Based Compensation. Effective January 1, 2006 (the “adoption date”), the Company adopted the provisions of the FASB issued Statement No. 123 (revised 2004), or SFAS No. 123R, Share-Based Payment, and SEC Staff Accounting Bulletin No. 107 (“SAB 107”), Share-Based Payment, requiring the measurement and recognition of all share-based compensation under the fair value method. The Company adopted SFAS No. 123R using the modified prospective method for options granted. Under this transition method, SFAS No. 123R applies to new awards and to awards that were outstanding on the adoption date that are subsequently modified, repurchased or cancelled. In addition, the expense recognition provision of SFAS No. 123R applies to options granted prior to the adoption date that were unvested at the adoption date. In determining the fair value of stock options, the Company uses the Black-Scholes option-pricing model that employs the following assumptions:
•
Expected volatility - based on the historical volatility of similar entities’ stock price that have been public for a period of time at least equal to the expected life of the option.
•
Expected term of the option - based on the simple average of the vesting term and the original contract term.
•
Risk-free rate - based upon the rate on a zero coupon U.S. Treasury bill, for periods within the expected term of the option.
•
Dividend yield - based on the assumption that Management does not foresee any circumstances in the immediate future in which cash dividends would be paid on the Company’s common stock.
Segment Reporting. With the acquisition of Community Bank of Arizona on September 30, 2006, the Company increased its business presence in the greater Phoenix market area. As of December 31, 2007, certain changes were implemented in the management and reporting of certain business units and currently, the Company has two reportable operating segments: Community Bank of Nevada and Community Bank of Arizona.
Trends and Developments Impacting the Company’s Recent and Future Results
Certain trends and developments have occurred that are important in understanding the Company’s recent and future results.
•
Growth in Market Areas. The Company’s organic growth has been fueled primarily by rapid population and economic growth in greater Las Vegas where it conducts a majority of its operations. The economic growth in Las Vegas has paralleled significant investments in the gaming and tourism industries. The population growth resulted in an increase in loans for acquisition of raw land for residential and commercial development, the construction of residential communities, retail centers, office buildings and the expansion of professionals providing services to this increased population. Similarly, expansion into the Phoenix market has contributed to the Company’s growth since September 2006 (see discussion below).
Recently, economic trends in Las Vegas and Phoenix have been influenced by the weakening United States economy. The residential real estate market deteriorated significantly during 2007, which has led to a decrease in the Company’s ability to originate loans in the construction and commercial real estate sectors. Continuing economic weakness in the local economies and on the national level will adversely affect the Company’s profitability and its ability to sustain it historic growth rates.
•
2006 Acquisitions. An integral component of the Company’s growth over the past three years has been the successful completion of three mergers, including the acquisitions of Community Bank of Arizona (formerly Cactus Commerce Bank) and Valley Bancorp in 2006. These mergers have expanded the Company’s balance sheet, increased earnings and expanded operations into greater Phoenix. While acquisitions remain a strategic objective of the Company, acquisition activity for the foreseeable future will likely be limited as a result of current credit issues encountered by many financial institutions and the recent decline in the Company’s stock price. Additionally, attempting to grow through acquisition does present risks, such as finding suitable opportunities at affordable prices, integrating acquired institutions and other items as discussed in “Item 1A. Risk Factors.”
•
Balance Sheet Management. The Company’s earnings are sensitive to changes in interest rates. Between 2005 and 2006, the Company’s net interest margin remained relatively stable as the increased yield on interest earning assets, caused in part from continuing residual impact of increases in market interest rates that occurred in mid-2004 through mid-2006 were offset by higher cost of funding liabilities driven primarily by a change in deposit mix that required the use of more expensive funding sources (e.g., FHLB borrowings and junior subordinated debt versus customer deposits). During the first nine months of 2007 the Company’s net interest margin compressed to 4.95% compared to 5.39% for the same period in 2006 as yields on interest earning assets increased 44 basis points (due primarily to changes in market rates and an increase in the percentage of loans to total interest earning assets) and the cost of interest bearing liabilities increased 87 basis points (due primarily to changes in market rates and an unfavorable change in the mix of funding liabilities). By the end of the third quarter 2007 the Company had repositioned its balance sheet to a liability sensitive position in an effort to prepare for a falling interest rate environment. As short-term rates began dropping in September 2007 the Company should have experienced an increase in net interest margin. However, offsetting the benefit of being liability sensitive was lost interest from increases in non-accrual loans and unfavorable changes in deposit mix. As a result the Company’s net interest margin compressed to 4.71% during the fourth quarter of 2007 as compared to 4.90% during the quarter ended September 30, 2007.
Management uses various modeling strategies to manage the re-pricing characteristics of the Company’s assets and liabilities. These models contain a number of assumptions and cannot take into account all the various factors that influence the sensitivities of the Company’s assets and liabilities. At December 31, 2007, the Company’s balance sheet was liability sensitive, demonstrating that a larger amount of its interest sensitive liabilities will re-price within certain time horizons than will its interest sensitive assets. Being liability sensitive means generally that in times of rising interest rates, a company’s net interest margin will decrease. It also means that generally in times of falling interest rates a company’s net interest margin will be favorably impacted.
While the Company’s balance sheet was liability sensitive based on an interest rate shock analysis, various factors could further compress the Company’s net interest margin in a falling interest rate environment. These factors include, but are not limited to, reversal of interest income on non-accrual loan, changes in deposit mix and waiving of interest rate floors on variable rate loans. Additionally, the Company’s net interest margin is coming under pressure from: (i) competitor pricing strategies for both loans and deposits that the Company may need to respond to in order to retain key customers and (ii) changes in deposit mix as customers move funds from low or non-interest bearing transaction and savings accounts to higher yielding time deposits. If short-term market rates continue to drop in 2008 as they did in January, the Company might experience further compression of its net interest margin. See “Sensitivity of Net Interest Income” for potential impact of 2008 rate reductions by the Federal Open Market Committee and “Item 7A.
ITEM 7A.
QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The information concerning quantitative and qualitative disclosures about market risk called for by Item 305 of Regulation S-K is included as part of Item 7 above. See “Management’s Discussion and Analysis of Financial Condition and Results of Operations - Quantitative and Qualitative Disclosures About Market Risk.”
ITEM 8.
ITEM 8.
FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The consolidated financial statements and supplementary data included in this Annual Report are listed in “Item 15, Exhibits, Financial Statement Schedules” and begin on page.
ITEM 9.
ITEM 9.
CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE
Not applicable.
ITEM 9A.
ITEM 9A.
CONTROLS AND PROCEDURES
As of December 31, 2007, the Company carried out an evaluation, under the supervision and with the participation of the Company’s management, including the Company’s Chief Executive Officer along with the Company’s Chief Financial Officer, of the effectiveness of the design and operation of the Company’s disclosure controls and procedures pursuant to Rule 13a-15(b), as adopted by the Securities and Exchange Commission (“SEC”) under the Securities Exchange Act of 1934 (“Exchange Act”). Based upon that evaluation, the Company’s Chief Executive Officer along with the Company’s Chief Financial Officer concluded that the Company’s disclosure controls and procedures are effective to timely alert them to material information relating to the Company (including its consolidated subsidiary) required to be included in the Company’s periodic SEC filings.
Disclosure controls and procedures are the controls and other procedures that are designed to ensure that information required to be disclosed in the reports that the Company files or submits under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed in the reports that the Company files or submits under the Exchange Act is accumulated and communicated to management, including the Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosure.
There have been no changes in the Company’s internal controls, or in other factors which could significantly affect these controls, over financial reporting that have materially affected, or are or are reasonably likely to materially affect, the Company’s internal control over financial reporting.
Management’s Report on Internal Control Over Financial Reporting
The management of the Company is responsible for establishing and maintaining adequate internal control over financial reporting. The Company’s internal control over financial reporting is a process designed under the supervision of the Company’s Chief Executive Officer and Chief Financial Officer to provide reasonable assurance regarding the reliability of financial reporting and the preparation of the Company’s financial statements for external purposes in accordance with U.S. generally accepted accounting principles.
As of December 31, 2007, management assessed the effectiveness of the Company’s internal control over financial reporting based on the criteria for effective internal control over financial reporting established in Internal Control - Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (“COSO”). Based on the assessment, management determined that the Company maintained effective internal control over financial reporting as of December 31, 2007, based on those criteria.
Grant Thornton, LLP, the independent registered public accounting firm that audited the 2007 consolidated financial statements of the Company included in this Annual Report on Form 10-K, has issued a report on the effectiveness of internal control over financial reporting as of December 31, 2007. The report is included below under the heading “Report of Independent Registered Public Accounting Firm.”
The Company’s management, including its Chief Executive Officer and Chief Financial Officer, does not expect that its disclosure controls and procedures, or its internal controls will prevent all error and all fraud. A control system, no matter how well conceived and operated, can provide only reasonable, not absolute, assurance that the objectives of the control system are met. Further, the design of a control system must reflect the fact that there are resource constraints, and the benefit of controls must be considered relative to their costs. Because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, within the Company have been detected.
