ITEM 1. BUSINESS
Information About TriCo Bancshares' Business
TriCo Bancshares (the "Company") was incorporated in California on October 13, 1981. It was organized at the direction of the board of directors of Tri Counties Bank (the "Bank") for the purpose of forming a bank holding company. On September 7, 1982, the shareholders of Tri Counties Bank became the shareholders of TriCo and Tri Counties Bank became a wholly owned subsidiary of TriCo. At that time, TriCo became a bank holding company subject to the supervision of the Federal Reserve under the Bank Holding Company Act of 1956, as amended. Tri Counties Bank remains subject to the supervision of the California Department of Financial Institutions and the FDIC. On July 31, 2003, the Company formed a subsidiary business trust, TriCo Capital Trust I, to issue trust preferred securities. Tri Counties Bank and TriCo Capital Trust I currently are the only subsidiaries of TriCo and TriCo is not conducting any business operations independent of Tri Counties Bank and TriCo Capital Trust I.
For financial reporting purposes, the financial statements of the Bank are consolidated into the financial statements of the Company. Historically, issuer trusts, such as TriCo Capital Trust, that issued trust preferred securities have been consolidated by their parent companies and trust preferred securities have been treated as eligible for Tier 1 capital treatment by bank holding companies under Federal Reserve rules and regulations relating to minority interests in equity accounts of consolidated subsidiaries. Applying the provisions of the Financial Accounting Standards Board Revised Interpretation No. 46 (FIN 46R), the Company is no longer permitted to consolidate the issuer trusts, beginning on December 31, 2003. Although the Federal Reserve has stated in its July 2, 2003 Supervisory Letter that trust preferred securities will be treated as Tier 1 capital until notice is given to the contrary, the Supervisory Letter also indicates that the Federal Reserve will review the regulatory implications of any accounting treatment changes and will provide further guidance if necessary or warranted.
On April 4, 2003, TriCo Bancshares acquired North State National Bank, a national banking organization located in Chico, California, by the merger of North State into its wholly owned subsidiary, Tri Counties Bank. The acquisition and the related merger agreement dated October 3, 2002, was approved by the California Department of Financial Institutions, the Federal Deposit Insurance Corporation, and the shareholders of North State National Bank on March 4, March 7, and March 19, 2003, respectively. At the time of the acquisition, North State had total assets of $140 million, investment securities of $41 million, loans of $76 million, and deposits of $126 million. The acquisition was accounted for using the purchase method of accounting. The amount of goodwill recorded as of the merger date, which represented the excess of the total purchase price over the estimated fair value of net assets acquired, was approximately $15.5 million. The Company recorded a core deposit intangible, which represents the excess of the fair value of North State's deposits over their book value on the acquisition date, of approximately $3.4 million. This core deposit intangible is scheduled to be amortized over a seven-year average life.
Under the terms of the merger agreement, TriCo paid $13,090,057 in cash, issued 723,512 shares of TriCo common stock, and issued options to purchase 79,587 shares of TriCo common stock at an average exercise price of $6.22 per share in exchange for all of the 1,234,375 common shares and options to purchase 79,937 common shares of North State National Bank outstanding as of April 4, 2003.
Additional information concerning the Company can be found on our website at www.tcbk.com. Copies of our annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K and amendments to these reports are available free of charge through our website at Investor Information---"SEC Filings" and "Annual Reports" as soon as reasonably practicable after the Company files these reports to the Securities and Exchange Commission.
Business of Tri Counties Bank
Tri Counties Bank was incorporated as a California banking corporation on June 26, 1974, and received its certificate of authority to begin banking operations on March 11, 1975. Tri Counties Bank engages in the general commercial banking business in the California counties of Butte, Contra Costa, Del Norte, Fresno, Glenn, Kern, Lake, Lassen, Madera, Mendocino, Merced, Nevada, Placer, Sacramento, Shasta, Siskiyou, Stanislaus, Sutter, Tehama, Tulare and Yuba. Tri Counties Bank currently has 33 traditional branches and 12 in-store branches.
General Banking Services
The Bank conducts a commercial banking business including accepting demand, savings and time deposits and making commercial, real estate, and consumer loans. It also offers installment note collection, issues cashier's checks and money orders, sells travelers checks and provides safe deposit boxes and other customary banking services. Brokerage services are provided at the Bank's offices by the Bank's association with Raymond James Financial Services, Inc. The Bank does not offer trust services or international banking services.
The Bank has emphasized retail banking since it opened. Most of the Bank's customers are retail customers and small to medium-sized businesses. The Bank emphasizes serving the needs of local businesses, farmers and ranchers, retired individuals and wage earners. The majority of the Bank's loans are direct loans made to individuals and businesses in the regions of California where its branches are located. At December 31, 2003, the total of the Bank's consumer installment loans outstanding was $319,029,000 (32.5%), the total of commercial loans outstanding was $142,252,000 (14.5%), and the total of real estate loans including construction loans of $61,591,000 was $519,960,000 (53.0%). The Bank takes real estate, listed and unlisted securities, savings and time deposits, automobiles, machinery, equipment, inventory, accounts receivable and notes receivable secured by property as collateral for loans.
Most of the Bank's deposits are attracted from individuals and business-related sources. No single person or group of persons provides a material portion of the Bank's deposits, the loss of any one or more of which would have a materially adverse effect on the business of the Bank, nor is a material portion of the Bank's loans concentrated within a single industry or group of related industries.
In order to attract loan and deposit business from individuals and small to medium-sized businesses, branches of the Bank set lobby hours to accommodate local demands. In general, lobby hours are from 9:00 a.m. to 5:00 p.m. Monday through Thursday, and from 9:00 a.m. to 6:00 p.m. on Friday. Certain branches with less activity open later and close earlier. Some Bank offices also utilize drive-up facilities operating from 9:00 a.m. to 7:00 p.m. The supermarket branches are open from 9:00 a.m. to 7:00 p.m. Monday through Saturday and 11:00 a.m. to 5:00 p.m. on Sunday.
The Bank offers 24-hour ATMs at almost all branch locations. The ATMs are linked to several national and regional networks such as CIRRUS and STAR. In addition, banking by telephone on a 24-hour toll-free number is available to all customers. This service allows a customer to obtain account balances and most recent transactions, transfer moneys between accounts, make loan payments, and obtain interest rate information.
In February 1998, the Bank became the first bank in the Northern Sacramento Valley to offer banking services on the Internet. This banking service provides customers one more tool for anywhere, anytime access to their accounts.
Other Activities
The Bank may in the future engage in other businesses either directly or indirectly through subsidiaries acquired or formed by the Bank subject to regulatory constraints. See "Regulation and Supervision."
Employees
At December 31, 2003, the Company and the Bank employed 610 persons, including five executive officers. Full time equivalent employees were 532. No employees of the Company or the Bank are presently represented by a union or covered under a collective bargaining agreement. Management believes that its employee relations are excellent.
Competition
The banking business in California generally, and in the Bank's primary service area of Northern and Central California specifically, is highly competitive with respect to both loans and deposits. It is dominated by a relatively small number of major banks with many offices operating over a wide geographic area. Among the advantages such major banks have over the Bank is their ability to finance wide ranging advertising campaigns and to allocate their investment assets to regions of high yield and demand. By virtue of their greater total capitalization such institutions have substantially higher lending limits than does the Bank.
In addition to competing with savings institutions, commercial banks compete with other financial markets for funds. Yields on corporate and government debt securities and other commercial paper may be higher than on deposits, and therefore affect the ability of commercial banks to attract and hold deposits. Commercial banks also compete for available funds with money market instruments and mutual funds. During past periods of high interest rates, money market funds have provided substantial competition to banks for deposits and they may continue to do so in the future. Mutual funds are also a major source of competition for savings dollars.
The Bank relies substantially on local promotional activity, personal contacts by its officers, directors, employees and shareholders, extended hours, personalized service and its reputation in the communities it services to compete effectively.
Regulation and Supervision
As a consequence of the extensive regulation of commercial banking activities in California and the United States, the business of the Company and the Bank are particularly susceptible to changes in state and federal legislation and regulations, which may have the effect of increasing the cost of doing business, limiting permissible activities or increasing competition. Following is a summary of some of the laws and regulations which effect their business. This summary should be read with the management's discussion and analysis of financial condition and results of operation included at Item 7 of this report.
As a registered bank holding company under the Bank Holding Company Act of 1956 (the "BHC Act"), the Company is subject to the regulation and supervision of the Board of Governors of the Federal Reserve System ("FRB"). The BHC Act requires the Company to file reports with the FRB and provide additional information requested by the FRB. The Company must receive the approval of the FRB before it may acquire all or substantially all of the assets of any bank, or ownership or control of the voting shares of any bank if, after giving effect to such acquisition of shares, the Company would own or control more than 5 percent of the voting shares of such bank.
The Company and any subsidiaries it may acquire or organize will be deemed to be affiliates of the Bank within the Federal Reserve Act. That Act establishes certain restrictions, which limit the extent to which the Bank can supply its funds to the Company and other affiliates. The Company is also subject to restrictions on the underwriting and the public sale and distribution of securities. It is prohibited from engaging in certain tie-in arrangements in connection with any extension of credit, sale or lease of property, or furnishing of services.
The Company is generally prohibited from engaging in, or acquiring direct or indirect control of any company engaged in non-banking activities, unless the FRB by order or regulation has found such activities to be so closely related to banking or managing or controlling banks as to be a proper incident thereto. Notwithstanding this prohibition, under the Financial Services Modernization Act of 1999, the Company may engage in any activity, and may acquire and retain the shares of any company engaged in any activity, that the FRB, in coordination with the Secretary of the Treasury, determines (by regulation or order) to be financial in nature or incidental to such financial activities. Furthermore, such law dictates several activities that are considered to be financial in nature, and therefore are not subject to FRB approval.
The Bank, as a state-chartered bank, is subject to regulation, supervision and regular examination by the California Department of Financial Institutions ("DFI") and is also subject to the regulations of the FDIC. Federal and California statutes and regulations relate to many aspects of the Bank's operations, some of which are described below. The DFI regulates the number and location of branch offices and may permit a bank to maintain branches only to the extent allowable under state law for state banks. California law presently permits a bank to locate a branch in any locality in California.
Gramm-Leach-Bliley Act
The Gramm-Leach-Bliley Act was enacted in 1999 and became effective in 2000. The act is a financial modernization law that is the result of a decade of debate in the Congress regarding a fundamental reformation of the nation's financial system. The law is subdivided into seven titles, by functional area. Title I acts to facilitate affiliations among banks, insurance companies and securities firms. Title II narrows the exemptions from the securities laws previously enjoyed by banks, requires the Federal Reserve and the SEC to work together to draft rules governing certain securities activities of banks and creates a new, voluntary investment bank holding company. Title III restates the proposition that the states are the functional regulators for all insurance activities, including the insurance activities by depository institutions. The law encourages the states to develop uniform or reciprocal rules for the licensing of insurance agents. Title IV prohibits the creation of additional unitary thrift holding companies. Title V imposes significant requirements on financial institutions related to the transfer of nonpublic personal information. These provisions require each institution to develop and distribute to accountholders an information disclosure policy, and requires that the policy allow customers to, and for the institution to honor a customer's request to, "opt-out" of the proposed transfer of specified nonpublic information to third parties. Title VI reforms the Federal Home Loan Bank system to allow broader access among depository institutions to the systems advance programs, and to improve the corporate governance and capital maintenance requirements for the system. Title VII addresses a multitude of issues including disclosure of ATM surcharging practices, disclosure of agreements among non-governmental entities and insured depository institutions which donate to non-governmental entities regarding donations made in connection with the Community Reinvestment Act and disclosure by the recipient non-governmental entities of how such funds are used. Additionally, the law extends the period of time between Community Reinvestment Act examinations of community banks.
The Company has undertaken efforts to comply with all provisions of the Gramm-Leach-Bliley Act and all implementing regulations, including the development of appropriate policies and procedures to meet their responsibilities in connection with the privacy provisions of Title V of that act.
Safety and Soundness Standards
The Federal Deposit Insurance Corporation Improvement Act of 1991 ("FDICIA") implemented certain specific restrictions on transactions and required the regulators to adopt overall safety and soundness standards for depository institutions related to internal control, loan underwriting and documentation, and asset growth. Among other things, FDICIA limits the interest rates paid on deposits by undercapitalized institutions, the use of brokered deposits and the aggregate extension of credit by a depository institution to an executive officer, director, principal stockholder or related interest, and reduces deposit insurance coverage for deposits offered by undercapitalized institutions for deposits by certain employee benefits accounts.
The federal financial institution agencies published a final rule effective on August 9, 1995, implementing safety and soundness standards. The FDICIA added a new Section 39 to the Federal Deposit Insurance Act which required the agencies to establish safety and soundness standards for insured financial institutions covering:
- internal controls, information systems and internal audit systems; - loan documentation; - credit underwriting; - interest rate exposure; - asset growth; - compensation, fees and benefits; - asset quality, earnings and stock valuation; and - excessive compensation for executive officers, directors or principal shareholders which could lead to material financial loss.
The agencies issued the final rule in the form of guidelines only for operational, managerial and compensation standards and reissued for comment proposed standards related to asset quality and earnings which are less restrictive than the earlier proposal in November 1993. Unlike the earlier proposal, the guidelines under the final rule do not apply to depository institution holding companies and the stock valuation standard was eliminated. If an agency determines that an institution fails to meet any standard established by the guidelines, the agency may require the financial institution to submit to the agency an acceptable plan to achieve compliance with the standard. If the agency requires submission of a compliance plan and the institution fails to timely submit an acceptable plan or to implement an accepted plan, the agency must require the institution to correct the deficiency. Under the final rule, an institution must file a compliance plan within 30 days of a request to do so from the institution's primary federal regulatory agency. The agencies may elect to initiate enforcement action in certain cases rather than rely on an existing plan particularly where failure to meet one or more of the standards could threaten the safe and sound operation of the institution.
Restrictions on Dividends and Other Distributions
The power of the board of directors of an insured depository institution to declare a cash dividend or other distribution with respect to capital is subject to statutory and regulatory restrictions which limit the amount available for such distribution depending upon the earnings, financial condition and cash needs of the institution, as well as general business conditions. FDICIA prohibits insured depository institutions from paying management fees to any controlling persons or, with certain limited exceptions, making capital distributions, including dividends, if, after such transaction, the institution would be undercapitalized. Additionally, under FDICIA, a bank may not make any capital distribution, including the payment of dividends, if after making such distribution the bank would be in any of the "under-capitalized" categories under the FDIC's Prompt Corrective Action regulations.
Under the Financial Institution's Supervisory Act, the FDIC also has the authority to prohibit a bank from engaging in business practices that the FDIC considers to be unsafe or unsound. It is possible, depending upon the financial condition of a bank and other factors that the FDIC could assert that the payment of dividends or other payments in some circumstances might be such an unsafe or unsound practice and thereby prohibit such payment.
Under California law, dividends and other distributions by the Company are subject to declaration by the board of directors at its discretion out of net assets. Dividends cannot be declared and paid when such payment would make the Company insolvent. Federal Reserve policy prohibits a bank holding company from declaring or paying a cash dividend which would impose undue pressure on the capital of subsidiary banks or would be funded only through borrowings or other arrangements that might adversely affect the holding company's financial position. The policy further declares that a bank holding company should not continue its existing rate of cash dividends on its common stock unless its net income is sufficient to fully fund each dividend and its prospective rate of earnings retention appears consistent with its capital needs, asset quality and overall financial condition. Other Federal Reserve policies forbid the payment by bank subsidiaries to their parent companies of management fees, which are unreasonable in amount or exceed a fair market value of the services rendered (or, if no market exists, actual costs plus a reasonable profit).
In addition, the Federal Reserve has authority to prohibit banks that it regulates from engaging in practices, which in the opinion of the Federal Reserve are unsafe or unsound. Such practices may include the payment of dividends under some circumstances. Moreover, the payment of dividends may be inconsistent with capital adequacy guidelines. The Company may be subject to assessment to restore the capital of the Bank should it become impaired.
Consumer Protection Laws and Regulations
The bank regulatory agencies are focusing greater attention on compliance with consumer protection laws and their implementing regulations. Examination and enforcement have become more intense in nature, and insured institutions have been advised to monitor carefully compliance with such laws and regulations. The Company is subject to many federal consumer protection statues and regulations, some of which are discussed below.
The Community Reinvestment Act is intended to encourage insured depository institutions, while operating safely and soundly, to help meet the credit needs of their communities. This act specifically directs the federal regulatory agencies to assess a bank's record of helping meet the credit needs of its entire community, including low- and moderate-income neighborhoods, consistent with safe and sound practices. This act further requires the agencies to take a financial institution's record of meeting its community credit needs into account when evaluating applications for, among other things, domestic branches, mergers or acquisitions, or holding company formations. The agencies use the Community Reinvestment Act assessment factors in order to provide a rating to the financial institution. The ratings range from a high of "outstanding" to a low of "substantial noncompliance."
The Equal Credit Opportunity Act generally prohibits discrimination in any credit transaction, whether for consumer or business purposes, on the basis of race, color, religion, national origin, sex, marital status, age (except in limited circumstances), receipt of income from public assistance programs, or good faith exercise of any rights under the Consumer Credit Protection Act. The Truth-in-Lending Act is designed to ensure that credit terms are disclosed in a meaningful way so that consumers may compare credit terms more readily and knowledgeably. As a result of the such act, all creditors must use the same credit terminology to express rates and payments, including the annual percentage rate, the finance charge, the amount financed, the total payments and the payment schedule, among other things.
The Fair Housing Act regulates many practices, including making it unlawful for any lender to discriminate in its housing-related lending activities against any person because of race, color, religion, national origin, sex, handicap or familial status. A number of lending practices have been found by the courts to be, or may be considered, illegal under this Act, including some that are not specifically mentioned in the Act itself. The Home Mortgage Disclosure Act grew out of public concern over credit shortages in certain urban neighborhoods and provides public information that will help show whether financial institutions are serving the housing credit needs of the neighborhoods and communities in which they are located. This act also includes a "fair lending" aspect that requires the collection and disclosure of data about applicant and borrower characteristics as a way of identifying possible discriminatory lending patterns and enforcing anti-discrimination statutes.
Finally, the Real Estate Settlement Procedures Act requires lenders to provide borrowers with disclosures regarding the nature and cost of real estate settlements. Also, this act prohibits certain abusive practices, such as kickbacks, and places limitations on the amount of escrow accounts.
Penalties under the above laws may include fines, reimbursements and other penalties. Due to heightened regulatory concern related to compliance with these acts generally, the Company may incur additional compliance costs or be required to expend additional funds for investments in their local community.
USA Patriot Act of 2001
The USA Patriot Act was enacted in 2001 in response to the terrorist attacks in New York, Pennsylvania and Washington, D.C. on September 11, 2001. The Patriot Act is intended to strengthen U.S. law enforcement and the intelligence communities' ability to work together to combat terrorism on a variety of levels. The potential impact of the Patriot Act on financial institutions is significant and wide ranging. The Patriot Act contains sweeping anti-money laundering and financial transparency laws and requires various regulations, including:
- Due diligence requirements for financial institutions that administer, maintain, or manage private bank accounts or correspondent accounts for non-U.S. persons; - Standards for verifying customer identification at account opening; - Rules to promote cooperation among financial institutions, regulators, and law enforcement entities to assist in the identification of parties that may be involved in terrorism or money laundering; - Reports to be filed by non-financial trades and business with the Treasury Department's Financial Crimes Enforcement Network for transactions exceeding $10,000; and - The filing of suspicious activities reports by securities brokers and dealers if they believe a customer may be violating U.S. laws and regulations.
Capital Requirements
Federal regulation imposes upon all financial institutions a variable system of risk-based capital guidelines designed to make capital requirements sensitive to differences in risk profiles among banking organizations, to take into account off-balance sheet exposures and to promote uniformity in the definition of bank capital uniform nationally.
The Bank and the Company are subject to the minimum capital requirements of the FDIC, and the Federal Reserve, respectively. As a result of these requirements, the growth in assets is limited by the amount of its capital accounts as defined by the respective regulatory agency. Capital requirements may have an effect on profitability and the payment of dividends on the common stock of the Bank and the Company. If an entity is unable to increase its assets without violating the minimum capital requirements or is forced to reduce assets, its ability to generate earnings would be reduced.
The Federal Reserve, and the FDIC have adopted guidelines utilizing a risk-based capital structure. Qualifying capital is divided into two tiers. Tier 1 capital consists generally of common stockholders' equity, qualifying noncumulative perpetual preferred stock, qualifying cumulative perpetual preferred stock (up to 25% of total Tier 1 capital) and minority interests in the equity accounts of consolidated subsidiaries, less goodwill and certain other intangible assets. Tier 2 capital consists of, among other things, allowance for loan and lease losses up to 1.25% of weighted risk assets, perpetual preferred stock, hybrid capital instruments, perpetual debt, mandatory convertible debt securities, subordinated debt and intermediate-term preferred stock. Tier 2 capital qualifies as part of total capital up to a maximum of 100% of Tier 1 capital. Amounts in excess of these limits may be issued but are not included in the calculation of risk-based capital ratios. Under these risk-based capital guidelines, the Bank and the Company are required to maintain capital equal to at least 8% of its assets, of which at least 4% must be in the form of Tier 1 capital.
The guidelines also require the Company and the Bank to maintain a minimum leverage ratio of 4% of Tier 1 capital to total assets (the "leverage ratio"). The leverage ratio is determined by dividing an institution's Tier 1 capital by its quarterly average total assets, less goodwill and certain other intangible assets. The leverage ratio constitutes a minimum requirement for the most well-run banking organizations. See Note 21 in the financial statements at Item 8 of this report for a discussion about the Company's risk-based capital ratios.
Prompt Corrective Action
Prompt Corrective Action Regulations of the federal bank regulatory agencies establish five capital categories in descending order (well capitalized, adequately capitalized, undercapitalized, significantly undercapitalized and critically undercapitalized), assignment to which depends upon the institution's total risk-based capital ratio, Tier 1 risk-based capital ratio, and leverage ratio. Institutions classified in one of the three undercapitalized categories are subject to certain mandatory and discretionary supervisory actions, which include increased monitoring and review, implementation of capital restoration plans, asset growth restrictions, limitations upon expansion and new business activities, requirements to augment capital, restrictions upon deposit gathering and interest rates, replacement of senior executive officers and directors, and requiring divestiture or sale of the institution. Both the Company and the Bank have been classified as a well-capitalized bank since adoption of these regulations.
Impact of Monetary Policies
Banking is a business that depends on interest rate differentials. In general, the difference between the interest paid by a bank on its deposits and other borrowings, and the interest rate earned by banks on loans, securities and other interest-earning assets comprises the major source of banks' earnings. Thus, the earnings and growth of banks are subject to the influence of economic conditions generally, both domestic and foreign, and also to the monetary and fiscal policies of the United States and its agencies, particularly the Federal Reserve. The Federal Reserve implements national monetary policy, such as seeking to curb inflation and combat recession, by its open-market dealings in United States government securities, by adjusting the required level of reserves for financial institutions subject to reserve requirements and through adjustments to the discount rate applicable to borrowings by banks which are members of the Federal Reserve. The actions of the Federal Reserve in these areas influence the growth of bank loans, investments and deposits and also affect interest rates. The nature and timing of any future changes in such policies and their impact on the Company cannot be predicted. In addition, adverse economic conditions could make a higher provision for loan losses a prudent course and could cause higher loan loss charge-offs, thus adversely affecting the Company's net earnings.
Insurance of Deposits
The Bank's deposit accounts are insured up to a maximum of $100,000 per depositor by the FDIC. The FDIC issues regulations and generally supervises the operations of its insured banks. This supervision and regulation is intended primarily for the protection of depositors, not shareholders.
As of December 31, 2003, the deposit insurance premium rate was $0.0154 per $100.00 in deposits. In November 1990, federal legislation was passed which removed the cap on the amount of deposit insurance premiums that can be charged by the FDIC. Under this legislation, the FDIC is able to increase deposit insurance premiums as it sees fit. This could result in a significant increase in the cost of doing business for the Bank in the future. The FDIC now has authority to adjust deposit insurance premiums paid by insured banks every six months.
Securities Laws
The Company is subject to the periodic reporting requirements of the Securities and Exchange Act of 1934, as amended, which include filing annual, quarterly and other current reports with the Securities and Exchange Commission.
The Sarbanes-Oxley Act was enacted in 2002 to protect investors by improving the accuracy and reliability of corporate disclosures made pursuant to securities laws. Among other things, this act:
- Prohibits a registered public accounting firm from performing specified nonaudit services contemporaneously with a mandatory audit; - Requires thechief executive officer and chief financial officer of an issuer to certify each annual or quarterly report filed with the Securities and Exchange Commission; - Requires an issuer to disclose all material off-balance sheet transactions that may have a material effect on an issuer's financial status; and - Prohibits insider transactions in an issuer's stock during lock-out periods of an issuer's pension plans.
The Company is also required to comply with the rules and regulations of the Nasdaq Stock Market, Inc.
ITEM 2.
ITEM 2. PROPERTIES
The Company is engaged in the banking business through 45 offices in 21 counties in Northern and Central California including nine offices in Butte County, eight in Shasta County, three each in Sacramento and Siskiyou Counties, two each in Glenn, Sutter, Lassen, Yuba, and Stanislaus Counties, and one each in Madera, Merced, Lake, Mendocino, Del Norte, Tehama, Nevada, Contra Costa, Kern, Tulare, Placer and Fresno Counties. All offices are constructed and equipped to meet prescribed security requirements.
The Company owns 17 branch office locations and one administrative building and leases 28 branch office locations and 5 administrative facilities. Most of the leases contain multiple renewal options and provisions for rental increases, principally for changes in the cost of living index, property taxes and maintenance.
ITEM 3.
ITEM 3. LEGAL PROCEEDINGS
Neither the Company nor its subsidiaries, are party to any material pending legal proceeding, nor is their property the subject of any material pending legal proceeding, except routine legal proceedings arising in the ordinary course of their business. None of these proceedings is expected to have a material adverse impact upon the Company's business, financial position or results of operations.
ITEM 4.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
There were no matters submitted to a vote of the shareholders during the fourth quarter of 2003.
PART II
ITEM 5.
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES
The Company's common stock is traded on the NASDAQ National Market System ("NASDAQ") under the symbol "TCBK." The following table shows the high and the low prices for the common stock, for each quarter in the past two years, as reported by NASDAQ:
2003: High Low First quarter $26.77 $24.31 Second quarter $26.00 $24.10 Third quarter $29.87 $25.20 Fourth quarter $34.18 $29.81
2002: First quarter $21.05 $18.05 Second quarter $27.40 $21.10 Third quarter $27.45 $21.60 Fourth quarter $25.25 $22.01
As of February 24, 2004 there were approximately 1,817 shareholders of record of the Company's common stock.
Effective April 4, 2003, the Company (i) issued 723,512 shares of its common stock pursuant to a registration statement on Form S-4, (ii) issued options to purchase 79,587 shares of its common stock, and (iii) paid $13,090,057 in cash to the former shareholders of North State National Bank. Additional information concerning this acquisition is found under Item 1 of this report.
The Company has paid cash dividends on its common stock in every quarter since March 1990, and it is currently the intention of the Board of Directors of the Company to continue payment of cash dividends on a quarterly basis. There is no assurance, however, that any dividends will be paid since they are dependent upon earnings, financial condition and capital requirements of the Company and the Bank. As of December 31, 2003, $23.9 million was available for payment of dividends by the Company to its shareholders, under applicable laws and regulations. The Company paid cash dividends of $0.20 per common share in each of the quarters ended March 31, June 30, September 30, and December 31, 2003 and 2002.
As discussed in Note 10 to the consolidated financial statements included as Item 8 of this report, in June 2001, the Company announced that its Board of Directors adopted and entered into a Shareholder Rights Plan designed to protect and maximize shareholder value and to assist the Board of Directors in ensuring fair and equitable benefit to all shareholders in the event of a hostile bid to acquire the Company.
The Company adopted a new stock repurchase plan on July 31, 2003 for the repurchase of up to 250,000 shares of the Company's common stock from time to time as market conditions allow. The 250,000 shares authorized for repurchase under this plan represented approximately 3.2% of the Company's approximately 7,852,000 common shares outstanding as of July 31, 2003. This new plan has no stated expiration date for the repurchases. As of December 31, 2003, the Company had purchased 27,500 shares under this plan. The following table shows the repurchases made by the Company under this plan during the fourth quarter of 2003:
1 Fully taxable equivalent
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The Company's discussion and analysis of its financial condition and results of operations is intended to provide a better understanding of the significant changes and trends relating to the Company's financial condition, results of operations, liquidity and interest rate sensitivity. The following discussion is based on the Company's consolidated financial statements which have been prepared in accordance with accounting principles generally accepted in the United States of America. Please read the Company's audited consolidated financial statements and the related notes included as Item 8 of this report.
Critical Accounting Policies and Estimates
The Company's discussion and analysis of its financial condition and results of operations are based upon the Company's consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America. The preparation of these financial statements requires the Company to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosure of contingent assets and liabilities. On an on-going basis, the Company evaluates its estimates, including those that materially affect the financial statements and are related to the adequacy of the allowance for loan losses, investments, mortgage servicing rights, and intangible assets. The Company bases its estimates on historical experience and on various other assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions. The Company's policies related to estimates on the allowance for loan losses, other than temporary impairment of investments and impairment of intangible assets can be found in Note 1 to the Company's audited consolidated financial statements and the related notes included as Item 8 of this report.
As the Company has not commenced any business operations independent of the Bank, the following discussion pertains primarily to the Bank. Average balances, including balances used in calculating certain financial ratios, are generally comprised of average daily balances for the Company. Within Management's Discussion and Analysis of Financial Condition and Results of Operations, interest income and net interest income are generally presented on a fully tax-equivalent (FTE) basis.
The following discussion and analysis is designed to provide a better understanding of the significant changes and trends related to the Company and the Bank's financial condition, operating results, asset and liability management, liquidity and capital resources and should be read in conjunction with the consolidated financial statements of the Company and the related notes at Item 8 of this report.
Net Income
Following is a summary of the Company's net income for the past three years (dollars in thousands, except per share amounts):
Components of Net Income - ----------------------------------------------------------------------------- Year ended December 31, 2003 2002 2001 ------------------------------- Net interest income * $62,005 $53,029 $49,666 Provision for loan losses (1,250) (2,800) (4,400) Noninterest income 22,909 19,180 16,238 Noninterest expense (55,527) (45,971) (40,607) Taxes * (11,249) (9,369) (8,478) ------------------------------- $16,888 $14,069 $12,419 =============================== Net income per average fully-diluted share $2.14 $1.96 $1.72 Net income as a percentage of average shareholders' equity 14.24% 15.03% 14.19% Net income as a percentage of average total assets 1.27% 1.35% 1.27% ============================================================================= * Fully tax-equivalent (FTE)
Earnings in 2003 increased $2.8 million (20.0%) from 2002. Net interest income (FTE) grew $9.0 million (16.9%) due to a $239.1 million (25.3%) increase in average earning assets that was partially offset by a net interest margin that fell 38 basis points. The loan loss provision was reduced by $1.6 million in 2003 from 2002, and noninterest income increased $3.7 million (19.4%) while noninterest expense also increased $9.6 million (20.8%).
The Company achieved earnings of $14.1 million in 2002, representing a 13.7% increase from the $12.4 million earned in 2001, which was down 1.6% from 2000 earnings of $12.6 million. Net interest income on a fully tax-equivalent basis for 2002 increased $3.4 million (6.8%) compared to 2001. Higher average balances of interest earning assets added $4.4 million to net interest income on a fully tax-equivalent basis, while changes in interest rates reduced net interest income on a fully tax-equivalent basis by $1.0 million. The loan loss provision was reduced by $1.6 million (36.4%), and noninterest income grew $2.9 million (18.1%). Partially offsetting this higher revenue, noninterest expense expanded $5.4 million (13.2%).
The Company's return on average total assets was 1.27% in 2003, compared to 1.35% and 1.27% in 2002 and 2001, respectively. Return on average equity in 2003 was 14.24%, compared to 15.03% in 2002 and 14.19% percent in 2001.
Net Interest Income
The Company's primary source of revenue is net interest income, which is the difference between interest income on earning assets and interest expense on interest-bearing liabilities. Net interest income (FTE) increased $9.0 million (17.0%) to $62.0 million from 2002 to 2003. Net interest income (FTE) increased $3.4 million (6.8%) from 2001 to $53.0 million in 2002.
Following is a summary of the Company's net interest income for the past three years (dollars in thousands):
Components of Net Interest Income ----------------------------------------------------------------- Year ended December 31, 2003 2002 2001 ------------------------------- Interest income $73,969 $64,696 $71,998 Interest expense (13,089) (12,914) (23,486) FTE adjustment 1,125 1,247 1,154 ------------------------------- Net interest income (FTE) $62,005 $53,029 $49,666 ================================================================= Net interest margin (FTE) 5.23% 5.61% 5.58% =================================================================
Interest income (FTE) increased $9.2 million (13.9%) from $65.9 million in 2002 to $75.1 million in 2003, due to increased volume of earning assets that was partially offset by lower yields on earning assets. During 2003, the average balance of loans and investment securities grew $167.0 million (25.3%) and $97.2 million (39.2%), respectively, while the average balance of federal funds sold declined $25.1 million (68.5%). Yields on loans and investment securities fell to 7.37% and 4.05%, respectively, in 2003 from 7.94% and 5.19%, respectively, in 2002. Overall, the yield on the Company's earning assets decreased from 6.98% in 2002 to 6.34% in 2003. The decrease in average yield on interest-earning assets reduced interest income (FTE) by $8.7 million, while a net increase of $239.1 million (25.3%) in average balances of interest earning assets added $17.9 million to interest income (FTE) during 2003.
Interest expense increased $0.2 million (1.4%) in 2003 due to a $195.4 million (26.2%) increase in average balance of interest-bearing liabilities that was offset by a 34 basis point decrease in the average rate paid on interest-bearing liabilities from 1.73% to 1.39%. Average balances of interest bearing demand, savings, and time deposits were up $31.8 million (18.1%), $120.0 million (45.4%), and $17.7 million (6.3%), respectively. The decrease in average yield on interest-bearing liabilities reduced interest expense by $2.3 million, while the increase in average balances of interest bearing liabilities added $2.5 million to interest expense during 2003.