/s/ Edward M. Jamison
/s/ Patrick Hartman
Edward M. Jamison
President and Chief Executive Officer
Patrick Hartman
Executive Vice President and Chief Financial Officer
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
Board of Directors and Shareholders
Community Bancorp
We have audited Community Bancorp’s (a Nevada Corporation) internal control over financial reporting as of December 31, 2007, based on criteria established in Internal Control - Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). Community Bancorp’s management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting, included in the accompanying Management’s Report on Internal Control Over Financial Reporting. Our responsibility is to express an opinion on Community Bancorp’s internal control over financial reporting based on our audit.
We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, testing and evaluating the design and operating effectiveness of internal control based on the assessed risk, and performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.
A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
In our opinion, Community Bancorp maintained, in all material respects, effective internal control over financial reporting as of December 31, 2007, based on criteria established in Internal Control - Integrated Framework issued by COSO.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the consolidated balance sheet of Community Bancorp as of December 31, 2007, and the related consolidated statements of income, stockholders’ equity, and cash flows for the year ended December 31, 2007 and our report dated March 11, 2008 expressed an unqualified opinion.
/s/ GRANT THORNTON LLP
Woodland Hills, California
March 11, 2008
ITEM 9B.
ITEM 9B.
OTHER INFORMATION
Not applicable or required.
PART III
ITEM 10.
ITEM 10.
DIRECTORS AND EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE
The Board has adopted a Code of Conduct and Ethics that applies to the Company’s principal executive officer, principal financial officer and all other employees of the Company. This Code of Conduct and Ethics is posted on the Company’s website at http://www.communitybanknv.com. The Company intends to satisfy the disclosure requirement under Item 10 of Form 8-K regarding any amendment to, or waiver from, a provision of this Code of Conduct and Ethics by posting such information on the Company’s website at http://www.communitybanknv.com on the investors page.
There were no material changes made during 2007 to the procedures by which security holders may recommend nominees to the Company.
The remainder of the information required for this Item is incorporated by reference from the Company’s Proxy Statement to be filed in connection with the 2008 Annual Meeting of Shareholders to be held on May 15, 2008.
ITEM 11.
ITEM 11.
EXECUTIVE COMPENSATION
The information required for this Item is incorporated by reference from the Company’s Proxy Statement to be filed in connection with the 2008 Annual Meeting of Shareholders to be held on May 15, 2008.
ITEM 12.
ITEM 12.
SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS
The information required for this Item is incorporated by reference from the Company’s Proxy Statement to be filed in connection with the 2008 Annual Meeting of Shareholders to be held on May 15, 2008.
ITEM 13.
ITEM 13.
CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCE
The information required for this Item is incorporated by reference from the Company’s Proxy Statement to be filed in connection with the 2008 Annual Meeting of Shareholders to be held on May 15, 2008.
ITEM 14.
ITEM 14.
PRINCIPAL ACCOUNTING FEES AND SERVICES
The information required for this Item is incorporated by reference from the Company’s Proxy Statement to be filed in connection with the 2008 Annual Meeting of Shareholders to be held on May 15, 2008.
PART IV
ITEM 15.
ITEM 15.
EXHIBITS, FINANCIAL STATEMENT SCHEDULES
(a) Documents Filed as Part of this Report
(1) The following financial statements are incorporated by reference from Item 8 hereto:
(2) Financial Statement Schedules
Not applicable.
(b) Exhibits
(1)
Included in the Company’s S-1 Registration Statements and amendments thereto (333-119395), originally filed September 30, 2004, as amended on November 15 and 24, 2004.
(2)
Included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2004, filed on March 30, 2005.
(3)
Included in the Company’s Registration Statement (No. 333-126602) on Form S-8, filed on February 14, 2006.
(4)
Included in the Company’s Current Report on Form 8-K filed on June 30, 2006.
(5)
Included in the Company’s Current Report on Form 8-K filed on September 28, 2006.
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this Report to be signed on its behalf by the undersigned, thereunto duly authorized.
COMMUNITY BANCORP
By:
/s/ Edward M. Jamison
Edward M. Jamison
President and Chief Executive Officer
(Principal Executive Officer)
Dated: March 14, 2008
COMMUNITY BANCORP
By:
/s/ Patrick Hartman
Patrick Hartman
Executive Vice President
and Chief Financial Officer
(Principal Financial Officer)
(Principal Accounting Officer)
Dated: March 14, 2008
Pursuant to the requirements of the Securities Exchange Act of 1934, this Report has been signed by the following persons on behalf of the Company and in the capacities and on March 14, 2008.
Financial Statements
COMMUNITY BANCORP AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
As of December 31,
See Notes to Consolidated Financial Statements.
COMMUNITY BANCORP AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
For the year ended December 31,
See Notes to Consolidated Financial Statements.
COMMUNITY BANCORP AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF STOCKHOLDERS’ EQUITY
For the years ended December 31, 2007, 2006 and 2005
(In thousands, except share data)
There were no dividends per share for the years ended December 31, 2007, 2006 and 2005.
See Notes to Consolidated Financial Statements.
COMMUNITY BANCORP AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
For the year ended December 31,
See Notes to Consolidated Financial Statements
COMMUNITY BANCORP AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Note 1.
Nature of Business
Nature of Business
Community Bancorp (the “Company”) is a bank holding company headquartered in Las Vegas, Nevada with four wholly-owned subsidiaries: 1) Community Bank of Nevada, 2) Community Bank of Arizona, 3) Community Bancorp (NV) Statutory Trust II and 4) Community Bancorp (NV) Statutory Trust III. Community Bancorp exists primarily for the purpose of holding the stock of its wholly-owned subsidiaries and facilitating their activities. Community Bancorp and its consolidated subsidiaries discussed below are collectively referred to herein as the “Company.”
Community Bank of Nevada is a Nevada state chartered bank providing a full range of commercial and consumer bank products through thirteen branches located in the greater Las Vegas area and a loan production office in Arizona.
Community Bank of Arizona (formerly Cactus Commerce Bank), is an Arizona state chartered bank providing a full range of commercial and consumer bank products through three branches and one administrative office located in the greater Phoenix, Arizona area. Community Bank of Arizona was acquired in September 2006.
The statutory trusts were formed for the exclusive purpose of issuing and selling trust preferred securities (see Note 2 and Note 10). The trust preferred securities issued through Community Bancorp (NV) Statutory Trust I were redeemed in September 2007 and management has dissolved this entity.
Community Bancorp’s principal source of income is currently dividends from its two bank subsidiaries, Community Bank of Nevada and Community Bank of Arizona. The expenses of Community Bancorp, including interest from junior subordinated debt, salaries, legal, accounting and NASDAQ listing fees, have been and will generally be paid from dividends paid to Community Bancorp by its bank subsidiaries.
Note 2.
Summary of Significant Accounting Policies
Basis of Presentation and Consolidation
The consolidated financial statements include the accounts of the Company and its wholly-owned subsidiaries, Community Bank of Nevada and Community Bank of Arizona. Intercompany items and transactions have been eliminated in consolidation. Community Bancorp (NV) Statutory Trust I (dissolved during 2007), Community Bancorp (NV) Statutory Trust II and Community Bancorp (NV) Statutory Trust III are unconsolidated subsidiaries formed solely for the purpose of issuing trust preferred securities and therefore do not meet the criteria for consolidation pursuant to Financial Accounting Standards Board (“FASB”) Interpretation No. 46(R), Consolidation of Variable Interest Entities.
Use of Estimates
The preparation of financial statements in accordance with generally accepted accounting principles in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosures of contingent assets and liabilities at the date of the financial statements and the reported amounts of income and expenses during the reporting period. Actual results could differ from those estimates. Material estimates that are particularly susceptible to significant change in the near term relate to the determination of the allowance for loan losses, goodwill impairment and deferred income taxes.
Cash and Cash Equivalents
For purposes of these financial statements, cash and cash equivalents include cash on hand, amounts due from banks (including cash items in process of clearing), interest-bearing deposits in other banks and federal funds sold.
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
The Company maintains amounts due from banks that, at times, may exceed federally insured limits. The Company has not experienced any losses in such accounts.
Investment Securities
Securities classified as available-for-sale are those debt securities that the Company intends to hold for an indefinite period of time, but not necessarily until maturity. Securities available-for-sale are reported at fair value with unrealized gains or losses reported as other comprehensive income (loss), net of the effect of related taxes. The amortization of premiums and accretion of discounts, computed by the interest method over the contractual lives, is recognized in interest income. Realized gains or losses, determined on the basis of the cost of specific securities sold, are included in earnings.
Securities classified as held-to-maturity are those debt securities that the Company has both the intent and the ability to hold until maturity, regardless of changes in market conditions, liquidity needs or changes in general economic conditions. These securities are carried at cost, adjusted for amortization of premium and accretion of discount computed by the interest method, over the contractual lives.