Interest income (FTE) decreased $7.2 million (9.9%) from 2001 to 2002, the net effect of lower earning-asset yields partially offset by higher average balances of those assets. The total yield on earning assets dropped from 8.21% in 2001 to 6.98% in 2002, following the trend in overall interest markets in which federal funds rates were reduced to historical lows ending 2002 at 1.25%. The average yield on loans decreased 113 basis points to 7.94% during 2002. The decrease in average yield on interest-earning assets reduced interest income (FTE) by $11.1 million, while a $54.8 million (6.2%) increase in average balances of interest-earning assets added $3.9 million to interest income (FTE) during 2002.
Interest expense decreased $10.6 million (45.0%) in 2002 from $23.5 million in 2001, principally due to lower rates paid. The average rate paid on interest-bearing liabilities was 1.73% in 2002, 155 basis points or 47% lower than in 2001. The most pronounced declines included rates paid on savings deposits (down from 2.11% to 1.02%) and time deposits (down from 5.07% to 2.99%). Rates paid on interest-bearing demand deposits decreased 68 basis points to 0.27%. The decrease in the average rate paid on interest-bearing liabilities decreased interest expense by $10.1 million, and changes in the mix of average balances of interest-bearing liabilities decreased interest expense by $509,000 in 2002 despite an overall increase of $30.8 million (4.3%) in the average balance of interest-bearing liabilities.
Net Interest Margin
Following is a summary of the Company's net interest margin for the past three years:
Components of Net Interest Margin -------------------------------------------------------------------------- Year ended December 31, 2003 2002 2001 ----------------------------- Yield on earning assets 6.34% 6.98% 8.21% Rate paid on interest-bearing liabilities 1.39% 1.73% 3.28% ----------------------------- Net interest spread 4.95% 5.24% 4.93% Impact of all other net noninterest-bearing funds 0.28% 0.35% 0.65% ----------------------------- Net interest margin (FTE) 5.23% 5.61% 5.58% ==========================================================================
During 2002, the Company was able to maintain a relatively stable net interest margin by aggressively reducing rates paid on interest-bearing liabilities as yields on earning assets decreased along with market interest rates. During 2003, it became increasingly difficult to decrease rates on interest-bearing liabilities as market interest rates continued to decrease. In addition, the positive impact of all other net noninterest bearing funds on net interest margin was reduced due to the lower market rates of interest at which they could be invested.
Summary of Average Balances, Yields/Rates and Interest Differential
The following tables present, for the past three years, information regarding the Company's consolidated average assets, liabilities and shareholders' equity, the amounts of interest income from average earning assets and resulting yields, and the amount of interest expense paid on interest bearing liabilities. Average loan balances include nonperforming loans. Interest income includes proceeds from loans on nonaccrual loans only to the extent cash payments have been received and applied to interest income. Yields on securities and certain loans have been adjusted upward to reflect the effect of income thereon exempt from federal income taxation at the current statutory tax rate (dollars in thousands):
(1) Net interest spread represents the average yield earned on interest earning assets less the average rate paid on interest bearing liabilities. (2) Net interest margin is computed by dividing net interest income by total average earning assets.
(1) Net interest spread represents the average yield earned on interest-earning assets less the average rate paid on interest-bearing liabilities. (2) Net interest margin is computed by dividing net interest income by total average earning assets.
(1) Net interest spread represents the average yield earned on interest-earning assets less the average rate paid on interest-bearing liabilities. (2) Net interest margin is computed by dividing net interest income by total average earning assets.
Summary of Changes in Interest Income and Expense due to Changes in Average Asset and Liability Balances and Yields Earned and Rates Paid
The following table sets forth a summary of the changes in the Company's interest income and interest expense from changes in average asset and liability balances (volume) and changes in average interest rates for the past three years. The rate/volume variance has been included in the rate variance. Amounts are calculated on a fully taxable equivalent basis (dollars in thousands):
Provision for Loan Losses
In 2003, the Bank provided $1.25 million for loan losses compared to $2.8 million in 2002. Net loan charge-offs increased $1.3 million (87%) to $2.8 million during 2003. Included in the $2.8 million of net loan charge-offs during 2003 is a net charge-off of $1.6 million related to two commercial real estate loans to a single entity that was collateralized by a single building. The Company had previously established a specific allowance for the two commercial real estate loans noted above in its allowance for loan losses. Collection of the loan was realized on July 31, 2003 through receipt of net proceeds of $11.5 million from the sale of the building. The collection resulted in a recovery of $0.3 million of the $1.9 million charged-off on these loans during the quarter ended June 30, 2003. Net charge-offs of consumer installment loans increased $191,000 (93%). Net charge-offs of commercial, financial and agricultural loans increased $465,000 (99%) in 2003, while net charge-offs of real estate mortgage loans increased $655,000 (81%). The 2003 charge-offs represented 0.34% of average loans outstanding versus 0.22% in 2002. Nonperforming loans net of government agency guarantees as a percentage of total loans were 0.45% and 1.19% at December 31, 2003 and 2002, respectively. The ratio of allowance for loan losses to nonperforming loans was 313% at the end of 2003 versus 176% at the end of 2002.
In 2002, the Bank provided $2.8 million for loan losses compared to $4.4 million in 2001. Net loan charge-offs decreased $1.5 million (51%) to $1.5 million during 2002. Net charge-offs of commercial, financial and agricultural loans decreased $2.3 million (83%) in 2002, while net charge-offs of real estate mortgage and consumer installment loans increased $662,000 (463%) and $105,000 (205%), respectively. The 2002 net charge-offs represented 0.22% of average loans outstanding versus 0.47% in 2001. Nonperforming loans net of government agency guarantees were 1.19% of total loans at December 31, 2002 versus 0.92% at December 31, 2001. The ratio of allowance for loan losses to nonperforming loans was 176% at the end of 2002 versus 216% at the end of 2001.
Noninterest Income
The following table summarizes the Company's noninterest income for the past three years (dollars in thousands):
Components of Noninterest Income --------------------------------------------------------------------------- Year ended December 31, 2003 2002 2001 -------------------------------- Service charges on deposit accounts $12,495 $8,915 $5,875 ATM fees and interchange 2,220 1,823 1,423 Other service fees 1,782 1,261 1,133 Amortization of mortgage servicing rights, net of mortgage servicing fees (1,356) (713) (336) Provision for mortgage servicing rights valuation allowance (600) - - Gain on sale of loans 4,168 3,641 2,095 Commissions on sale of nondeposit investment products 1,766 2,467 2,576 Gain on sale of investments 197 - 1,792 Increase in cash value of life insurance 1,296 606 476 Other noninterest income 941 1,180 1,204 -------------------------------- Total noninterest income $22,909 $19,180 $16,238 ===========================================================================
Noninterest income increased $3.7 million (19.4%) to $22.9 million in 2003. Service charges on deposit accounts was up $3.6 million (40.2%) due to 2003 being the first full year of the Company's overdraft privilege product that was introduced in July 2002. ATM fees and interchange, and other service fees were up $0.4 million (21.8%) and $0.5 million (41.3%) due to expansion of the Company's ATM network and customer base through de-novo branch expansion and the acquisition of North State National Bank. Overall, mortgage banking activities, which includes amortization of mortgage servicing rights net of mortgage servicing fees, provision for mortgage servicing valuation allowance, and gain on sale of loans, accounted for $2.2 million of noninterest income in the 2003 compared to $2.9 million in 2002. The increase in the amortization of mortgage servicing rights and the provision for mortgage servicing valuation allowance taken in 2003 are the result of the recent peak in mortgage refinance activity. While the Company benefits from increased gain on sale of loans during periods of high levels of mortgage refinance activity, it may also experience increased amortization and provisions for mortgage servicing valuations of mortgage servicing rights. Commissions on sale of nondeposit investment products decreased $0.7 million (28.4%) in 2003 due to lower demand for annuity products. Income from increase in cash value of life insurance increased $0.7 million (114%) due to an increase in life insurance owned by the Company from $15.2 million at December 31, 2002 to $39.0 million at December 31, 2003.
Noninterest income increased $2.9 million (18.1%) to $19.2 million in 2002. The increase was mainly due to a $3.0 million (52%) increase in service charges on deposit accounts to $8.9 million, and a $1.5 million (74%) increase in gain on sale of loans to $3.6 million during 2002. Except for a $1.8 million gain from sale of investments and insurance company stock in 2001, noninterest income would have increased $4.7 million (29.2%). The increase in service charges on deposit accounts was almost entirely due to the introduction of the Company's overdraft privilege product in July 2002. The increase in gain on sale of loans is due to continued and increased residential mortgage refinance activity during 2002.
Securities Transactions
During 2003 the Bank realized net gains of $0.2 million on the sale of securities with market values of $22.3 million. In addition, during 2003, the Bank received proceeds from maturities of securities totaling $205 million, purchased $169.2 million of securities, and acquired $39.7 million of securities through the acquisition of North State national Bank.
During 2002 the Bank had no sales of securities. Also during 2002, the Bank received proceeds from maturities of securities totaling $131.6 million, and used $241.8 million to purchase securities.
Noninterest Expense
The following table summarizes the Company's other noninterest expense for the past three years:
Components of Noninterest Expense (dollars in thousands) --------------------------------------------------------------------------- Year ended December 31, 2003 2002 2001 ------------------------------------- Salaries and benefits $29,714 $24,290 $21,199 Equipment and data processing 4,947 4,095 3,694 Occupancy 3,493 2,954 2,806 Professional fees 2,315 1,696 1,087 Telecommunications 1,539 1,422 1,253 Advertising 1,062 1,263 1,132 Intangible amortization 1,207 911 911 ATM network charges 1,043 847 913 Postage 855 801 639 Courier service 795 720 661 Operational losses 657 534 227 Assessments 268 233 223 Net other real estate owned expense 124 26 175 Other 7,508 6,179 5,687 ------------------------------------- Total noninterest expense $55,527 $45,971 $40,607 ============================================================================ Average full time equivalent staff 505 435 403 Noninterest expense to revenue (FTE) 65.39% 63.66% 61.62%
Salary and benefit expenses increased $5.4 million (22.3%) in 2003 compared to 2002. Base salaries and benefits increased $3.3 million (20.9%) to $19.1 million in 2003. The increase in base salaries was mainly due to a 16.1% increase in average full time equivalent employees from 435 in 2002 to 505 in 2003, and annual salary increases. Incentive and commission related salary expenses increased $1.0 million (28.6%) to $4.5 million in 2003. The increase in incentive and commission expenses was directly tied to significant loan, deposit, and revenue growth during 2003. Benefits expense, including retirement, medical and workers' compensation insurance, and taxes, increased $1.1 million (21.6%) to $6.2 million during 2003.
Salary and benefit expenses increased $3.1 million (14.6%) to $24.3 million in 2002 compared to 2001. Base salaries increased $1.4 million (9.5%) to $15.7 million in 2002. The increase in base salaries was mainly due to an 8.2% increase in average full time equivalent employees from 403 during 2001 to 435 during 2002, primarily due to the opening of four branches in 2002. Incentive and commission related salary expenses increased $866,000 (33.5%) to $3.5 million in 2002. The increase in incentive and commission related salary expense was mainly due to increased commissions paid on origination of residential mortgage loans, and other functions that exhibited exceptional performance during 2002. These results are consistent with the Bank's strategy of working more efficiently with fewer employees who are compensated in part based on their business unit's performance or on their ability to generate revenue. Benefits expense, including retirement, medical and workers' compensation insurance, and taxes, increased $855,000 (20.2%) to $5.1 million during 2002.
Other noninterest expense increased $4.1 million (18.9%) to $25.8 million in 2003. Increases in the areas of equipment and data processing, occupancy, telecommunications, and ATM network charges were mainly due to the first full year of operation of the Oroville, Brentwood, and Natomas branches, the opening in 2003 of branches in Chico, Roseville and Folsom, the continued operation of one branch added through the acquisition of North State National Bank in April 2003, and enhancements to data processing and ATM network equipment. One-time merger expenses related to the North State acquisition were insignificant. All expense reductions realized through the acquisition of North State were effected immediately upon acquisition in April 2003. Increases in professional fees and operational losses were related to the first full year operation of the Company's overdraft privilege product introduced in July 2002, and were more than offset by the large revenue that product is producing. The increase in intangible amortization was due to the North State acquisition.
Other expenses increased $2.3 million (11.7%) to $21.7 million in 2002. Increases in the areas of equipment and data processing, occupancy, telecommunications, courier service, and other were mainly due to the opening of four branches in 2002. Increases in professional fees and operational losses were related to the overdraft privilege product introduced in July 2002, and were more than offset by the large revenue that product is producing.
Provision for Taxes
The effective tax rate on income was 37.5%, 36.6%, and 37.1% in 2003, 2002, and 2001, respectively. The effective tax rate was greater than the federal statutory tax rate due to state tax expense of $2.7 million, $2.0 million, and $1.9 million, respectively, in these years. Tax-exempt income of $2.0 million, $2.2 million, and $2.2 million, respectively, from investment securities in these years helped to reduce the effective tax rate.
Financial Ratios
The following table shows the Company's key financial ratios for the past three years:
Year ended December 31, 2003 2002 2001 -------------------------------- Return on average total assets 1.27% 1.35% 1.27% Return on average shareholders' equity 14.24% 15.03% 14.19% Shareholders' equity to total assets 8.71% 8.65% 8.65% Common shareholders' dividend payout ratio 36.36% 39.95% 45.43% ==============================================================================
Loans
The Bank concentrates its lending activities in four principal areas: commercial loans (including agricultural loans), consumer loans, real estate mortgage loans (residential and commercial loans and mortgage loans originated for sale), and real estate construction loans. At December 31, 2003, these four categories accounted for approximately 14%, 33%, 47%, and 6% of the Bank's loan portfolio, respectively, as compared to 18%, 29%, 47%, and 6%, at December 31, 2002. The shift in the percentages was primarily due to the Bank's ability to increase its consumer loan portfolio during 2003. The shift in percentages is reflected in the Company's assessment of the adequacy of the allowance for loan losses. The increase in consumer loans during 2003 was mainly due to increases in home equity lines of credit and automobile loans. The interest rates charged for the loans made by the Bank vary with the degree of risk, the size and maturity of the loans, the borrower's relationship with the Bank and prevailing money market rates indicative of the Bank's cost of funds.
The majority of the Bank's loans are direct loans made to individuals, farmers and local businesses. The Bank relies substantially on local promotional activity, personal contacts by bank officers, directors and employees to compete with other financial institutions. The Bank makes loans to borrowers whose applications include a sound purpose, a viable repayment source and a plan of repayment established at inception and generally backed by a secondary source of repayment.
At December 31, 2003 loans totaled $981 million and was a 43% ($294 million) increase over the balances at the end of 2002. Contributing to the increase in loans was $76 million of loans obtained through the acquisition of North State National Bank on April 4, 2003. Demand for commercial and agriculture related loans, commercial real estate mortgage loans, and real estate construction loans improved in the Company's market areas in 2003. Demand for home equity and auto loans remained strong throughout 2003. The average loan-to-deposit ratio in 2003 was 72.2% compared to 71.1% in 2002.
At December 31, 2002 loans totaled $687.5 million and was a 4.4% ($28.8 million) increase over the balances at the end of 2001. Demand for home equity loans and auto loans (both classified as consumer loans) were strong throughout 2002. Residential mortgage loan activity was extremely strong in 2002, but the Company generally sells all such loans. Commercial and agriculture related loan growth continued to be relatively weak in 2002 as the economy continued to be weak, and competition for such loans was high. The average loan-to-deposit ratio in 2002 was 71.1% compared to 76.8% in 2001.
Loan Portfolio Composite
The following table shows the Company's loan balances for the past five years:
Classified Assets
The Company closely monitors the markets in which it conducts its lending operations and continues its strategy to control exposure to loans with high credit risk. Asset reviews are performed using grading standards and criteria similar to those employed by bank regulatory agencies. Assets receiving lesser grades fall under the "classified assets" category, which includes all nonperforming assets and potential problem loans, and receive an elevated level of attention to ensure collection.
The following is a summary of classified assets on the dates indicated (dollars in thousands):
At December 31, 2003 At December 31, 2002 ------------------------- ------------------------ Gross Guaranteed Net Gross Guaranteed Net ----------------------------------------------------- Classified loans $29,992 $18,783 $11,209 $52,264 $12,202 $40,062 Other classified assets 932 - 932 932 - 932 ----------------------------------------------------- Total classified assets $30,924 $18,783 $12,141 $53,196 $12,202 $40,994 ===================================================== Allowance for loan losses/ Classified loans 113.4% 35.1%
Classified assets, net of guarantees of the U.S. Government, including its agencies and its government-sponsored agencies at December 31, 2003, decreased $28.9 million (70%) to $12.1 million from $41.0 million at December 31, 2002.
Nonperforming Assets
Loans on which the accrual of interest has been discontinued are designated as nonaccrual loans. Accrual of interest on loans is generally discontinued either when reasonable doubt exists as to the full, timely collection of interest or principal or when a loan becomes contractually past due by 90 days or more with respect to interest or principal. When loans are 90 days past due, but in Management's judgment are well secured and in the process of collection, they may not be classified as nonaccrual. When a loan is placed on nonaccrual status, all interest previously accrued but not collected is reversed. Income on such loans is then recognized only to the extent that cash is received and where the future collection of principal is probable. Interest accruals are resumed on such loans only when they are brought fully current with respect to interest and principal and when, in the judgment of Management, the loans are estimated to be fully collectible as to both principal and interest. The reclassification of loans as nonaccrual does not necessarily reflect management's judgment as to whether they are collectible.
Interest income on nonaccrual loans, which would have been recognized during the year, ended December 31, 2003, if all such loans had been current in accordance with their original terms, totaled $1.1 million. Interest income actually recognized on these loans in 2003 was $372,000.
The Bank's policy is to place loans 90 days or more past due on nonaccrual status. In some instances when a loan is 90 days past due management does not place it on nonaccrual status because the loan is well secured and in the process of collection. A loan is considered to be in the process of collection if, based on a probable specific event, it is expected that the loan will be repaid or brought current. Generally, this collection period would not exceed 30 days. Loans where the collateral has been repossessed are classified as other real estate owned ("OREO") or, if the collateral is personal property, the loan is classified as other assets on the Company's financial statements.
Management considers both the adequacy of the collateral and the other resources of the borrower in determining the steps to be taken to collect nonaccrual loans. Alternatives that are considered are foreclosure, collecting on guarantees, restructuring the loan or collection lawsuits.
The following tables set forth the amount of the Bank's nonperforming assets net of guarantees of the U.S. government, including its agencies and its government-sponsored agencies, as of the dates indicated:
December 31, 1999 ------------------------- (dollars in thousands): Gross Guaranteed Net ------------------------- Performing nonaccrual loans $666 $62 $604 Nonperforming, nonaccrual loans 1,662 508 1,154 ------------------------- Total nonaccrual loans 2,328 570 1,758 Loans 90 days past due and still accruing 923 - 923 ------------------------- Total nonperforming loans 3,251 570 2,681 Other real estate owned 760 - 760 ------------------------- Total nonperforming loans and OREO $4,011 $570 $3,441 =========================
Nonperforming loans to total loans 0.46% Allowance for loan losses/nonperforming loans 412% Nonperforming assets to total assets 0.37%
During 2003, nonperforming assets net of government guarantees decreased $3.8 million (42%) to $5.3 million. Nonperforming loans decreased $3.8 million (46%) to $4.4 million. The ratio of nonperforming loans to total loans at December 31, 2003 was 0.45% versus 1.19% at the end of 2002. Classifications of nonperforming loans as a percent of the total at the end of 2003 were as follows: secured by real estate, 66%; loans to farmers, 19%; commercial loans, 10%; and consumer loans, 5%.
During 2002, nonperforming assets net of government guarantees increased $3 million (49%) to a total of $9.1 million. Nonperforming loans net of government guarantees increased $2.1 million (35%) to $8.2 million, and other real estate owned (OREO) increased $861,000 to $932,000 during 2002. The ratio of nonperforming loans to total loans at December 31, 2002 was 1.19% versus 0.92% at the end of 2001. Classifications of nonperforming loans as a percent of total loans at the end of 2002 were as follows: secured by real estate, 62%; loans to farmers, 27%; commercial loans, 10%; and consumer loans, 1%.
Allowance for Loan Losses
Credit risk is inherent in the business of lending. As a result, the Company maintains an allowance for loan losses to absorb losses inherent in the Company's loan and lease portfolio. This is maintained through periodic charges to earnings. These charges are shown in the consolidated income statements as provision for loan losses. All specifically identifiable and quantifiable losses are immediately charged off against the allowance. However, for a variety of reasons, not all losses are immediately known to the Company and, of those that are known, the full extent of the loss may not be quantifiable at that point in time. The balance of the Company's allowance for loan losses is meant to be an estimate of these unknown but probable losses inherent in the portfolio.
For the remainder of this discussion, "loans" shall include all loans and lease contracts, which are a part of the Bank's portfolio.
Assessment of the Adequacy of the Allowance for Loan Losses
The Company formally assesses the adequacy of the allowance on a quarterly basis. Determination of the adequacy is based on ongoing assessments of the probable risk in the outstanding loan and lease portfolio, and to a lesser extent the Company's loan and lease commitments. These assessments include the periodic re-grading of credits based on changes in their individual credit characteristics including delinquency, seasoning, recent financial performance of the borrower, economic factors, changes in the interest rate environment, growth of the portfolio as a whole or by segment, and other factors as warranted. Loans are initially graded when originated. They are re-graded as they are renewed, when there is a new loan to the same borrower, when identified facts demonstrate heightened risk of nonpayment, or if they become delinquent. Re-grading of larger problem loans occurs at least quarterly. Confirmation of the quality of the grading process is obtained by independent credit reviews conducted by consultants specifically hired for this purpose and by various bank regulatory agencies.
The Company's method for assessing the appropriateness of the allowance includes specific allowances for identified problem loans and leases, formula allowance factors for pools of credits, and allowances for changing environmental factors (e.g., interest rates, growth, economic conditions, etc.). Allowances for identified problem loans are based on specific analysis of individual credits. Allowance factors for loan pools are based on the previous 5 years historical loss experience by product type. Allowances for changing environmental factors are management's best estimate of the probable impact these changes have had on the loan portfolio as a whole.
The Components of the Allowance for Loan Losses
As noted above, the overall allowance consists of a specific allowance, a formula allowance, and an allowance for environmental factors. The first component, the specific allowance, results from the analysis of identified credits that meet management's criteria for specific evaluation. These loans are reviewed individually to determine if such loans are considered impaired. Impaired loans are those where management has concluded that it is probable that the borrower will be unable to pay all amounts due under the contractual terms. Loans specifically reviewed, including those considered impaired, are evaluated individually by management for loss potential by evaluating sources of repayment, including collateral as applicable, and a specified allowance for loan losses is established where necessary.
The second component, the formula allowance, is an estimate of the probable losses that have occurred across the major loan categories in the Company's loan portfolio. This analysis is based on loan grades by pool and the loss history of these pools. This analysis covers the Company's entire loan portfolio including unused commitments but excludes any loans, which were analyzed individually and assigned a specific allowance as discussed above. The total amount allocated for this component is determined by applying loss estimation factors to outstanding loans and loan commitments. The loss factors are based primarily on the Company's historical loss experience tracked over a five-year period and adjusted as appropriate for the input of current trends and events. Because historical loss experience varies for the different categories of loans, the loss factors applied to each category also differ. In addition, there is a greater chance that the Company has suffered a loss from a loan that was graded less than satisfactory than if the loan was last graded satisfactory. Therefore, for any given category, a larger loss estimation factor is applied to less than satisfactory loans than to those that the Company last graded as satisfactory. The resulting formula allowance is the sum of the allocations determined in this manner.
The third or "unallocated" component of the allowance for credit losses is a component that is not allocated to specific loans or groups of loans, but rather is intended to absorb losses that may not be provided for by the other components.
There are several primary reasons that the other components discussed above might not be sufficient to absorb the losses present in portfolios, and the unallocated portion of the allowance is used to provide for the losses that have occurred because of them.
The first reason is that there are limitations to any credit risk grading process. The volume of loans makes it impractical to re-grade every loan every quarter. Therefore, it is possible that some currently performing loans not recently graded will not be as strong as their last grading and an insufficient portion of the allowance will have been allocated to them. Grading and loan review often must be done without knowing whether all relevant facts are at hand. Troubled borrowers may deliberately or inadvertently omit important information from reports or conversations with lending officers regarding their financial condition and the diminished strength of repayment sources.
The second reason is that the loss estimation factors are based primarily on historical loss totals. As such, the factors may not give sufficient weight to such considerations as the current general economic and business conditions that affect the Company's borrowers and specific industry conditions that affect borrowers in that industry. The factors might also not give sufficient weight to other environmental factors such as changing economic conditions and interest rates, portfolio growth, entrance into new markets or products, and other characteristics as may be determined by Management.
Specifically, in assessing how much unallocated allowance needed to be provided at December 31, 2003, management considered the following:
- with respect to loans to the agriculture industry, management considered the effects on borrowers of weather conditions and overseas market conditions for exported products as well as commodity prices in general;
- with respect to changes in the interest rate environment management considered the recent changes in interest rates and the resultant economic impact it may have had on borrowers with high leverage and/or low profitability; and
- with respect to loans to borrowers in new markets and growth in general, management considered the relatively short seasoning of such loans and the lack of experience with such borrowers.
Each of these considerations was assigned a factor and applied to a portion or all of the loan portfolio. Since these factors are not derived from experience and are applied to large non-homogeneous groups of loans, they are considered unallocated and are available for use across the portfolio as a whole.
The following table sets forth the Bank's loan loss reserve as of the dates indicated:
The allowance for loan losses to total loans at December 31, 2003 was 1.40% versus 2.09% at the end of 2002. At December 31, 2001, the allowance for loan losses to total loans was 1.98%.
Based on the current conditions of the loan portfolio, management believes that the $13.8 million allowance for loan losses at December 31, 2003 is adequate to absorb probable losses inherent in the Bank's loan portfolio. No assurance can be given, however, that adverse economic conditions or other circumstances will not result in increased losses in the portfolio.
The following table summarizes, for the years indicated, the activity in the allowance for loan losses:
Other Real Estate Owned
The other real estate owned (OREO) balance was $932,000 at December 31, 2003 and 2002. The Bank disposed of properties with a value of $613,000 in 2003. OREO properties consist of a mixture of land, single family residences, and commercial buildings.
Intangible Assets
At December 31, 2003 and 2002, the Bank had intangible assets totaling $21.6 million and $4.0 million, respectively. The intangible assets resulted from the Bank's 1997 acquisitions of certain Wells Fargo branches and Sutter Buttes Savings Bank, the April 2003 acquisition of North State National Bank, and an additional minimum pension liability related to the Company's supplemental retirement plans. Intangible assets at December 31, 2003 and 2002 were comprised of the following: December 31, 2003 2002 -------------------------- (dollars in thousands) Core-deposit intangible $5,800 $3,642 Additional minimum pension liability 285 401 Goodwill 15,519 - -------------------------- Total intangible assets $21,604 $4,043 ==========================
Amortization of core deposit intangible assets amounting to $1,207,000, $911,000, and $911,000 was recorded in 2003, 2002, and 2001, respectively. The minimum pension liability intangible asset is not amortized but adjusted annually based upon actuarial estimates.
Deposits
Deposits at December 31, 2003 were up $232 million (23%) to $1.237 billion over 2002 year-end balances. All categories of deposits except certificates of deposit increased in 2002. On April 4, 2003, the Company acquired North State National Bank which at the time had deposits totaling $126 million. Included in the December 31, 2003 certificate of deposit balance is $20 million from the State of California.
Deposits at December 31, 2002 were up $124.8 million (14.2%) over the 2001 year-end balances to $1.0 billion. All categories of deposits increased in 2002. Included in the December 31, 2002 certificate of deposit balances is $20 million from the State of California. The Bank participates in a deposit program offered by the State of California whereby the State may make deposits at the Banks request subject to collateral and credit worthiness constraints. The negotiated rates on these State deposits are generally favorable to other wholesale funding sources available to the Bank.
Long-Term Debt
In 2003, the Bank made principal payments of $37,000 on long-term debt obligations. During 2002, the Bank repaid $32,000 of long-term debt. See Note 7 to the consolidated financial statements at Item 8 of this report.
Junior Subordinated Debt
See Note 8 in the financial statements at Item 8 of this report for a discussion about the Company's issuance of junior subordinated debt during 2003.
Equity
See Note 10 and Note 21 in the financial statements at Item 8 of this report for a discussion of shareholders' equity and regulatory capital, respectively. Management believes that the Company's capital is adequate to support anticipated growth, meet the cash dividend requirements of the Company and meet the future risk-based capital requirements of the Bank and the Company.
Market Risk Management
Overview. The goal for managing the assets and liabilities of the Bank is to maximize shareholder value and earnings while maintaining a high quality balance sheet without exposing the Bank to undue interest rate risk. The Board of Directors has overall responsibility for the Company's interest rate risk management policies. The Bank has an Asset and Liability Management Committee (ALCO) which establishes and monitors guidelines to control the sensitivity of earnings to changes in interest rates.
Asset/Liability Management. Activities involved in asset/liability management include but are not limited to lending, accepting and placing deposits, investing in securities and issuing debt. Interest rate risk is the primary market risk associated with asset/liability management. Sensitivity of earnings to interest rate changes arises when yields on assets change in a different time period or in a different amount from that of interest costs on liabilities. To mitigate interest rate risk, the structure of the balance sheet is managed with the goal that movements of interest rates on assets and liabilities are correlated and contribute to earnings even in periods of volatile interest rates. The asset/liability management policy sets limits on the acceptable amount of variance in net interest margin, net income and market value of equity under changing interest environments. Market value of equity is the net present value of estimated cash flows from the Bank's assets, liabilities and off-balance sheet items. The Bank uses simulation models to forecast net interest margin, net income and market value of equity.
Simulation of net interest margin, net income and market value of equity under various interest rate scenarios is the primary tool used to measure interest rate risk. Using computer-modeling techniques, the Bank is able to estimate the potential impact of changing interest rates on net interest margin, net income and market value of equity. A balance sheet forecast is prepared using inputs of actual loan, securities and interest-bearing liability (i.e. deposits/borrowings) positions as the beginning base.
In the simulation of net interest margin and net income under various interest rate scenarios, the forecast balance sheet is processed against seven interest rate scenarios. These seven interest rate scenarios include a flat rate scenario, which assumes interest rates are unchanged in the future, and six additional rate ramp scenarios ranging from +300 to -300 basis points around the flat scenario in 100 basis point increments. These ramp scenarios assume that interest rates increase or decrease evenly (in a "ramp" fashion) over a twelve-month period and remain at the new levels beyond twelve months.
The following table summarizes the effect on net interest income and net income due to changing interest rates as measured against a flat rate (no interest rate change) scenario. The simulation results shown below assume no changes in the structure of the Company's balance sheet over the twelve months being measured (a "flat" balance sheet scenario), and that deposit rates will track general interest rate changes by approximately 50%:
Interest Rate Risk Simulation of Net Interest Income and Net Income as of December 31, 2003
Estimated Change in Estimated Change in Change in Interest Net Interest Income (NII) Net Income (NI) Rates (Basis Points) (as % of "flat" NII) (as % of "flat" NI) +300 (ramp) (0.73%) (1.48%) +200 (ramp) (0.77%) (1.59%) +100 (ramp) (0.78%) (1.60%) + 0 (flat) -- -- -100 (ramp) 0.87% 1.80% -200 (ramp) 1.26% 2.60% -300 (ramp) 0.60% 1.22%
In the simulation of market value of equity under various interest rate scenarios, the forecast balance sheet is processed against seven interest rate scenarios. These seven interest rate scenarios include the flat rate scenario described above, and six additional rate shock scenarios ranging from +300 to - -300 basis points around the flat scenario in 100 basis point increments. These rate shock scenarios assume that interest rates increase or decrease immediately (in a "shock" fashion) and remain at the new level in the future.
The following table summarizes the effect on market value of equity due to changing interest rates as measured against a flat rate (no change) scenario:
Interest Rate Risk Simulation of Market Value of Equity as of December 31, 2003
Estimated Change in Change in Interest Market Value of Equity (MVE) Rates (Basis Points) (as % of "flat" MVE) +300 (shock) (4.83%) +200 (shock) (3.17%) +100 (shock) (1.52%) + 0 (flat) -- -100 (shock) (0.76%) -200 (shock) 2.10% -300 (shock) 5.27%
These results indicate that given a "flat" balance sheet scenario, and if deposit rates track general interest rate changes by approximately 50%, the Company's balance sheet is slightly asset sensitive for interest rate changes greater than +/- 100 basis points, and is slightly liability sensitive for interest rate changes less than +/- 100 basis points. The primary reason for this result is the effect of interest rate floors that exist on many of the Company's variable rate loans. In a declining interest rate environment, when the interest rate of a variable rate loan reaches its interest rate floor, the loan interest rate will not decrease further if market interest rates continue to decline. Conversely, the interest rate of a variable rate loan that is at its floor will not increase when market interest rates increase until market interest rates have increased sufficiently to move the loan interest rate above its floor rate. "Asset sensitive" implies that earnings increase when interest rates rise, and decrease when interest rates decrease. "Liability sensitive" implies that earnings decrease when interest rates rise, and increase when interest rates decrease. The magnitude of all the simulation results noted above is within the Bank's policy guidelines. The asset liability management policy limits aggregate market risk, as measured in this fashion, to an acceptable level within the context of risk-return trade-offs.
The simulation results noted above do not incorporate any management actions, which might moderate the negative consequences of interest rate deviations. In addition, the simulation results noted above contain various assumptions such as a flat balance sheet, and the rate that deposit interest rates change as general interest rates change. Therefore, they do not reflect likely actual results, but serve as conservative estimates of interest rate risk.
As with any method of measuring interest rate risk, certain shortcomings are inherent in the method of analysis presented in the preceding tables. For example, although certain of the Bank's assets and liabilities may have similar maturities or repricing time frames, they may react in different degrees to changes in market interest rates. In addition, the interest rates on certain of the Bank's asset and liability categories may precede, or lag behind, changes in market interest rates. Also, the actual rates of prepayments on loans and investments could vary significantly from the assumptions utilized in deriving the results as presented in the preceding table. Further, a change in U.S. Treasury rates accompanied by a change in the shape of the treasury yield curve could result in different estimations from those presented herein. Accordingly, the results in the preceding tables should not be relied upon as indicative of actual results in the event of changing market interest rates. Additionally, the resulting estimates of changes in market value of equity are not intended to represent, and should not be construed to represent, estimates of changes in the underlying value of the Bank.