Declines in the fair value of individual securities below their amortized cost that are determined to be other-than-temporary result in write-downs of the individual securities to their fair value with the resulting write-downs included in current earnings and realized losses. In determining other-than-temporary losses, management considers (1) the length of time and the extent to which the fair value has been less than cost; (2) the financial condition and near-term prospects of the issuer; and (3) the intent and ability of the Company to retain its investment in the issuer for a period of time sufficient to allow for any anticipated recovery in fair value.
Required Equity Investments
The Company’s subsidiaries, as members of the Federal Home Loan Bank (“FHLB”) system, are required to maintain an investment in capital stock of the FHLB in an amount equal to the greater of 1.0% of its outstanding home loans or 4.7% of advances from the FHLB. Likewise, as a member of the Federal Reserve Bank (“FRB”) system, each subsidiary bank must maintain an investment in the FRB. Stock held with the FHLB, FRB and Pacific Coast Bankers’ Bank (“PCBB”) is recorded at cost, which represents the redemption value.
Loans
Loans are stated at the amount of unpaid principal, reduced by net deferred loan fees and the allowance for loan losses.
Interest on loans is recognized over the terms of the loans and is calculated using the effective interest method. Loan origination, commitment fees and certain other direct loan origination costs are deferred and the net amount is amortized as an adjustment to the yield of the related loan. The Company amortizes these amounts over the contractual life of the loan. Direct loan origination costs of a completed loan include an estimate of the portion of salaries and benefit expenses that are incremental costs incurred to originate the loan. Commitment fees based upon a percentage of a customer’s unused line of credit and fees related to standby letters of credit are recognized over the commitment period.
The accrual of interest on loans is discontinued at the time the loan is 90 days delinquent (e.g., nonaccrual) unless the credit is well secured and in the process of collection. Interest that is accrued and not collected for loans placed on nonaccrual status is reversed against interest income. The interest income on these loans is accounted for on the cash-basis or cost-recovery method, until qualifying for return to accrual status. Loans are returned to accrual status when all the principal and interest amounts contractually due are brought current and future payments are reasonably assured.
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
Allowance for loan losses
The allowance for loan losses (“ALLL” or the “allowance”) is established through a provision for loan losses charged to expense. Loans are charged against the allowance when management believes that the collectibility of the principal is unlikely. Subsequent loan recoveries, if any, are credited to the allowance.
The ALLL is an amount that management believes will be adequate to absorb probable losses relating to specifically identified loans, as well as probable credit losses inherent in the balance of the loan portfolio, based on an evaluation of the collectibility of existing loans as well as prior loss experience. This evaluation also takes into consideration such factors as changes in the nature and volume of the loan portfolio, overall loan portfolio quality, review of specific problem loans, and current economic conditions that may affect the borrower’s ability to pay. Due to the credit concentration of the Company’s loan portfolio in real estate secured loans, the value of collateral is heavily dependent on real estate values in Southern Nevada and Arizona. This evaluation is inherently subjective, as it requires estimates that are susceptible to significant revision as more information becomes available. In addition, regulatory agencies, as an integral part of the examination process, periodically review the Company’s allowance for loan losses, and may require the Company to make additions to the ALLL based on their judgment about information available to them at the time of their examinations.
The allowance consists of general and specific components. The general component covers non-classified loans and is based on historical loss experience adjusted for qualitative and environmental factors pursuant to SFAS No. 5, Accounting for Contingencies. The specific component relates to loans that have been individually evaluated for impairment, for which an allowance is established when the discounted cash flows (or collateral value or observable market price) of the impaired loan is lower than the carrying value of that loan pursuant to Statement of Financial Accounting Standard (“SFAS”) No. 114, Accounting by Creditors for Impairment of a Loan.
A loan is impaired when it is probable, based on current information and events, that the Company will be unable to collect all contractual principal and interest payments due in accordance with the terms of the loan agreement. The category of “impaired loans” is not coextensive with the category of “nonaccrual loans,” although the two categories overlap. All loans on nonaccrual, regardless of size, are considered impaired as are any troubled debt restructurings wherein the Company has agreed to modify the loan terms by accepting below market terms, either by granting interest rate concessions or by deferring principal and/or interest payments. In addition to nonaccrual loans and troubled debt restructuring loans, the Company’s review for impaired loans includes other loans that management believes its may not receive contractual interest and/or principal by the contractual due date.
Impairment is measured on an individual basis for commercial and construction loans 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 impairment, if any, and any subsequent changes, is included in the allowance for loan losses.
For impaired loans that are not also nonaccrual loans, accrual of interest is discontinued when, in management’s opinion, the borrower may be unable to make payments as they become due. When the interest accrual is discontinued, all unpaid accrued interest is reversed. Cash collections on impaired loans are generally credited to the loan receivable balance and no interest income is recognized on these loans until the principal balance has been collected, unless the Company determines that collection of the remaining principal balance is reasonably assured.
Loan Brokerage and Referral Fees
Prior to September 2007, the Company had agreements with unaffiliated mortgage companies to complete applications, loan documents and perform pre-underwriting activities. In September 2007, this service was discontinued. The fees from these agreements were recognized as income when earned.
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
Transfers of Financial Assets
Transfers of financial assets are accounted for as sales, when control over the assets has been surrendered. Control over transferred assets is deemed to be surrendered when (1) the assets have been isolated from the Company; (2) the transferee obtains the right (free of conditions that constrain it from taking advantage of that right) to pledge or exchange the transferred assets; and (3) the Company does not maintain effective control over the transferred assets through an agreement to repurchase them before their maturity.
Premises and Equipment
Land is carried at cost. Premises and equipment are stated at cost, less accumulated depreciation. Depreciation is computed using the straight-line method over the expected useful lives of the assets, with estimated useful lives ranging as follows: buildings and improvements - 15 to 39 years; equipment, furniture and automobiles - 3 to 10 years. Leasehold improvements are depreciated over the lesser of 15 years or the lease term. The costs of maintenance and repairs are expensed as they are incurred, and renewals and betterments are capitalized.
Other Real Estate Owned
Other real estate owned (“OREO”) is real estate that is held for sale and is carried at the lower of cost or fair value of the property based on appraisal, less estimated costs of disposal. Any write-down to fair value at the time of transfer to OREO is charged to the allowance for loan losses. Property is evaluated regularly to ensure the recorded amount is supported by its current fair value and valuation allowances. In turn, a reduction in the carrying amount to fair value less estimated costs to dispose are recorded as necessary. Costs relating to the development and improvement of the property are capitalized. Revenue and expense from the operations of OREO and changes to the valuation allowance are included in other expense.
Bank Owned Life Insurance
The Company funded the purchase of insurance policies on the lives of officers and directors of the Company. The Company has recognized any increase in cash surrender value of life insurance, net of insurance costs, in the consolidated statements of income. The cash surrender value of the bank owned life insurance policies is recorded as an asset on the consolidated balance sheets.
Goodwill and Core Deposit Intangible
Goodwill represents the excess of cost over the fair value of the net assets of businesses acquired. Goodwill and intangible assets acquired in a purchase business combination and determined to have an indefinite useful life are not amortized, but instead tested for impairment at least annually. Intangible assets with estimable useful lives are amortized over such useful lives to their estimated residual values, and reviewed annually for impairment.
Goodwill is the Company’s only intangible asset with an indefinite life. To accomplish the annual impairment analysis of goodwill, the Company identifies its reporting units and determines the carrying value of each reporting unit by assigning the assets and liabilities, including the existing goodwill and intangible assets, to those reporting units. Two reporting units (see segment disclosure - Note 21) have been identified. The fair value of each reporting unit is determined and compared it to its carrying amount on October 1 (annual impairment analysis date). If the carrying amount of a reporting unit exceeds its fair value, additional impairment testing is necessary. The annual impairment analysis indicated that there was no impairment of goodwill.
Core deposit intangible assets (CDI) are recognized apart from goodwill at the time of acquisition based on market valuations prepared by independent third parties. In preparing such valuations, the third parties consider variables such as deposit servicing costs, attrition rates, and market discount rates. CDI are amortized to expense on the straight-line over their useful lives, which have been estimated to range from 7 to 8 years. CDI are reviewed for
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
impairment at least annually. If the CDI fair value is below the carrying value, the CDI is reduced to such fair value and a loss is recognized by a charge to operations.
Off-Balance Sheet Instruments
In the ordinary course of business, the Company has entered into off-balance sheet financial instruments consisting of commitments to extend credit, commercial letters of credit and standby letters of credit.
Employee Stock Plans
Effective January 1, 2006 (the “adoption date”), the Company adopted the provisions of the FASB issued Statement No. 123 (revised 2004), or SFAS No. 123R, Share-Based Payment, and SEC Staff Accounting Bulletin No. 107 (“SAB 107”), Share-Based Payment, requiring the measurement and recognition of all share-based compensation under the fair value method.
Prior to the adoption of SFAS No. 123R, the Company accounted for stock option grants using the recognition and measurement principles of Accounting Principles Board (“APB”) Opinion No. 25, Accounting for Stock Issued to Employees, and related interpretations. Accordingly, no share-based compensation expense was reflected in net income, as all options granted under the 1995 Plan and 2005 Plan were issued with an exercise price equal to the estimated fair value of the underlying common stock on the date of grant.