Interest rate sensitivity is a function of the repricing characteristics of the Bank's portfolio of assets and liabilities. One aspect of these repricing characteristics is the time frame within which the interest-bearing assets and liabilities are subject to change in interest rates either at replacement, repricing or maturity. An analysis of the repricing time frames of interest-bearing assets and liabilities is sometimes called a "gap" analysis because it shows the gap between assets and liabilities repricing or maturing in each of a number of periods. Another aspect of these repricing characteristics is the relative magnitude of the repricing for each category of interest earning asset and interest-bearing liability given various changes in market interest rates. Gap analysis gives no indication of the relative magnitude of repricing given various changes in interest rates. Interest rate sensitivity management focuses on the maturity of assets and liabilities and their repricing during periods of changes in market interest rates. Interest rate sensitivity gaps are measured as the difference between the volumes of assets and liabilities in the Bank's current portfolio that are subject to repricing at various time horizons.
The following interest rate sensitivity table shows the Bank's repricing gaps as of December 31, 2003. In this table transaction deposits, which may be repriced at will by the Bank, have been included in the less than 3-month category. The inclusion of all of the transaction deposits in the less than 3-month repricing category causes the Bank to appear liability sensitive. Because the Bank may reprice its transaction deposits at will, transaction deposits may or may not reprice immediately with changes in interest rates. In recent years of moderate interest rate changes the Bank's earnings have reacted as though the gap position is slightly asset sensitive mainly because the magnitude of interest-bearing liability repricing has been less than the magnitude of interest-earning asset repricing. This difference in the magnitude of asset and liability repricing is mainly due to the Bank's strong core deposit base, which although they may be repriced within three months, historically, the timing of their repricing has been longer than three months and the magnitude of their repricing has been minimal.
Due to the limitations of gap analysis, as described above, the Bank does not actively use gap analysis in managing interest rate risk. Instead, the Bank relies on the more sophisticated interest rate risk simulation model described above as its primary tool in measuring and managing interest rate risk.
Liquidity
Liquidity refers to the Bank's ability to provide funds at an acceptable cost to meet loan demand and deposit withdrawals, as well as contingency plans to meet unanticipated funding needs or loss of funding sources. These objectives can be met from either the asset or liability side of the balance sheet. Asset liquidity sources consist of the repayments and maturities of loans, selling of loans, short-term money market investments, maturities of securities and sales of securities from the available-for-sale portfolio. These activities are generally summarized as investing activities in the Consolidated Statement of Cash Flows. Net cash used by investing activities totaled approximately $179.5 million in 2003. Increased loan balances were responsible for the major use of funds in this category.
Liquidity is generated from liabilities through deposit growth and short-term borrowings. These activities are included under financing activities in the Consolidated Statement of Cash Flows. In 2003, financing activities provided funds totaling $159.3 million. Internal deposit growth provided funds amounting to $105.5 million. The Bank also had available correspondent banking lines of credit totaling $40 million at year-end. In addition, at December 31, 2003, the Company had loans and securities available to pledge towards future borrowings from the Federal Home Loan Bank of up to $165 million. As of December 31, 2003, the Company had $22.9 million of long-term debt and other borrowings as described in Note 7 of the consolidated financial statements of the Company and the related notes at Item 8 of this report. While these sources are expected to continue to provide significant amounts of funds in the future, their mix, as well as the possible use of other sources, will depend on future economic and market conditions. Liquidity is also provided or used through the results of operating activities. In 2003, operating activities provided cash of $25.8 million.
The Bank classifies its entire investment portfolio as available for sale (AFS). The AFS securities plus cash and cash equivalents in excess of reserve requirements totaled $396.9 million at December 31, 2003, which was 27.0% of total assets at that time. This was down from $412.8 million and 36.1% at the end of 2002.
The maturity distribution of certificates of deposit in denominations of $100,000 or more is set forth in the following table. These deposits are generally more rate sensitive than other deposits and, therefore, are more likely to be withdrawn to obtain higher yields elsewhere if available. The Bank participates in a program wherein the State of California places time deposits with the Bank at the Bank's option. At December 31, 2003 and 2002, the Bank had $20 million of these State deposits.
Certificates of Deposit in Denominations of $100,000 or More
Amounts as of December 31, ---------------------------------- (dollars in thousands) 2003 2002 2001 ---------------------------------- Time remaining until maturity: Less than 3 months $39,264 $32,932 $38,114 3 months to 6 months 11,018 16,311 10,431 6 months to 12 months 9,413 12,455 15,383 More than 12 months 94,805 28,706 6,374 ---------------------------------- Total $94,500 $90,404 $70,302 ==================================
Loan demand also affects the Bank's liquidity position. The following table presents the maturities of loans at December 31, 2003:
The maturity distribution and yields of the investment portfolio is presented in the following table. The timing of the maturities indicated in the table below is based on final contractual maturities. Most mortgage-backed securities return principal throughout their contractual lives. As such, the weighted average life of mortgage-backed securities based on outstanding principal balance is usually significantly shorter than the final contractual maturity indicated below. At December 31, 2003, the Bank had no held-to-maturity securities.
The principal cash requirements of the Company are dividends on common stock when declared. The Company is dependent upon the payment of cash dividends by the Bank to service its commitments. The Company expects that the cash dividends paid by the Bank to the Company will be sufficient to meet this payment schedule. Dividends from the Bank are subject to certain regulatory restrictions.
Off-Balance Sheet Items
The Bank has certain ongoing commitments under operating and capital leases. See Note 9 of the financial statements at Item 8 of this report for the terms. These commitments do not significantly impact operating results. As of December 31, 2003 commitments to extend credit were the Bank's only financial instruments with off-balance sheet risk. The Bank has not entered into any contracts for financial derivative instruments such as futures, swaps, options, etc. Loan commitments increased to $332.9 million from $227.2 million at December 31, 2002. The commitments represent 33.9% of the total loans outstanding at year-end 2003 versus 33.0% at December 31, 2002.
(1) These amounts represent known certain payments to participants under the Company's deferred compensation and supplemental retirement plans. See Note 21 in the financial statements at Item 8 of this report for additional information related to the Company's deferred compensation and supplemental retirement plan liabilities.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
See "Market Risk Management" under Item 7 of this report.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTAL DATA
Page
Consolidated Balance Sheets as of December 31, 2003 and 2002 37 Consolidated Statements of Income and Comprehensive Income for the years ended December 31, 2003, 2002, and 2001 38 Consolidated Statements of Changes in Shareholders' Equity for the years ended December 31, 2003, 2002, and 2001 39 Consolidated Statements of Cash Flows for the years ended December 31, 2003, 2002, and 2001 40 Notes to Consolidated Financial Statements 41 Independent Auditors' Report 66 Management's Letter of Financial Responsibility 68
TRICO BANCSHARES CONSOLIDATED BALANCE SHEETS (In thousands)
At December 31, 2003 2002 ------------------------------- Assets: Cash and due from banks $80,603 $67,170 Federal funds sold 326 8,100 ------------------------------- Cash and cash equivalents 80,929 75,270 Investment securities available for sale 316,436 338,024 Loans Commercial 142,252 125,982 Consumer 319,029 201,858 Real estate mortgages 458,369 319,969 Real estate construction 61,591 39,713 ------------------------------- 981,241 687,522 Allowance for loan losses (13,773) (14,377) ------------------------------- Loans, net of allowance for loan losses 967,468 673,145 Premises and equipment, net 19,521 17,224 Cash value of life insurance 38,980 15,208 Other real estate owned 932 932 Accrued interest receivable 6,027 5,644 Intangible assets 21,604 4,043 Other assets 16,858 15,084 ------------------------------- Total Assets $1,468,755 $1,144,574 =============================== Liabilities: Deposits: Noninterest-bearing demand $298,462 $232,499 Interest-bearing demand 220,875 182,816 Savings 441,461 297,926 Time certificates, $100,000 and over 94,500 90,404 Other time certificates 181,525 201,592 ------------------------------- Total deposits 1,236,823 1,005,237 Fed funds purchased 39,500 - Accrued interest payable 2,638 2,927 Other Liabilities 18,328 14,472 Long-term debt and other borrowings 22,887 22,924 Junior subordinated debt 20,619 - ------------------------------- Total Liabilities 1,340,795 1,045,560 ------------------------------- Shareholders' Equity: Common stock, no par value: Authorized 20,000,000 shares; Issued and outstanding: 7,834,124 at December 31, 2003 69,767 7,060,965 at December 31, 2002 50,472 Retained earnings 56,379 46,239 Accumulated other comprehensive income, net 1,814 2,303 ------------------------------- Total Shareholders' Equity 127,960 99,014 ------------------------------- Total Liabilities and Shareholders' Equity $1,468,755 $1,144,574 ===============================
See Notes to Consolidated Financial Statements
See Notes to Consolidated Financial Statements
See Notes to Consolidated Financial Statements
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS Years ended December 31, 2003, 2002 and 2001
Note 1 - General Summary of Significant Accounting Policies
The accounting and reporting policies of TriCo Bancshares (the "Company") conform to generally accepted accounting principles. The following are descriptions of the more significant accounting and reporting policies.
Principles of Consolidation The consolidated financial statements include the accounts of the Company, and its wholly-owned subsidiary, Tri Counties Bank (the "Bank"). All significant intercompany accounts and transactions have been eliminated in consolidation.
Nature of Operations The Company operates 33 branch offices and 12 in-store branch offices in the California counties of Butte, Contra Costa, Del Norte, Fresno, Glenn, Kern, Lake, Lassen, Madera, Mendocino, Merced, Nevada, Placer, Sacramento, Shasta, Siskiyou, Stanislaus, Sutter, Tehama, Tulare and Yuba. The Company's operating policy since its inception has emphasized retail banking. Most of the Company's customers are retail customers and small to medium sized businesses.
Use of Estimates in the Preparation of Financial Statements The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires Management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. On an on-going basis, the Company evaluates its estimates, including those related to the adequacy of the allowance for loan losses, investments, intangible assets, income taxes and contingencies. The Company bases its estimates on historical experience and on various other assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions. The one accounting estimate that materially affects the financial statements is the allowance for loan losses.
Investment Securities The Company classifies its debt and marketable equity securities into one of three categories: trading, available-for-sale or held-to-maturity. Trading securities are bought and held principally for the purpose of selling in the near term. Held-to-maturity securities are those securities which the Company has the ability and intent to hold until maturity. All other securities not included in trading or held-to-maturity are classified as available-for-sale. In 2003 and 2002, the Company did not have any securities classified as either held-to-maturity or trading.
Available-for-sale securities are recorded at fair value. Unrealized gains and losses, net of the related tax effect, on available-for-sale securities are reported as a separate component of other comprehensive income in shareholders' equity until realized.
Premiums and discounts are amortized or accreted over the life of the related investment security as an adjustment to yield using the effective interest method. Dividend and interest income are recognized when earned. Realized gains and losses for securities are included in earnings and are derived using the specific identification method for determining the cost of securities sold. Unrealized losses due to fluctuations in fair value of securities held to maturity or available for sale are recognized through earnings when it is determined that an other than temporary decline in value has occurred.
Loans Loans are reported at the principal amount outstanding, net of unearned income and the allowance for loan losses. Loan origination and commitment fees and certain direct loan origination costs are deferred, and the net amount is amortized as an adjustment of the related loan's yield over the estimated life of the loan. Loans on which the accrual of interest has been discontinued are designated as nonaccrual loans. Accrual of interest on loans is generally discontinued either when reasonable doubt exists as to the full, timely collection of interest or principal or when a loan becomes contractually past due by 90 days or more with respect to interest or principal. When loans are 90 days past due, but in Management's judgment are well secured and in the process of collection, they may be classified as accrual. When a loan is placed on nonaccrual status, all interest previously accrued but not collected is reversed. Income on such loans is then recognized only to the extent that cash is received and where the future collection of principal is probable. Interest accruals are resumed on such loans only when they are brought fully current with respect to interest and principal and when, in the judgment of Management, the loans are estimated to be fully collectible as to both principal and interest.
Allowance for Loan Losses The allowance for loan losses is established through a provision for loan losses charged to expense. Loans are charged against the allowance for loan losses when Management believes that the collectibility of the principal is unlikely or, with respect to consumer installment loans, according to an established delinquency schedule. The allowance is an amount that Management believes will be adequate to absorb probable losses inherent in existing loans, leases and commitments to extend credit, based on evaluations of the collectibility, impairment and prior loss experience of loans, leases and commitments to extend credit. The evaluations take into consideration such factors as changes in the nature and size of the portfolio, overall portfolio quality, loan concentrations, specific problem loans, commitments, and current economic conditions that may affect the borrower's ability to pay. The Company defines a loan as impaired when it is probable the Company will be unable to collect all amounts due according to the contractual terms of the loan agreement. Impaired loans are measured based on the present value of expected future cash flows discounted at the loan's original effective interest rate. As a practical expedient, impairment may be measured based on the loan's observable market price or the fair value of the collateral if the loan is collateral dependent. When the measure of the impaired loan is less than the recorded investment in the loan, the impairment is recorded through a valuation allowance.
Mortgage Operations Transfers and servicing of financial assets and extinguishments of liabilities are accounted for and reported based on consistent application of a financial-components approach that focuses on control. Transfers of financial assets that are sales are distinguished from transfers that are secured borrowings. Retained interests (mortgage servicing rights) in loans sold are measured by allocating the previous carrying amount of the transferred assets between the loans sold and retained interest, if any, based on their relative fair value at the date of transfer. Fair values are estimated using discounted cash flows based on a current market interest rate.
The Company recognizes a gain and a related asset for the fair value of the rights to service loans for others when loans are sold. The Company sold substantially all of its conforming long-term residential mortgage loans originated during 2003, 2002, and 2001 for cash proceeds equal to the fair value of the loans.
The following table summarizes the Company's mortgage servicing rights assets as of December 31, 2003 and 2002.
December 31, December 31, (Dollars in thousands) 2002 Additions Reductions 2003 ------------------------------------------------- Mortgage Servicing Rights $2,821 $1,948 ($1,356) $3,413 Valuation allowance - - (600) (600) Mortgage servicing rights, net of valuation allowance $2,821 $1,948 ($1,956) $2,813 =================================================
The recorded value of mortgage servicing rights is included in other assets, and is amortized in proportion to, and over the period of, estimated net servicing revenues. The Company assesses capitalized mortgage servicing rights for impairment based upon the fair value of those rights at each reporting date. For purposes of measuring impairment, the rights are stratified based upon the product type, term and interest rates. Fair value is determined by discounting estimated net future cash flows from mortgage servicing activities using discount rates that approximate current market rates and estimated prepayment rates, among other assumptions. The amount of impairment recognized, if any, is the amount by which the capitalized mortgage servicing rights for a stratum exceeds their fair value. Impairment, if any, is recognized through a valuation allowance for each individual stratum.
At December 31, 2003, the Company had no mortgage loans held for sale. At December 31, 2003 and 2002, the Company serviced real estate mortgage loans for others of $357 million and $307 million, respectively.
Premises and Equipment Premises and equipment, including those acquired under capital lease, are stated at cost less accumulated depreciation and amortization. Depreciation and amortization expenses are computed using the straight-line method over the estimated useful lives of the related assets or lease terms. Asset lives range from 3-10 years for furniture and equipment and 15-40 years for land improvements and buildings.
Other Real Estate Owned Real estate acquired by foreclosure is carried at the lower of the recorded investment in the property or its fair value less estimated disposition costs. Prior to foreclosure, the value of the underlying loan is written down to the fair value of the real estate to be acquired less estimated disposition costs by a charge to the allowance for loan losses, when necessary. Any subsequent write-downs are recorded as a valuation allowance with a charge to other expenses in the income statement together with other expenses related to such properties, net of related income. Gains and losses on disposition of such property are included in other income or other expenses as applicable.
Goodwill and Other Intangible Assets Goodwill represents the excess of costs over fair value of assets of businesses acquired. The Company adopted the provisions of Financial Accounting Standards Board (FASB) Statement of Financial Accounting Standard No. 142, Goodwill and Other Intangible Assets (SFAS 142), as of January 1, 2002. Pursuant to SFAS 142, 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 in accordance with the provisions of SFAS 142. SFAS 142 also requires that intangible assets with estimable useful lives be amortized over their respective estimated useful lives to their estimated residual values, and reviewed for impairment in accordance with FASB Statement of Financial Accounting Standard No. 144, Accounting for Impairment or Disposal of Long-Lived Assets (SFAS 144).
As of the date of adoption, the Company had identifiable intangible assets consisting of core deposit premiums and minimum pension liability. Core deposit premiums are amortized using an accelerated method over a period of ten years. Intangible assets related to minimum pension liability are adjusted annually based upon actuarial estimates.
The following table summarizes the Company's core deposit intangible as of December 31, 2003 and 2002.
December 31, December 31, (Dollar in Thousands) 2002 Additions Reductions 2003 ------------------------------------------------- Core deposit intangibles $10,278 $3,365 - $13,643 Accumulated amortization (6,636) - ($1,207) (7,843) ------------------------------------------------- Core deposit intangibles, net $3,642 $3,365 ($1,207) $5,800 =================================================
Core deposit intangibles are amortized over their expected useful lives. Such lives are periodically reassessed to determine if any amortization period adjustments are indicated. The following table summarizes the Company's estimated core deposit intangible amortization for each of the five succeeding years:
Estimated Core Deposit Intangible Amortization Years Ended (Dollar in thousands) ------------- ------------------------- 2004 $1,358 2005 $1,381 2006 $1,395 2007 $490 Thereafter $1,176
The following table summarizes the Company's minimum pension liability intangible as of December 31, 2003 and 2002.
December 31, December 31, (Dollar in Thousands) 2002 Additions Reductions 2003 -------------------------------------------- Minimum pension liability intangible $401 - ($116) $285 ============================================
Intangible assets related to minimum pension liability are adjusted annually based upon actuarial estimates.
The following table summarizes the Company's goodwill intangible as of December 31, 2003 and December 31, 2002.
December 31, December 31, (Dollar in Thousands) 2002 Additions Reductions 2003 -------------------------------------------- Goodwill - 15,519 - 15,519 ============================================
Impairment of Long-Lived Assets and Goodwill The Company adopted SFAS 144 on January 1, 2002. The adoption of SFAS 144 did not affect the Company's financial statements. In accordance with SFAS 144, long-lived assets, such as property, plant, and equipment, and purchased intangibles subject to amortization, are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. Recoverability of assets to be held and used is measured by a comparison of the carrying amount of an asset to estimated undiscounted future cash flows expected to be generated by the asset. If the carrying amount of an asset exceeds its estimated future cash flows, an impairment charge is recognized by the amount by which the carrying amount of the asset exceeds the fair value of the asset. Assets to be disposed of would be separately presented in the balance sheet and reported at the lower of the carrying amount or fair value less costs to sell, and are no longer depreciated. The assets and liabilities of a disposed group classified as held for sale would be presented separately in the appropriate asset and liability sections of the balance sheet.
On December 31 of each year, goodwill is tested for impairment, and is tested for impairment more frequently if events and circumstances indicate that the asset might be impaired. An impairment loss is recognized to the extent that the carrying amount exceeds the asset's fair value. This determination is made at the reporting unit level and consists of two steps. First, the Company determines the fair value of a reporting unit and compares it to its carrying amount. Second, if the carrying amount of a reporting unit exceeds its fair value, an impairment loss is recognized for any excess of the carrying amount of the reporting unit's goodwill over the implied fair value of that goodwill. The implied fair value of goodwill is determined by allocating the fair value of the reporting unit in a manner similar to a purchase price allocation, in accordance with FASB Statement of Financial Accounting Standard No. 141, Business Combinations (SFAS 141). The residual fair value after this allocation is the implied fair value of the reporting unit goodwill.
Income Taxes The Company's accounting for income taxes is based on an asset and liability approach. The Company recognizes the amount of taxes payable or refundable for the current year, and deferred tax assets and liabilities for the future tax consequences that have been recognized in its financial statements or tax returns. The measurement of tax assets and liabilities is based on the provisions of enacted tax laws.
Cash Flows For purposes of reporting cash flows, cash and cash equivalents include cash on hand, amounts due from banks and federal funds sold.
Stock-Based Compensation The Company uses the intrinsic value method to account for its stock option plans (in accordance with the provisions of Accounting Principles Board Opinion No. 25). Under this method, compensation expense is recognized for awards of options to purchase shares of common stock to employees under compensatory plans only if the fair market value of the stock at the option grant date (or other measurement date, if later) is greater than the amount the employee must pay to acquire the stock. Statement of Financial Accounting Standards No. 123, Accounting for Stock-Based Compensation (SFAS 123) permits companies to continue using the intrinsic value method or to adopt a fair value based method to account for stock option plans. The fair value based method results in recognizing as expense over the vesting period the fair value of all stock-based awards on the date of grant. The Company has elected to continue to use the intrinsic value method.
Had compensation cost for the Company's option plans been determined in accordance with SFAS 123, the Company's net income and earnings per share would have been reduced to the pro forma amounts indicated below:
The fair value of each option grant is estimated on the date of grant using the Black-Scholes option pricing model with the following weighted-average assumptions used for grants in 2003, 2002, and 2001: risk-free interest rate of 2.87%, 4.01%, and 4.80%; expected dividend yield of 3.3%, 3.3% and 4.9%; expected life of 6 years, 6 years and 6 years; expected volatility of 27%, 27% and 28%, respectively. The weighted average grant date fair value of an option to purchase one share of common stock granted in 2003, 2002, and 2001 was $8.57, $5.37, and $3.26, respectively.
Comprehensive Income For the Company, comprehensive income includes net income reported on the statement of income, changes in the fair value of its available-for-sale investments, and changes in the minimum pension liability reported as a component of shareholders' equity. The changes in the components of accumulated other comprehensive income for the years ended December 31, 2003, 2002, and 2001 are reported as follows:
Recently Issued Accounting Standards In December 2003, the FASB issued FASB Interpretation No. 46 (revised December 2003), Consolidation of Variable Interest Entities (FIN 46R), which addresses how a business enterprise should evaluate whether it has a controlling financial interest in an entity through means other than voting rights and accordingly should consolidate the entity. FIN 46R replaces FASB Interpretation No. 46, Consolidation of Variable Interest Entities (VIEs), which was issued in January 2003. The Company will be required to apply FIN 46R to variable interests in VIEs created after December 31, 2003. For variable interests in VIEs created before January 1, 2004, the FIN 46R will be applied beginning on January 1, 2005. For any VIEs that must be consolidated under FIN 46R that were created before January 1, 2004, the assets, liabilities and noncontrolling interests of the VIE initially would be measured at their carrying amounts with any difference between the net amount added to the balance sheet and any previously recognized interest being recognized as the cumulative effect of an accounting change. If determining the carrying amounts is not practicable, fair value at the date FIN 46R first applies may be used to measure the assets, liabilities and noncontrolling interest of the VIE. The Company currently does not have any VIEs that are within the scope of this Statement.
FASB Statement of Financial Accounting Standard No. 150, Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity (SFAS 150), was issued in May 2003. SFAS 150 establishes standards for the classification and measurement of certain financial instruments with characteristics of both liabilities and equity. SFAS 150 also includes required disclosures for financial instruments within its scope. For the Company, SFAS 150 was effective for instruments entered into or modified after May 31, 2003 and otherwise will be effective as of January 1, 2004, except for mandatorily redeemable financial instruments. For certain mandatorily redeemable financial instruments, SFAS 150 will be effective for the Company on January 1, 2005. The effective date has been deferred indefinitely for certain other types of mandatorily redeemable financial instruments. The Company currently does not have any financial instruments that are within the scope of this Statement.
Recently Adopted Accounting Standards In June 2001, FASB Statement of Financial Accounting Standard No. 143, Accounting for Asset Retirement Obligations (SFAS 143), was issued. SFAS 143 requires the Company to record the fair value of an asset retirement obligation as a liability in the period in which it incurs a legal obligation associated with the retirement of tangible long-lived assets that result from the acquisition, construction, development, and/or normal use of the assets. The Company also would record a corresponding asset that is depreciated over the life of the asset. Subsequent to the initial measurement of the asset retirement obligation, the obligation would be adjusted at the end of each period to reflect the passage of time and changes in the estimated future cash flows underlying the obligation. The Company was required to adopt SFAS 143 on January 1, 2003. The adoption of SFAS 143 had no effect on the Company's financial statements.
In April 2002, FASB Statement of Financial Accounting Standard No. 145, Rescission of FASB Statements No. 4, 44 and 64, Amendment of FASB Statement No. 13, and Technical Corrections (SFAS 145), was issued. SFAS 145 amends existing guidance on reporting gains and losses on the extinguishment of debt to prohibit the classification of the gain or loss as extraordinary, as the use of such extinguishments have become part of the risk management strategy of many companies. SFAS 145 also amends FASB Statement of Financial Accounting Standard No. 13, Accounting for Leases (SFAS 13), to require sale-leaseback accounting for certain lease modifications that have economic effects similar to sale-leaseback transactions. The provisions of SFAS 145 related to the rescission of FASB Statement of Financial Accounting Standard No. 4, Reporting Gains and Losses from Extinguishment of Debt, were applied in fiscal years beginning after May 15, 2002. The provisions of SFAS 145 related to SFAS 13 were effective for transactions occurring after May 15, 2002. The adoption of SFAS 145 had no effect on the Company's financial statements.
In June 2002, FASB Statement of Financial Accounting Standard No. 146, Accounting for Costs Associated with Exit or Disposal Activities (SFAS 146), was issued. SFAS 146 addresses financial accounting and reporting for costs associated with exit or disposal activities and nullifies EITF Issue No. 94-3, "Liability Recognition for Certain Employee Termination Benefits and Other Costs to Exit an Activity". The provisions of SFAS 146 were effective for exit or disposal activities initiated after December 31, 2002, with early application encouraged. The adoption of SFAS 146 had no effect on the Company's financial statements.
In November 2002, FASB Interpretation No. 45, Guarantor's Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness to Others, an interpretation of FASB Statement of Financial Accounting Standards No. 5, 57 and 107 and a rescission of FASB Interpretation No. 34 (FIN 45), was issued. This FIN 45 enhances the disclosures to be made by a guarantor in its interim and annual financial statements about its obligations under guarantees issued. The Interpretation also clarifies that a guarantor is required to recognize, at inception of a guarantee, a liability for the fair value of the obligation undertaken. The initial recognition and measurement provisions of the Interpretation were applicable to guarantees issued or modified after December 31, 2002 and the disclosure requirements were effective for financial statements of interim or annual periods ending after December 15, 2002. The adoption of FIN 45 had no effect on the Company's financial statements.
In December 2002, FASB Statement of Financial Accounting Standard No. 148, Accounting for Stock-Based Compensation - Transition and Disclosure, an amendment of FASB Statement No. 123 (SFAS 148), was issued. SFAS 148 amends FASB Statement of Financial Accounting Standard No. 123, Accounting for Stock-Based Compensation (SFAS 123), to provide alternative methods of transition for a voluntary change to the fair value method of accounting for stock-based employee compensation. In addition, SFAS 148 amends the disclosure requirements of SFAS 123 to require prominent disclosures in both annual and interim financial statements. Disclosures required by this standard are included in the notes to these consolidated financial statements.
In December 2003, FASB Statement of Financial Accounting Standard No. 132, Employers' Disclosures about Pensions and Other Postretirement Benefits (SFAS 132 revised), was issued. SFAS 132 (revised) prescribes employers' disclosures about pension plans and other postretirement benefit plans; it does not change the measurement or recognition of those plans. SFAS 132 retains and revises the disclosure requirements contained in the original SFAS 132. It also requires additional disclosures about the assets, obligations, cash flows, and net periodic benefit cost of defined benefit pension plans and other postretirement benefit plans. The Statement generally is effective for fiscal years ending after December 15, 2003. Disclosures required by this standard are included in the notes to these consolidated financial statements.
Reclassifications Certain amounts previously reported in the 2002 and 2001 financial statements have been reclassified to conform to the 2003 presentation. These reclassifications did not affect previously reported net income or total shareholders' equity.
Note 2 - Restricted Cash Balances
Reserves (in the form of deposits with the Federal Reserve Bank) of $500,000 were maintained to satisfy Federal regulatory requirements at December 31, 2003 and December 31, 2002. These reserves are included in cash and due from banks in the accompanying balance sheets.
Note 3 - Investment Securities
The amortized cost and estimated fair values of investments in debt and equity securities are summarized in the following tables. Also included in the following table are other securities that do not have readily determinable fair value because their ownership is restricted and they lack a market. These other securities are carried at cost and consist mainly of Federal Home Loan Bank stock with a cost of $4,779,000 and $4,228,000 at December 31, 2003 and 2002, respectively:
The amortized cost and estimated fair value of debt securities at December 31, 2003 by contractual maturity are shown below. Actual maturities may differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties.
Estimated Amortized Fair Cost Value ------------------------------ (in thousands) Investment Securities Due in one year $6,808 $6,859 Due after one year through five years 14,737 15,345 Due after five years through ten years 208,196 209,652 Due after ten years 77,462 79,617 No stated maturity 4,963 4,963 ------------------------------ Totals $312,166 $316,436 ==============================
Proceeds from sales of investment securities were as follows:
Gross Gross Gross For the Year Proceeds Gains Losses - ----------------------------------------------------------- (in thousands)
2003 $22,320 $197 $0 2002 -- -- -- 2001 $14,119 $1,796 $4
Investment securities with an aggregate carrying value of $162,942,000 and $104,561,000 at December 31, 2003 and 2002, respectively, were pledged as collateral for specific borrowings, lines of credit and local agency deposits.
Gross unrealized losses on investment securities and the fair value of the related securities, aggregated by investment category and length of time that individual securities have been in a continuous unrealized loss position, at December 31, 2003, were as follows:
Mortgage-backed securities: The unrealized losses on investments in mortgage-backed securities were caused by interest rate increases. The contractual cash flows of these securities are guaranteed by U.S. Government Sponsored Entities (principally Fannie Mae and Freddie Mac). It is expected that the securities would not be settled at a price less than the amortized cost of the investment. Because the decline in fair value is attributable to changes in interest rates and not credit quality, and because the Company has the ability and intent to hold these investments until a market price recovery or maturity, these investments are not considered other-than-temporarily impaired.
Corporate debt securities: The investments in corporate debt securities with unrealized losses are comprised of variable-rate trust preferred bonds issued by bank holding companies that mature in 2027 and 2028. The unrealized losses on corporate debt securities were caused by interest rate increases. Two of the bank holding companies representing $8.3 million of the $10.1 million of corporate bonds with unrealized losses are rated investment grade by major outside credit rating agencies, and their credit ratings have not diminished since the bonds were purchased by the Company. The bank holding companies representing the remaining $1.8 million of bonds are not rated by credit rating agencies. At least annually, the Company performs its own analysis of the credit worthiness of each of the corporate debt issuing companies in question. Nothing in those analyses indicates that the unrealized losses are due to anything other than increases in interest rates. Because the decline in fair value is attributable to changes in interest rates and not credit quality, and because the Company has the intent and ability to hold these investments until a market price recovery or maturity, these investments are not considered other-than-temporarily impaired.
Note 4 - Allowance for Loan Losses
Activity in the allowance for loan losses was as follows: Years Ended December 31, 2003 2002 2001 -------------------------------- (in thousands) Balance, beginning of year $14,377 $13,058 $11,670 Addition through merger 928 - - Provision for loan losses 1,250 2,800 4,400 Loans charged off (3,753) (1,786) (3,213) Recoveries of loans previously charged off 971 305 201 -------------------------------- Balance, end of year $13,773 $14,377 $13,058 ================================
Loans classified as nonaccrual, net of guarantees of the U.S. government, including its agencies and its government-sponsored agencies, amounted to approximately $4,360,000, $8,140,000 and $5,466,000 at December 31, 2003, 2002, and 2001, respectively. These nonaccrual loans were classified as impaired and are included in the recorded balance in impaired loans for the respective years shown below. If interest on those loans had been accrued, such income would have been approximately $1,071,000, $477,000 and $260,000 in 2003, 2002 and 2001, respectively.
As of December 31, the Company's recorded investment in impaired loans and the related valuation allowance were as follows (in thousands):
----------------------------- Recorded Valuation Investment Allowance ----------------------------- Impaired loans - Valuation allowance required $4,360 $369 No valuation allowance required -- -- ----------------------------- Total impaired loans $4,360 $369 =============================
----------------------------- Recorded Valuation Investment Allowance ----------------------------- Impaired loans - Valuation allowance required $8,140 $881 No valuation allowance required -- -- ----------------------------- Total impaired loans $8,140 $881 =============================
This valuation allowance is included in the allowance for loan losses shown above for the respective year. The average recorded investment in impaired loans was $6,270,000, $7,115,000 and, $9,639,000 for the years ended December 31, 2003, 2002 and 2001, respectively. The Company recognized interest income on impaired loans of $372,000, $733,000 and $441,000 for the years ended December 31, 2003, 2002 and 2001, respectively.
Note 5 - Premises and Equipment
Premises and equipment were comprised of:
December 31, 2003 2002 ------------------------- (in thousands) Premises $15,254 $13,031 Furniture and equipment 20,045 18,092 ------------------------- 35,299 31,123 Less: Accumulated depreciation and amortization (19,841) (17,401) ------------------------- 15,458 13,722 Land and land improvements 4,063 3,502 ------------------------- $19,521 $17,224 =========================
Depreciation and amortization of premises and equipment amounted to $2,701,000, $2,329,000, and $2,243,000 in 2003, 2002 and 2001, respectively.
Note 6 - Time Deposits
At December 31, 2003, the scheduled maturities of time deposits were as follows (in thousands):
Scheduled Maturities ---------- 2004 $184,742 2005 18,444 2006 8,914 2007 51,087 2008 and thereafter 12,838 ---------- Total $276,025 ==========
Note 7 - Long-Term Debt and Other Borrowings
Long-term debt is as follows:
The Company maintains a collateralized line of credit with the Federal Home Loan Bank of San Francisco. Based on the FHLB stock requirements at December 31, 2003, this line provided for maximum borrowings of $128,330,000 of which $62,000,000 was outstanding, leaving $66,330,000 available. The maximum month-end outstanding balances of short term reverse repurchase agreements in 2003 and 2002 were $0 and $0, respectively. The Company has available unused lines of credit totaling $40,000,000 for Federal funds transactions at December 31, 2003.