Also, prior to the adoption of SFAS No. 123R, the Company applied the disclosure provisions of SFAS No. 123, Accounting for Stock-Based Compensation. SFAS No. 123 required the disclosure of the pro forma impact on net income and earnings per share if the value of the options were calculated at fair value. SFAS No. 123 permitted private companies to calculate the fair value of stock options using the minimum value method while public companies were required to use the fair value model. Prior to the Company’s initial public offering (“IPO”), the Company used the minimum value method to calculate the fair value of stock options. Subsequent to the Company’s IPO the Black-Scholes option pricing model was used to calculate the fair value of stock options. The Company has adopted SFAS No. 123R using the prospective method for options granted prior to the IPO and the modified prospective method for options granted subsequent to the IPO. Under the Company’s transition method, SFAS No. 123R applies to new awards and to awards that were outstanding on the adoption date that are subsequently modified, repurchased or cancelled. In addition, the expense recognition provision of SFAS No. 123R applies to options granted prior to the adoption date, but subsequent to the IPO, that were unvested at the adoption date.
In addition, prior to the adoption of SFAS No. 123R, all tax benefits resulting from the exercise of stock options were presented as operating cash inflows in the consolidated statements of cash flows, in accordance with the provisions of the Emerging Issues Task Force (“EITF”) Issue No. 00-15, Classification in the Statement of Cash Flows of the Income Tax Benefit Received by a Company upon Exercise of a Nonqualified Employee Stock Option. SFAS No. 123R requires the benefit of tax deductions in excess of the compensation cost recognized for those options to be classified as financing cash inflows rather than operating cash inflows, on a prospective basis. This amount is shown as “Excess tax benefit from exercise of stock options” on the consolidated statements of cash flows.
COMMUNITY BANCORP AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
The following table compares net income adjusted for pro forma share-based compensation expense, net of tax, for the year ended December 31, 2005. The pro forma compensation cost for options granted in 2005 and prior is recognized for the fair value of the stock options granted. The fair values of options granted were calculated using the Black-Scholes model, which resulted in SFAS No. 123R share-based compensation expense of approximately $523,000 and $740,000, net of tax, for the years ending December 31, 2007 and 2006, respectively.
Advertising costs
Advertising costs are expensed as incurred. Advertising costs for the years ended December 31, 2007, 2006 and 2005 were $905,000 $566,000 and $448,000, respectively.
Income Taxes
Deferred income taxes are provided on an asset and liability method. Deferred income tax assets and liabilities represent the tax effects, based on current tax law, of future deductible or taxable amounts (temporary differences) attributable to events that have been recognize in the consolidated financial statements. Deferred income tax assets and liabilities are adjusted for the effect of changes in tax laws and rates on the date of enactment.
Comprehensive Income
Accounting principles generally require that recognized revenue, expenses, gains and losses be included in net income. Although certain changes in assets and liabilities, such as unrealized gains and losses on available-for-sale securities, are reported as a separate component of the stockholders’ equity section on the balance sheet, such items, along with net income, are components of comprehensive income. Gains and losses on available-for-sale securities are reclassified to net income as the gains or losses are realized upon sale of the securities. Other-than-temporary impairment charges are reclassified to net income at the time of the charge.
Reclassifications
Certain amounts in the 2006 and 2005 consolidated financial statements were reclassified to conform to the 2007 presentation, with no effect on previously reported net income or stockholders’ equity.
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
Recent Accounting Pronouncements
In September 2006, the FASB issued FASB Interpretation No. 48, Accounting for Uncertainty in Income Taxes - an Interpretation of FASB Statement No. 109, or FIN 48, to clarify the accounting for uncertainty in income taxes recognized in the financial statements in accordance with SFAS No. 109, Accounting for Income Taxes. FIN 48 defines the threshold for recognizing the benefits of tax return positions in the financial statements as “more likely than not” to be sustained by the taxing authority. The literature also provides guidance on de-recognition, measurement and classification of income tax uncertainties, along with any related interest and penalties. FIN 48 also includes guidance concerning accounting for income tax uncertainties in interim periods and increases the level of disclosures associated with any recorded income tax uncertainties. FIN 48 is effective for fiscal years beginning after December 15, 2006. Any differences between the amounts recognized in the Consolidated Balance Sheets prior to the adoption of FIN 48 will be accounted for as a cumulative effect adjustment recorded to the beginning balance of retained earnings. In addition, in May 2007, the FASB issued FASB Staff Position (“FSP”) FIN 48-1, Definition of “Settlement” in FASB Interpretation No. 48. This FSP provides guidance on how a company should determine whether a tax position is effectively settled for the purpose of recognizing previously unrecognized tax benefits. The FASB clarifies that a tax position could be effectively settled upon examination by a taxing authority. The Company adopted FIN 48 effective January 1, 2007. As of the date of adoption, there was no historical tax position taken that would result in a reasonably possible change in the next twelve months from previously reported amounts and accordingly, there was no material impact with the adoption of FIN 48 on the Company’s Consolidated Balance Sheet or Consolidated Statement of Income. Further, the Company’s policy is to record interest and penalties from underpayment of taxes when it is reasonably probable that the amounts will be incurred. The Company is subject to federal income tax examinations for years beginning in 2004 and thereafter and state and local income tax examinations for years beginning in 2003 and thereafter. There are no federal or state income tax examinations in process.
In September 2006, the FASB issued SFAS No. 157, Fair Value Measurements, which addresses how companies should measure fair value when they are required to use a fair value measure for recognition or disclosure purposes under GAAP. SFAS No. 157 provides a common definition of fair value to be used throughout GAAP. The FASB believes that the new standard will make the measurement of fair value more consistent and comparable and improve disclosures about those measures. SFAS No. 157 is effective for fiscal years beginning after November 15, 2007. The Company adopted SFAS No. 157 effective January 1, 2008 and has determined the adoption will not have any impact on its Consolidated Balance Sheet and Consolidated Statement of Income.
In September 2006, the FASB ratified the consensus reached by the EITF on Issue 06-5, Accounting for Purchases of Life Insurance-Determining the Amount That Could Be Realized in Accordance with FASB Technical Bulletin No. 85-4, Accounting for Purchases of Life Insurance (“EITF 06-5”). The effective date of EITF 06-5 is for fiscal years beginning after December 15, 2006. The EITF concluded that a policyholder should consider any additional amounts included in the contractual terms of the policy in determining the amount that could be realized under the insurance contract. Amounts that are recoverable by the policyholder at the discretion of the insurance company should be excluded from the amount that could be realized. The Company adopted EITF 06-5 effective January 1, 2007. The adoption of EITF 06-5 had no effect on the Company’s Consolidated Balance Sheet or Consolidated Statement.
In February 2007, the FASB issued SFAS No. 159, The Fair Value Option for Financial Assets and Financial Liabilities-Including an Amendment of FASB Statement No. 115. SFAS No. 159 permits an entity to choose to measure many financial instruments and certain other items at fair value. SFAS No. 159 applies to all reporting entities, including not-for-profit organizations, and contains financial statement presentation and disclosure requirements for assets and liabilities reported at fair value. For Companies electing the fair value option for financial instruments under SFAS No. 159, unrealized gains and losses will be reported in earnings. SFAS No. 159 is effective for fiscal years beginning after November 15, 2007. However, early adoption was permitted subject to certain conditions including the adoption of SFAS No. 157 at the same time. The Company adopted SFAS No. 159
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
on January 1, 2008 and has determined the adoption will not have any impact on its Consolidated Balance Sheet and Consolidated Statement of Income.
Note 3.
Acquisition Activity
During 2005 and 2006, the Company completed the following three acquisitions using the purchase method of accounting and accordingly, the operating results of the acquired entities have been included in the consolidated financial statements from their respective dates of acquisition. The following table summarizes these transactions as of the date of acquisition.
Bank of Commerce
On August 26, 2005, the Company acquired 100% of the outstanding common stock of Bank of Commerce (Commerce), a Nevada chartered bank with three branches located in the greater Las Vegas area. Under the terms of the Agreement, the Company paid approximately $20.0 million in cash and issued approximately 608,000 shares for a total purchase price of $40.5 million. Immediately after the acquisition, Bank of Commerce was merged into Community Bank of Nevada. The acquisition was consistent with managements’ strategic goals of continuing to build a successful and profitable banking franchise in the greater Las Vegas area.
The Company’s Consolidated Statement of Income includes the operations of Commerce beginning August 23, 2005.
COMMUNITY BANCORP AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
Community Bank of Arizona (formerly Cactus Commerce Bank)
On September 30, 2006, the Company acquired 100% of the outstanding common stock of Community Bank of Arizona, headquartered in Glendale, Arizona. Under the terms of the Agreement, Community Bank of Arizona’s shareholders received $256.59 in cash for each share of common stock for a total purchase price of approximately $13.6 million. At the date of acquisition, Community Bank of Arizona became a wholly-owned subsidiary of the Company and was subsequently renamed Community Bank of Arizona in February 2007. The acquisition was consistent with the strategic goals of the Company to expand beyond the southern Nevada geographic region.