Note 8 - Junior Subordinated Debt
On July 31, 2003, the Company formed a subsidiary business trust, TriCo Capital Trust I, to issue the trust preferred securities. Concurrently with the issuance of the trust preferred securities, the trust issued 619 shares of common stock to the Company for $1,000 per share or an aggregate of $619,000. In addition, the Company issued a Junior Subordinated Debenture to the Trust in the amount of $20,619,000. The terms of the Junior Subordinated Debenture are materially consistent with the terms of the trust preferred securities issued by TriCo Capital Trust I. Also on July 31, 2003, TriCo Capital Trust I completed an offering of 20,000 shares of cumulative trust preferred securities for cash in an aggregate amount of $20,000,000. The trust preferred securities are mandatorily redeemable upon maturity on October 7, 2033 with an interest rate that resets quarterly at three-month LIBOR plus 3.05%, or 4.16% for the first quarterly interest period. TriCo Capital Trust I has the right to redeem the trust preferred securities on or after October 7, 2008. The trust preferred securities were issued through an underwriting syndicate to which the Company paid underwriting fees of $7.50 per trust preferred security or an aggregate of $150,000. The net proceeds of $19,850,000 will be used to finance the opening of new branches, improve bank services and technology, repurchase shares of the Company's common stock as described below and increase the Company's capital. The trust preferred securities have not been and will not be registered under the Securities Act of 1933, as amended, or applicable state securities laws and were sold pursuant to an exemption from registration under the Securities Act of 1933. The trust preferred securities may not be offered or sold in the United States absent registration or an applicable exemption from the registration requirements of the Securities Act of 1933, as amended, and applicable state securities laws.
As a result of the adoption of FIN 46R, the Company deconsolidated TriCo Capital Trust I as of and for year ended December 31, 2003. The $20,619,000 of junior subordinated debentures issued by TriCo Capital Trust I were reflected as junior subordinated debt in the consolidated balance sheet at December 31, 2003. The common stock issued by TriCo Capital Trust I was recorded in other assets in the consolidated balance sheet at December 31, 2003.
Prior to December 31, 2003, TriCo Capital Trust I was a consolidated subsidiary and was included in liabilities in the consolidated balance sheet, as "Trust preferred securities." The common securities and debentures, along with the related income effects were eliminated in the consolidated financial statements.
The debentures issued by TriCo Capital Trust I, less the common securities of TriCo Capital Trust I, continue to qualify as Tier 1 capital under interim guidance issued by the Board of Governors of the Federal Reserve System (Federal Reserve Board).
Note 9 - Commitments and Contingencies (See also Note 17)
At December 31, 2003, future minimum commitments under non-cancelable capital and operating leases with initial or remaining terms of one year or more are as follows: Capital Operating Leases Leases ------------------------------ (in thousands) 2004 $90 $1,172 2005 91 980 2006 92 855 2007 93 764 2008 94 664 Thereafter 102 1,819 ------------------------------ Future minimum lease payments 562 $6,254 Less amount representing interest 175 ========== ------- Present value of future lease payments $387 =======
Rent expense under operating leases was $1,442,000 in 2003, $1,201,000 in 2002, and $1,241,000 in 2001.
The Company is a defendant in legal actions arising from normal business activities. Management believes, after consultation with legal counsel, that these actions are without merit or that the ultimate liability, if any, resulting from them will not materially affect the Company's financial position or results from operations.
Note 10 - Shareholders' Equity
Dividends Paid The Bank paid to the Company cash dividends in the aggregate amounts of $2,810,000, $5,779,000 and $12,187,000 in 2003, 2002 and 2001, respectively. The Bank is regulated by the Federal Deposit Insurance Corporation (FDIC) and the State of California Department of Financial Institutions. California banking laws limit the Bank's ability to pay dividends to the lesser of (1) retained earnings or (2) net income for the last three fiscal years, less cash distributions paid during such period. Under this regulation, at December 31, 2003, the Bank may pay dividends of $23,912,000.
Shareholders' Rights Plan On June 25, 2001, the Company announced that its Board of Directors adopted and entered into a Shareholder Rights Plan designed to protect and maximize shareholder value and to assist the Board of Directors in ensuring fair and equitable benefit to all shareholders in the event of a hostile bid to acquire the Company.
The Company adopted this Rights Plan to protect stockholders from coercive or otherwise unfair takeover tactics. In general terms, the Rights Plan imposes a significant penalty upon any person or group that acquires 15% or more of the Company's outstanding common stock without approval of the Company's Board of Directors. The Rights Plan was not adopted in response to any known attempt to acquire control of the Company.
Under the Rights Plan, a dividend of one Preferred Stock Purchase Right was declared for each common share held of record as of the close of business on July 10, 2001. No separate certificates evidencing the Rights will be issued unless and until they become exercisable.
The Rights generally will not become exercisable unless an acquiring entity accumulates or initiates a tender offer to purchase 15% or more of the Company's common stock. In that event, each Right will entitle the holder, other than the unapproved acquirer and its affiliates, to purchase either the Company's common stock or shares in an acquiring entity at one-half of market value.
The Right's initial exercise price, which is subject to adjustment, is $49.00 per Right. The Company's Board of Directors generally will be entitled to redeem the Rights at a redemption price of $.01 per Right until an acquiring entity acquires a 15% position. The Rights expire on July 10, 2011.
Stock Repurchase Plan On March 15, 2001, the Company announced the completion of its stock repurchase plan initially announced on July 20, 2000 and initiated a new stock repurchase plan. Under the July 2000 repurchase plan, the Company repurchased a total of 150,000 shares of which 110,000 shares were repurchased in 2001.
On October 19, 2001, the Company announced the completion of its March 2001 stock repurchase plan under which it repurchased a total of 150,000 shares.
Also on October 19, 2001, the Company announced a new stock repurchase plan to repurchase up to 150,000 shares.
On July 31, 2003, the Company announced the termination of its October 2001 stock repurchase plan under which it repurchased 118,800 shares and the remaining 31,200 shares had not been repurchased. The Company adopted a new stock repurchase plan on July 31, 2003 for the repurchase of up to 250,000 shares of the Company's common stock from time to time as market conditions allow. The 250,000 shares authorized for repurchase under this plan represented approximately 3.2% of the Company's approximately 7,852,000 common shares outstanding as of July 31, 2003. This new plan has no stated expiration date for the repurchases. As of December 31, 2003, the Company had purchased 27,500 shares under this plan.
Note 11 - Stock Options
In May 2001, the Company adopted the TriCo Bancshares 2001 Stock Option Plan (2001 Plan) covering officers, employees, directors of, and consultants to the Company. Under the 2001 Plan, the option price cannot be less than the fair market value of the Common Stock at the date of grant except in the case of substitute options. Options for the 2001 Plan expire on the tenth anniversary of the grant date. Vesting schedules under the 2001 Plan are determined individually for each grant.
In May 1995, the Company adopted the TriCo Bancshares 1995 Incentive Stock Option Plan (1995 Plan) covering key employees. Under the 1995 Plan, the option price cannot be less than the fair market value of the Common Stock at the date of grant. Options for the 1995 Plan expire on the tenth anniversary of the grant date. Vesting schedules under the 1995 Plan are determined individually for each grant.
The Company also has outstanding options under the TriCo Bancshares 1993 Nonqualified Stock Option Plan (1993 Plan). Options under the 1993 Plan were granted at an exercise price less than the fair market value of the common stock and vest over a six year period. Unexercised options for the 1993 Plan terminate 10 years from the date of the grant.
Stock option activity is summarized in the following table:
The following table shows the number, weighted-average exercise price, and the weighted average remaining contractual life of options outstanding, and the number and weighted-average exercise price of options exercisable as of December 31, 2003 by range of exercise price:
Of the stock options outstanding as of December 31, 2003, 2002, and 2001, options on shares totaling 492,568, 333,284, and 330,046, respectively, were exercisable at weighted average prices of $15.49, $14.70, and $12.50, respectively.
The Company has stock options outstanding under the three option plans described above. The Company accounts for these plans under APB Opinion No. 25, under which no compensation cost has been recognized except for the options granted under the 1993 plan. The Company recognized expense of $0, $0, and $0 for the 1993 Plan options in 2003, 2002 and 2001, respectively.
Note 12 - Other Noninterest Income and Expenses
The components of other noninterest income were as follows: Years Ended December 31, 2003 2002 2001 ------------------------------ (in thousands) Increase in cash value of insurance policies $1,296 $606 $476 Sale of customer checks 229 264 283 Gain on sale of other real estate owned 113 7 80 Other 599 909 841 ------------------------------ Total other noninterest income $2,237 $1,786 $1,680 ==============================
The components of other noninterest expenses were as follows:
Years Ended December 31, 2003 2002 2001 ------------------------------ (in thousands) Equipment and data processing $4,947 $4,095 $3,694 Occupancy 3,493 2,954 2,806 Professional fees 2,315 1,696 1,087 Telecommunications 1,539 1,422 1,253 Advertising 1,062 1,263 1,132 Intangible amortization 1,207 911 911 ATM network charges 1,043 847 913 Postage 855 801 639 Courier service 795 720 661 Operational losses 657 534 227 Assessments 268 233 223 Net other real estate owned expense 124 26 175 Other 7,508 6,179 5,687 ------------------------------ Total other noninterest expenses $25,813 $21,681 $19,408 ==============================
Note 13 - Income Taxes
The current and deferred components of the income tax provision were comprised of:
Years Ended December 31, 2003 2002 2001 ------------------------------ (in thousands) Current Tax Provision: Federal $7,686 $6,826 $5,975 State 2,720 2,543 2,009 ------------------------------ Total current 10,406 9,369 7,984
Deferred Tax Benefit: Federal (198) (735) (518) State (84) (512) (142) ------------------------------ Total deferred (282) (1,247) (660) ------------------------------ Provision for income taxes $10,124 $8,122 $7,324 ==============================
Taxes recorded directly to shareholders' equity are not included in the preceding table. These taxes (benefits) relating to changes in minimum pension liability amounting to ($27,000) in 2003, ($19,000) in 2002, and $541,000 in 2001, unrealized gains and losses on available-for-sale investment securities amounting to ($461,000) in 2003, $2,142 in 2002, and $258,000 in 2001, and benefits related to employee stock options of ($440,000) in 2003, ($436,000) in 2002, and ($867,000) in 2001 were recorded directly to shareholders' equity.
The provisions for income taxes applicable to income before taxes for the years ended December 31, 2002, 2002 and 2001 differ from amounts computed by applying the statutory Federal income tax rates to income before taxes. The effective tax rate and the statutory federal income tax rate are reconciled as follows:
Years Ended December 31, 2003 2002 2001 ----------------------------
Federal statutory income tax rate 35.0% 35.0% 35.0% State income taxes, net of federal tax benefit 6.3 6.0 6.5 Tax-exempt interest on municipal obligations (2.4) (3.3) (3.9) Other (1.4) (1.1) (0.5) ---------------------------- Effective Tax Rate 37.5% 36.6% 37.1% ============================
The components of the net deferred tax asset of the Company as of December 31, were as follows:
2003 2002 -------------------------- (in thousands) Deferred Tax Assets: Loan losses $5,678 $6,045 Deferred compensation 4,058 3,523 Intangible amortization 1,066 980 State taxes 873 871 Pension liability 494 522 Nonaccrual interest 450 201 Fixed asset write down 232 232 OREO write downs 76 160 Merger related NOL carryforward 20 - Stock option amortization 8 32 -------------------------- Total deferred tax assets 12,955 12,566 -------------------------- Deferred Tax Liabilities: Unrealized gain on securities (1,795) (2,221) Core deposit premium (1,290) - Depreciation (511) (645) Securities income (560) (419) Securities accretion (389) (418) Merger related fixed asset valuations (379) - Capital leases (92) (95) Other, net (205) (339) -------------------------- Total deferred tax liability (5,221) (4,137) -------------------------- Net deferred tax asset $7,734 $8,429 ==========================
Note 14 - Retirement Plans
Substantially all employees with at least one year of service are covered by a discretionary employee stock ownership plan (ESOP). Contributions are made to the plan at the discretion of the Board of Directors. Contributions to the plan(s) totaling $975,000 in 2003, $955,000 in 2002, and $850,000 in 2001 are included in salary expense.
The Company has an Executive Deferred Compensation Plan and a Director Deferred Compensation Plan, which allow directors and key executives designated by the Board of Directors of the Company to defer a portion of their compensation. The Company has purchased insurance on the lives of the participants and intends to use the cash values of these policies to pay the deferred compensation obligations of $5,195,000 and $4,451,000 at December 31, 2003 and 2002, respectively.
The Company has a supplemental retirement plan for directors and a supplemental executive retirement plan covering key executives. These plans are non-qualified defined benefit plans and are unsecured and unfunded. The Company has purchased insurance on the lives of the participants and intends to use the cash values of these policies to pay the retirement obligations.
The cash values of the insurance policies purchased to fund the deferred compensation obligations and the retirement obligations were $38,980,000 and $15,208,000 at December 31, 2003 and 2002, respectively.
The Company recorded in Other Liabilities an additional minimum pension liability of $1,459,000 related to the supplemental retirement plan as of December 31, 2003. These amounts represent the amount by which the accumulated benefit obligations for this retirement plan exceeded the fair value of plan assets plus amounts previously accrued related to the plan. These additional liabilities have been offset by an intangible asset to the extent of previously unrecognized net transitional obligation and unrecognized prior service costs of each plan. The amount in excess of previously unrecognized prior service cost and unrecognized net transitional obligation is recorded as a reduction of shareholders' equity in the amount of $705,000, representing the after-tax impact, at December 31, 2003.
The following table sets forth the plans' status: December 31, 2003 2002 -------------------- (in thousands) Change in benefit obligation: Benefit obligation at beginning of year $(6,681) $(6,261) Service cost (125) (107) Interest cost (418) (428) Amendments -- -- Actuarial loss (112) (367) Benefits paid 490 482 -------------------- Benefit obligation at end of year $(6,846) $(6,681) ==================== Change in plan assets: Fair value of plan assets at beginning of year $ -- $ -- -------------------- Fair value of plan assets at end of year $ -- $ -- ==================== Funded status $(6,846) $(6,681) Unrecognized net obligation existing at January 1, 1986 45 80 Unrecognized net actuarial loss 2,313 2,354 Unrecognized prior service cost 240 321 Intangible asset (285) (401) Accumulated other comprehensive income (1,175) (1,243) -------------------- Accrued benefit cost $(5,708) $(5,570) ====================
Years Ended December 31, 2003 2002 2001 ------------------------ (in thousands) Net pension cost included the following components: Service cost-benefits earned during the period $125 $107 $ 86 Interest cost on projected benefit obligation 418 428 372 Amortization of net obligation at transition 35 35 35 Amortization of prior service cost 81 81 39 Recognized net actuarial loss 153 87 53 ------------------------ Net periodic pension cost $812 $738 $585 ========================
The net periodic pension cost was determined using a discount rate assumption of 6.50% for 2003, 7.00% for 2002 and 7.25% for 2001, respectively. The rates of increase in compensation used in each year were 2.5% to 5%.
Note 15 - Earnings per Share
The Company's basic and diluted earnings per share are as follows (in thousands except per share data):
Excluded from the computation of diluted earnings per share were 0, 36,000, and 0 options for the years ended December 31, 2003, 2002, and 2001, respectively, because the effect of these options was antidilutive.
Note 16 - Related Party Transactions
Certain directors, officers, and companies with which they are associated were customers of, and had banking transactions with, the Company or the Bank in the ordinary course of business. It is the Company's policy that all loans and commitments to lend to officers and directors be made on substantially the same terms, including interest rates and collateral, as those prevailing at the time for comparable transactions with other borrowers of the Bank.
The following table summarizes the activity in these loans for 2003:
Balance Balance December 31, Advances/ Removed/ December 31, 2002 New Loans Payments 2003 ------------------------------------------------------------------- (in thousands) $3,338 $4,228 $2,905 $4,661
Note 17 - Financial Instruments With Off-Balance Sheet Risk
The Company is a 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. Those instruments involve, to varying degrees, elements of credit risk in excess of the amount recognized in the balance sheet. The contract amounts of those instruments reflect the extent of involvement the Company has in particular classes of financial instruments.
The Company's exposure to credit loss in the event of nonperformance by the other party to the financial instrument for commitments to extend credit and standby letters of credit written is represented by the contractual amount of those instruments. The Company uses the same credit policies in making commitments and conditional obligations as it does for on-balance sheet instruments.
Contractual Amount December 31, -------------------------- 2003 2002 (in thousands) Financial instruments whose contract amounts represent credit risk:
Commitments to extend credit: Commercial loans $86,555 $69,295 Consumer loans 172,704 117,917 Real estate mortgage loans 15,350 6,028 Real estate construction loans 46,741 25,105 Standby letters of credit 11,582 8,818
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 of one year or less 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 credit worthiness 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 customer. Collateral held varies, but may include accounts receivable, inventory, property, plant and equipment and income-producing commercial properties.
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 private borrowing arrangements. Most standby letters of credit are issued for one year or less. The credit risk involved in issuing letters of credit is essentially the same as that involved in extending loan facilities to customers. Collateral requirements vary, but in general follow the requirements for other loan facilities.
Note 18 - Concentration of Credit Risk
The Company grants agribusiness, commercial, consumer, and residential loans to customers located throughout the northern San Joaquin Valley, the Sacramento Valley and northern mountain regions of California. The Company has a diversified loan portfolio within the business segments located in this geographical area.
Note 19 - Disclosure of Fair Value of Financial Instruments
The following methods and assumptions were used to estimate the fair value of each class of financial instrument for which it is practical to estimate that value. Cash and due from banks, fed funds purchased and sold, accrued interest receivable and payable, and short-term borrowings are considered short-term instruments. For these short-term instruments their carrying amount approximates their fair value.
Securities For all securities, fair values are based on quoted market prices or dealer quotes. See Note 3 for further analysis.
Loans The fair value of variable rate loans is the current carrying value. The interest rates on these loans are regularly adjusted to market rates. The fair value of other types of fixed rate loans is estimated by discounting the future cash flows using current rates at which similar loans would be made to borrowers with similar credit ratings for the same remaining maturities. The allowance for loan losses is a reasonable estimate of the valuation allowance needed to adjust computed fair values for credit quality of certain loans in the portfolio.
Deposit Liabilities and Long-Term Debt The fair value of demand deposits, savings accounts, and certain money market deposits is the amount payable on demand at the reporting date. These values do not consider the estimated fair value of the Company's core deposit intangible, which is a significant unrecognized asset of the Company. The fair value of time deposits and debt is based on the discounted value of contractual cash flows.
Commitments to Extend Credit and Standby Letters of Credit The fair value of commitments is estimated using the fees currently charged to enter into similar agreements, taking into account the remaining terms of the agreements and the present credit worthiness of the counter parties. For fixed rate loan commitments, fair value also considers the difference between current levels of interest rates and the committed rates. The fair value of letters of credit is based on fees currently charged for similar agreements or on the estimated cost to terminate them or otherwise settle the obligation with the counter parties at the reporting date.
Fair value for financial instruments are management's estimates of the values at which the instruments could be exchanged in a transaction between willing parties. These estimates are subjective and may vary significantly from amounts that would be realized in actual transactions. In addition, other significant assets are not considered financial assets including, any mortgage banking operations, deferred tax assets, and premises and equipment. Further, the tax ramifications related to the realization of the unrealized gains and losses can have a significant effect on the fair value estimates and have not been considered in any of these estimates.
The estimated fair values of the Company's financial instruments are as follows:
December 31, 2003 ----------------------------- Carrying Fair Amount Value ----------------------------- Financial assets: (in thousands) Cash and due from banks $80,603 $80,603 Federal funds sold 326 326 Securities: Available-for-sale 316,436 316,436 Loans, net 967,468 928,243 Accrued interest receivable 6,027 6,027 Financial liabilities: Deposits 1,236,823 1,185,923 Accrued interest payable 2,638 2,638 Federal funds purchased 39,500 39,500 Long-term debt 22,887 25,180 Junior subordinated debt 20,619 20,619
Contract Fair Off-balance sheet: Amount Value ----------------------------- Commitments 321,350 32,135 Standby letters of credit 11,582 116
December 31, 2002 ----------------------------- Carrying Fair Amount Value ----------------------------- Financial assets: (in thousands) Cash and due from banks $67,170 $67,170 Federal funds sold 8,100 8,100 Securities: Available-for-sale 338,024 338,024 Loans, net 673,145 667,535 Accrued interest receivable 5,644 5,644 Financial liabilities: Deposits 1,005,237 972,323 Accrued interest payable 2,927 2,927 Long-term debt 22,924 25,347
Contract Fair Off-balance sheet: Amount Value ----------------------------- Commitments 218,345 21,835 Standby letters of credit 8,818 88
Note 20 - TriCo Bancshares Financial Statements
TriCo Bancshares (Parent Only) Balance Sheets December 31, Assets 2003 2002 -------------------------- (in thousands) Cash and Cash equivalents $6,187 $239 Securities available-for-sale 180 180 Investment in Tri Counties Bank 139,834 96,708 Other assets 2,441 1,887 -------------------------- Total assets $148,642 $99,014 ========================== Liabilities and shareholders' equity Other liabilities $ 63 $ -- Junior subordinated debt 20,619 -- -------------------------- Total liabilities $20,682 $ -- -------------------------- Shareholders' equity: Common stock, no par value: Authorized 20,000,000 shares; issued and outstanding 7,834,124 and 7,060,965 shares, respectively $69,767 $50,472 Retained earnings 56,379 46,239 Accumulated other comprehensive income, net 1,814 2,303 -------------------------- Total shareholders' equity 127,960 99,014 -------------------------- Total liabilities and shareholders' equity $148,642 $99,014 ==========================
Statements of Income Years Ended December 31, 2003 2002 2001 ------------------------------ (in thousands) Interest income $ 18 $ 18 $ 17 Interest expense (355) -- -- Administration expense (559) (416) (980) ------------------------------ Loss before equity in net income of Tri Counties Bank (896) (398) (963) Equity in net income of Tri Counties Bank: Distributed 2,810 5,779 12,187 Undistributed 14,592 8,522 798 Income taxes (382) (166) (397) ------------------------------ Net income $16,888 $14,069 $12,419 ==============================
Note 21 - Regulatory Matters
The Company is 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 Company's financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the Company must meet specific capital guidelines that involve quantitative measures of the Company's assets, liabilities and certain off-balance-sheet items as calculated under regulatory accounting practices. The Company's capital amounts and classification are also subject to qualitative judgments by the regulators about components, risk weightings and other factors.
Quantitative measures established by regulation to ensure capital adequacy require the Company to maintain minimum amounts and ratios (set forth in the table below) of total and Tier 1 capital to risk-weighted assets, and of Tier 1 capital to average assets. Management believes, as of December 31, 2003, that the Company meets all capital adequacy requirements to which it is subject.
As of December 31, 2003, the most recent notification from the FDIC categorized the Bank as well capitalized under the regulatory framework for prompt corrective action. To be categorized as well capitalized the Bank must maintain minimum total risk-based, Tier 1 risk-based and Tier 1 leverage ratios as set forth in the table below. There are no conditions or events since that notification that Management believes have changed the institution's category.
The Bank's actual capital amounts and ratios are also presented in the table.
Note 22 - Acquisition
The Company acquired North State National Bank on April 4, 2003. The acquisition and the related merger agreement dated October 3, 2002, was approved by the California Department of Financial Institutions, the Federal Deposit Insurance Corporation, and the shareholders of North State National Bank on March 4, March 7, and March 19, 2003, respectively. At the time of the acquisition, North State had total assets of $140 million, investment securities of $41 million, loans of $76 million, and deposits of $126 million. The acquisition was accounted for using the purchase method of accounting. The amount of goodwill recorded as of the merger date, which represented the excess of the total purchase price over the estimated fair value of net assets acquired, was approximately $15.5 million. The Company recorded a core deposit intangible, which represents the excess of the fair value of North State's deposits over their book value on the acquisition date, of approximately $3.4 million. This core deposit intangible is scheduled to be amortized over a seven-year average life.
Under the terms of the merger agreement, the Company paid $13,090,057 in cash, issued 723,512 shares of common stock, and issued options to purchase 79,587 shares of common stock at an average exercise price of $6.22 per share in exchange for all of the 1,234,375 common shares and options to purchase 79,937 common shares of North State National Bank outstanding as of April 4, 2003.
The pro forma financial information in the following table illustrates the combined operating results of the Company and North State National Bank for the years ended December 31, 2003 and 2002 as if the acquisition of North State National Bank had occurred as of January 1, 2002. The pro forma financial information is presented for informational purposes and is not necessarily indicative of the results of operations that would have occurred if the Company and North State National Bank had constituted a single entity as of or January 1, 2002. The pro forma financial information is also not necessarily indicative of the future results of operations of the combined company. In particular, any opportunity to achieve certain cost savings as a result of the acquisition has not been included in the pro forma financial information.
For the year ended December 31, 2003 2002 ------------------------------- (in thousands except earnings per share) Net interest income $62,316 $57,631 Provision for loan losses 1,250 2,800 Noninterest income 23,100 19,719 Noninterest expense 56,711 49,260 Income tax expense 10,331 9,424 Net income $17,124 $15,866 Basic earnings per share $2.19 $2.05 Diluted earnings per share $2.12 $1.99
The only significant pro forma adjustment is the amortization expense relating to core deposit intangible, and the income tax benefit associated with the pro forma adjustment.
Note 23 - Summary of Quarterly Results of Operations (unaudited)
The following table sets forth the results of operations for the four quarters of 2003 and 2002, and is unaudited; however, in the opinion of Management, it reflects all adjustments (which include only normal recurring adjustments) necessary to present fairly the summarized results for such periods.
2003 Quarters Ended December 31, September 30, June 30, March 31, (Dollars in thousands, except per share data) Interest income $20,354 $19,105 $18,161 $16,349 Interest expense 3,224 3,305 3,445 3,115 ------- ------- ------- ------- Net interest income 17,130 15,800 14,716 13,234 Provision for loan losses 800 150 150 150 ------- ------- ------- ------- Net interest income after provision for loan losses 16,330 15,650 14,566 13,084 Noninterest income 5,753 5,206 6,554 5,396 Noninterest expense 14,459 14,049 14,368 12,651 ------- ------- ------- ------- Income before income taxes 7,624 6,807 6,752 5,829 Income tax expense 2,941 2,469 2,498 2,216 ------- ------- ------- ------- Net income $ 4,683 $ 4,338 $ 4,254 $ 3,613 ======= ======= ======= ======= Per common share: Net income (diluted) $ 0.58 $ 0.54 $ 0.53 $ 0.50 ======= ======= ======= ======= Dividends $ 0.20 $ 0.20 $ 0.20 $ 0.20 ======= ======= ======= =======
2002 Quarters Ended December 31, September 30, June 30, March 31, (Dollars in thousands, except per share data) Interest income $16,228 $16,435 $16,075 $15,958 Interest expense 3,245 3,227 3,179 3,263 ------- ------- ------- ------- Net interest income 12,983 13,208 12,896 12,695 Provision for loan losses 800 700 500 800 ------- ------- ------- ------- Net interest income after provision for loan losses 12,183 12,508 12,396 11,895 Noninterest income 5,998 5,413 3,943 3,826 Noninterest expense 12,473 12,133 10,963 10,402 ------- ------- ------- ------- Income before income taxes 5,708 5,788 5,376 5,319 Income tax expense 1,960 2,161 2,011 1,990 ------- ------- ------- ------- Net income $3,748 $ 3,627 $ 3,365 $ 3,329 ======= ======= ======= ======= Per common share: Net income (diluted) $ 0.52 $ 0.50 $ 0.47 $ 0.47 ======= ======= ======= ======= Dividends $ 0.20 $ 0.20 $ 0.20 $ 0.20 ======= ======= ======= =======
Independent Auditors' Report
To the Board of Directors TriCo Bancshares and Subsidiaries:
We have audited the accompanying consolidated balance sheets of TriCo Bancshares and Subsidiary for the years ended December 31, 2003 and 2002, and the related consolidated statements of income and comprehensive income, changes in shareholders' equity and cash flows for the years then ended. These consolidated financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits. The consolidated financial statements of TriCo Bancshares and Subsidiaries for the year ended December 31, 2001 were audited by other auditors who have ceased operations. Those auditors expressed an unqualified opinion on those financial statements in their report dated January 18, 2002.
We conducted our audits in accordance with auditing standards generally accepted in the United States of America. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the consolidated financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the consolidated financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall consolidated financial statement presentation. We believe that our audits provide 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 TriCo Bancshares and Subsidiary as of December 31, 2003 and 2002, and the results of their operations and their cash flows for the years then ended in conformity with accounting principles generally accepted in the United States of America.
/s/ KPMG LLP
Sacramento, California January 29, 2004
Independent Auditors' Report(1)
To the Board of Directors and Shareholders of TriCo Bancshares and Subsidiary:
We have audited the accompanying consolidated balance sheets of TriCo Bancshares (a California corporation) and Subsidiary as of December 31, 2001 and 2000, and the related consolidated statements of income, changes in shareholders' equity and cash flows for each of the three years in the period ended December 31, 2001. These financial statements are the responsibility of the Corporation's management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with auditing standards generally accepted in the 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 provide 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 TriCo Bancshares and Subsidiary as of December 31, 2001 and 2000, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 2001 in conformity with accounting principles generally accepted in the United States.
/s/ Arthur Andersen LLP
San Francisco, California January 18, 2002
(1) This report is a copy of a previously issued report and the predecessor auditor has not reissued the report. Revisions to prior-period financial statements are considered inconsequential.
MANAGEMENT'S LETTER OF FINANCIAL RESPONSIBILITY
To Our Shareholders:
The Management of TriCo Bancshares is responsible for the preparation, integrity, reliability and consistency of the information contained in this annual report. The consolidated financial statements, which necessarily include amounts based on judgments and estimates, were prepared in conformity with generally accepted accounting principles and prevailing practices in the banking industry. All other financial information appearing throughout this annual report is presented in a manner consistent with the consolidated financial statements.
Management has established and maintains a system of internal controls that provides reasonable assurance that the underlying financial records are reliable for preparing the consolidated financial statements, and that assets are safeguarded from unauthorized use or loss. This system includes extensive written policies and operating procedures and a comprehensive internal audit function, and is supported by the careful selection and training of staff, an organizational structure providing for division of responsibility, and a Code of Ethics covering standards of personal and business conduct.
Management believes that, as of December 31, 2003, the Company's internal control environment is adequate to provide reasonable assurance as to the integrity and reliability of the consolidated financial statements and related financial information contained in the annual report. However, there are limits inherent in all systems of internal accounting control and Management recognizes that errors or irregularities may occur. Based on the recognition that the costs of such systems should not exceed the benefits to be derived, Management believes the Company's system provides an appropriate cost/benefit balance.
The system of internal controls is under the general oversight of the Board of Directors acting through its Audit Committee, which is comprised entirely of outside directors. The Audit Committee monitors the effectiveness of and compliance with internal controls through a continuous program of internal audit. This is accomplished through periodic meetings with Management, internal auditors and independent auditors to assure that each is carrying out their responsibilities.
The Company's 2003 consolidated financial statements have been audited by KPMG LLP, independent certified public auditors elected by the shareholders. All financial records and related data, as well as the minutes of shareholders and directors meetings, have been made available to them. Management believes that all representations made to the independent auditors during their audit were valid and appropriate.
Richard P. Smith President and Chief Executive Officer
Thomas J. Reddish Executive Vice President and Chief Financial Officer
ITEM 9. CHANGES IN AND DISAGREEMENTS ON ACCOUNTING AND FINANCIAL DISCLOSURE
On March 22, 2002, the Company decided not to renew the engagement of its independent public accountants, Arthur Andersen LLP ("Andersen"). This determination followed the Company's decision to seek proposals from other independent accountants to audit the Company's consolidated financial statements for the year ending December 31, 2002.
The decision not to renew the engagement of Andersen was made by the Board of Directors based upon a recommendation of its Audit Committee.
During the Company's fiscal year ended December 31, 2001, and during the interim period from December 31, 2001 through March 22, 2002, there were no disagreements between the Company and Andersen on any matter of accounting principles, financial statement disclosure, or auditing scope or procedure which, if not resolved to Andersen's satisfaction, would have caused Andersen to make reference to the matter of the disagreement in connection with their reports. The audit reports of Andersen on the consolidated financial statements of the Company as of December 31, 2001 and 2000 and for each of the three years in the period ended December 31, 2001 did not contain any adverse opinion or disclaimer of opinion, nor were these opinions qualified or modified as to uncertainty, audit scope or accounting principles. The Company requested that Andersen furnish it with a letter, addressed to the commission stating whether or not it agrees with the above statements. The letter from Andersen is incorporated by reference from the Company's 8-K dated March 27, 2002.
Effective March 22, 2002, the Board of Directors, based upon a recommendation of its Audit Committee, retained KPMG LLP ("KPMG") as its independent accountants to audit the Company's consolidated financial statements for the year ending December 31, 2002. The decision to retain KPMG was ratified by shareholders at the Annual Meeting of Shareholders in May 2002.
During the Company's two fiscal years ended December 31, 2001, and during the interim period through March 22, 2002, there were no reportable events as defined in Item 301 (a)(1)(v) of Regulation S-K.
During the Company's two fiscal years ended December 31, 2001, and during the interim period through March 22, 2002, the Company did not consult with KPMG regarding either:
(i) the application of accounting principles to a specified transaction, either completed or proposed; or the type of audit opinion that might be rendered on the Company's financial statements; or
(ii) any matter that was either the subject of a disagreement (as defined in Item 304(a)(1)(iv) of regulation S-K and related instruction to this Item) or a reportable event identified (as described in Item 304(a)(1)(v) of Regulation S-K and related instruction to this Item).
ITEM 9A. CONTROLS AND PROCEDURES
The Chief Executive Officer, Richard P. Smith, and the Chief Financial Officer, Thomas J. Reddish, evaluated the effectiveness of the Company's disclosure controls and procedures as of December 31, 2003 ("Evaluation Date"). Based on that evaluation, they concluded that as of the Evaluation Date the Company's disclosure controls and procedures are effective to allow timely communication to them of information relating to the Company and the Bank required to be disclosed in its filings with the Securities and Exchange Commission ("SEC") under the Securities Exchange Act of 1934, as amended ("Exchange Act"). Disclosure controls and procedures are Company controls and other procedures that are designed to ensure that information required to be disclosed by the Company in the reports that it files under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the SEC's rules and forms.
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
The information regarding directors and executive officers of the registrant required by this Item 10 is incorporated herein by reference from the Company's Proxy Statement for the annual meeting of shareholders to be held on May 4, 2004, which will be filed with the Commission pursuant to Regulation 14A.
ITEM 11. EXECUTIVE COMPENSATION
The information required by this Item 11 is incorporated herein by reference from the Company's Proxy Statement for the annual meeting of shareholders to be held on May 4, 2004, which will be filed with the Commission pursuant to Regulation 14A.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS
The information required by this Item 12 is incorporated herein by reference from the Company's Proxy Statement for the annual meeting of shareholders to be held on May 4, 2004, which will be filed with the Commission pursuant to Regulation 14A.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The information required by this Item 13 is incorporated herein by reference from the Company's Proxy Statement for the annual meeting of shareholders to be held on May 4, 2004, which will be filed with the Commission pursuant to Regulation 14A.
ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES
The information required by this Item 14 is incorporated herein by reference from the Company's Proxy Statement for the annual meeting of shareholders to be held on May 4, 2004, which will be filed with the Commission pursuant to Regulation 14A.
PART IV
ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
(a) Documents filed as part of this report:
1. All Financial Statements.
The consolidated financial statements of Registrant are listed at page 36 of Item 8 of this report, and are incorporated herein by reference.
2. Financial statement schedules.
Schedules have been omitted because they are not applicable or are not required under the instructions contained in Regulation S-X or because the information required to be set forth therein is included in the consolidated financial statements or notes thereto at Item 8 of this report.
3. Exhibits.
The following documents are included or incorporated by reference in this annual report on Form 10-K, and this list includes the Exhibit Index.
Exhibit No. Exhibit Index - ----------- -------------
3.1* Restated Articles of Incorporation dated May 9, 2003, filed as Exhibit 3.1 to TriCo's Quarterly Report on Form 10-Q for the quarter ended March 31, 2003
3.2* Bylaws of TriCo Bancshares, as amended, filed as Exhibit 3.2 to TriCo's Form S-4 Registration Statement dated January 16, 2003 (No. 333-102546)
4* Certificate of Determination of Preferences of Series AA Junior Participating Preferred Stock filed as Exhibit 3.3 to TriCo's Quarterly Report on Form 10-Q for the quarter ended September 30, 2001
10.1* Rights Agreement dated June 25, 2001, between TriCo and Mellon Investor Services LLC filed as Exhibit 1 to TriCo's Form 8-A dated July 25, 2001
10.2* Form of Change of Control Agreement dated April 10, 2001, between TriCo and each of Richard O'Sullivan, Thomas Reddish, Ray Rios and Richard Smith, and dated February 27, 2003 between TriCo and Craig Carney filed as Exhibit 10.9 to TriCo's Report on Form 10-Q for the quarter ended September 30, 2001
10.3* TriCo's 1993 Non-Qualified Stock Option Plan filed as Exhibit 4.1 to TriCo's Form S-8 Registration Statement dated January 18, 1995 (No. 33-88704)
10.4* TriCo's Non-Qualified Stock Option Plan filed as Exhibit 4.2 to TriCo's Form S-8 Registration Statement dated January 18, 1995 (No. 33-88704)
10.5* TriCo's Incentive Stock Option Plan filed as Exhibit 4.3 to TriCo's Form S-8 Registration Statement dated January 18, 1995 (No. 33-88704)
10.6* TriCo's 1995 Incentive Stock Option Plan filed as Exhibit 4.1 to TriCo's Form S-8 Registration Statement dated August 23, 1995 (No. 33-62063)
10.7* TriCo's 2001 Stock Option Plan filed as Exhibit 4 to TriCo's Form S-8 Registration Statement dated July 27, 2001 (No. 33-66064)
10.8* Employment Agreement between TriCo and Richard Smith dated April 10, 2001, filed as Exhibit 10.8 to TriCo's Form S-4 Registration Statement dated January 16, 2003 (No. 333-102546)
10.9* Tri Counties Bank Executive Deferred Compensation Plan dated September 1, 1987, as restated April 1, 1992, and amended November 12, 2002, filed as Exhibit 10.9 to TriCo's Form S-4 Registration Statement dated January 16, 2003 (No. 333-102546)
10.10* Tri Counties Bank Supplemental Retirement Plan for Directors dated September 1, 1987, as restated January 1, 2001, filed as Exhibit 10.10 to TriCo's Form S-4 Registration Statement dated January 16, 2003 (No. 333-102546)
10.11* Tri Counties Bank Supplemental Executive Retirement Plan effective September 1, 1987, filed as Exhibit 10.11 to TriCo's Form S-4 Registration Statement dated January 16, 2003 (No. 333-102546)
10.12* Tri Counties Bank Deferred Compensation Plan for Directors effective April 1, 1992, filed as Exhibit 10.12 to TriCo's Form S-4 Registration Statement dated January 16, 2003 (No. 333-102546)
10.13* Employment Agreement between TriCo and Richard O'Sullivan dated April 10, 2001, filed as Exhibit 10.13 to TriCo's Quarterly Report on Form 10-Q for the quarter ended March 31, 2003
10.14* Form of Joint Beneficiary Agreement effective March 31, 2003 between Tri Counties Bank and each of George Barstow, Dan Bay, Ron Bee, Craig Carney, Robert Elmore, Greg Gill, Richard Miller, Andrew Mastorakis, Richard O'Sullivan, Thomas Reddish, Jerald Sax, and Richard Smith, filed as Exhibit 10.14 to TriCo's Quarterly Report on Form 10-Q for the quarter ended September 30, 2003
10.15* Form of Joint Beneficiary Agreement effective March 31, 2003 between Tri Counties Bank and each of Don Amaral, William Casey, Craig Compton, John Hasbrook, Michael Koehnen, Wendell Lundberg, Donald Murphy, Carroll Taresh, and Alex Vereshagin, filed as Exhibit 10.15 to TriCo's Quarterly Report on Form 10-Q for the quarter ended September 30, 2003
10.16* Form of Tri-Counties Bank Executive Long Term Care Agreement effective June 10, 2003 between Tri Counties Bank and each of Craig Carney, Andrew Mastorakis, Richard Miller, Richard O'Sullivan, and Thomas Reddish, filed as Exhibit 10.16 to TriCo's Quarterly Report on Form 10-Q for the quarter ended September 30, 2003
10.17* Form of Tri-Counties Bank Director Long Term Care Agreement effective June 10, 2003 between Tri Counties Bank and each of Don Amaral, William Casey, Craig Compton, John Hasbrook, Michael Koehnen, Donald Murphy, Carroll Taresh, and Alex Verischagin, filed as Exhibit 10.17 to TriCo's Quarterly Report on Form 10-Q for the quarter ended September 30, 2003
10.18 Form of Indemnification Agreement between TriCo Bancshares/Tri Counties Bank and each of the directors of TriCo Bancshares/Tri Counties Bank effective on the date that each director is first elected.
11.1 Computation of earnings per share
21.1 Tri Counties Bank, a California banking corporation, and TriCo Capital Trust I, a Delaware business trust, are the only subsidiaries of Registrant
23.1 Consent of KPMG LLP
31.1 Rule 13a-14(a)/15d-14(a) Certification of CEO
31.2 Rule 13a-14(a)/15d-14(a) Certification of CFO
32.1 Section 1350 Certification of CEO
32.2 Section 1350 Certification of CFO
*Previously filed and incorporated herein by reference.
(b) Reports on Form 8-K:
During the quarter ended December 31, 2003 the Company filed the following Current Reports on Form 8-K:
Description Date of Report ------------------------------------------- --------------- Quarterly results of operations October 24, 2003
(c) Exhibits filed:
See Exhibit Index under Item 15(a)(3) above for the list of exhibits required to be filed by Item 601 of regulation S-K with this report.
(d) Financial statement schedules filed:
See Item 15(a)(2) above.
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.
Date: March 5, 2003 TRICO BANCSHARES
By: /s/ Richard P. Smith ---------------------------------------- Richard P. Smith, President and Chief Executive Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the Registrant in the capacities and on the dates indicated.
Date: March 5, 2004 /s/ Richard P. Smith ---------------------------------------- Richard P. Smith, President, Chief Executive Officer and Director (Principal Executive Officer)
Date: March 5, 2004 /s/ Thomas J. Reddish ---------------------------------------- Thomas J. Reddish, Executive Vice President and Chief Financial Officer (Principal Financial and Accounting Officer)
Date: March 5, 2004 /s/ Donald J. Amaral ---------------------------------------- Donald J. Amaral, Director
Date: March 5, 2004 /s/ William J. Casey ---------------------------------------- William J. Casey, Director and Chairman of the Board
Date: March 5, 2004 /s/ Craig S. Compton ---------------------------------------- Craig S. Compton, Director
Date: March 5, 2004 /s/ Wendell J. Lundberg ---------------------------------------- Wendell J. Lundberg, Director
Date: March 5, 2004 /s/ Donald E. Murphy ---------------------------------------- Donald E. Murphy, Director and Vice Chairman of the Board
Date: March 5, 2004 /s/ Steve G. Nettleton ---------------------------------------- Steve G. Nettleton, Director
Date: March 5, 2004 /s/ Carroll R. Taresh ---------------------------------------- Carroll R. Taresh, Director
Date: March 5, 2004 /s/ Alex A. Vereschagin ---------------------------------------- Alex A. Vereschagin, Jr., Director
EXHIBITS
Exhibit 10.18
INDEMNIFICATION AGREEMENT
This Indemnification Agreement ("Agreement") is entered into on __________, by and between TriCo Bancshares/Tri Counties Bank, a California corporation ("Company"), and ______________________________ ("Director"), a director of the Company.
Recitals
It is in the best interests of the Company to attract and retain qualified directors to serve this Company.
In order to attract and retain such persons, it is necessary to provide assurance that their interests will be protected and defended to the extent permitted by applicable law if a claim is brought or threatened against them based upon their actions as directors of this Company.
It is now and has always been the express policy of the Company to indemnify its directors so as to provide them with the maximum possible protection permitted by law.
The substantial increase in corporate litigation subjects directors to expensive litigation risks at the same time the availability of directors' liability insurance has been limited.
Director believes that the protection available under the Company's Certificate of Incorporation and insurance policies may not be adequate in the present circumstances, and may not be willing to continue to serve as a director without adequate protection, and the Company desires Director to continue to serve in such capacity.
NOW, THEREFORE, the parties agree as follows:
Terms of Agreement
Agreement to Serve. Director agrees to continue to serve as a director of the Company for so long as he or she is duly elected or appointed or until such time as he or she tenders his or her resignation in writing.
Definitions. As used in this Agreement:
a. The term "Proceeding" shall include any threatened, pending or completed action or proceeding, whether of a civil, criminal, administrative or investigative nature, in which Director is or was a party or is threatened to be made a party by reason of the fact that Director is or was a director of the Company (or any subsidiary of the Company), or is or was serving at the request of the Company as a director, officer, employee or agent of another foreign or domestic corporation, partnership, joint venture, trust or other enterprise.
b. The term "Expenses" shall include, without limitation, expenses of investigation, judicial or administrative proceedings or appeals, amounts paid in settlement by or on behalf of Director, attorneys' fees and disbursements and any expenses of establishing a right to indemnification under paragraph 7 of this Agreement, but shall not include amounts of judgments, fines or penalties against Director.
Indemnity in Third-Party Proceedings. The Company shall indemnify Director in accordance with the provisions of this paragraph 3 against all Expenses, judgments, fines, settlements and other amounts actually and reasonably incurred by Director in connection with the Proceeding (other than a Proceeding by or in the right of the Company to procure a judgment in its favor), but only if Director acted in good faith and in a manner which he or she reasonably believed to be in the best interests of the Company, and, in the case of a criminal proceeding, had no reasonable cause to believe that his or her conduct was unlawful. The termination of any such Proceeding by judgment, order, settlement, conviction or upon a plea of nolo contendere or its equivalent shall not, of itself, create a presumption that Director did not act in good faith in a manner which he or she reasonably believed to be in the best interests of the Company, or that Director had reasonable cause to believe that his or her conduct was unlawful.
Indemnity in Proceedings by or in the Right of the Company. The Company shall indemnify Director in accordance with the provisions of this paragraph 4 against all Expenses actually and reasonably incurred by Director in connection with the defense or settlement of any Proceeding if Director acted in good faith and in a manner which he or she believed to be in the best interests of the Company and its shareholders, except that no indemnification for Expenses shall be made under this paragraph 4 in respect of any claim, issue or matter as to which Director shall have been adjudged to be liable to the Company in the performance of his or her duty to the Company and its shareholders, unless and only to the extent that the court in which such Proceeding is or was pending shall determine upon application that, in view of all the circumstances of the case, Director is fairly and reasonably entitled to indemnity for such Expenses and then only to the extent such court shall determine.
Indemnification of Expenses of Successful Party. Notwithstanding any other provision of this Agreement, to the extent that Director has been successful on the merits in defense of any Proceeding, or in defense of any claim, issue or matter therein, Director shall be indemnified against all Expenses actually and reasonably incurred by Director in connection therewith.
Advances of Expenses. At the written request of Director, the Expenses incurred by Director in any Proceeding shall be paid by the Company prior to the final disposition of such Proceeding, provided that Director shall undertake in writing to repay such amount to the extent that it is determined ultimately that Director is not entitled to indemnification. If the Company makes an advance of expenses pursuant to this paragraph 6, the Company shall be subrogated to every right of recovery Director may have against any insurance carrier from whom the Company has purchased insurance for such purpose.
Right of Director to Indemnification Upon Application; Procedure Upon Application.
a. Any indemnification under paragraphs 3 and 4 or advance under paragraph 6 shall be paid by the Company no later than 45 days after receipt of the written request of Director, unless a determination is made within said 45-day period by (1) the Board of Directors by a majority vote of a quorum consisting of directors who were not parties to the Proceeding in respect of which indemnification is being sought, or (2) if a quorum of disinterested directors is not available, independent legal counsel in a written opinion (which counsel shall be appointed by a quorum of the Board of Directors), or (3) the stockholders of the Company with the shares owned by Director to be indemnified not being entitled to vote thereon, or (4) the court in which the Proceeding is or was pending upon application made by the Company or Director or the attorney or other person rendering services in connection with the defense, whether or not the application is opposed by the Company, that Director has not met the relevant standards for indemnification set forth in paragraphs 3 and 4.
b. The right to indemnification or advancement of Expenses as provided by this Agreement shall be enforceable by Director in any court of competent jurisdiction. The burden of proving that indemnification or advances are not appropriate shall be on the Company. Neither the failure of the Company (including its Board of Directors or independent legal counsel or stockholders) to have made a determination prior to the commencement of such action that Director has met the applicable standard of conduct nor an actual determination by the Company (including its Board of Directors or independent legal counsel or stockholders) that Director has not met such standard shall be a defense to the action or create a presumption that Director has not met the applicable standard of conduct. Director's Expenses actually and reasonably incurred in connection with successfully establishing his or her right to indemnification or advances, in whole or in part, shall also be indemnified by the Company.
c. With respect to any Proceeding for which indemnification is requested, the Company will be entitled to participate therein at its own expense and, except as otherwise provided below, the Company may assume the defense thereof, with counsel satisfactory to Director. After notice from the Company to Director of its election to assume the defense of a Proceeding, the Company will not be liable to Director under this Agreement for any Expenses subsequently incurred by Director in connection with the defense thereof, other than as provided below. The Company shall not settle any Proceeding in any manner which would impose any penalty or limitation on Director without Director's written consent. Director shall have the right to employ counsel in any Proceeding but the fees and expenses of such counsel incurred after notice from the Company of its assumption of the defense of the Proceeding shall be at the expense of Director, unless (i) the employment of counsel by Director has been authorized by the Company, (ii) Director shall have reasonably concluded that there may be a conflict of interest between the Company and Director in the conduct of the defense of a Proceeding, or (iii) the Company shall not in fact have employed counsel to assume the defense of a Proceeding, in each of which cases the fees and expenses of Director's counsel shall be advanced by the Company. Notwithstanding the foregoing, the Company shall not be entitled to assume the defense of any Proceeding brought by or in the right of the Company.
Limitation on Indemnification. No payment pursuant to this Agreement shall be made by the Company:
a. to indemnify or advance funds to Director for Expenses with respect to Proceedings initiated or brought voluntarily by Director and not by way of defense, except with respect to Proceedings brought to establish or enforce a right to indemnification under this Agreement, but such indemnification or advancement of Expenses may be provided by the Company in specific cases if the Board of Directors finds it to be appropriate;
b. to indemnify Director for any Expenses, judgments, fines or penalties sustained in any Proceeding for which payment is actually made to Director under a valid and collectible insurance policy, except in respect of any excess beyond the amount of payment under such insurance;
c. to indemnify Director for any Expenses, judgments, fines or penalties sustained in any Proceeding for an accounting of profits made from the purchase or sale by Director of securities of the Company pursuant to the provisions of section 16(b) of the Securities Exchange Act of 1934, the rules and regulations promulgated thereunder and amendments thereto or similar provisions of any federal, state or local statutory law;
d. to indemnify Director for any Expenses, judgments, fines or penalties resulting from Director's conduct which is finally adjudged to have been willful misconduct, knowingly fraudulent or deliberately dishonest;
e. if a court of competent jurisdiction finally determines that such payment hereunder is unlawful; or
f. if contrary to section 317 of the California Corporations Code.
Indemnification Hereunder Not Exclusive. The indemnification and advancement of Expenses provided by this Agreement shall not be deemed exclusive of any other rights to which Director may be entitled under the Certificate of Incorporation or the Bylaws of the Company, any agreement, any vote of stockholders or disinterested directors, the California Corporations Code, or otherwise, both as to action in his official capacity and as to action in another capacity while holding such office. The indemnification provided by this Agreement shall continue as to Director even though he or she may have ceased to be a director and shall inure to the benefit of the heirs and personal representatives of Director.
Partial Indemnification. If Director is entitled under any provision of this Agreement to indemnification by the Company for a portion of the Expenses, judgments, fines or penalties actually and reasonably incurred by him or her in any Proceeding but not, however, for the total amount thereof, the Company shall nevertheless indemnify Director for the portion of such Expenses, judgments, fines or penalties to which Director is entitled.
Maintenance of Liability Insurance.
a. The Company hereby covenants and agrees that, as long as Director continues to serve as a director of the Company and thereafter as long as Director may be subject to any Proceeding, the Company, subject to subsection 11(c) below, shall maintain in full force and effect Directors' and Officers' liability insurance ("D&O Insurance") in reasonable amounts from established and reputable insurers.
b. In all D&O Insurance policies, Director shall be named as an insured in such a manner as to provide the Director the same rights and benefits as are accorded to the most favorably insured of the Company's directors and officers.
c. Notwithstanding the foregoing, the Company shall have no obligation to obtain or maintain D&O Insurance if the Company determines in good faith that such insurance is not reasonably available, the premium costs for such insurance are disproportionate to the amount of coverage provided, the coverage provided by such insurance is so limited by exclusions that it provides an insufficient benefit, or Director is covered by similar insurance maintained by a subsidiary of the Company.
Savings Clause. If this Agreement or any portion hereof is invalidated on any ground by any court of competent jurisdiction, the Company shall nevertheless indemnify Director to the extent permitted by any applicable portion of this Agreement that has not been invalidated or by any other applicable law.
Notice. Director shall, as a condition precedent to his or her right to be indemnified under this Agreement, give to the Company notice in writing as soon as practicable of any Proceeding for which indemnity will or could be sought under this Agreement. Notice to the Company shall be directed to TriCo Bancshares, 63 Constitution Drive, Chico, California 95973, Attn: President (or such other address as the Company shall designate in writing to Director). Notice shall be deemed received three days after the date postmarked if sent by prepaid mail, properly addressed. In addition, Director shall give the Company such information and cooperation as it may reasonably require and as shall be within Director's power.
Counterparts. This Agreement may be executed in any number of counterparts, all of which shall be deemed to constitute one and the same instrument.
Applicable Law. This Agreement shall be governed by, and construed and interpreted in accordance with, the law of the State of California.
Successors and Assigns. This Agreement shall be binding upon the Company and its successors and assigns.
Amendments. No amendment, waiver, modification, termination or cancellation of this Agreement shall be effective unless in writing signed by both parties hereto. The indemnification rights afforded to Director hereby are contract rights and may not be diminished, eliminated or otherwise affected by amendments to the Certificate of Incorporation or Bylaws of the Company or by other agreements.
Survival of Company's Obligations. The obligations hereunder shall survive all the following to the extent not prohibited by applicable law:
a. Director's resignation or removal from office for any reason.
b. A change in control of the Company.
c. The merger, reorganization, sale of assets, dissolution, liquidation or conversion of the Company.
d. The bankruptcy or insolvency of the Company.
e. Any amendment of the Company's Certificate of Incorporation or Bylaws.
f. Any action by a state or federal banking agency including, without limitation, the California State Banking Department, the Board of Governors of the Federal Reserve System and the Federal Deposit Insurance Corporation to liquidate or place in receivership the Company or any of its assets or subsidiaries.
IN WITNESS WHEREOF, the parties hereto have caused this Agreement to be executed as of the date first above written.
DIRECTOR
---------------------------------------- Print Name:
TRICO BANCSHARES/TRI COUNTIES BANK, a California corporation
By: ---------------------------------------- Title: President and Chief Executive Officer
Exhibit 11.1
TRICO BANCSHARES Computation of Earnings Per Share on Common and Common Equivalent Shares and on Common Shares Assuming Full Dilution
Exhibit 23.1
Independent Auditors' Consent
To the Audit Committee of the Board of Directors TriCo Bancshares and Subsidiaries:
We consent to the incorporation by reference in the registration statements (Nos. 33-88702, 33-62063, and 33-66064) on Form S-8 of our report dated January 29, 2004, relating to the consolidated balance sheets of TriCo Bancshares and Subsidiary as of December 31, 2003 and 2002 and the related consolidated statements of income and comprehensive income, shareholders' equity and cash flows for the years ended December 31, 2003 and 2002, which report appears in the December 31, 2003, annual report on Form 10-K of TriCo Bancshares and Subsidiary.
Our report, dated January 29, 2004, contains an explanatory paragraph indicating that the related consolidated statements of income and comprehensive income, shareholders' equity, and cash flows of TriCo Bancshares and Subsidiary for the year ended December 31, 2001 were audited by other auditors who have ceased operations.
/s/ KPMG LLP
Sacramento, California March 9, 2004
Exhibit 31.1
Certification Pursuant to Rule 13a-14(a)/15d-14(a) of the Securities Exchange Act of 1934, as Amended
I, Richard P. Smith, certify that;
1. I have reviewed this annual report on Form 10-K of TriCo Bancshares; 2. Based on my knowledge, this annual report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this annual report; 3. Based on my knowledge, the financial statements, and other financial information included in this annual report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this annual report; 4. The registrant's other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the registrant and we have; a. Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this annual report is being prepared; b. Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, 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; c. Evaluated the effectiveness of the registrant's disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluations; and d. Disclosed in this report any change in the registrant's internal control over financial reporting that occurred during the registrant's most recent fiscal quarter that has materially affected, or is reasonably likely to materially affect, the registrant's internal control over financial reporting; and 5. The registrant's other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant's auditors and the audit committee of the registrant's board of directors: a. All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant's ability to record, process, summarize and report financial information; and b. Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal control over financial reporting.
Date: March 5, 2004 /s/ Richard P. Smith ---------------------------------------- Richard P. Smith President and Chief Executive Officer
Exhibit 31.2
Certification Pursuant to Rule 13a-14(a)/15d-14(a) of the Securities Exchange Act of 1934, as Amended
I, Thomas J. Reddish, certify that;
1. I have reviewed this annual report on Form 10-K of TriCo Bancshares; 2. Based on my knowledge, this annual report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this annual report; 3. Based on my knowledge, the financial statements, and other financial information included in this annual report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this annual report; 4. The registrant's other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the registrant and we have; a. Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this annual report is being prepared; b. Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, 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; c. Evaluated the effectiveness of the registrant's disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluations; and d. Disclosed in this report any change in the registrant's internal control over financial reporting that occurred during the registrant's most recent fiscal quarter that has materially affected, or is reasonably likely to materially affect, the registrant's internal control over financial reporting; and 5. The registrant's other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant's auditors and the audit committee of the registrant's board of directors: a. All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant's ability to record, process, summarize and report financial information; and b. Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal control over financial reporting.
Date: March 5, 2004 /s/ Thomas J. Reddish ---------------------------------------- Thomas J. Reddish Executive Vice President and Chief Financial Officer
Exhibit 32.1
Certification Pursuant to 18 U.S.C. Section 1350.
In connection with the Annual Report of TriCo Bancshares (the "Company") on Form 10-K for the year ending December 31, 2003 as filed with the Securities and Exchange Commission on the date hereof (the "Report"), I, Richard P. Smith, President and Chief Executive Officer of the Company, certify, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, that:
(1) The Report fully complies with the requirements of section 13(a) or 15(d) of the Securities Exchange Act of 1934; and
(2) The information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Company.
/s/ Richard P. Smith ------------------------------------------ Richard P. Smith President and Chief Executive Officer
A signed original of this written statement required by Section 906 has been provided to TriCo Bancshares and will be retained by TriCo Bancshares and furnished to the Securities and Exchange Commission or its staff upon request.
Exhibit 32.2
Certification Pursuant to 18 U.S.C. Section 1350.
In connection with the Annual Report of TriCo Bancshares (the "Company") on Form 10-K for the year ending December 31, 2003 as filed with the Securities and Exchange Commission on the date hereof (the "Report"), I, Thomas J. Reddish, Vice President and Chief Financial Officer of the Company, certify, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, that:
(1) The Report fully complies with the requirements of section 13(a) or 15(d) of the Securities Exchange Act of 1934; and
(2) The information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Company.
/s/ Thomas J. Reddish ------------------------------------------ Thomas J. Reddish Executive Vice President and Chief Financial Officer
A signed original of this written statement required by Section 906 has been provided to TriCo Bancshares and will be retained by TriCo Bancshares and furnished to the Securities and Exchange Commission or its staff upon request.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The Company's discussion and analysis of its financial condition and results of operations is intended to provide a better understanding of the significant changes and trends relating to the Company's financial condition, results of operations, liquidity and interest rate sensitivity. The following discussion is based on the Company's consolidated financial statements which have been prepared in accordance with accounting principles generally accepted in the United States of America. Please read the Company's audited consolidated financial statements and the related notes included as Item 8 of this report.
Critical Accounting Policies and Estimates
The Company's discussion and analysis of its financial condition and results of operations are based upon the Company's consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America. The preparation of these financial statements requires the Company to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosure of contingent assets and liabilities. On an on-going basis, the Company evaluates its estimates, including those that materially affect the financial statements and are related to the adequacy of the allowance for loan losses, investments, mortgage servicing rights, and intangible assets. The Company bases its estimates on historical experience and on various other assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions. The Company's policies related to estimates on the allowance for loan losses, other than temporary impairment of investments and impairment of intangible assets can be found in Note 1 to the Company's audited consolidated financial statements and the related notes included as Item 8 of this report.
As the Company has not commenced any business operations independent of the Bank, the following discussion pertains primarily to the Bank. Average balances, including balances used in calculating certain financial ratios, are generally comprised of average daily balances for the Company. Within Management's Discussion and Analysis of Financial Condition and Results of Operations, interest income and net interest income are generally presented on a fully tax-equivalent (FTE) basis.
The following discussion and analysis is designed to provide a better understanding of the significant changes and trends related to the Company and the Bank's financial condition, operating results, asset and liability management, liquidity and capital resources and should be read in conjunction with the consolidated financial statements of the Company and the related notes at Item 8 of this report.
Net Income
Following is a summary of the Company's net income for the past three years (dollars in thousands, except per share amounts):
Components of Net Income - ----------------------------------------------------------------------------- Year ended December 31, 2003 2002 2001 ------------------------------- Net interest income * $62,005 $53,029 $49,666 Provision for loan losses (1,250) (2,800) (4,400) Noninterest income 22,909 19,180 16,238 Noninterest expense (55,527) (45,971) (40,607) Taxes * (11,249) (9,369) (8,478) ------------------------------- $16,888 $14,069 $12,419 =============================== Net income per average fully-diluted share $2.14 $1.96 $1.72 Net income as a percentage of average shareholders' equity 14.24% 15.03% 14.19% Net income as a percentage of average total assets 1.27% 1.35% 1.27% ============================================================================= * Fully tax-equivalent (FTE)
Earnings in 2003 increased $2.8 million (20.0%) from 2002. Net interest income (FTE) grew $9.0 million (16.9%) due to a $239.1 million (25.3%) increase in average earning assets that was partially offset by a net interest margin that fell 38 basis points. The loan loss provision was reduced by $1.6 million in 2003 from 2002, and noninterest income increased $3.7 million (19.4%) while noninterest expense also increased $9.6 million (20.8%).
The Company achieved earnings of $14.1 million in 2002, representing a 13.7% increase from the $12.4 million earned in 2001, which was down 1.6% from 2000 earnings of $12.6 million. Net interest income on a fully tax-equivalent basis for 2002 increased $3.4 million (6.8%) compared to 2001. Higher average balances of interest earning assets added $4.4 million to net interest income on a fully tax-equivalent basis, while changes in interest rates reduced net interest income on a fully tax-equivalent basis by $1.0 million. The loan loss provision was reduced by $1.6 million (36.4%), and noninterest income grew $2.9 million (18.1%). Partially offsetting this higher revenue, noninterest expense expanded $5.4 million (13.2%).
The Company's return on average total assets was 1.27% in 2003, compared to 1.35% and 1.27% in 2002 and 2001, respectively. Return on average equity in 2003 was 14.24%, compared to 15.03% in 2002 and 14.19% percent in 2001.
Net Interest Income
The Company's primary source of revenue is net interest income, which is the difference between interest income on earning assets and interest expense on interest-bearing liabilities. Net interest income (FTE) increased $9.0 million (17.0%) to $62.0 million from 2002 to 2003. Net interest income (FTE) increased $3.4 million (6.8%) from 2001 to $53.0 million in 2002.
Following is a summary of the Company's net interest income for the past three years (dollars in thousands):
Components of Net Interest Income ----------------------------------------------------------------- Year ended December 31, 2003 2002 2001 ------------------------------- Interest income $73,969 $64,696 $71,998 Interest expense (13,089) (12,914) (23,486) FTE adjustment 1,125 1,247 1,154 ------------------------------- Net interest income (FTE) $62,005 $53,029 $49,666 ================================================================= Net interest margin (FTE) 5.23% 5.61% 5.58% =================================================================
Interest income (FTE) increased $9.2 million (13.9%) from $65.9 million in 2002 to $75.1 million in 2003, due to increased volume of earning assets that was partially offset by lower yields on earning assets. During 2003, the average balance of loans and investment securities grew $167.0 million (25.3%) and $97.2 million (39.2%), respectively, while the average balance of federal funds sold declined $25.1 million (68.5%). Yields on loans and investment securities fell to 7.37% and 4.05%, respectively, in 2003 from 7.94% and 5.19%, respectively, in 2002. Overall, the yield on the Company's earning assets decreased from 6.98% in 2002 to 6.34% in 2003. The decrease in average yield on interest-earning assets reduced interest income (FTE) by $8.7 million, while a net increase of $239.1 million (25.3%) in average balances of interest earning assets added $17.9 million to interest income (FTE) during 2003.
Interest expense increased $0.2 million (1.4%) in 2003 due to a $195.4 million (26.2%) increase in average balance of interest-bearing liabilities that was offset by a 34 basis point decrease in the average rate paid on interest-bearing liabilities from 1.73% to 1.39%. Average balances of interest bearing demand, savings, and time deposits were up $31.8 million (18.1%), $120.0 million (45.4%), and $17.7 million (6.3%), respectively. The decrease in average yield on interest-bearing liabilities reduced interest expense by $2.3 million, while the increase in average balances of interest bearing liabilities added $2.5 million to interest expense during 2003.
Interest income (FTE) decreased $7.2 million (9.9%) from 2001 to 2002, the net effect of lower earning-asset yields partially offset by higher average balances of those assets. The total yield on earning assets dropped from 8.21% in 2001 to 6.98% in 2002, following the trend in overall interest markets in which federal funds rates were reduced to historical lows ending 2002 at 1.25%. The average yield on loans decreased 113 basis points to 7.94% during 2002. The decrease in average yield on interest-earning assets reduced interest income (FTE) by $11.1 million, while a $54.8 million (6.2%) increase in average balances of interest-earning assets added $3.9 million to interest income (FTE) during 2002.
Interest expense decreased $10.6 million (45.0%) in 2002 from $23.5 million in 2001, principally due to lower rates paid. The average rate paid on interest-bearing liabilities was 1.73% in 2002, 155 basis points or 47% lower than in 2001. The most pronounced declines included rates paid on savings deposits (down from 2.11% to 1.02%) and time deposits (down from 5.07% to 2.99%). Rates paid on interest-bearing demand deposits decreased 68 basis points to 0.27%. The decrease in the average rate paid on interest-bearing liabilities decreased interest expense by $10.1 million, and changes in the mix of average balances of interest-bearing liabilities decreased interest expense by $509,000 in 2002 despite an overall increase of $30.8 million (4.3%) in the average balance of interest-bearing liabilities.
Net Interest Margin
Following is a summary of the Company's net interest margin for the past three years:
Components of Net Interest Margin -------------------------------------------------------------------------- Year ended December 31, 2003 2002 2001 ----------------------------- Yield on earning assets 6.34% 6.98% 8.21% Rate paid on interest-bearing liabilities 1.39% 1.73% 3.28% ----------------------------- Net interest spread 4.95% 5.24% 4.93% Impact of all other net noninterest-bearing funds 0.28% 0.35% 0.65% ----------------------------- Net interest margin (FTE) 5.23% 5.61% 5.58% ==========================================================================
During 2002, the Company was able to maintain a relatively stable net interest margin by aggressively reducing rates paid on interest-bearing liabilities as yields on earning assets decreased along with market interest rates. During 2003, it became increasingly difficult to decrease rates on interest-bearing liabilities as market interest rates continued to decrease. In addition, the positive impact of all other net noninterest bearing funds on net interest margin was reduced due to the lower market rates of interest at which they could be invested.
Summary of Average Balances, Yields/Rates and Interest Differential
The following tables present, for the past three years, information regarding the Company's consolidated average assets, liabilities and shareholders' equity, the amounts of interest income from average earning assets and resulting yields, and the amount of interest expense paid on interest bearing liabilities. Average loan balances include nonperforming loans. Interest income includes proceeds from loans on nonaccrual loans only to the extent cash payments have been received and applied to interest income. Yields on securities and certain loans have been adjusted upward to reflect the effect of income thereon exempt from federal income taxation at the current statutory tax rate (dollars in thousands):
(1) Net interest spread represents the average yield earned on interest earning assets less the average rate paid on interest bearing liabilities. (2) Net interest margin is computed by dividing net interest income by total average earning assets.