The Company’s Consolidated Statement of Income includes the operations of Community Bank of Arizona’s beginning September 30, 2006.
Valley Bancorp
On October 13, 2006, the Company acquired 100% of the outstanding common stock of Valley Bancorp, headquartered in Las Vegas, Nevada. Under the terms of the Agreement, the Company paid approximately $42.7 million in cash and issued approximately 3.0 million shares for a total purchase price of $138.8 million. Immediately after the acquisition, Valley Bank was merged into Community Bank of Nevada. The acquisition was consistent with the strategic goals of the Company to expand its presence in the southern Nevada geographic region with the anticipation of providing the combined company with financial benefits that include reduced operating expenses.
The Company’s Consolidated Statement of Income includes the operations of Valley Bancorp beginning October 14, 2006.
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
Unaudited Pro Forma Information for Acquisitions
The following table presents the unaudited pro forma results of operations for the years ended December 31, 2006 and 2005, respectively, as if the Bank of Commerce, Community Bank of Arizona and Valley Bancorp acquisitions described above had been completed as of January 1, 2005. The unaudited pro forma results of operations include: (1) the historical accounts of the Company, Bank of Commerce, Community Bank of Arizona and Valley Bancorp; and (2) pro forma adjustments, as may be required, including the amortization of intangibles with definite lives and the amortization or accretion of any premiums or discounts arising from fair value adjustments for assets acquired and liabilities assumed. The unaudited pro forma information is intended for informational purposes only and is not necessarily indicative of future operating results or operating results that might have occurred had these acquisitions been completed at the beginning of 2005. No assumptions have been applied to the pro forma results of operations regarding possible revenue enhancements, expense efficiencies or asset dispositions.
Goodwill and other Intangible Assets
Goodwill and intangible assets arise from purchase business combinations. Goodwill and other intangible assets deemed to have indefinite lives generated from purchase business combinations are not subject to amortization and are instead tested for impairment no less than annually. The Company’s annual impairment tests of goodwill resulted in no impact on its results of operations and financial condition.
The changes in the carrying amount of goodwill for the years ended December 31, 2007 and 2006 are as follows:
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
Intangible assets with definite lives (CDI) are amortized over their respective estimated useful lives and reviewed for impairment annually. The Company recorded an expense of approximately $1.3 million, $884,000 and $254,000 for the years ended December 31, 2007, 2006 and 2005, respectively.
The changes in the gross amounts of CDI and the related accumulated amortization for the years ended December 31, 2007 and 2006 are as follows:
Note 4.
Restrictions on Cash and Due from Banks
The Company is required to maintain reserve balances in cash or on deposit with the Federal Reserve Bank. These reserve requirements are based on a percentage of certain deposit liabilities. The total of these reserves as of December 31, 2007 and 2006 were approximately $1.9 million and $339,000, respectively.
Note 5.
Securities
Carrying amounts and estimated fair values of securities available-for-sale as of December 31, 2007 and 2006 are summarized as follows:
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
Carrying amounts and estimated fair values of securities held-to-maturity as of December 31, 2007 and 2006 are summarized as follows:
The amortized cost and fair value of securities available-for-sale and held-to-maturity by contractual maturities as of December 31, 2007 are shown below. Actual maturities may differ from contractual maturities in mortgage-backed securities and SBA loan pools because the mortgages underlying the securities may be called or prepaid without any penalties, and therefore, they are not included in the maturity categories in the following summary:
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
Gross realized gains on sales of securities during the years ended December 31, 2007, 2006 and 2005 were approximately $4,000, $2,000 and $0, respectively. Gross realized losses on sales of securities during the years ended December 31, 2007, 2006 and 2005 were approximately $0, $0 and $0, respectively. Securities available-for-sale with carrying amounts of approximately $37.0 million and $47.0 million at December 31, 2007 and 2006, respectively, were pledged to secure public deposits, advances from the Federal Home Loan Bank (see Note 10, Borrowed Funds), and for other purposes required or permitted by law.
Information pertaining to available-for-sale securities with gross unrealized losses at December 31, 2007 and 2006, aggregated by investment category and length of time that individual securities have been in a continuous loss position, are as follows:
(A)
Less than $1,000
At December 31, 2007, 69 available-for-sale debt securities have unrealized losses with aggregate depreciation of approximately 2% from the Company’s amortized cost-basis. These unrealized losses relate primarily to fluctuations in the current interest rate environment. In analyzing an issuer’s financial condition, management considers whether the securities are issued by the Federal government or its agencies, whether downgrades by bond rating agencies have occurred, and industry reports by analysts.
The Company evaluates securities for other-than-temporary impairment on at least a quarterly basis, and more frequently when economic or market concerns warrant such evaluation. Consideration is given to (1) the length of time and the extent to which the fair value has been less than cost; (2) the financial condition and near-term prospects of the issuer; and (3) the intent and ability of the Company to retain its investment in the issuer for a period of time sufficient to allow for any anticipated recovery in fair value. Management has concluded that the continuous unrealized loss position for the past 12 months on the above securities is a result of the level of market interest rates
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
and not a result of the underlying issuers’ ability to repay and are, therefore, temporarily impaired. In addition, the Company has the ability to hold these securities until their fair value recovers to their cost.
Note 6.
Loans
The composition of the Company’s loan portfolio as of December 31, 2007 and 2006 is as follows:
Changes in the allowance for loan losses for the years ended December 31, 2007, 2006 and 2005 are as follows:
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
Information about impaired and nonaccrual loans as of December 31, 2007, 2006 and 2005 is as follows:
Note 7.
Premises and Equipment
The major classes of premises and equipment and the total accumulated depreciation at December 31, 2007 and 2006 are as follows:
Note 8.
Deposits
At December 31, 2007, the scheduled maturities of time deposits are as follows (in thousands):
At December 31, 2007, seven customer balances totaling $320.0 million comprised 26% of total deposits. These seven customer balances constitute all brokered deposits at December 31, 2007. Of these deposits at December 31, 2007, $280.0 million were interest bearing wholesale demand deposit accounts and $40.0 million
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
were other time deposits. At December 31, 2006, three customer balances totaling $171.1 million comprised 15% of total deposits. These three customer balances constituted all brokered deposits at December 31, 2006. Of the deposits at December 31, 2006, $90.5 million were interest bearing wholesale deposits and $80.6 million were brokered other time deposits.
Note 9.
Borrowed Funds
Community Bank of Nevada has a commitment from the Federal Home Loan Bank (“FHLB”) for borrowings, which are collateralized by a blanket lien on all loans secured by real estate and all business loans. The agreement can be terminated by the FHLB at any time. As of December 31, 2007 and 2006, loans with a balance of approximately $245.3 million and $152.6 million, respectively, were pledged as collateral on advances from the FHLB as part of the blanket lien. In addition, the acquisitions of Bank of Commerce, Community Bank of Arizona, and Valley Bancorp, have added borrowings which are collateralized by securities. The interest rate charged on all borrowings is determined by the FHLB at the time of the advance. As of December 31, 2007 and 2006, the remaining borrowing capacity of FHLB advances was $33.4 million and $38.7 million, respectively.
Borrowings outstanding as of December 31, 2007 and 2006 were as follows (in thousands, except percentage data):
(A)
FHLB Advance
(B)
Unsecured federal funds purchase
(C)
Unsecured loan
The Company has agreements with other lending institutions under which it can purchase up to $103.0 million of federal funds. The interest rate charged on borrowings is determined by the lending institutions at the time of borrowings. Each line is unsecured. The agreements can be terminated by the lending institutions at any time. As of December 31, 2007, the Company had no federal funds purchased outstanding and $3.4 million outstanding at December 31, 2006.
COMMUNITY BANCORP AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
In September 2007, the Company borrowed $15.5 million and used the proceeds to redeem junior subordinated debt owed to Community Bancorp (NV) Statutory Trust I which used the proceeds to redeem its trust preferred issuances. The borrowing is unsecured, bears interest at the one month LIBOR plus 1.50% and is payable in the amount of approximately $478,000 monthly (commencing in October 2007) with all unpaid interest and principal due on September 26, 2010. The 30-day month LIBOR rate at December 31, 2007 was 5.02%. Additionally, the loan agreement requires the lender’s approval prior to issuing dividends to shareholders.
Note 10.