(1) Net interest spread represents the average yield earned on interest-earning assets less the average rate paid on interest-bearing liabilities. (2) Net interest margin is computed by dividing net interest income by total average earning assets.
(1) Net interest spread represents the average yield earned on interest-earning assets less the average rate paid on interest-bearing liabilities. (2) Net interest margin is computed by dividing net interest income by total average earning assets.
Summary of Changes in Interest Income and Expense due to Changes in Average Asset and Liability Balances and Yields Earned and Rates Paid
The following table sets forth a summary of the changes in the Company's interest income and interest expense from changes in average asset and liability balances (volume) and changes in average interest rates for the past three years. The rate/volume variance has been included in the rate variance. Amounts are calculated on a fully taxable equivalent basis (dollars in thousands):
Provision for Loan Losses
In 2003, the Bank provided $1.25 million for loan losses compared to $2.8 million in 2002. Net loan charge-offs increased $1.3 million (87%) to $2.8 million during 2003. Included in the $2.8 million of net loan charge-offs during 2003 is a net charge-off of $1.6 million related to two commercial real estate loans to a single entity that was collateralized by a single building. The Company had previously established a specific allowance for the two commercial real estate loans noted above in its allowance for loan losses. Collection of the loan was realized on July 31, 2003 through receipt of net proceeds of $11.5 million from the sale of the building. The collection resulted in a recovery of $0.3 million of the $1.9 million charged-off on these loans during the quarter ended June 30, 2003. Net charge-offs of consumer installment loans increased $191,000 (93%). Net charge-offs of commercial, financial and agricultural loans increased $465,000 (99%) in 2003, while net charge-offs of real estate mortgage loans increased $655,000 (81%). The 2003 charge-offs represented 0.34% of average loans outstanding versus 0.22% in 2002. Nonperforming loans net of government agency guarantees as a percentage of total loans were 0.45% and 1.19% at December 31, 2003 and 2002, respectively. The ratio of allowance for loan losses to nonperforming loans was 313% at the end of 2003 versus 176% at the end of 2002.
In 2002, the Bank provided $2.8 million for loan losses compared to $4.4 million in 2001. Net loan charge-offs decreased $1.5 million (51%) to $1.5 million during 2002. Net charge-offs of commercial, financial and agricultural loans decreased $2.3 million (83%) in 2002, while net charge-offs of real estate mortgage and consumer installment loans increased $662,000 (463%) and $105,000 (205%), respectively. The 2002 net charge-offs represented 0.22% of average loans outstanding versus 0.47% in 2001. Nonperforming loans net of government agency guarantees were 1.19% of total loans at December 31, 2002 versus 0.92% at December 31, 2001. The ratio of allowance for loan losses to nonperforming loans was 176% at the end of 2002 versus 216% at the end of 2001.
Noninterest Income
The following table summarizes the Company's noninterest income for the past three years (dollars in thousands):
Components of Noninterest Income --------------------------------------------------------------------------- Year ended December 31, 2003 2002 2001 -------------------------------- Service charges on deposit accounts $12,495 $8,915 $5,875 ATM fees and interchange 2,220 1,823 1,423 Other service fees 1,782 1,261 1,133 Amortization of mortgage servicing rights, net of mortgage servicing fees (1,356) (713) (336) Provision for mortgage servicing rights valuation allowance (600) - - Gain on sale of loans 4,168 3,641 2,095 Commissions on sale of nondeposit investment products 1,766 2,467 2,576 Gain on sale of investments 197 - 1,792 Increase in cash value of life insurance 1,296 606 476 Other noninterest income 941 1,180 1,204 -------------------------------- Total noninterest income $22,909 $19,180 $16,238 ===========================================================================
Noninterest income increased $3.7 million (19.4%) to $22.9 million in 2003. Service charges on deposit accounts was up $3.6 million (40.2%) due to 2003 being the first full year of the Company's overdraft privilege product that was introduced in July 2002. ATM fees and interchange, and other service fees were up $0.4 million (21.8%) and $0.5 million (41.3%) due to expansion of the Company's ATM network and customer base through de-novo branch expansion and the acquisition of North State National Bank. Overall, mortgage banking activities, which includes amortization of mortgage servicing rights net of mortgage servicing fees, provision for mortgage servicing valuation allowance, and gain on sale of loans, accounted for $2.2 million of noninterest income in the 2003 compared to $2.9 million in 2002. The increase in the amortization of mortgage servicing rights and the provision for mortgage servicing valuation allowance taken in 2003 are the result of the recent peak in mortgage refinance activity. While the Company benefits from increased gain on sale of loans during periods of high levels of mortgage refinance activity, it may also experience increased amortization and provisions for mortgage servicing valuations of mortgage servicing rights. Commissions on sale of nondeposit investment products decreased $0.7 million (28.4%) in 2003 due to lower demand for annuity products. Income from increase in cash value of life insurance increased $0.7 million (114%) due to an increase in life insurance owned by the Company from $15.2 million at December 31, 2002 to $39.0 million at December 31, 2003.
Noninterest income increased $2.9 million (18.1%) to $19.2 million in 2002. The increase was mainly due to a $3.0 million (52%) increase in service charges on deposit accounts to $8.9 million, and a $1.5 million (74%) increase in gain on sale of loans to $3.6 million during 2002. Except for a $1.8 million gain from sale of investments and insurance company stock in 2001, noninterest income would have increased $4.7 million (29.2%). The increase in service charges on deposit accounts was almost entirely due to the introduction of the Company's overdraft privilege product in July 2002. The increase in gain on sale of loans is due to continued and increased residential mortgage refinance activity during 2002.
Securities Transactions
During 2003 the Bank realized net gains of $0.2 million on the sale of securities with market values of $22.3 million. In addition, during 2003, the Bank received proceeds from maturities of securities totaling $205 million, purchased $169.2 million of securities, and acquired $39.7 million of securities through the acquisition of North State national Bank.
During 2002 the Bank had no sales of securities. Also during 2002, the Bank received proceeds from maturities of securities totaling $131.6 million, and used $241.8 million to purchase securities.
Noninterest Expense
The following table summarizes the Company's other noninterest expense for the past three years:
Components of Noninterest Expense (dollars in thousands) --------------------------------------------------------------------------- Year ended December 31, 2003 2002 2001 ------------------------------------- Salaries and benefits $29,714 $24,290 $21,199 Equipment and data processing 4,947 4,095 3,694 Occupancy 3,493 2,954 2,806 Professional fees 2,315 1,696 1,087 Telecommunications 1,539 1,422 1,253 Advertising 1,062 1,263 1,132 Intangible amortization 1,207 911 911 ATM network charges 1,043 847 913 Postage 855 801 639 Courier service 795 720 661 Operational losses 657 534 227 Assessments 268 233 223 Net other real estate owned expense 124 26 175 Other 7,508 6,179 5,687 ------------------------------------- Total noninterest expense $55,527 $45,971 $40,607 ============================================================================ Average full time equivalent staff 505 435 403 Noninterest expense to revenue (FTE) 65.39% 63.66% 61.62%
Salary and benefit expenses increased $5.4 million (22.3%) in 2003 compared to 2002. Base salaries and benefits increased $3.3 million (20.9%) to $19.1 million in 2003. The increase in base salaries was mainly due to a 16.1% increase in average full time equivalent employees from 435 in 2002 to 505 in 2003, and annual salary increases. Incentive and commission related salary expenses increased $1.0 million (28.6%) to $4.5 million in 2003. The increase in incentive and commission expenses was directly tied to significant loan, deposit, and revenue growth during 2003. Benefits expense, including retirement, medical and workers' compensation insurance, and taxes, increased $1.1 million (21.6%) to $6.2 million during 2003.
Salary and benefit expenses increased $3.1 million (14.6%) to $24.3 million in 2002 compared to 2001. Base salaries increased $1.4 million (9.5%) to $15.7 million in 2002. The increase in base salaries was mainly due to an 8.2% increase in average full time equivalent employees from 403 during 2001 to 435 during 2002, primarily due to the opening of four branches in 2002. Incentive and commission related salary expenses increased $866,000 (33.5%) to $3.5 million in 2002. The increase in incentive and commission related salary expense was mainly due to increased commissions paid on origination of residential mortgage loans, and other functions that exhibited exceptional performance during 2002. These results are consistent with the Bank's strategy of working more efficiently with fewer employees who are compensated in part based on their business unit's performance or on their ability to generate revenue. Benefits expense, including retirement, medical and workers' compensation insurance, and taxes, increased $855,000 (20.2%) to $5.1 million during 2002.
Other noninterest expense increased $4.1 million (18.9%) to $25.8 million in 2003. Increases in the areas of equipment and data processing, occupancy, telecommunications, and ATM network charges were mainly due to the first full year of operation of the Oroville, Brentwood, and Natomas branches, the opening in 2003 of branches in Chico, Roseville and Folsom, the continued operation of one branch added through the acquisition of North State National Bank in April 2003, and enhancements to data processing and ATM network equipment. One-time merger expenses related to the North State acquisition were insignificant. All expense reductions realized through the acquisition of North State were effected immediately upon acquisition in April 2003. Increases in professional fees and operational losses were related to the first full year operation of the Company's overdraft privilege product introduced in July 2002, and were more than offset by the large revenue that product is producing. The increase in intangible amortization was due to the North State acquisition.
Other expenses increased $2.3 million (11.7%) to $21.7 million in 2002. Increases in the areas of equipment and data processing, occupancy, telecommunications, courier service, and other were mainly due to the opening of four branches in 2002. Increases in professional fees and operational losses were related to the overdraft privilege product introduced in July 2002, and were more than offset by the large revenue that product is producing.
Provision for Taxes
The effective tax rate on income was 37.5%, 36.6%, and 37.1% in 2003, 2002, and 2001, respectively. The effective tax rate was greater than the federal statutory tax rate due to state tax expense of $2.7 million, $2.0 million, and $1.9 million, respectively, in these years. Tax-exempt income of $2.0 million, $2.2 million, and $2.2 million, respectively, from investment securities in these years helped to reduce the effective tax rate.
Financial Ratios
The following table shows the Company's key financial ratios for the past three years:
Year ended December 31, 2003 2002 2001 -------------------------------- Return on average total assets 1.27% 1.35% 1.27% Return on average shareholders' equity 14.24% 15.03% 14.19% Shareholders' equity to total assets 8.71% 8.65% 8.65% Common shareholders' dividend payout ratio 36.36% 39.95% 45.43% ==============================================================================
Loans
The Bank concentrates its lending activities in four principal areas: commercial loans (including agricultural loans), consumer loans, real estate mortgage loans (residential and commercial loans and mortgage loans originated for sale), and real estate construction loans. At December 31, 2003, these four categories accounted for approximately 14%, 33%, 47%, and 6% of the Bank's loan portfolio, respectively, as compared to 18%, 29%, 47%, and 6%, at December 31, 2002. The shift in the percentages was primarily due to the Bank's ability to increase its consumer loan portfolio during 2003. The shift in percentages is reflected in the Company's assessment of the adequacy of the allowance for loan losses. The increase in consumer loans during 2003 was mainly due to increases in home equity lines of credit and automobile loans. The interest rates charged for the loans made by the Bank vary with the degree of risk, the size and maturity of the loans, the borrower's relationship with the Bank and prevailing money market rates indicative of the Bank's cost of funds.
The majority of the Bank's loans are direct loans made to individuals, farmers and local businesses. The Bank relies substantially on local promotional activity, personal contacts by bank officers, directors and employees to compete with other financial institutions. The Bank makes loans to borrowers whose applications include a sound purpose, a viable repayment source and a plan of repayment established at inception and generally backed by a secondary source of repayment.
At December 31, 2003 loans totaled $981 million and was a 43% ($294 million) increase over the balances at the end of 2002. Contributing to the increase in loans was $76 million of loans obtained through the acquisition of North State National Bank on April 4, 2003. Demand for commercial and agriculture related loans, commercial real estate mortgage loans, and real estate construction loans improved in the Company's market areas in 2003. Demand for home equity and auto loans remained strong throughout 2003. The average loan-to-deposit ratio in 2003 was 72.2% compared to 71.1% in 2002.
At December 31, 2002 loans totaled $687.5 million and was a 4.4% ($28.8 million) increase over the balances at the end of 2001. Demand for home equity loans and auto loans (both classified as consumer loans) were strong throughout 2002. Residential mortgage loan activity was extremely strong in 2002, but the Company generally sells all such loans. Commercial and agriculture related loan growth continued to be relatively weak in 2002 as the economy continued to be weak, and competition for such loans was high. The average loan-to-deposit ratio in 2002 was 71.1% compared to 76.8% in 2001.
Loan Portfolio Composite
The following table shows the Company's loan balances for the past five years:
Classified Assets
The Company closely monitors the markets in which it conducts its lending operations and continues its strategy to control exposure to loans with high credit risk. Asset reviews are performed using grading standards and criteria similar to those employed by bank regulatory agencies. Assets receiving lesser grades fall under the "classified assets" category, which includes all nonperforming assets and potential problem loans, and receive an elevated level of attention to ensure collection.
The following is a summary of classified assets on the dates indicated (dollars in thousands):
At December 31, 2003 At December 31, 2002 ------------------------- ------------------------ Gross Guaranteed Net Gross Guaranteed Net ----------------------------------------------------- Classified loans $29,992 $18,783 $11,209 $52,264 $12,202 $40,062 Other classified assets 932 - 932 932 - 932 ----------------------------------------------------- Total classified assets $30,924 $18,783 $12,141 $53,196 $12,202 $40,994 ===================================================== Allowance for loan losses/ Classified loans 113.4% 35.1%
Classified assets, net of guarantees of the U.S. Government, including its agencies and its government-sponsored agencies at December 31, 2003, decreased $28.9 million (70%) to $12.1 million from $41.0 million at December 31, 2002.
Nonperforming Assets
Loans on which the accrual of interest has been discontinued are designated as nonaccrual loans. Accrual of interest on loans is generally discontinued either when reasonable doubt exists as to the full, timely collection of interest or principal or when a loan becomes contractually past due by 90 days or more with respect to interest or principal. When loans are 90 days past due, but in Management's judgment are well secured and in the process of collection, they may not be classified as nonaccrual. When a loan is placed on nonaccrual status, all interest previously accrued but not collected is reversed. Income on such loans is then recognized only to the extent that cash is received and where the future collection of principal is probable. Interest accruals are resumed on such loans only when they are brought fully current with respect to interest and principal and when, in the judgment of Management, the loans are estimated to be fully collectible as to both principal and interest. The reclassification of loans as nonaccrual does not necessarily reflect management's judgment as to whether they are collectible.
Interest income on nonaccrual loans, which would have been recognized during the year, ended December 31, 2003, if all such loans had been current in accordance with their original terms, totaled $1.1 million. Interest income actually recognized on these loans in 2003 was $372,000.
The Bank's policy is to place loans 90 days or more past due on nonaccrual status. In some instances when a loan is 90 days past due management does not place it on nonaccrual status because the loan is well secured and in the process of collection. A loan is considered to be in the process of collection if, based on a probable specific event, it is expected that the loan will be repaid or brought current. Generally, this collection period would not exceed 30 days. Loans where the collateral has been repossessed are classified as other real estate owned ("OREO") or, if the collateral is personal property, the loan is classified as other assets on the Company's financial statements.
Management considers both the adequacy of the collateral and the other resources of the borrower in determining the steps to be taken to collect nonaccrual loans. Alternatives that are considered are foreclosure, collecting on guarantees, restructuring the loan or collection lawsuits.
The following tables set forth the amount of the Bank's nonperforming assets net of guarantees of the U.S. government, including its agencies and its government-sponsored agencies, as of the dates indicated:
December 31, 1999 ------------------------- (dollars in thousands): Gross Guaranteed Net ------------------------- Performing nonaccrual loans $666 $62 $604 Nonperforming, nonaccrual loans 1,662 508 1,154 ------------------------- Total nonaccrual loans 2,328 570 1,758 Loans 90 days past due and still accruing 923 - 923 ------------------------- Total nonperforming loans 3,251 570 2,681 Other real estate owned 760 - 760 ------------------------- Total nonperforming loans and OREO $4,011 $570 $3,441 =========================
Nonperforming loans to total loans 0.46% Allowance for loan losses/nonperforming loans 412% Nonperforming assets to total assets 0.37%
During 2003, nonperforming assets net of government guarantees decreased $3.8 million (42%) to $5.3 million. Nonperforming loans decreased $3.8 million (46%) to $4.4 million. The ratio of nonperforming loans to total loans at December 31, 2003 was 0.45% versus 1.19% at the end of 2002. Classifications of nonperforming loans as a percent of the total at the end of 2003 were as follows: secured by real estate, 66%; loans to farmers, 19%; commercial loans, 10%; and consumer loans, 5%.
During 2002, nonperforming assets net of government guarantees increased $3 million (49%) to a total of $9.1 million. Nonperforming loans net of government guarantees increased $2.1 million (35%) to $8.2 million, and other real estate owned (OREO) increased $861,000 to $932,000 during 2002. The ratio of nonperforming loans to total loans at December 31, 2002 was 1.19% versus 0.92% at the end of 2001. Classifications of nonperforming loans as a percent of total loans at the end of 2002 were as follows: secured by real estate, 62%; loans to farmers, 27%; commercial loans, 10%; and consumer loans, 1%.
Allowance for Loan Losses
Credit risk is inherent in the business of lending. As a result, the Company maintains an allowance for loan losses to absorb losses inherent in the Company's loan and lease portfolio. This is maintained through periodic charges to earnings. These charges are shown in the consolidated income statements as provision for loan losses. All specifically identifiable and quantifiable losses are immediately charged off against the allowance. However, for a variety of reasons, not all losses are immediately known to the Company and, of those that are known, the full extent of the loss may not be quantifiable at that point in time. The balance of the Company's allowance for loan losses is meant to be an estimate of these unknown but probable losses inherent in the portfolio.
For the remainder of this discussion, "loans" shall include all loans and lease contracts, which are a part of the Bank's portfolio.
Assessment of the Adequacy of the Allowance for Loan Losses
The Company formally assesses the adequacy of the allowance on a quarterly basis. Determination of the adequacy is based on ongoing assessments of the probable risk in the outstanding loan and lease portfolio, and to a lesser extent the Company's loan and lease commitments. These assessments include the periodic re-grading of credits based on changes in their individual credit characteristics including delinquency, seasoning, recent financial performance of the borrower, economic factors, changes in the interest rate environment, growth of the portfolio as a whole or by segment, and other factors as warranted. Loans are initially graded when originated. They are re-graded as they are renewed, when there is a new loan to the same borrower, when identified facts demonstrate heightened risk of nonpayment, or if they become delinquent. Re-grading of larger problem loans occurs at least quarterly. Confirmation of the quality of the grading process is obtained by independent credit reviews conducted by consultants specifically hired for this purpose and by various bank regulatory agencies.
The Company's method for assessing the appropriateness of the allowance includes specific allowances for identified problem loans and leases, formula allowance factors for pools of credits, and allowances for changing environmental factors (e.g., interest rates, growth, economic conditions, etc.). Allowances for identified problem loans are based on specific analysis of individual credits. Allowance factors for loan pools are based on the previous 5 years historical loss experience by product type. Allowances for changing environmental factors are management's best estimate of the probable impact these changes have had on the loan portfolio as a whole.
The Components of the Allowance for Loan Losses
As noted above, the overall allowance consists of a specific allowance, a formula allowance, and an allowance for environmental factors. The first component, the specific allowance, results from the analysis of identified credits that meet management's criteria for specific evaluation. These loans are reviewed individually to determine if such loans are considered impaired. Impaired loans are those where management has concluded that it is probable that the borrower will be unable to pay all amounts due under the contractual terms. Loans specifically reviewed, including those considered impaired, are evaluated individually by management for loss potential by evaluating sources of repayment, including collateral as applicable, and a specified allowance for loan losses is established where necessary.
The second component, the formula allowance, is an estimate of the probable losses that have occurred across the major loan categories in the Company's loan portfolio. This analysis is based on loan grades by pool and the loss history of these pools. This analysis covers the Company's entire loan portfolio including unused commitments but excludes any loans, which were analyzed individually and assigned a specific allowance as discussed above. The total amount allocated for this component is determined by applying loss estimation factors to outstanding loans and loan commitments. The loss factors are based primarily on the Company's historical loss experience tracked over a five-year period and adjusted as appropriate for the input of current trends and events. Because historical loss experience varies for the different categories of loans, the loss factors applied to each category also differ. In addition, there is a greater chance that the Company has suffered a loss from a loan that was graded less than satisfactory than if the loan was last graded satisfactory. Therefore, for any given category, a larger loss estimation factor is applied to less than satisfactory loans than to those that the Company last graded as satisfactory. The resulting formula allowance is the sum of the allocations determined in this manner.
The third or "unallocated" component of the allowance for credit losses is a component that is not allocated to specific loans or groups of loans, but rather is intended to absorb losses that may not be provided for by the other components.
There are several primary reasons that the other components discussed above might not be sufficient to absorb the losses present in portfolios, and the unallocated portion of the allowance is used to provide for the losses that have occurred because of them.
The first reason is that there are limitations to any credit risk grading process. The volume of loans makes it impractical to re-grade every loan every quarter. Therefore, it is possible that some currently performing loans not recently graded will not be as strong as their last grading and an insufficient portion of the allowance will have been allocated to them. Grading and loan review often must be done without knowing whether all relevant facts are at hand. Troubled borrowers may deliberately or inadvertently omit important information from reports or conversations with lending officers regarding their financial condition and the diminished strength of repayment sources.
The second reason is that the loss estimation factors are based primarily on historical loss totals. As such, the factors may not give sufficient weight to such considerations as the current general economic and business conditions that affect the Company's borrowers and specific industry conditions that affect borrowers in that industry. The factors might also not give sufficient weight to other environmental factors such as changing economic conditions and interest rates, portfolio growth, entrance into new markets or products, and other characteristics as may be determined by Management.
Specifically, in assessing how much unallocated allowance needed to be provided at December 31, 2003, management considered the following:
- with respect to loans to the agriculture industry, management considered the effects on borrowers of weather conditions and overseas market conditions for exported products as well as commodity prices in general;
- with respect to changes in the interest rate environment management considered the recent changes in interest rates and the resultant economic impact it may have had on borrowers with high leverage and/or low profitability; and
- with respect to loans to borrowers in new markets and growth in general, management considered the relatively short seasoning of such loans and the lack of experience with such borrowers.
Each of these considerations was assigned a factor and applied to a portion or all of the loan portfolio. Since these factors are not derived from experience and are applied to large non-homogeneous groups of loans, they are considered unallocated and are available for use across the portfolio as a whole.
The following table sets forth the Bank's loan loss reserve as of the dates indicated:
The allowance for loan losses to total loans at December 31, 2003 was 1.40% versus 2.09% at the end of 2002. At December 31, 2001, the allowance for loan losses to total loans was 1.98%.
Based on the current conditions of the loan portfolio, management believes that the $13.8 million allowance for loan losses at December 31, 2003 is adequate to absorb probable losses inherent in the Bank's loan portfolio. No assurance can be given, however, that adverse economic conditions or other circumstances will not result in increased losses in the portfolio.
The following table summarizes, for the years indicated, the activity in the allowance for loan losses:
Other Real Estate Owned
The other real estate owned (OREO) balance was $932,000 at December 31, 2003 and 2002. The Bank disposed of properties with a value of $613,000 in 2003. OREO properties consist of a mixture of land, single family residences, and commercial buildings.
Intangible Assets
At December 31, 2003 and 2002, the Bank had intangible assets totaling $21.6 million and $4.0 million, respectively. The intangible assets resulted from the Bank's 1997 acquisitions of certain Wells Fargo branches and Sutter Buttes Savings Bank, the April 2003 acquisition of North State National Bank, and an additional minimum pension liability related to the Company's supplemental retirement plans. Intangible assets at December 31, 2003 and 2002 were comprised of the following: December 31, 2003 2002 -------------------------- (dollars in thousands) Core-deposit intangible $5,800 $3,642 Additional minimum pension liability 285 401 Goodwill 15,519 - -------------------------- Total intangible assets $21,604 $4,043 ==========================
Amortization of core deposit intangible assets amounting to $1,207,000, $911,000, and $911,000 was recorded in 2003, 2002, and 2001, respectively. The minimum pension liability intangible asset is not amortized but adjusted annually based upon actuarial estimates.
Deposits
Deposits at December 31, 2003 were up $232 million (23%) to $1.237 billion over 2002 year-end balances. All categories of deposits except certificates of deposit increased in 2002. On April 4, 2003, the Company acquired North State National Bank which at the time had deposits totaling $126 million. Included in the December 31, 2003 certificate of deposit balance is $20 million from the State of California.
Deposits at December 31, 2002 were up $124.8 million (14.2%) over the 2001 year-end balances to $1.0 billion. All categories of deposits increased in 2002. Included in the December 31, 2002 certificate of deposit balances is $20 million from the State of California. The Bank participates in a deposit program offered by the State of California whereby the State may make deposits at the Banks request subject to collateral and credit worthiness constraints. The negotiated rates on these State deposits are generally favorable to other wholesale funding sources available to the Bank.
Long-Term Debt
In 2003, the Bank made principal payments of $37,000 on long-term debt obligations. During 2002, the Bank repaid $32,000 of long-term debt. See Note 7 to the consolidated financial statements at Item 8 of this report.
Junior Subordinated Debt
See Note 8 in the financial statements at Item 8 of this report for a discussion about the Company's issuance of junior subordinated debt during 2003.
Equity
See Note 10 and Note 21 in the financial statements at Item 8 of this report for a discussion of shareholders' equity and regulatory capital, respectively. Management believes that the Company's capital is adequate to support anticipated growth, meet the cash dividend requirements of the Company and meet the future risk-based capital requirements of the Bank and the Company.
Market Risk Management
Overview. The goal for managing the assets and liabilities of the Bank is to maximize shareholder value and earnings while maintaining a high quality balance sheet without exposing the Bank to undue interest rate risk. The Board of Directors has overall responsibility for the Company's interest rate risk management policies. The Bank has an Asset and Liability Management Committee (ALCO) which establishes and monitors guidelines to control the sensitivity of earnings to changes in interest rates.
Asset/Liability Management. Activities involved in asset/liability management include but are not limited to lending, accepting and placing deposits, investing in securities and issuing debt. Interest rate risk is the primary market risk associated with asset/liability management. Sensitivity of earnings to interest rate changes arises when yields on assets change in a different time period or in a different amount from that of interest costs on liabilities. To mitigate interest rate risk, the structure of the balance sheet is managed with the goal that movements of interest rates on assets and liabilities are correlated and contribute to earnings even in periods of volatile interest rates. The asset/liability management policy sets limits on the acceptable amount of variance in net interest margin, net income and market value of equity under changing interest environments. Market value of equity is the net present value of estimated cash flows from the Bank's assets, liabilities and off-balance sheet items. The Bank uses simulation models to forecast net interest margin, net income and market value of equity.
Simulation of net interest margin, net income and market value of equity under various interest rate scenarios is the primary tool used to measure interest rate risk. Using computer-modeling techniques, the Bank is able to estimate the potential impact of changing interest rates on net interest margin, net income and market value of equity. A balance sheet forecast is prepared using inputs of actual loan, securities and interest-bearing liability (i.e. deposits/borrowings) positions as the beginning base.
In the simulation of net interest margin and net income under various interest rate scenarios, the forecast balance sheet is processed against seven interest rate scenarios. These seven interest rate scenarios include a flat rate scenario, which assumes interest rates are unchanged in the future, and six additional rate ramp scenarios ranging from +300 to -300 basis points around the flat scenario in 100 basis point increments. These ramp scenarios assume that interest rates increase or decrease evenly (in a "ramp" fashion) over a twelve-month period and remain at the new levels beyond twelve months.
The following table summarizes the effect on net interest income and net income due to changing interest rates as measured against a flat rate (no interest rate change) scenario. The simulation results shown below assume no changes in the structure of the Company's balance sheet over the twelve months being measured (a "flat" balance sheet scenario), and that deposit rates will track general interest rate changes by approximately 50%:
Interest Rate Risk Simulation of Net Interest Income and Net Income as of December 31, 2003
Estimated Change in Estimated Change in Change in Interest Net Interest Income (NII) Net Income (NI) Rates (Basis Points) (as % of "flat" NII) (as % of "flat" NI) +300 (ramp) (0.73%) (1.48%) +200 (ramp) (0.77%) (1.59%) +100 (ramp) (0.78%) (1.60%) + 0 (flat) -- -- -100 (ramp) 0.87% 1.80% -200 (ramp) 1.26% 2.60% -300 (ramp) 0.60% 1.22%
In the simulation of market value of equity under various interest rate scenarios, the forecast balance sheet is processed against seven interest rate scenarios. These seven interest rate scenarios include the flat rate scenario described above, and six additional rate shock scenarios ranging from +300 to - -300 basis points around the flat scenario in 100 basis point increments. These rate shock scenarios assume that interest rates increase or decrease immediately (in a "shock" fashion) and remain at the new level in the future.
The following table summarizes the effect on market value of equity due to changing interest rates as measured against a flat rate (no change) scenario:
Interest Rate Risk Simulation of Market Value of Equity as of December 31, 2003
Estimated Change in Change in Interest Market Value of Equity (MVE) Rates (Basis Points) (as % of "flat" MVE) +300 (shock) (4.83%) +200 (shock) (3.17%) +100 (shock) (1.52%) + 0 (flat) -- -100 (shock) (0.76%) -200 (shock) 2.10% -300 (shock) 5.27%
These results indicate that given a "flat" balance sheet scenario, and if deposit rates track general interest rate changes by approximately 50%, the Company's balance sheet is slightly asset sensitive for interest rate changes greater than +/- 100 basis points, and is slightly liability sensitive for interest rate changes less than +/- 100 basis points. The primary reason for this result is the effect of interest rate floors that exist on many of the Company's variable rate loans. In a declining interest rate environment, when the interest rate of a variable rate loan reaches its interest rate floor, the loan interest rate will not decrease further if market interest rates continue to decline. Conversely, the interest rate of a variable rate loan that is at its floor will not increase when market interest rates increase until market interest rates have increased sufficiently to move the loan interest rate above its floor rate. "Asset sensitive" implies that earnings increase when interest rates rise, and decrease when interest rates decrease. "Liability sensitive" implies that earnings decrease when interest rates rise, and increase when interest rates decrease. The magnitude of all the simulation results noted above is within the Bank's policy guidelines. The asset liability management policy limits aggregate market risk, as measured in this fashion, to an acceptable level within the context of risk-return trade-offs.
The simulation results noted above do not incorporate any management actions, which might moderate the negative consequences of interest rate deviations. In addition, the simulation results noted above contain various assumptions such as a flat balance sheet, and the rate that deposit interest rates change as general interest rates change. Therefore, they do not reflect likely actual results, but serve as conservative estimates of interest rate risk.
As with any method of measuring interest rate risk, certain shortcomings are inherent in the method of analysis presented in the preceding tables. For example, although certain of the Bank's assets and liabilities may have similar maturities or repricing time frames, they may react in different degrees to changes in market interest rates. In addition, the interest rates on certain of the Bank's asset and liability categories may precede, or lag behind, changes in market interest rates. Also, the actual rates of prepayments on loans and investments could vary significantly from the assumptions utilized in deriving the results as presented in the preceding table. Further, a change in U.S. Treasury rates accompanied by a change in the shape of the treasury yield curve could result in different estimations from those presented herein. Accordingly, the results in the preceding tables should not be relied upon as indicative of actual results in the event of changing market interest rates. Additionally, the resulting estimates of changes in market value of equity are not intended to represent, and should not be construed to represent, estimates of changes in the underlying value of the Bank.
Interest rate sensitivity is a function of the repricing characteristics of the Bank's portfolio of assets and liabilities. One aspect of these repricing characteristics is the time frame within which the interest-bearing assets and liabilities are subject to change in interest rates either at replacement, repricing or maturity. An analysis of the repricing time frames of interest-bearing assets and liabilities is sometimes called a "gap" analysis because it shows the gap between assets and liabilities repricing or maturing in each of a number of periods. Another aspect of these repricing characteristics is the relative magnitude of the repricing for each category of interest earning asset and interest-bearing liability given various changes in market interest rates. Gap analysis gives no indication of the relative magnitude of repricing given various changes in interest rates. Interest rate sensitivity management focuses on the maturity of assets and liabilities and their repricing during periods of changes in market interest rates. Interest rate sensitivity gaps are measured as the difference between the volumes of assets and liabilities in the Bank's current portfolio that are subject to repricing at various time horizons.
The following interest rate sensitivity table shows the Bank's repricing gaps as of December 31, 2003. In this table transaction deposits, which may be repriced at will by the Bank, have been included in the less than 3-month category. The inclusion of all of the transaction deposits in the less than 3-month repricing category causes the Bank to appear liability sensitive. Because the Bank may reprice its transaction deposits at will, transaction deposits may or may not reprice immediately with changes in interest rates. In recent years of moderate interest rate changes the Bank's earnings have reacted as though the gap position is slightly asset sensitive mainly because the magnitude of interest-bearing liability repricing has been less than the magnitude of interest-earning asset repricing. This difference in the magnitude of asset and liability repricing is mainly due to the Bank's strong core deposit base, which although they may be repriced within three months, historically, the timing of their repricing has been longer than three months and the magnitude of their repricing has been minimal.
Due to the limitations of gap analysis, as described above, the Bank does not actively use gap analysis in managing interest rate risk. Instead, the Bank relies on the more sophisticated interest rate risk simulation model described above as its primary tool in measuring and managing interest rate risk.
Liquidity
Liquidity refers to the Bank's ability to provide funds at an acceptable cost to meet loan demand and deposit withdrawals, as well as contingency plans to meet unanticipated funding needs or loss of funding sources. These objectives can be met from either the asset or liability side of the balance sheet. Asset liquidity sources consist of the repayments and maturities of loans, selling of loans, short-term money market investments, maturities of securities and sales of securities from the available-for-sale portfolio. These activities are generally summarized as investing activities in the Consolidated Statement of Cash Flows. Net cash used by investing activities totaled approximately $179.5 million in 2003. Increased loan balances were responsible for the major use of funds in this category.