Junior Subordinated Debt
As of December 31, 2007 and 2006, the Company had outstanding junior subordinated debt of approximately $72.2 million and $87.6 million, respectively, consisting of trust preferred securities (collectively, the “Securities”) issuances. The securities issued through Community Bancorp (NV) Statutory Trust I ($15.5 million) bore interest at the three month LIBOR rate plus 3.40%. In September 2007, the Company redeemed these securities at par value, utilizing the proceeds from the September 26, 2007, loan (see Note 9) to effectuate the redemption. Junior subordinated debt outstanding as of December 31, 2007 and 2006 is as follows:
The Company has the option to defer payments of interest on the securities for a period of up to five years, as long as the Company is not in default on the payment of interest on the junior subordinated debt. If the Company elects to defer payments of interest on the securities by extending the interest distribution period, then the Company may not declare or pay any dividends or distributions on, or redeem, purchase, acquire, or make a liquidation payment with respect to any of the Company’s common stock, until such time as all deferred interest is paid.
In the event of certain changes or amendments to regulatory requirements or federal tax rules, the debt is redeemable in whole. Certain obligations under these instruments are fully and unconditionally guaranteed by the Company and rank subordinate and junior in right of payment to all other liabilities of the Company.
In March 2005, the Federal Reserve Bank adopted a final rule that allows the continued inclusion of trust preferred securities in the Tier I capital of bank holding companies, subject to stricter quantitative limits and qualitative standards. Under the final ruling, qualifying mandatory preferred securities may be included in Tier I capital, subject to a limit of 25% of Tier I capital elements, net of goodwill. Amounts of restricted core capital elements in excess of this limit generally may be included in Tier II capital. The quantitative limits become effective on March 31, 2009. As of December 31, 2007, the junior subordinated debentures have been included in Tier I capital for regulatory capital purposes up to the specified limit ($70.0 million).
Note 11.
Commitments and Contingencies
Financial Instruments with Off-Balance Sheet Risk
The Company is party to financial instruments with off-balance sheet risk in the normal course of business to meet the financing needs of its customers. These financial instruments include commitments to extend credit and standby letters of credit. They involve, to varying degrees, elements of credit risk in excess of amounts recognized in the balance sheets.
COMMUNITY BANCORP AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
The Company’s exposure to credit loss in the event of nonperformance by the other parties to the financial instruments for these commitments is represented by the contractual amounts of those instruments. The Company uses the same credit policies in making commitments and conditional obligations as it does for on-balance sheet instruments.
A summary of the contract amount of the Company’s exposure to off-balance sheet risk as of December 31, 2007 and 2006 is as follows:
Commitments to extend credit are agreements to lend to a customer as long as there is no violation of any condition established in the contract. Commitments generally have fixed expiration dates or other termination clauses and may require payment of a fee. Since many of the commitments are expected to expire without being drawn upon, the total commitment amounts do not necessarily represent future cash requirements. The Company evaluates each customer’s creditworthiness on a case-by-case basis. The amount of collateral obtained, if deemed necessary by the Company upon extension of credit, is based on management’s credit evaluation of the party. Collateral held varies, but may include accounts receivable, inventory, property and equipment, residential real estate and income-producing commercial properties. The Company has approximately $877,000 and $800,000 reflected in other liabilities for off-balance sheet risk associated with commitments to extend credit at December 31, 2007 and 2006, respectively.
Standby letters of credit are conditional commitments issued by the Company to guarantee the performance of a customer to a third party. Those guarantees are primarily issued to support public and private borrowing arrangements. The credit risk involved in issuing letters of credit is essentially the same as that involved in extending loan facilities to customers. Collateral held varies as specified above and is required as the Company deems necessary. Essentially all letters of credit issued have expiration dates within one year. Upon entering into letters of credit, the Company records the related liability at fair value pursuant to FASB Interpretation No. 45 (“FIN 45”). Thereafter, the liability is evaluated pursuant to SFAS No. 5 Accounting for Contingencies. As of December 31, 2007 and 2006, the amount of the liability related to guarantees was approximately $10,000 and $14,000, respectively.
In connection with standby letters of credit, the Company recognizes the related commitment fee received from the third party as a liability at the inception of the guarantee arrangement pursuant to FIN 45. Commitment fees, where the likelihood of exercise of the commitment is remote, are generally recognized as service fee income on a straight line basis over the commitment period. All other commitment fees are deferred over the entire commitment period and are not recognized as service fee income until the expiration of the commitment period.
Financial Instruments with Concentrations of Credit Risk
The Company makes commercial, commercial real estate, residential real estate and consumer loans to customers primarily in the greater Las Vegas, Nevada and Phoenix, Arizona areas. Real estate loans accounted for approximately 85% of the total gross loans as of December 31, 2007 and 2006. Substantially all of these loans are secured by first liens with an initial loan-to-value ratio of generally not more than 75%. Approximately 2% and 3%
COMMUNITY BANCORP AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
of total gross loans were unsecured as of December 31, 2007 and 2006, respectively. The Company’s loans are expected to be repaid from cash flow or from proceeds from the sale of selected assets of the borrowers.
At December 31, 2007 the Company’s nonaccrual and impaired loans totaled $12.1 million and $29.8 million, respectively. Approximately 95.5% of the nonaccrual loans and impaired loans were related to borrowers in the greater Las Vegas, Nevada geographic region.
Contingencies
In the normal course of business, the Company is involved in various legal proceedings. In the opinion of management, any liability resulting from such proceedings would not have a material adverse effect on the consolidated financial statements.
Lease Commitments
The Company leases certain branches and office facilities under operating leases. The Company has leased ten branch locations, one loan production office, and its corporate headquarters under various non-cancelable agreements with expiration dates through March 2018, and which require various minimum annual rentals.
Future minimum rental payments due under all term leases are as follows (in thousands):
Total rent expense for all operating leases was approximately $1.7 million, $1.2 million and $656,000 for the years ended December 31, 2007, 2006 and 2005, respectively, and is included in occupancy, equipment and depreciation expense on the consolidated statements of income.
In addition to the Company’s commitments as a lessee, the Company also receives monthly rental income from leased space at the Sahara branch. The Company leases approximately 6,400 square feet under an operating lease with an unrelated third party. The base rent is approximately $12,000 per month with an annual increase of 3%, and is included as rental income on the consolidated statements of income of the Company. The lease expires on June 30, 2009, and contains a 5-year renewal option with rent at the prevailing rate at the time of renewal.
The Company received tenant improvement allowances for three of its leased facilities. At December 31, 2007 and 2006, the total amount received was approximately $1.0 million and $807,000, respectively. In accordance with FASB Technical Bulletin No. 88-1, Issues Relating to Accounting for Leases, the allowances are being amortized over the life of the leases. At December 31, 2007 and 2006, the balance was approximately $805,000 and $690,000, respectively, and is included in other liabilities on the consolidated balance sheets.
As of December 31, 2007, there are no material commitments for capital expenditures.
Employment Agreements
The Company has entered into employment agreements with its Chief Executive Officer, Chief Operating Officer and the Chief Financial Officer of Community Bank of Nevada. The employment agreements require the Company to pay severance in the event of termination of the employee or a change in control of the Company.
COMMUNITY BANCORP AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
Note 12.
Derivative Financial Instruments
During 2006, the Company originated two fixed rate loans with an aggregate principal balance of approximately $20.0 million. The Company also entered into two interest rate swap agreements with notional values equal to the principal balance of the two fixed rate loans. The interest rate swap agreements are LIBOR-based where the Company’s interest payments are based on a fixed interest rate and the Company’s receipt of interest payments are based on a variable interest rate. The Company retains any net swap settlement income and pays any net swap settlement expense. As the Company has not elected hedge accounting, the net swap settlement income has been recorded in noninterest income.
Each of the loan agreements contains contractual provisions that modify the principal balance to be paid in the event of prepayment by the borrower or acceleration of the loan by the Company (acceleration is possible only if the borrower defaults on the loan). The principal balance adjustment is effectively equal to the difference between the fair value and the outstanding principal of the loan, at the date of prepayment. The loan agreements contain provisions that delineate the methods to be used to compute the principal adjustment which include, at the Company’s option, the cost or benefit incurred by the Company to terminate any reciprocal swap agreement.
The interest rate swap agreements are recorded at fair value as required by SFAS No. 133, Accounting for Derivative Instruments and Hedging Activities, and as amended by SFAS No. 155, Accounting for Certain Hybrid Financial Instruments. However, the accounting for the liability due to or receivable due from the borrower resulting from the termination of the swap is governed by SFAS No. 5. This pronouncement requires the recognition of a liability when amounts are due to the borrower but precludes the recording of a receivable when amounts are due from the borrower. The fair values of the swap agreements are reflected in other assets or other liabilities, as applicable, and amounts, if any, owed to the borrower are recorded in other liabilities on the Consolidated Balance Sheets. As a result of a decrease in market value associated with one of the interest rate swaps, a loss of $380,000 was recorded in the Company’s Consolidated Statements of Income for the year end December 31, 2007. There were no losses recognized for the years ended December 31, 2006 or 2005.
Fair values for the swap agreements are based upon quoted market prices.
Note 13.
Fair Value of Financial Instruments
SFAS No. 107, Disclosures about Fair Value of Financial Instruments, requires disclosure of fair value information for financial instruments, whether or not recognized in the consolidated balance sheets, for which it is practicable to estimate that value.