Liquidity is generated from liabilities through deposit growth and short-term borrowings. These activities are included under financing activities in the Consolidated Statement of Cash Flows. In 2003, financing activities provided funds totaling $159.3 million. Internal deposit growth provided funds amounting to $105.5 million. The Bank also had available correspondent banking lines of credit totaling $40 million at year-end. In addition, at December 31, 2003, the Company had loans and securities available to pledge towards future borrowings from the Federal Home Loan Bank of up to $165 million. As of December 31, 2003, the Company had $22.9 million of long-term debt and other borrowings as described in Note 7 of the consolidated financial statements of the Company and the related notes at Item 8 of this report. While these sources are expected to continue to provide significant amounts of funds in the future, their mix, as well as the possible use of other sources, will depend on future economic and market conditions. Liquidity is also provided or used through the results of operating activities. In 2003, operating activities provided cash of $25.8 million.
The Bank classifies its entire investment portfolio as available for sale (AFS). The AFS securities plus cash and cash equivalents in excess of reserve requirements totaled $396.9 million at December 31, 2003, which was 27.0% of total assets at that time. This was down from $412.8 million and 36.1% at the end of 2002.
The maturity distribution of certificates of deposit in denominations of $100,000 or more is set forth in the following table. These deposits are generally more rate sensitive than other deposits and, therefore, are more likely to be withdrawn to obtain higher yields elsewhere if available. The Bank participates in a program wherein the State of California places time deposits with the Bank at the Bank's option. At December 31, 2003 and 2002, the Bank had $20 million of these State deposits.
Certificates of Deposit in Denominations of $100,000 or More
Amounts as of December 31, ---------------------------------- (dollars in thousands) 2003 2002 2001 ---------------------------------- Time remaining until maturity: Less than 3 months $39,264 $32,932 $38,114 3 months to 6 months 11,018 16,311 10,431 6 months to 12 months 9,413 12,455 15,383 More than 12 months 94,805 28,706 6,374 ---------------------------------- Total $94,500 $90,404 $70,302 ==================================
Loan demand also affects the Bank's liquidity position. The following table presents the maturities of loans at December 31, 2003:
The maturity distribution and yields of the investment portfolio is presented in the following table. The timing of the maturities indicated in the table below is based on final contractual maturities. Most mortgage-backed securities return principal throughout their contractual lives. As such, the weighted average life of mortgage-backed securities based on outstanding principal balance is usually significantly shorter than the final contractual maturity indicated below. At December 31, 2003, the Bank had no held-to-maturity securities.
The principal cash requirements of the Company are dividends on common stock when declared. The Company is dependent upon the payment of cash dividends by the Bank to service its commitments. The Company expects that the cash dividends paid by the Bank to the Company will be sufficient to meet this payment schedule. Dividends from the Bank are subject to certain regulatory restrictions.
Off-Balance Sheet Items
The Bank has certain ongoing commitments under operating and capital leases. See Note 9 of the financial statements at Item 8 of this report for the terms. These commitments do not significantly impact operating results. As of December 31, 2003 commitments to extend credit were the Bank's only financial instruments with off-balance sheet risk. The Bank has not entered into any contracts for financial derivative instruments such as futures, swaps, options, etc. Loan commitments increased to $332.9 million from $227.2 million at December 31, 2002. The commitments represent 33.9% of the total loans outstanding at year-end 2003 versus 33.0% at December 31, 2002.
(1) These amounts represent known certain payments to participants under the Company's deferred compensation and supplemental retirement plans. See Note 21 in the financial statements at Item 8 of this report for additional information related to the Company's deferred compensation and supplemental retirement plan liabilities.
ITEM 7A.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
See "Market Risk Management" under Item 7 of this report.
ITEM 8.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTAL DATA
Page
Consolidated Balance Sheets as of December 31, 2003 and 2002 37 Consolidated Statements of Income and Comprehensive Income for the years ended December 31, 2003, 2002, and 2001 38 Consolidated Statements of Changes in Shareholders' Equity for the years ended December 31, 2003, 2002, and 2001 39 Consolidated Statements of Cash Flows for the years ended December 31, 2003, 2002, and 2001 40 Notes to Consolidated Financial Statements 41 Independent Auditors' Report 66 Management's Letter of Financial Responsibility 68
TRICO BANCSHARES CONSOLIDATED BALANCE SHEETS (In thousands)
At December 31, 2003 2002 ------------------------------- Assets: Cash and due from banks $80,603 $67,170 Federal funds sold 326 8,100 ------------------------------- Cash and cash equivalents 80,929 75,270 Investment securities available for sale 316,436 338,024 Loans Commercial 142,252 125,982 Consumer 319,029 201,858 Real estate mortgages 458,369 319,969 Real estate construction 61,591 39,713 ------------------------------- 981,241 687,522 Allowance for loan losses (13,773) (14,377) ------------------------------- Loans, net of allowance for loan losses 967,468 673,145 Premises and equipment, net 19,521 17,224 Cash value of life insurance 38,980 15,208 Other real estate owned 932 932 Accrued interest receivable 6,027 5,644 Intangible assets 21,604 4,043 Other assets 16,858 15,084 ------------------------------- Total Assets $1,468,755 $1,144,574 =============================== Liabilities: Deposits: Noninterest-bearing demand $298,462 $232,499 Interest-bearing demand 220,875 182,816 Savings 441,461 297,926 Time certificates, $100,000 and over 94,500 90,404 Other time certificates 181,525 201,592 ------------------------------- Total deposits 1,236,823 1,005,237 Fed funds purchased 39,500 - Accrued interest payable 2,638 2,927 Other Liabilities 18,328 14,472 Long-term debt and other borrowings 22,887 22,924 Junior subordinated debt 20,619 - ------------------------------- Total Liabilities 1,340,795 1,045,560 ------------------------------- Shareholders' Equity: Common stock, no par value: Authorized 20,000,000 shares; Issued and outstanding: 7,834,124 at December 31, 2003 69,767 7,060,965 at December 31, 2002 50,472 Retained earnings 56,379 46,239 Accumulated other comprehensive income, net 1,814 2,303 ------------------------------- Total Shareholders' Equity 127,960 99,014 ------------------------------- Total Liabilities and Shareholders' Equity $1,468,755 $1,144,574 ===============================
See Notes to Consolidated Financial Statements
See Notes to Consolidated Financial Statements
See Notes to Consolidated Financial Statements
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS Years ended December 31, 2003, 2002 and 2001
Note 1 - General Summary of Significant Accounting Policies
The accounting and reporting policies of TriCo Bancshares (the "Company") conform to generally accepted accounting principles. The following are descriptions of the more significant accounting and reporting policies.
Principles of Consolidation The consolidated financial statements include the accounts of the Company, and its wholly-owned subsidiary, Tri Counties Bank (the "Bank"). All significant intercompany accounts and transactions have been eliminated in consolidation.
Nature of Operations The Company operates 33 branch offices and 12 in-store branch offices in the California counties of Butte, Contra Costa, Del Norte, Fresno, Glenn, Kern, Lake, Lassen, Madera, Mendocino, Merced, Nevada, Placer, Sacramento, Shasta, Siskiyou, Stanislaus, Sutter, Tehama, Tulare and Yuba. The Company's operating policy since its inception has emphasized retail banking. Most of the Company's customers are retail customers and small to medium sized businesses.
Use of Estimates in the Preparation of Financial Statements The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires Management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. On an on-going basis, the Company evaluates its estimates, including those related to the adequacy of the allowance for loan losses, investments, intangible assets, income taxes and contingencies. The Company bases its estimates on historical experience and on various other assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions. The one accounting estimate that materially affects the financial statements is the allowance for loan losses.
Investment Securities The Company classifies its debt and marketable equity securities into one of three categories: trading, available-for-sale or held-to-maturity. Trading securities are bought and held principally for the purpose of selling in the near term. Held-to-maturity securities are those securities which the Company has the ability and intent to hold until maturity. All other securities not included in trading or held-to-maturity are classified as available-for-sale. In 2003 and 2002, the Company did not have any securities classified as either held-to-maturity or trading.
Available-for-sale securities are recorded at fair value. Unrealized gains and losses, net of the related tax effect, on available-for-sale securities are reported as a separate component of other comprehensive income in shareholders' equity until realized.
Premiums and discounts are amortized or accreted over the life of the related investment security as an adjustment to yield using the effective interest method. Dividend and interest income are recognized when earned. Realized gains and losses for securities are included in earnings and are derived using the specific identification method for determining the cost of securities sold. Unrealized losses due to fluctuations in fair value of securities held to maturity or available for sale are recognized through earnings when it is determined that an other than temporary decline in value has occurred.
Loans Loans are reported at the principal amount outstanding, net of unearned income and the allowance for loan losses. Loan origination and commitment fees and certain direct loan origination costs are deferred, and the net amount is amortized as an adjustment of the related loan's yield over the estimated life of the loan. Loans on which the accrual of interest has been discontinued are designated as nonaccrual loans. Accrual of interest on loans is generally discontinued either when reasonable doubt exists as to the full, timely collection of interest or principal or when a loan becomes contractually past due by 90 days or more with respect to interest or principal. When loans are 90 days past due, but in Management's judgment are well secured and in the process of collection, they may be classified as accrual. When a loan is placed on nonaccrual status, all interest previously accrued but not collected is reversed. Income on such loans is then recognized only to the extent that cash is received and where the future collection of principal is probable. Interest accruals are resumed on such loans only when they are brought fully current with respect to interest and principal and when, in the judgment of Management, the loans are estimated to be fully collectible as to both principal and interest.
Allowance for Loan Losses The allowance for loan losses is established through a provision for loan losses charged to expense. Loans are charged against the allowance for loan losses when Management believes that the collectibility of the principal is unlikely or, with respect to consumer installment loans, according to an established delinquency schedule. The allowance is an amount that Management believes will be adequate to absorb probable losses inherent in existing loans, leases and commitments to extend credit, based on evaluations of the collectibility, impairment and prior loss experience of loans, leases and commitments to extend credit. The evaluations take into consideration such factors as changes in the nature and size of the portfolio, overall portfolio quality, loan concentrations, specific problem loans, commitments, and current economic conditions that may affect the borrower's ability to pay. The Company defines a loan as impaired when it is probable the Company will be unable to collect all amounts due according to the contractual terms of the loan agreement. Impaired loans are measured based on the present value of expected future cash flows discounted at the loan's original effective interest rate. As a practical expedient, impairment may be measured based on the loan's observable market price or the fair value of the collateral if the loan is collateral dependent. When the measure of the impaired loan is less than the recorded investment in the loan, the impairment is recorded through a valuation allowance.
Mortgage Operations Transfers and servicing of financial assets and extinguishments of liabilities are accounted for and reported based on consistent application of a financial-components approach that focuses on control. Transfers of financial assets that are sales are distinguished from transfers that are secured borrowings. Retained interests (mortgage servicing rights) in loans sold are measured by allocating the previous carrying amount of the transferred assets between the loans sold and retained interest, if any, based on their relative fair value at the date of transfer. Fair values are estimated using discounted cash flows based on a current market interest rate.
The Company recognizes a gain and a related asset for the fair value of the rights to service loans for others when loans are sold. The Company sold substantially all of its conforming long-term residential mortgage loans originated during 2003, 2002, and 2001 for cash proceeds equal to the fair value of the loans.
The following table summarizes the Company's mortgage servicing rights assets as of December 31, 2003 and 2002.
December 31, December 31, (Dollars in thousands) 2002 Additions Reductions 2003 ------------------------------------------------- Mortgage Servicing Rights $2,821 $1,948 ($1,356) $3,413 Valuation allowance - - (600) (600) Mortgage servicing rights, net of valuation allowance $2,821 $1,948 ($1,956) $2,813 =================================================
The recorded value of mortgage servicing rights is included in other assets, and is amortized in proportion to, and over the period of, estimated net servicing revenues. The Company assesses capitalized mortgage servicing rights for impairment based upon the fair value of those rights at each reporting date. For purposes of measuring impairment, the rights are stratified based upon the product type, term and interest rates. Fair value is determined by discounting estimated net future cash flows from mortgage servicing activities using discount rates that approximate current market rates and estimated prepayment rates, among other assumptions. The amount of impairment recognized, if any, is the amount by which the capitalized mortgage servicing rights for a stratum exceeds their fair value. Impairment, if any, is recognized through a valuation allowance for each individual stratum.
At December 31, 2003, the Company had no mortgage loans held for sale. At December 31, 2003 and 2002, the Company serviced real estate mortgage loans for others of $357 million and $307 million, respectively.
Premises and Equipment Premises and equipment, including those acquired under capital lease, are stated at cost less accumulated depreciation and amortization. Depreciation and amortization expenses are computed using the straight-line method over the estimated useful lives of the related assets or lease terms. Asset lives range from 3-10 years for furniture and equipment and 15-40 years for land improvements and buildings.
Other Real Estate Owned Real estate acquired by foreclosure is carried at the lower of the recorded investment in the property or its fair value less estimated disposition costs. Prior to foreclosure, the value of the underlying loan is written down to the fair value of the real estate to be acquired less estimated disposition costs by a charge to the allowance for loan losses, when necessary. Any subsequent write-downs are recorded as a valuation allowance with a charge to other expenses in the income statement together with other expenses related to such properties, net of related income. Gains and losses on disposition of such property are included in other income or other expenses as applicable.
Goodwill and Other Intangible Assets Goodwill represents the excess of costs over fair value of assets of businesses acquired. The Company adopted the provisions of Financial Accounting Standards Board (FASB) Statement of Financial Accounting Standard No. 142, Goodwill and Other Intangible Assets (SFAS 142), as of January 1, 2002. Pursuant to SFAS 142, 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 in accordance with the provisions of SFAS 142. SFAS 142 also requires that intangible assets with estimable useful lives be amortized over their respective estimated useful lives to their estimated residual values, and reviewed for impairment in accordance with FASB Statement of Financial Accounting Standard No. 144, Accounting for Impairment or Disposal of Long-Lived Assets (SFAS 144).
As of the date of adoption, the Company had identifiable intangible assets consisting of core deposit premiums and minimum pension liability. Core deposit premiums are amortized using an accelerated method over a period of ten years. Intangible assets related to minimum pension liability are adjusted annually based upon actuarial estimates.
The following table summarizes the Company's core deposit intangible as of December 31, 2003 and 2002.
December 31, December 31, (Dollar in Thousands) 2002 Additions Reductions 2003 ------------------------------------------------- Core deposit intangibles $10,278 $3,365 - $13,643 Accumulated amortization (6,636) - ($1,207) (7,843) ------------------------------------------------- Core deposit intangibles, net $3,642 $3,365 ($1,207) $5,800 =================================================
Core deposit intangibles are amortized over their expected useful lives. Such lives are periodically reassessed to determine if any amortization period adjustments are indicated. The following table summarizes the Company's estimated core deposit intangible amortization for each of the five succeeding years:
Estimated Core Deposit Intangible Amortization Years Ended (Dollar in thousands) ------------- ------------------------- 2004 $1,358 2005 $1,381 2006 $1,395 2007 $490 Thereafter $1,176
The following table summarizes the Company's minimum pension liability intangible as of December 31, 2003 and 2002.
December 31, December 31, (Dollar in Thousands) 2002 Additions Reductions 2003 -------------------------------------------- Minimum pension liability intangible $401 - ($116) $285 ============================================
Intangible assets related to minimum pension liability are adjusted annually based upon actuarial estimates.
The following table summarizes the Company's goodwill intangible as of December 31, 2003 and December 31, 2002.
December 31, December 31, (Dollar in Thousands) 2002 Additions Reductions 2003 -------------------------------------------- Goodwill - 15,519 - 15,519 ============================================
Impairment of Long-Lived Assets and Goodwill The Company adopted SFAS 144 on January 1, 2002. The adoption of SFAS 144 did not affect the Company's financial statements. In accordance with SFAS 144, long-lived assets, such as property, plant, and equipment, and purchased intangibles subject to amortization, are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. Recoverability of assets to be held and used is measured by a comparison of the carrying amount of an asset to estimated undiscounted future cash flows expected to be generated by the asset. If the carrying amount of an asset exceeds its estimated future cash flows, an impairment charge is recognized by the amount by which the carrying amount of the asset exceeds the fair value of the asset. Assets to be disposed of would be separately presented in the balance sheet and reported at the lower of the carrying amount or fair value less costs to sell, and are no longer depreciated. The assets and liabilities of a disposed group classified as held for sale would be presented separately in the appropriate asset and liability sections of the balance sheet.
On December 31 of each year, goodwill is tested for impairment, and is tested for impairment more frequently if events and circumstances indicate that the asset might be impaired. An impairment loss is recognized to the extent that the carrying amount exceeds the asset's fair value. This determination is made at the reporting unit level and consists of two steps. First, the Company determines the fair value of a reporting unit and compares it to its carrying amount. Second, if the carrying amount of a reporting unit exceeds its fair value, an impairment loss is recognized for any excess of the carrying amount of the reporting unit's goodwill over the implied fair value of that goodwill. The implied fair value of goodwill is determined by allocating the fair value of the reporting unit in a manner similar to a purchase price allocation, in accordance with FASB Statement of Financial Accounting Standard No. 141, Business Combinations (SFAS 141). The residual fair value after this allocation is the implied fair value of the reporting unit goodwill.
Income Taxes The Company's accounting for income taxes is based on an asset and liability approach. The Company recognizes the amount of taxes payable or refundable for the current year, and deferred tax assets and liabilities for the future tax consequences that have been recognized in its financial statements or tax returns. The measurement of tax assets and liabilities is based on the provisions of enacted tax laws.
Cash Flows For purposes of reporting cash flows, cash and cash equivalents include cash on hand, amounts due from banks and federal funds sold.
Stock-Based Compensation The Company uses the intrinsic value method to account for its stock option plans (in accordance with the provisions of Accounting Principles Board Opinion No. 25). Under this method, compensation expense is recognized for awards of options to purchase shares of common stock to employees under compensatory plans only if the fair market value of the stock at the option grant date (or other measurement date, if later) is greater than the amount the employee must pay to acquire the stock. Statement of Financial Accounting Standards No. 123, Accounting for Stock-Based Compensation (SFAS 123) permits companies to continue using the intrinsic value method or to adopt a fair value based method to account for stock option plans. The fair value based method results in recognizing as expense over the vesting period the fair value of all stock-based awards on the date of grant. The Company has elected to continue to use the intrinsic value method.
Had compensation cost for the Company's option plans been determined in accordance with SFAS 123, the Company's net income and earnings per share would have been reduced to the pro forma amounts indicated below:
The fair value of each option grant is estimated on the date of grant using the Black-Scholes option pricing model with the following weighted-average assumptions used for grants in 2003, 2002, and 2001: risk-free interest rate of 2.87%, 4.01%, and 4.80%; expected dividend yield of 3.3%, 3.3% and 4.9%; expected life of 6 years, 6 years and 6 years; expected volatility of 27%, 27% and 28%, respectively. The weighted average grant date fair value of an option to purchase one share of common stock granted in 2003, 2002, and 2001 was $8.57, $5.37, and $3.26, respectively.
Comprehensive Income For the Company, comprehensive income includes net income reported on the statement of income, changes in the fair value of its available-for-sale investments, and changes in the minimum pension liability reported as a component of shareholders' equity. The changes in the components of accumulated other comprehensive income for the years ended December 31, 2003, 2002, and 2001 are reported as follows:
Recently Issued Accounting Standards In December 2003, the FASB issued FASB Interpretation No. 46 (revised December 2003), Consolidation of Variable Interest Entities (FIN 46R), which addresses how a business enterprise should evaluate whether it has a controlling financial interest in an entity through means other than voting rights and accordingly should consolidate the entity. FIN 46R replaces FASB Interpretation No. 46, Consolidation of Variable Interest Entities (VIEs), which was issued in January 2003. The Company will be required to apply FIN 46R to variable interests in VIEs created after December 31, 2003. For variable interests in VIEs created before January 1, 2004, the FIN 46R will be applied beginning on January 1, 2005. For any VIEs that must be consolidated under FIN 46R that were created before January 1, 2004, the assets, liabilities and noncontrolling interests of the VIE initially would be measured at their carrying amounts with any difference between the net amount added to the balance sheet and any previously recognized interest being recognized as the cumulative effect of an accounting change. If determining the carrying amounts is not practicable, fair value at the date FIN 46R first applies may be used to measure the assets, liabilities and noncontrolling interest of the VIE. The Company currently does not have any VIEs that are within the scope of this Statement.
FASB Statement of Financial Accounting Standard No. 150, Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity (SFAS 150), was issued in May 2003. SFAS 150 establishes standards for the classification and measurement of certain financial instruments with characteristics of both liabilities and equity. SFAS 150 also includes required disclosures for financial instruments within its scope. For the Company, SFAS 150 was effective for instruments entered into or modified after May 31, 2003 and otherwise will be effective as of January 1, 2004, except for mandatorily redeemable financial instruments. For certain mandatorily redeemable financial instruments, SFAS 150 will be effective for the Company on January 1, 2005. The effective date has been deferred indefinitely for certain other types of mandatorily redeemable financial instruments. The Company currently does not have any financial instruments that are within the scope of this Statement.
Recently Adopted Accounting Standards In June 2001, FASB Statement of Financial Accounting Standard No. 143, Accounting for Asset Retirement Obligations (SFAS 143), was issued. SFAS 143 requires the Company to record the fair value of an asset retirement obligation as a liability in the period in which it incurs a legal obligation associated with the retirement of tangible long-lived assets that result from the acquisition, construction, development, and/or normal use of the assets. The Company also would record a corresponding asset that is depreciated over the life of the asset. Subsequent to the initial measurement of the asset retirement obligation, the obligation would be adjusted at the end of each period to reflect the passage of time and changes in the estimated future cash flows underlying the obligation. The Company was required to adopt SFAS 143 on January 1, 2003. The adoption of SFAS 143 had no effect on the Company's financial statements.
In April 2002, FASB Statement of Financial Accounting Standard No. 145, Rescission of FASB Statements No. 4, 44 and 64, Amendment of FASB Statement No. 13, and Technical Corrections (SFAS 145), was issued. SFAS 145 amends existing guidance on reporting gains and losses on the extinguishment of debt to prohibit the classification of the gain or loss as extraordinary, as the use of such extinguishments have become part of the risk management strategy of many companies. SFAS 145 also amends FASB Statement of Financial Accounting Standard No. 13, Accounting for Leases (SFAS 13), to require sale-leaseback accounting for certain lease modifications that have economic effects similar to sale-leaseback transactions. The provisions of SFAS 145 related to the rescission of FASB Statement of Financial Accounting Standard No. 4, Reporting Gains and Losses from Extinguishment of Debt, were applied in fiscal years beginning after May 15, 2002. The provisions of SFAS 145 related to SFAS 13 were effective for transactions occurring after May 15, 2002. The adoption of SFAS 145 had no effect on the Company's financial statements.
In June 2002, FASB Statement of Financial Accounting Standard No. 146, Accounting for Costs Associated with Exit or Disposal Activities (SFAS 146), was issued. SFAS 146 addresses financial accounting and reporting for costs associated with exit or disposal activities and nullifies EITF Issue No. 94-3, "Liability Recognition for Certain Employee Termination Benefits and Other Costs to Exit an Activity". The provisions of SFAS 146 were effective for exit or disposal activities initiated after December 31, 2002, with early application encouraged. The adoption of SFAS 146 had no effect on the Company's financial statements.
In November 2002, FASB Interpretation No. 45, Guarantor's Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness to Others, an interpretation of FASB Statement of Financial Accounting Standards No. 5, 57 and 107 and a rescission of FASB Interpretation No. 34 (FIN 45), was issued. This FIN 45 enhances the disclosures to be made by a guarantor in its interim and annual financial statements about its obligations under guarantees issued. The Interpretation also clarifies that a guarantor is required to recognize, at inception of a guarantee, a liability for the fair value of the obligation undertaken. The initial recognition and measurement provisions of the Interpretation were applicable to guarantees issued or modified after December 31, 2002 and the disclosure requirements were effective for financial statements of interim or annual periods ending after December 15, 2002. The adoption of FIN 45 had no effect on the Company's financial statements.
In December 2002, FASB Statement of Financial Accounting Standard No. 148, Accounting for Stock-Based Compensation - Transition and Disclosure, an amendment of FASB Statement No. 123 (SFAS 148), was issued. SFAS 148 amends FASB Statement of Financial Accounting Standard No. 123, Accounting for Stock-Based Compensation (SFAS 123), to provide alternative methods of transition for a voluntary change to the fair value method of accounting for stock-based employee compensation. In addition, SFAS 148 amends the disclosure requirements of SFAS 123 to require prominent disclosures in both annual and interim financial statements. Disclosures required by this standard are included in the notes to these consolidated financial statements.
In December 2003, FASB Statement of Financial Accounting Standard No. 132, Employers' Disclosures about Pensions and Other Postretirement Benefits (SFAS 132 revised), was issued. SFAS 132 (revised) prescribes employers' disclosures about pension plans and other postretirement benefit plans; it does not change the measurement or recognition of those plans. SFAS 132 retains and revises the disclosure requirements contained in the original SFAS 132. It also requires additional disclosures about the assets, obligations, cash flows, and net periodic benefit cost of defined benefit pension plans and other postretirement benefit plans. The Statement generally is effective for fiscal years ending after December 15, 2003. Disclosures required by this standard are included in the notes to these consolidated financial statements.
Reclassifications Certain amounts previously reported in the 2002 and 2001 financial statements have been reclassified to conform to the 2003 presentation. These reclassifications did not affect previously reported net income or total shareholders' equity.
Note 2 - Restricted Cash Balances
Reserves (in the form of deposits with the Federal Reserve Bank) of $500,000 were maintained to satisfy Federal regulatory requirements at December 31, 2003 and December 31, 2002. These reserves are included in cash and due from banks in the accompanying balance sheets.
Note 3 - Investment Securities
The amortized cost and estimated fair values of investments in debt and equity securities are summarized in the following tables. Also included in the following table are other securities that do not have readily determinable fair value because their ownership is restricted and they lack a market. These other securities are carried at cost and consist mainly of Federal Home Loan Bank stock with a cost of $4,779,000 and $4,228,000 at December 31, 2003 and 2002, respectively:
The amortized cost and estimated fair value of debt securities at December 31, 2003 by contractual maturity are shown below. Actual maturities may differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties.
Estimated Amortized Fair Cost Value ------------------------------ (in thousands) Investment Securities Due in one year $6,808 $6,859 Due after one year through five years 14,737 15,345 Due after five years through ten years 208,196 209,652 Due after ten years 77,462 79,617 No stated maturity 4,963 4,963 ------------------------------ Totals $312,166 $316,436 ==============================
Proceeds from sales of investment securities were as follows:
Gross Gross Gross For the Year Proceeds Gains Losses - ----------------------------------------------------------- (in thousands)
2003 $22,320 $197 $0 2002 -- -- -- 2001 $14,119 $1,796 $4
Investment securities with an aggregate carrying value of $162,942,000 and $104,561,000 at December 31, 2003 and 2002, respectively, were pledged as collateral for specific borrowings, lines of credit and local agency deposits.
Gross unrealized losses on investment securities and the fair value of the related securities, aggregated by investment category and length of time that individual securities have been in a continuous unrealized loss position, at December 31, 2003, were as follows:
Mortgage-backed securities: The unrealized losses on investments in mortgage-backed securities were caused by interest rate increases. The contractual cash flows of these securities are guaranteed by U.S. Government Sponsored Entities (principally Fannie Mae and Freddie Mac). It is expected that the securities would not be settled at a price less than the amortized cost of the investment. Because the decline in fair value is attributable to changes in interest rates and not credit quality, and because the Company has the ability and intent to hold these investments until a market price recovery or maturity, these investments are not considered other-than-temporarily impaired.
Corporate debt securities: The investments in corporate debt securities with unrealized losses are comprised of variable-rate trust preferred bonds issued by bank holding companies that mature in 2027 and 2028. The unrealized losses on corporate debt securities were caused by interest rate increases. Two of the bank holding companies representing $8.3 million of the $10.1 million of corporate bonds with unrealized losses are rated investment grade by major outside credit rating agencies, and their credit ratings have not diminished since the bonds were purchased by the Company. The bank holding companies representing the remaining $1.8 million of bonds are not rated by credit rating agencies. At least annually, the Company performs its own analysis of the credit worthiness of each of the corporate debt issuing companies in question. Nothing in those analyses indicates that the unrealized losses are due to anything other than increases in interest rates. Because the decline in fair value is attributable to changes in interest rates and not credit quality, and because the Company has the intent and ability to hold these investments until a market price recovery or maturity, these investments are not considered other-than-temporarily impaired.
Note 4 - Allowance for Loan Losses
Activity in the allowance for loan losses was as follows: Years Ended December 31, 2003 2002 2001 -------------------------------- (in thousands) Balance, beginning of year $14,377 $13,058 $11,670 Addition through merger 928 - - Provision for loan losses 1,250 2,800 4,400 Loans charged off (3,753) (1,786) (3,213) Recoveries of loans previously charged off 971 305 201 -------------------------------- Balance, end of year $13,773 $14,377 $13,058 ================================
Loans classified as nonaccrual, net of guarantees of the U.S. government, including its agencies and its government-sponsored agencies, amounted to approximately $4,360,000, $8,140,000 and $5,466,000 at December 31, 2003, 2002, and 2001, respectively. These nonaccrual loans were classified as impaired and are included in the recorded balance in impaired loans for the respective years shown below. If interest on those loans had been accrued, such income would have been approximately $1,071,000, $477,000 and $260,000 in 2003, 2002 and 2001, respectively.
As of December 31, the Company's recorded investment in impaired loans and the related valuation allowance were as follows (in thousands):
----------------------------- Recorded Valuation Investment Allowance ----------------------------- Impaired loans - Valuation allowance required $4,360 $369 No valuation allowance required -- -- ----------------------------- Total impaired loans $4,360 $369 =============================
----------------------------- Recorded Valuation Investment Allowance ----------------------------- Impaired loans - Valuation allowance required $8,140 $881 No valuation allowance required -- -- ----------------------------- Total impaired loans $8,140 $881 =============================
This valuation allowance is included in the allowance for loan losses shown above for the respective year. The average recorded investment in impaired loans was $6,270,000, $7,115,000 and, $9,639,000 for the years ended December 31, 2003, 2002 and 2001, respectively. The Company recognized interest income on impaired loans of $372,000, $733,000 and $441,000 for the years ended December 31, 2003, 2002 and 2001, respectively.
Note 5 - Premises and Equipment
Premises and equipment were comprised of:
December 31, 2003 2002 ------------------------- (in thousands) Premises $15,254 $13,031 Furniture and equipment 20,045 18,092 ------------------------- 35,299 31,123 Less: Accumulated depreciation and amortization (19,841) (17,401) ------------------------- 15,458 13,722 Land and land improvements 4,063 3,502 ------------------------- $19,521 $17,224 =========================
Depreciation and amortization of premises and equipment amounted to $2,701,000, $2,329,000, and $2,243,000 in 2003, 2002 and 2001, respectively.
Note 6 - Time Deposits
At December 31, 2003, the scheduled maturities of time deposits were as follows (in thousands):
Scheduled Maturities ---------- 2004 $184,742 2005 18,444 2006 8,914 2007 51,087 2008 and thereafter 12,838 ---------- Total $276,025 ==========
Note 7 - Long-Term Debt and Other Borrowings
Long-term debt is as follows:
The Company maintains a collateralized line of credit with the Federal Home Loan Bank of San Francisco. Based on the FHLB stock requirements at December 31, 2003, this line provided for maximum borrowings of $128,330,000 of which $62,000,000 was outstanding, leaving $66,330,000 available. The maximum month-end outstanding balances of short term reverse repurchase agreements in 2003 and 2002 were $0 and $0, respectively. The Company has available unused lines of credit totaling $40,000,000 for Federal funds transactions at December 31, 2003.
Note 8 - Junior Subordinated Debt
On July 31, 2003, the Company formed a subsidiary business trust, TriCo Capital Trust I, to issue the trust preferred securities. Concurrently with the issuance of the trust preferred securities, the trust issued 619 shares of common stock to the Company for $1,000 per share or an aggregate of $619,000. In addition, the Company issued a Junior Subordinated Debenture to the Trust in the amount of $20,619,000. The terms of the Junior Subordinated Debenture are materially consistent with the terms of the trust preferred securities issued by TriCo Capital Trust I. Also on July 31, 2003, TriCo Capital Trust I completed an offering of 20,000 shares of cumulative trust preferred securities for cash in an aggregate amount of $20,000,000. The trust preferred securities are mandatorily redeemable upon maturity on October 7, 2033 with an interest rate that resets quarterly at three-month LIBOR plus 3.05%, or 4.16% for the first quarterly interest period. TriCo Capital Trust I has the right to redeem the trust preferred securities on or after October 7, 2008. The trust preferred securities were issued through an underwriting syndicate to which the Company paid underwriting fees of $7.50 per trust preferred security or an aggregate of $150,000. The net proceeds of $19,850,000 will be used to finance the opening of new branches, improve bank services and technology, repurchase shares of the Company's common stock as described below and increase the Company's capital. The trust preferred securities have not been and will not be registered under the Securities Act of 1933, as amended, or applicable state securities laws and were sold pursuant to an exemption from registration under the Securities Act of 1933. The trust preferred securities may not be offered or sold in the United States absent registration or an applicable exemption from the registration requirements of the Securities Act of 1933, as amended, and applicable state securities laws.
As a result of the adoption of FIN 46R, the Company deconsolidated TriCo Capital Trust I as of and for year ended December 31, 2003. The $20,619,000 of junior subordinated debentures issued by TriCo Capital Trust I were reflected as junior subordinated debt in the consolidated balance sheet at December 31, 2003. The common stock issued by TriCo Capital Trust I was recorded in other assets in the consolidated balance sheet at December 31, 2003.
Prior to December 31, 2003, TriCo Capital Trust I was a consolidated subsidiary and was included in liabilities in the consolidated balance sheet, as "Trust preferred securities." The common securities and debentures, along with the related income effects were eliminated in the consolidated financial statements.
The debentures issued by TriCo Capital Trust I, less the common securities of TriCo Capital Trust I, continue to qualify as Tier 1 capital under interim guidance issued by the Board of Governors of the Federal Reserve System (Federal Reserve Board).
Note 9 - Commitments and Contingencies (See also Note 17)
At December 31, 2003, future minimum commitments under non-cancelable capital and operating leases with initial or remaining terms of one year or more are as follows: Capital Operating Leases Leases ------------------------------ (in thousands) 2004 $90 $1,172 2005 91 980 2006 92 855 2007 93 764 2008 94 664 Thereafter 102 1,819 ------------------------------ Future minimum lease payments 562 $6,254 Less amount representing interest 175 ========== ------- Present value of future lease payments $387 =======
Rent expense under operating leases was $1,442,000 in 2003, $1,201,000 in 2002, and $1,241,000 in 2001.