Management uses its best judgment in estimating the fair value of the Company’s financial instruments; however, there are inherent weaknesses in any estimation technique. Therefore, for substantially all financial instruments, the fair value estimates presented herein are not necessarily indicative of the amounts the Company could have realized in a sales transaction at December 31, 2007 or 2006. The estimated fair value amounts for 2007 and 2006 have been measured as of year end, and have not been reevaluated or updated for purposes of these financial statements subsequent to those dates. As such, the estimated fair values of these financial instruments subsequent to the reporting date may be different than the amounts reported at year end.
The information presented below should not be interpreted as an estimate of the fair value of the entire Company since a fair value calculation is only required for a limited portion of the Company’s assets.
Due to the wide range of valuation techniques and the degree of subjectivity used in making the estimate, comparisons between the Company’s disclosures and those of other companies or banks may not be meaningful.
COMMUNITY BANCORP AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
The following methods and assumptions were used by the Company in estimating the fair value of its financial instruments:
Cash and Cash Equivalents
The carrying amounts reported in the balance sheets for cash, due from banks, interest-bearing deposits in other banks and federal funds sold approximate their fair value.
Securities
Fair value for securities is based on quoted market prices where available or on quoted markets for similar securities in the absence of quoted prices on the specific security. Securities available-for-sale are reported in the balance sheets at fair value. Securities held - to-maturity are reported in balance sheet at cost.
Required Equity Investments
The Company’s subsidiary banks are members of the Federal Home Loan Bank, Federal Reserve Bank and Pacific Coast Bankers Bank systems and maintain an investment in capital stock of each of these banks. No ready market exists for these investments. As a result, the carrying amounts were deemed to approximate fair value, as the stocks may be sold back to the Federal Home Loan Bank, Federal Reserve Bank or Pacific Coast Bankers Bank or other bank at the Company’s carrying value.
Loans
For loans with variable interest rates that re-price frequently and that have experienced no significant change in credit risk, fair value is based on carrying value. Variable rate loans comprised approximately 66% and 73% of the total loan portfolio at December 31, 2007 and 2006, respectively. Fair value of all other loans is estimated based on discounted cash flows using interest rates currently being offered for loans with similar terms to borrowers with similar credit quality. Prepayments prior to the re-pricing date are not expected to be significant. Loans are expected to be held-to-maturity and any unrealized gains or losses are not expected to be realized.
Accrued Interest Receivable and Payable
The carrying amounts reported in the consolidated balance sheets for accrued interest receivable and payable approximate their fair values.
Deposits
The fair value disclosed for demand and savings deposits approximate their carrying amounts which represent the amount payable on demand. The carrying amounts for variable interest rate money market accounts and certificates of deposit approximate their fair value at the reporting date. Fair values for fixed interest rate certificates of deposit are estimated using a discounted cash flow calculation that applies interest rates currently being offered on certificates of deposit to a schedule of aggregated expected monthly maturities on time deposits. Early withdrawals of fixed rate certificates of deposit are not expected to be significant.
Borrowings
The carrying amounts reported in the consolidated balance sheets for short term borrowings approximate their fair values. Fair values for long-term borrowings are estimated using a discounted cash flow calculation at current market rates.
COMMUNITY BANCORP AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
Junior Subordinated Debt
The carrying amounts reported in the consolidated balance sheets for variable rate junior subordinated debt approximate their fair values. Fair values for fixed rate junior subordinated debt are estimated using a discounted cash flow calculation that applies interest rates currently being offered on new debt with similar terms.
Off-Balance Sheet Instruments
Fair value for off-balance sheet instruments (lending commitments and standby letters of credit) are based on quoted fees currently charged to enter into similar agreements, taking into account the remaining terms of the agreements and the counterparties’ credit standing. The fair value of off-balance sheet instruments was not material at December 31, 2006.
The estimated fair values of the Company’s financial instruments at December 31, 2007 and 2006 are as follows:
(1)
Includes fair value of lending commitments and standby letters of credit of $435.0 million and $434.5 million, respectively, for the year ended December 31, 2007.
COMMUNITY BANCORP AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
Note 14.
Income Tax Matters
The cumulative tax effects of the primary temporary differences that created deferred tax assets and liabilities at December 31, 2007 and 2006 are as follows:
At December 31, 2007 and 2006, no valuation reserve was considered necessary as management believes it is more likely than not that the deferred tax assets will be realized.
The provision for federal income taxes is comprised of the following for the years ended December 31, 2007, 2006 and 2005:
COMMUNITY BANCORP AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
The income tax provision differs from the amount of income tax determined by applying the United States federal income tax rate to pretax income for the years ended December 31, 2007, 2006 and 2005 due to the following:
Management has not identified any uncertain tax positions or any unrecognized tax positions that if recognized would affect the effective tax rate of the Company. It is the policy of management to include interest or penalties from income tax liabilities in noninterest expense. Penalties and interest from income tax liabilities included in noninterest expense totaled $25,000 for the year ended December 31, 2007. No penalties or interest from income tax liabilities were recognized for the years ended December 31, 2006 and 2005.
Note 15.
Earnings Per Share
Basic earnings per share (“EPS”) represent income available to common stockholders divided by the weighted-average number of common shares outstanding (excluding non-vested restricted stock) during the year. Diluted EPS reflects additional common shares that would have been outstanding if dilutive potential common shares had been issued. Potential common shares that may be issued by the Company relate to outstanding options and non-vested restricted stock, and are determined using the treasury stock method.
Earnings per share have been computed based on the following:
Options not included in the computation of diluted earnings per share because they would have had an anti-dilutive effect amounted to 614,000 shares, 464,000 shares and 141,000 shares at December 31, 2007, 2006 and 2005, respectively.
Note 16.
Employee Benefit Plan
The Company has a qualified 401(k) employee benefit plan (the “Plan”) for all eligible employees. The Company is required to make matching contributions as outlined in the Plan and may elect to contribute a discretionary amount each year. The Company’s total contributions were approximately $379,000, $255,000, and $152,000 for the years ended December 31, 2007, 2006 and 2005, respectively.
COMMUNITY BANCORP AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
Note 17.
Share-Based Compensation
As of December 31, 2007 and 2006, the Company has outstanding options under two share-based compensation plans. The related compensation cost was approximately $1.2 million and $1.1 million for the years ended December 31, 2007 and 2006, respectively. The total reduction in income tax expense recognized in the income statement for share-based compensation arrangements was approximately $417,000 and $399,000 for the years ended December 31, 2007 and 2006, respectively. The compensation expense related to the share-based compensation plans was included in salaries, wages and employee benefit expenses and director fees in the accompanying consolidated income statements and no share-based compensation was capitalized during 2007.
As of December 31, 2007, there was approximately $5.1 million of total unrecognized compensation cost related to non-vested share-based compensation arrangements granted subsequent to the IPO. That cost is expected to be recognized over a weighted-average period of 2.9 years.
Stock options
The Company’s 1995 Stock Option and Award Plan (the “1995 Plan”) expired in July 2005, although options previously granted under that plan are still vesting and exercisable. On May 19, 2005, the stockholders of the Company approved the 2005 Equity Based Compensation Plan (the “2005 Plan”). The 2005 Plan authorizes the granting of incentive stock options, non-qualified stock options, stock appreciation rights, restricted stock awards, restricted stock units and performance share cash only awards. Incentive stock options are granted with an exercise price equal to the closing stock price of the Company’s stock at the date of grant; those options generally vest based on five years of continuous service and have 10-year contractual terms. Non-qualified stock options are also granted with an exercise price equal to the closing stock price of the Company’s stock at the date of grant; those options vest immediately and have 10-year contractual terms. The 2005 Plan provides for a maximum of fifteen percent (15%) of the Company’s outstanding shares as of March 24, 2005 and adjusts on each anniversary thereafter to be 15% of the then outstanding number of shares that may be delivered for awards, less any restricted shares issued. As of March 24, 2007, the number of shares that may be delivered for awards was approximately 1.6 million. The maximum number of shares that may be granted as incentive stock options is 800,000. As of December 31, 2007, the total number of awards remaining to be granted under the 2005 Plan was approximately 1.4 million.
Compensation expense for options granted in 2006 and the pro forma disclosure amounts for 2005 were computed based on the fair value of the stock options granted at the date of issuance. The fair values of options granted were calculated using the Black-Scholes model that uses the assumptions noted in the table below. Option valuation models require the input of highly subjective assumptions, and changes in assumptions used can materially affect the fair value estimate. Because this option valuation model incorporates ranges of assumptions for inputs, those ranges are disclosed. The Company estimates the expected life of options using the simple average of the vesting term and the original contract term. The risk-free interest rate is based on U.S. Treasury rates appropriate for the expected term. Expected volatility is based on the expected volatility of similar entities that have been public for a period of time at least equal to the estimated life of the options, considering industry, stage of life cycle, size and financial leverage. The dividend yield is based on the assumption that the Company does not foresee any circumstances in the immediate future in which cash dividends would be paid on common stock.
The following weighted-average assumptions were used:
(A) No options were granted in 2007
COMMUNITY BANCORP AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
A summary of option activity for the years ended December 31, 2007 and 2006, and changes during the year then ended is presented below:
The following table summarizes information about stock options outstanding and exercisable at December 31, 2007.
The aggregate intrinsic value of options vested during the year ended December 31, 2007 was approximately $60,000.
Restricted Stock
In August and September 2007, the Company issued a total of approximately 163,000 shares of restricted common stock to certain employees and directors. Restricted common stock issued to employees is subject to a three year cliff vesting and the directors restricted common stock vest annually over a three year period. Share-based compensation costs associated with the issuance of the restricted common stock is recognized on a straight-line basis over three years and amounted to approximately $387,000 for the year ended December 31, 2007. As of
COMMUNITY BANCORP AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
December 31, 2007, the Company had approximately $2.7 million of unrecognized costs related to unvested restricted stock. The Company expects to recognize these costs over the next three years.
A summary of the status of restricted and performance stock outstanding and the change during the year is presented in the table below:
The following table summarizes information about outstanding restricted and performance stock awards at December 31, 2007:
Stock appreciation rights
In July 2000, the Company’s Board of Directors approved the 2000 Stock Appreciation Rights Plan. The Company accounts for the Stock Appreciation Rights (“SAR”) using liability accounting which requires the Company to record the liability of the SAR at fair value, rather than intrinsic value. The total accrued liability, included in accrued interest payable and other liabilities on the Consolidated Balance Sheet, was approximately $429,000 at December 31, 2006. All outstanding SAR were settled, with cash payments made in April 2007 and, accordingly, there was no accrued liability for SAR at December 31, 2007. SAR expense for the years ended December 31, 2007, 2006 and 2005 was $32,000, $72,000 and $446,000, respectively.
Note 18.
Transactions with Related Parties
The Company has had, and may be expected to have in the future, banking transactions in the ordinary course of business with directors, significant stockholders, principal officers, their immediate families and affiliated companies in which they are principal stockholders (commonly referred to as “related parties”).
COMMUNITY BANCORP AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
Aggregate loan transactions with related parties for the years ended December 31, 2007 and 2006 were as follows:
In addition to the above amounts, the Company has commitments to extend credit to related parties of approximately $1.8 million and $1.1 million at December 31, 2007 and 2006, respectively.
None of these related party loans are past due, on nonaccrual status, or restructured to provide a reduction or deferral of interest or principal because of deteriorations in the financial position of the borrower.
Deposits from directors, principal officers and their affiliates totaled $20.9 million and $22.8 million at December 31, 2007 and 2006, respectively.
Note 19.
Regulatory Capital
The Company, and its wholly-owned subsidiaries, Community Bank of Nevada and Community Bank of Arizona, are subject to various regulatory capital requirements administered by federal banking agencies. Failure to meet minimum capital requirements can initiate certain mandatory - and possibly additional discretionary - actions by regulators that, if undertaken, could have a direct material effect on the financial statements of the Company. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the Company and each of its subsidiaries must meet specific capital guidelines that involve qualitative measures of the assets, liabilities, and certain off-balance sheet items as calculated under regulatory accounting practices. The capital amounts and classification are also subject to qualitative judgments by the regulators and management about components, risk weightings, and other factors.
Quantitative measures established by regulation to ensure capital adequacy require the Company and each of its subsidiaries to maintain minimum amounts and ratios (set forth in the table below) of total and Tier I capital to risk-weighted assets and of Tier I capital to average assets, all of which are defined in the regulations. Management believes, as of December 31, 2007 and 2006, that the Company and each of its subsidiaries meet all capital adequacy requirements to which they are subject.
As disclosed in Note 10, Junior Subordinated Debt, the proceeds from the issuance of trust preferred securities by the Trusts are considered Tier I capital, subject to percentage limitations, by the Company for regulatory purposes. The FRB has advised bank holding companies to continue to report the amount of the trust preferred securities in regulatory reports as a minority interest and thereby included in Tier I capital.
Based on the most recent notification from federal banking agencies, Community Bank of Nevada and Community Bank of Arizona were categorized as well capitalized under the regulatory framework for prompt corrective action. To be well capitalized, Community Bank of Nevada and Community Bank of Arizona must maintain minimum total risk-based, Tier I risk-based and Tier I leverage ratios as set forth in the table below. There are no conditions or events since that notification that management believes have changed this categorization for each of the subsidiaries.
COMMUNITY BANCORP AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
The actual capital amounts and ratios of the Company and its wholly-owned subsidiaries, Community Bank of Nevada and Community Bank of Arizona, are presented in the following tables:
The principal source of Community Bancorp’s cash reserves are dividends received from Community Bank of Nevada. Nevada law imposes certain restrictions on a bank’s ability to pay dividends and prohibits a bank from paying dividends if doing so would reduce its stockholders’ equity below (i) the initial stockholders’ equity of the bank, or (ii) 6% of the total deposit liability of the bank, as determined by the Nevada Department of Business and Industry, Financial Institutions Division. As a result of the State of Nevada banking regulations, which require the sum of the bank’s stockholders’ equity and allowance for loan losses to be at least 6% of the average of the bank’s
COMMUNITY BANCORP AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
total daily deposit liabilities for the preceding 60 days, approximately $69.7 million and $71.4 million of Community Bank’s stockholders’ equity was restricted at December 31, 2007 and 2006, respectively.
Note 20.
Condensed Financial Information of Parent Company
The condensed financial statements of Community Bancorp are as follows:
COMMUNITY BANCORP AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
Note 21.
Segment Information
The Company provides a full range of banking services through its two consolidated subsidiaries, Community Bank of Nevada and Community Bank of Arizona. The Company manages its business with a primary focus on
COMMUNITY BANCORP AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
each subsidiary. Thus the Company has identified two operating segments. Parent company information is included in the “Other” category because it represents an overhead function rather than an operating segment. The Company has not aggregated any operating segments.
The Company reported one segment in the financial statements issued prior to December 31, 2006. As a result of the acquisition of Community Bank of Arizona as discussed in Note 3, the Company has identified this acquisition as a separate reportable operating segment.
The accounting policies of the reported segments are the same as those of the Company as described in Note 1. Transactions between segments consist of loan participations, which are recorded at par value with no resulting gain or loss.
The Company does not have a single external customer from which it derives 10% or more of its revenues. The following is a summary of selected operating segment information as of and for the years ended December 31, 2007, 2006, and 2005 (in thousands, except percentage number of branch locations and employee data).
COMMUNITY BANCORP AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
(1)
Goodwill included in Community Bank of Nevada’s and Community Bank of Arizona’s segment assets amounted to $103.7 million and $9.9 million, respectively.
(2)
Goodwill included in Community Bank of Nevada’s and Community Bank of Arizona’s segment assets amounted to $106.4 million and $9.5 million, respectively.
(3)
Includes intersegment eliminations and reclassifications.
Note 22.
Quarterly Data (Unaudited)
Unaudited quarterly financial data for the years ended December 31, 2007 and 2006 is as follows:
COMMUNITY BANCORP AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
Note 23.
Subsequent Event
On February 13, 2008, the Company completed the sale of its Warm Springs property. The property operated as a branch until February 2007. Subsequently, it was used for certain administrative functions and storage. Proceeds from the sale were approximately $2.7 million and the related gain on the sale of approximately $1.2 million will be recognized in the first quarter of 2008.
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
Board of Directors and Shareholders
Community Bancorp
We have audited the accompanying consolidated balance sheet of Community Bancorp (a Nevada corporation) as of December 31, 2007, and the related consolidated statements of income, stockholders’ equity, and cash flows for the year ended December 31, 2007. These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements based on our audit.
We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audit provides a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Community Bancorp as of December 31, 2007 and the results of its operations and its cash flows for the year ended December 31, 2007 in conformity with accounting principles generally accepted in the United States of America.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the effectiveness of Community Bancorp’s internal control over financial reporting as of December 31, 2007, based on criteria established in Internal Control - Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO) and our report dated March 11, 2008 expressed an unqualified opinion on the effectiveness of Community Bancorp’s internal control over financial reporting.
/s/ GRANT THORNTON LLP
Woodland Hills, California
March 11, 2008
Report of Independent Registered Public Accounting Firm
To the Board of Directors
Community Bancorp
Las Vegas, Nevada
We have audited the consolidated balance sheet of Community Bancorp and Subsidiary (collectively referred to as the Company) as of December 31, 2006, and the related consolidated statements of income, stockholders’ equity and cash flows for each of the two years in the period ended December 31, 2006. These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements based on our audits.
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provided a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of the Company as of December 31, 2006, and the results of their operations and their cash flows for each of the two years in the period ended December 31, 2006, in conformity with U.S. generally accepted accounting principles.
As described in Note 1 to the consolidated financial statements, effective January 1, 2006, the Company adopted Statement of Financial Accounting Standards No. 123R, Share-Based Payments.
/s/ McGLADREY & PULLEN, LLP
Las Vegas, Nevada
March 15, 2007
EXHIBIT INDEX