The Company is a defendant in legal actions arising from normal business activities. Management believes, after consultation with legal counsel, that these actions are without merit or that the ultimate liability, if any, resulting from them will not materially affect the Company's financial position or results from operations.
Note 10 - Shareholders' Equity
Dividends Paid The Bank paid to the Company cash dividends in the aggregate amounts of $2,810,000, $5,779,000 and $12,187,000 in 2003, 2002 and 2001, respectively. The Bank is regulated by the Federal Deposit Insurance Corporation (FDIC) and the State of California Department of Financial Institutions. California banking laws limit the Bank's ability to pay dividends to the lesser of (1) retained earnings or (2) net income for the last three fiscal years, less cash distributions paid during such period. Under this regulation, at December 31, 2003, the Bank may pay dividends of $23,912,000.
Shareholders' Rights Plan On June 25, 2001, the Company announced that its Board of Directors adopted and entered into a Shareholder Rights Plan designed to protect and maximize shareholder value and to assist the Board of Directors in ensuring fair and equitable benefit to all shareholders in the event of a hostile bid to acquire the Company.
The Company adopted this Rights Plan to protect stockholders from coercive or otherwise unfair takeover tactics. In general terms, the Rights Plan imposes a significant penalty upon any person or group that acquires 15% or more of the Company's outstanding common stock without approval of the Company's Board of Directors. The Rights Plan was not adopted in response to any known attempt to acquire control of the Company.
Under the Rights Plan, a dividend of one Preferred Stock Purchase Right was declared for each common share held of record as of the close of business on July 10, 2001. No separate certificates evidencing the Rights will be issued unless and until they become exercisable.
The Rights generally will not become exercisable unless an acquiring entity accumulates or initiates a tender offer to purchase 15% or more of the Company's common stock. In that event, each Right will entitle the holder, other than the unapproved acquirer and its affiliates, to purchase either the Company's common stock or shares in an acquiring entity at one-half of market value.
The Right's initial exercise price, which is subject to adjustment, is $49.00 per Right. The Company's Board of Directors generally will be entitled to redeem the Rights at a redemption price of $.01 per Right until an acquiring entity acquires a 15% position. The Rights expire on July 10, 2011.
Stock Repurchase Plan On March 15, 2001, the Company announced the completion of its stock repurchase plan initially announced on July 20, 2000 and initiated a new stock repurchase plan. Under the July 2000 repurchase plan, the Company repurchased a total of 150,000 shares of which 110,000 shares were repurchased in 2001.
On October 19, 2001, the Company announced the completion of its March 2001 stock repurchase plan under which it repurchased a total of 150,000 shares.
Also on October 19, 2001, the Company announced a new stock repurchase plan to repurchase up to 150,000 shares.
On July 31, 2003, the Company announced the termination of its October 2001 stock repurchase plan under which it repurchased 118,800 shares and the remaining 31,200 shares had not been repurchased. The Company adopted a new stock repurchase plan on July 31, 2003 for the repurchase of up to 250,000 shares of the Company's common stock from time to time as market conditions allow. The 250,000 shares authorized for repurchase under this plan represented approximately 3.2% of the Company's approximately 7,852,000 common shares outstanding as of July 31, 2003. This new plan has no stated expiration date for the repurchases. As of December 31, 2003, the Company had purchased 27,500 shares under this plan.
Note 11 - Stock Options
In May 2001, the Company adopted the TriCo Bancshares 2001 Stock Option Plan (2001 Plan) covering officers, employees, directors of, and consultants to the Company. Under the 2001 Plan, the option price cannot be less than the fair market value of the Common Stock at the date of grant except in the case of substitute options. Options for the 2001 Plan expire on the tenth anniversary of the grant date. Vesting schedules under the 2001 Plan are determined individually for each grant.
In May 1995, the Company adopted the TriCo Bancshares 1995 Incentive Stock Option Plan (1995 Plan) covering key employees. Under the 1995 Plan, the option price cannot be less than the fair market value of the Common Stock at the date of grant. Options for the 1995 Plan expire on the tenth anniversary of the grant date. Vesting schedules under the 1995 Plan are determined individually for each grant.
The Company also has outstanding options under the TriCo Bancshares 1993 Nonqualified Stock Option Plan (1993 Plan). Options under the 1993 Plan were granted at an exercise price less than the fair market value of the common stock and vest over a six year period. Unexercised options for the 1993 Plan terminate 10 years from the date of the grant.
Stock option activity is summarized in the following table:
The following table shows the number, weighted-average exercise price, and the weighted average remaining contractual life of options outstanding, and the number and weighted-average exercise price of options exercisable as of December 31, 2003 by range of exercise price:
Of the stock options outstanding as of December 31, 2003, 2002, and 2001, options on shares totaling 492,568, 333,284, and 330,046, respectively, were exercisable at weighted average prices of $15.49, $14.70, and $12.50, respectively.
The Company has stock options outstanding under the three option plans described above. The Company accounts for these plans under APB Opinion No. 25, under which no compensation cost has been recognized except for the options granted under the 1993 plan. The Company recognized expense of $0, $0, and $0 for the 1993 Plan options in 2003, 2002 and 2001, respectively.
Note 12 - Other Noninterest Income and Expenses
The components of other noninterest income were as follows: Years Ended December 31, 2003 2002 2001 ------------------------------ (in thousands) Increase in cash value of insurance policies $1,296 $606 $476 Sale of customer checks 229 264 283 Gain on sale of other real estate owned 113 7 80 Other 599 909 841 ------------------------------ Total other noninterest income $2,237 $1,786 $1,680 ==============================
The components of other noninterest expenses were as follows:
Years Ended December 31, 2003 2002 2001 ------------------------------ (in thousands) Equipment and data processing $4,947 $4,095 $3,694 Occupancy 3,493 2,954 2,806 Professional fees 2,315 1,696 1,087 Telecommunications 1,539 1,422 1,253 Advertising 1,062 1,263 1,132 Intangible amortization 1,207 911 911 ATM network charges 1,043 847 913 Postage 855 801 639 Courier service 795 720 661 Operational losses 657 534 227 Assessments 268 233 223 Net other real estate owned expense 124 26 175 Other 7,508 6,179 5,687 ------------------------------ Total other noninterest expenses $25,813 $21,681 $19,408 ==============================
Note 13 - Income Taxes
The current and deferred components of the income tax provision were comprised of:
Years Ended December 31, 2003 2002 2001 ------------------------------ (in thousands) Current Tax Provision: Federal $7,686 $6,826 $5,975 State 2,720 2,543 2,009 ------------------------------ Total current 10,406 9,369 7,984
Deferred Tax Benefit: Federal (198) (735) (518) State (84) (512) (142) ------------------------------ Total deferred (282) (1,247) (660) ------------------------------ Provision for income taxes $10,124 $8,122 $7,324 ==============================
Taxes recorded directly to shareholders' equity are not included in the preceding table. These taxes (benefits) relating to changes in minimum pension liability amounting to ($27,000) in 2003, ($19,000) in 2002, and $541,000 in 2001, unrealized gains and losses on available-for-sale investment securities amounting to ($461,000) in 2003, $2,142 in 2002, and $258,000 in 2001, and benefits related to employee stock options of ($440,000) in 2003, ($436,000) in 2002, and ($867,000) in 2001 were recorded directly to shareholders' equity.
The provisions for income taxes applicable to income before taxes for the years ended December 31, 2002, 2002 and 2001 differ from amounts computed by applying the statutory Federal income tax rates to income before taxes. The effective tax rate and the statutory federal income tax rate are reconciled as follows:
Years Ended December 31, 2003 2002 2001 ----------------------------
Federal statutory income tax rate 35.0% 35.0% 35.0% State income taxes, net of federal tax benefit 6.3 6.0 6.5 Tax-exempt interest on municipal obligations (2.4) (3.3) (3.9) Other (1.4) (1.1) (0.5) ---------------------------- Effective Tax Rate 37.5% 36.6% 37.1% ============================
The components of the net deferred tax asset of the Company as of December 31, were as follows:
2003 2002 -------------------------- (in thousands) Deferred Tax Assets: Loan losses $5,678 $6,045 Deferred compensation 4,058 3,523 Intangible amortization 1,066 980 State taxes 873 871 Pension liability 494 522 Nonaccrual interest 450 201 Fixed asset write down 232 232 OREO write downs 76 160 Merger related NOL carryforward 20 - Stock option amortization 8 32 -------------------------- Total deferred tax assets 12,955 12,566 -------------------------- Deferred Tax Liabilities: Unrealized gain on securities (1,795) (2,221) Core deposit premium (1,290) - Depreciation (511) (645) Securities income (560) (419) Securities accretion (389) (418) Merger related fixed asset valuations (379) - Capital leases (92) (95) Other, net (205) (339) -------------------------- Total deferred tax liability (5,221) (4,137) -------------------------- Net deferred tax asset $7,734 $8,429 ==========================
Note 14 - Retirement Plans
Substantially all employees with at least one year of service are covered by a discretionary employee stock ownership plan (ESOP). Contributions are made to the plan at the discretion of the Board of Directors. Contributions to the plan(s) totaling $975,000 in 2003, $955,000 in 2002, and $850,000 in 2001 are included in salary expense.
The Company has an Executive Deferred Compensation Plan and a Director Deferred Compensation Plan, which allow directors and key executives designated by the Board of Directors of the Company to defer a portion of their compensation. The Company has purchased insurance on the lives of the participants and intends to use the cash values of these policies to pay the deferred compensation obligations of $5,195,000 and $4,451,000 at December 31, 2003 and 2002, respectively.
The Company has a supplemental retirement plan for directors and a supplemental executive retirement plan covering key executives. These plans are non-qualified defined benefit plans and are unsecured and unfunded. The Company has purchased insurance on the lives of the participants and intends to use the cash values of these policies to pay the retirement obligations.
The cash values of the insurance policies purchased to fund the deferred compensation obligations and the retirement obligations were $38,980,000 and $15,208,000 at December 31, 2003 and 2002, respectively.
The Company recorded in Other Liabilities an additional minimum pension liability of $1,459,000 related to the supplemental retirement plan as of December 31, 2003. These amounts represent the amount by which the accumulated benefit obligations for this retirement plan exceeded the fair value of plan assets plus amounts previously accrued related to the plan. These additional liabilities have been offset by an intangible asset to the extent of previously unrecognized net transitional obligation and unrecognized prior service costs of each plan. The amount in excess of previously unrecognized prior service cost and unrecognized net transitional obligation is recorded as a reduction of shareholders' equity in the amount of $705,000, representing the after-tax impact, at December 31, 2003.
The following table sets forth the plans' status: December 31, 2003 2002 -------------------- (in thousands) Change in benefit obligation: Benefit obligation at beginning of year $(6,681) $(6,261) Service cost (125) (107) Interest cost (418) (428) Amendments -- -- Actuarial loss (112) (367) Benefits paid 490 482 -------------------- Benefit obligation at end of year $(6,846) $(6,681) ==================== Change in plan assets: Fair value of plan assets at beginning of year $ -- $ -- -------------------- Fair value of plan assets at end of year $ -- $ -- ==================== Funded status $(6,846) $(6,681) Unrecognized net obligation existing at January 1, 1986 45 80 Unrecognized net actuarial loss 2,313 2,354 Unrecognized prior service cost 240 321 Intangible asset (285) (401) Accumulated other comprehensive income (1,175) (1,243) -------------------- Accrued benefit cost $(5,708) $(5,570) ====================
Years Ended December 31, 2003 2002 2001 ------------------------ (in thousands) Net pension cost included the following components: Service cost-benefits earned during the period $125 $107 $ 86 Interest cost on projected benefit obligation 418 428 372 Amortization of net obligation at transition 35 35 35 Amortization of prior service cost 81 81 39 Recognized net actuarial loss 153 87 53 ------------------------ Net periodic pension cost $812 $738 $585 ========================
The net periodic pension cost was determined using a discount rate assumption of 6.50% for 2003, 7.00% for 2002 and 7.25% for 2001, respectively. The rates of increase in compensation used in each year were 2.5% to 5%.
Note 15 - Earnings per Share
The Company's basic and diluted earnings per share are as follows (in thousands except per share data):
Excluded from the computation of diluted earnings per share were 0, 36,000, and 0 options for the years ended December 31, 2003, 2002, and 2001, respectively, because the effect of these options was antidilutive.
Note 16 - Related Party Transactions
Certain directors, officers, and companies with which they are associated were customers of, and had banking transactions with, the Company or the Bank in the ordinary course of business. It is the Company's policy that all loans and commitments to lend to officers and directors be made on substantially the same terms, including interest rates and collateral, as those prevailing at the time for comparable transactions with other borrowers of the Bank.
The following table summarizes the activity in these loans for 2003:
Balance Balance December 31, Advances/ Removed/ December 31, 2002 New Loans Payments 2003 ------------------------------------------------------------------- (in thousands) $3,338 $4,228 $2,905 $4,661
Note 17 - Financial Instruments With Off-Balance Sheet Risk
The Company is a 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. Those instruments involve, to varying degrees, elements of credit risk in excess of the amount recognized in the balance sheet. The contract amounts of those instruments reflect the extent of involvement the Company has in particular classes of financial instruments.
The Company's exposure to credit loss in the event of nonperformance by the other party to the financial instrument for commitments to extend credit and standby letters of credit written is represented by the contractual amount of those instruments. The Company uses the same credit policies in making commitments and conditional obligations as it does for on-balance sheet instruments.
Contractual Amount December 31, -------------------------- 2003 2002 (in thousands) Financial instruments whose contract amounts represent credit risk:
Commitments to extend credit: Commercial loans $86,555 $69,295 Consumer loans 172,704 117,917 Real estate mortgage loans 15,350 6,028 Real estate construction loans 46,741 25,105 Standby letters of credit 11,582 8,818
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 of one year or less 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 credit worthiness 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 customer. Collateral held varies, but may include accounts receivable, inventory, property, plant and equipment and income-producing commercial properties.
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 private borrowing arrangements. Most standby letters of credit are issued for one year or less. The credit risk involved in issuing letters of credit is essentially the same as that involved in extending loan facilities to customers. Collateral requirements vary, but in general follow the requirements for other loan facilities.
Note 18 - Concentration of Credit Risk
The Company grants agribusiness, commercial, consumer, and residential loans to customers located throughout the northern San Joaquin Valley, the Sacramento Valley and northern mountain regions of California. The Company has a diversified loan portfolio within the business segments located in this geographical area.
Note 19 - Disclosure of Fair Value of Financial Instruments
The following methods and assumptions were used to estimate the fair value of each class of financial instrument for which it is practical to estimate that value. Cash and due from banks, fed funds purchased and sold, accrued interest receivable and payable, and short-term borrowings are considered short-term instruments. For these short-term instruments their carrying amount approximates their fair value.
Securities For all securities, fair values are based on quoted market prices or dealer quotes. See Note 3 for further analysis.
Loans The fair value of variable rate loans is the current carrying value. The interest rates on these loans are regularly adjusted to market rates. The fair value of other types of fixed rate loans is estimated by discounting the future cash flows using current rates at which similar loans would be made to borrowers with similar credit ratings for the same remaining maturities. The allowance for loan losses is a reasonable estimate of the valuation allowance needed to adjust computed fair values for credit quality of certain loans in the portfolio.
Deposit Liabilities and Long-Term Debt The fair value of demand deposits, savings accounts, and certain money market deposits is the amount payable on demand at the reporting date. These values do not consider the estimated fair value of the Company's core deposit intangible, which is a significant unrecognized asset of the Company. The fair value of time deposits and debt is based on the discounted value of contractual cash flows.
Commitments to Extend Credit and Standby Letters of Credit The fair value of commitments is estimated using the fees currently charged to enter into similar agreements, taking into account the remaining terms of the agreements and the present credit worthiness of the counter parties. For fixed rate loan commitments, fair value also considers the difference between current levels of interest rates and the committed rates. The fair value of letters of credit is based on fees currently charged for similar agreements or on the estimated cost to terminate them or otherwise settle the obligation with the counter parties at the reporting date.
Fair value for financial instruments are management's estimates of the values at which the instruments could be exchanged in a transaction between willing parties. These estimates are subjective and may vary significantly from amounts that would be realized in actual transactions. In addition, other significant assets are not considered financial assets including, any mortgage banking operations, deferred tax assets, and premises and equipment. Further, the tax ramifications related to the realization of the unrealized gains and losses can have a significant effect on the fair value estimates and have not been considered in any of these estimates.
The estimated fair values of the Company's financial instruments are as follows:
December 31, 2003 ----------------------------- Carrying Fair Amount Value ----------------------------- Financial assets: (in thousands) Cash and due from banks $80,603 $80,603 Federal funds sold 326 326 Securities: Available-for-sale 316,436 316,436 Loans, net 967,468 928,243 Accrued interest receivable 6,027 6,027 Financial liabilities: Deposits 1,236,823 1,185,923 Accrued interest payable 2,638 2,638 Federal funds purchased 39,500 39,500 Long-term debt 22,887 25,180 Junior subordinated debt 20,619 20,619
Contract Fair Off-balance sheet: Amount Value ----------------------------- Commitments 321,350 32,135 Standby letters of credit 11,582 116
December 31, 2002 ----------------------------- Carrying Fair Amount Value ----------------------------- Financial assets: (in thousands) Cash and due from banks $67,170 $67,170 Federal funds sold 8,100 8,100 Securities: Available-for-sale 338,024 338,024 Loans, net 673,145 667,535 Accrued interest receivable 5,644 5,644 Financial liabilities: Deposits 1,005,237 972,323 Accrued interest payable 2,927 2,927 Long-term debt 22,924 25,347
Contract Fair Off-balance sheet: Amount Value ----------------------------- Commitments 218,345 21,835 Standby letters of credit 8,818 88
Note 20 - TriCo Bancshares Financial Statements
TriCo Bancshares (Parent Only) Balance Sheets December 31, Assets 2003 2002 -------------------------- (in thousands) Cash and Cash equivalents $6,187 $239 Securities available-for-sale 180 180 Investment in Tri Counties Bank 139,834 96,708 Other assets 2,441 1,887 -------------------------- Total assets $148,642 $99,014 ========================== Liabilities and shareholders' equity Other liabilities $ 63 $ -- Junior subordinated debt 20,619 -- -------------------------- Total liabilities $20,682 $ -- -------------------------- Shareholders' equity: Common stock, no par value: Authorized 20,000,000 shares; issued and outstanding 7,834,124 and 7,060,965 shares, respectively $69,767 $50,472 Retained earnings 56,379 46,239 Accumulated other comprehensive income, net 1,814 2,303 -------------------------- Total shareholders' equity 127,960 99,014 -------------------------- Total liabilities and shareholders' equity $148,642 $99,014 ==========================
Statements of Income Years Ended December 31, 2003 2002 2001 ------------------------------ (in thousands) Interest income $ 18 $ 18 $ 17 Interest expense (355) -- -- Administration expense (559) (416) (980) ------------------------------ Loss before equity in net income of Tri Counties Bank (896) (398) (963) Equity in net income of Tri Counties Bank: Distributed 2,810 5,779 12,187 Undistributed 14,592 8,522 798 Income taxes (382) (166) (397) ------------------------------ Net income $16,888 $14,069 $12,419 ==============================
Note 21 - Regulatory Matters
The Company is 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 Company's financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the Company must meet specific capital guidelines that involve quantitative measures of the Company's assets, liabilities and certain off-balance-sheet items as calculated under regulatory accounting practices. The Company's capital amounts and classification are also subject to qualitative judgments by the regulators about components, risk weightings and other factors.
Quantitative measures established by regulation to ensure capital adequacy require the Company to maintain minimum amounts and ratios (set forth in the table below) of total and Tier 1 capital to risk-weighted assets, and of Tier 1 capital to average assets. Management believes, as of December 31, 2003, that the Company meets all capital adequacy requirements to which it is subject.
As of December 31, 2003, the most recent notification from the FDIC categorized the Bank as well capitalized under the regulatory framework for prompt corrective action. To be categorized as well capitalized the Bank must maintain minimum total risk-based, Tier 1 risk-based and Tier 1 leverage ratios as set forth in the table below. There are no conditions or events since that notification that Management believes have changed the institution's category.
The Bank's actual capital amounts and ratios are also presented in the table.
Note 22 - Acquisition
The Company acquired North State National Bank on April 4, 2003. The acquisition and the related merger agreement dated October 3, 2002, was approved by the California Department of Financial Institutions, the Federal Deposit Insurance Corporation, and the shareholders of North State National Bank on March 4, March 7, and March 19, 2003, respectively. At the time of the acquisition, North State had total assets of $140 million, investment securities of $41 million, loans of $76 million, and deposits of $126 million. The acquisition was accounted for using the purchase method of accounting. The amount of goodwill recorded as of the merger date, which represented the excess of the total purchase price over the estimated fair value of net assets acquired, was approximately $15.5 million. The Company recorded a core deposit intangible, which represents the excess of the fair value of North State's deposits over their book value on the acquisition date, of approximately $3.4 million. This core deposit intangible is scheduled to be amortized over a seven-year average life.
Under the terms of the merger agreement, the Company paid $13,090,057 in cash, issued 723,512 shares of common stock, and issued options to purchase 79,587 shares of common stock at an average exercise price of $6.22 per share in exchange for all of the 1,234,375 common shares and options to purchase 79,937 common shares of North State National Bank outstanding as of April 4, 2003.
The pro forma financial information in the following table illustrates the combined operating results of the Company and North State National Bank for the years ended December 31, 2003 and 2002 as if the acquisition of North State National Bank had occurred as of January 1, 2002. The pro forma financial information is presented for informational purposes and is not necessarily indicative of the results of operations that would have occurred if the Company and North State National Bank had constituted a single entity as of or January 1, 2002. The pro forma financial information is also not necessarily indicative of the future results of operations of the combined company. In particular, any opportunity to achieve certain cost savings as a result of the acquisition has not been included in the pro forma financial information.
For the year ended December 31, 2003 2002 ------------------------------- (in thousands except earnings per share) Net interest income $62,316 $57,631 Provision for loan losses 1,250 2,800 Noninterest income 23,100 19,719 Noninterest expense 56,711 49,260 Income tax expense 10,331 9,424 Net income $17,124 $15,866 Basic earnings per share $2.19 $2.05 Diluted earnings per share $2.12 $1.99
The only significant pro forma adjustment is the amortization expense relating to core deposit intangible, and the income tax benefit associated with the pro forma adjustment.
Note 23 - Summary of Quarterly Results of Operations (unaudited)
The following table sets forth the results of operations for the four quarters of 2003 and 2002, and is unaudited; however, in the opinion of Management, it reflects all adjustments (which include only normal recurring adjustments) necessary to present fairly the summarized results for such periods.
2003 Quarters Ended December 31, September 30, June 30, March 31, (Dollars in thousands, except per share data) Interest income $20,354 $19,105 $18,161 $16,349 Interest expense 3,224 3,305 3,445 3,115 ------- ------- ------- ------- Net interest income 17,130 15,800 14,716 13,234 Provision for loan losses 800 150 150 150 ------- ------- ------- ------- Net interest income after provision for loan losses 16,330 15,650 14,566 13,084 Noninterest income 5,753 5,206 6,554 5,396 Noninterest expense 14,459 14,049 14,368 12,651 ------- ------- ------- ------- Income before income taxes 7,624 6,807 6,752 5,829 Income tax expense 2,941 2,469 2,498 2,216 ------- ------- ------- ------- Net income $ 4,683 $ 4,338 $ 4,254 $ 3,613 ======= ======= ======= ======= Per common share: Net income (diluted) $ 0.58 $ 0.54 $ 0.53 $ 0.50 ======= ======= ======= ======= Dividends $ 0.20 $ 0.20 $ 0.20 $ 0.20 ======= ======= ======= =======
2002 Quarters Ended December 31, September 30, June 30, March 31, (Dollars in thousands, except per share data) Interest income $16,228 $16,435 $16,075 $15,958 Interest expense 3,245 3,227 3,179 3,263 ------- ------- ------- ------- Net interest income 12,983 13,208 12,896 12,695 Provision for loan losses 800 700 500 800 ------- ------- ------- ------- Net interest income after provision for loan losses 12,183 12,508 12,396 11,895 Noninterest income 5,998 5,413 3,943 3,826 Noninterest expense 12,473 12,133 10,963 10,402 ------- ------- ------- ------- Income before income taxes 5,708 5,788 5,376 5,319 Income tax expense 1,960 2,161 2,011 1,990 ------- ------- ------- ------- Net income $3,748 $ 3,627 $ 3,365 $ 3,329 ======= ======= ======= ======= Per common share: Net income (diluted) $ 0.52 $ 0.50 $ 0.47 $ 0.47 ======= ======= ======= ======= Dividends $ 0.20 $ 0.20 $ 0.20 $ 0.20 ======= ======= ======= =======
Independent Auditors' Report
To the Board of Directors TriCo Bancshares and Subsidiaries:
We have audited the accompanying consolidated balance sheets of TriCo Bancshares and Subsidiary for the years ended December 31, 2003 and 2002, and the related consolidated statements of income and comprehensive income, changes in shareholders' equity and cash flows for the years then ended. These consolidated financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits. The consolidated financial statements of TriCo Bancshares and Subsidiaries for the year ended December 31, 2001 were audited by other auditors who have ceased operations. Those auditors expressed an unqualified opinion on those financial statements in their report dated January 18, 2002.
We conducted our audits in accordance with auditing standards generally accepted in the United States of America. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the consolidated financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the consolidated financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall consolidated financial statement presentation. We believe that our audits provide 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 TriCo Bancshares and Subsidiary as of December 31, 2003 and 2002, and the results of their operations and their cash flows for the years then ended in conformity with accounting principles generally accepted in the United States of America.
/s/ KPMG LLP
Sacramento, California January 29, 2004
Independent Auditors' Report(1)
To the Board of Directors and Shareholders of TriCo Bancshares and Subsidiary:
We have audited the accompanying consolidated balance sheets of TriCo Bancshares (a California corporation) and Subsidiary as of December 31, 2001 and 2000, and the related consolidated statements of income, changes in shareholders' equity and cash flows for each of the three years in the period ended December 31, 2001. These financial statements are the responsibility of the Corporation's management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with auditing standards generally accepted in the 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 provide 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 TriCo Bancshares and Subsidiary as of December 31, 2001 and 2000, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 2001 in conformity with accounting principles generally accepted in the United States.
/s/ Arthur Andersen LLP
San Francisco, California January 18, 2002
(1) This report is a copy of a previously issued report and the predecessor auditor has not reissued the report. Revisions to prior-period financial statements are considered inconsequential.
MANAGEMENT'S LETTER OF FINANCIAL RESPONSIBILITY
To Our Shareholders:
The Management of TriCo Bancshares is responsible for the preparation, integrity, reliability and consistency of the information contained in this annual report. The consolidated financial statements, which necessarily include amounts based on judgments and estimates, were prepared in conformity with generally accepted accounting principles and prevailing practices in the banking industry. All other financial information appearing throughout this annual report is presented in a manner consistent with the consolidated financial statements.
Management has established and maintains a system of internal controls that provides reasonable assurance that the underlying financial records are reliable for preparing the consolidated financial statements, and that assets are safeguarded from unauthorized use or loss. This system includes extensive written policies and operating procedures and a comprehensive internal audit function, and is supported by the careful selection and training of staff, an organizational structure providing for division of responsibility, and a Code of Ethics covering standards of personal and business conduct.
Management believes that, as of December 31, 2003, the Company's internal control environment is adequate to provide reasonable assurance as to the integrity and reliability of the consolidated financial statements and related financial information contained in the annual report. However, there are limits inherent in all systems of internal accounting control and Management recognizes that errors or irregularities may occur. Based on the recognition that the costs of such systems should not exceed the benefits to be derived, Management believes the Company's system provides an appropriate cost/benefit balance.
The system of internal controls is under the general oversight of the Board of Directors acting through its Audit Committee, which is comprised entirely of outside directors. The Audit Committee monitors the effectiveness of and compliance with internal controls through a continuous program of internal audit. This is accomplished through periodic meetings with Management, internal auditors and independent auditors to assure that each is carrying out their responsibilities.
The Company's 2003 consolidated financial statements have been audited by KPMG LLP, independent certified public auditors elected by the shareholders. All financial records and related data, as well as the minutes of shareholders and directors meetings, have been made available to them. Management believes that all representations made to the independent auditors during their audit were valid and appropriate.
Richard P. Smith President and Chief Executive Officer
Thomas J. Reddish Executive Vice President and Chief Financial Officer
ITEM 9.
ITEM 9. CHANGES IN AND DISAGREEMENTS ON ACCOUNTING AND FINANCIAL DISCLOSURE
On March 22, 2002, the Company decided not to renew the engagement of its independent public accountants, Arthur Andersen LLP ("Andersen"). This determination followed the Company's decision to seek proposals from other independent accountants to audit the Company's consolidated financial statements for the year ending December 31, 2002.
The decision not to renew the engagement of Andersen was made by the Board of Directors based upon a recommendation of its Audit Committee.
During the Company's fiscal year ended December 31, 2001, and during the interim period from December 31, 2001 through March 22, 2002, there were no disagreements between the Company and Andersen on any matter of accounting principles, financial statement disclosure, or auditing scope or procedure which, if not resolved to Andersen's satisfaction, would have caused Andersen to make reference to the matter of the disagreement in connection with their reports. The audit reports of Andersen on the consolidated financial statements of the Company as of December 31, 2001 and 2000 and for each of the three years in the period ended December 31, 2001 did not contain any adverse opinion or disclaimer of opinion, nor were these opinions qualified or modified as to uncertainty, audit scope or accounting principles. The Company requested that Andersen furnish it with a letter, addressed to the commission stating whether or not it agrees with the above statements. The letter from Andersen is incorporated by reference from the Company's 8-K dated March 27, 2002.
Effective March 22, 2002, the Board of Directors, based upon a recommendation of its Audit Committee, retained KPMG LLP ("KPMG") as its independent accountants to audit the Company's consolidated financial statements for the year ending December 31, 2002. The decision to retain KPMG was ratified by shareholders at the Annual Meeting of Shareholders in May 2002.
During the Company's two fiscal years ended December 31, 2001, and during the interim period through March 22, 2002, there were no reportable events as defined in Item 301 (a)(1)(v) of Regulation S-K.
During the Company's two fiscal years ended December 31, 2001, and during the interim period through March 22, 2002, the Company did not consult with KPMG regarding either:
(i) the application of accounting principles to a specified transaction, either completed or proposed; or the type of audit opinion that might be rendered on the Company's financial statements; or
(ii) any matter that was either the subject of a disagreement (as defined in Item 304(a)(1)(iv) of regulation S-K and related instruction to this Item) or a reportable event identified (as described in Item 304(a)(1)(v) of Regulation S-K and related instruction to this Item).
ITEM 9A.
ITEM 9A. CONTROLS AND PROCEDURES
The Chief Executive Officer, Richard P. Smith, and the Chief Financial Officer, Thomas J. Reddish, evaluated the effectiveness of the Company's disclosure controls and procedures as of December 31, 2003 ("Evaluation Date"). Based on that evaluation, they concluded that as of the Evaluation Date the Company's disclosure controls and procedures are effective to allow timely communication to them of information relating to the Company and the Bank required to be disclosed in its filings with the Securities and Exchange Commission ("SEC") under the Securities Exchange Act of 1934, as amended ("Exchange Act"). Disclosure controls and procedures are Company controls and other procedures that are designed to ensure that information required to be disclosed by the Company in the reports that it files under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the SEC's rules and forms.
PART III
ITEM 10.
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
The information regarding directors and executive officers of the registrant required by this Item 10 is incorporated herein by reference from the Company's Proxy Statement for the annual meeting of shareholders to be held on May 4, 2004, which will be filed with the Commission pursuant to Regulation 14A.
ITEM 11.
ITEM 11. EXECUTIVE COMPENSATION
The information required by this Item 11 is incorporated herein by reference from the Company's Proxy Statement for the annual meeting of shareholders to be held on May 4, 2004, which will be filed with the Commission pursuant to Regulation 14A.
ITEM 12.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS
The information required by this Item 12 is incorporated herein by reference from the Company's Proxy Statement for the annual meeting of shareholders to be held on May 4, 2004, which will be filed with the Commission pursuant to Regulation 14A.
ITEM 13.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The information required by this Item 13 is incorporated herein by reference from the Company's Proxy Statement for the annual meeting of shareholders to be held on May 4, 2004, which will be filed with the Commission pursuant to Regulation 14A.
ITEM 14.
ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES
The information required by this Item 14 is incorporated herein by reference from the Company's Proxy Statement for the annual meeting of shareholders to be held on May 4, 2004, which will be filed with the Commission pursuant to Regulation 14A.
PART IV
ITEM 15.
ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
(a) Documents filed as part of this report:
1. All Financial Statements.
The consolidated financial statements of Registrant are listed at page 36 of Item 8 of this report, and are incorporated herein by reference.
2. Financial statement schedules.
Schedules have been omitted because they are not applicable or are not required under the instructions contained in Regulation S-X or because the information required to be set forth therein is included in the consolidated financial statements or notes thereto at Item 8 of this report.
3. Exhibits.
The following documents are included or incorporated by reference in this annual report on Form 10-K, and this list includes the Exhibit Index.
Exhibit No. Exhibit Index - ----------- -------------
3.1* Restated Articles of Incorporation dated May 9, 2003, filed as Exhibit 3.1 to TriCo's Quarterly Report on Form 10-Q for the quarter ended March 31, 2003
3.2* Bylaws of TriCo Bancshares, as amended, filed as Exhibit 3.2 to TriCo's Form S-4 Registration Statement dated January 16, 2003 (No. 333-102546)
4* Certificate of Determination of Preferences of Series AA Junior Participating Preferred Stock filed as Exhibit 3.3 to TriCo's Quarterly Report on Form 10-Q for the quarter ended September 30, 2001
10.1* Rights Agreement dated June 25, 2001, between TriCo and Mellon Investor Services LLC filed as Exhibit 1 to TriCo's Form 8-A dated July 25, 2001
10.2* Form of Change of Control Agreement dated April 10, 2001, between TriCo and each of Richard O'Sullivan, Thomas Reddish, Ray Rios and Richard Smith, and dated February 27, 2003 between TriCo and Craig Carney filed as Exhibit 10.9 to TriCo's Report on Form 10-Q for the quarter ended September 30, 2001
10.3* TriCo's 1993 Non-Qualified Stock Option Plan filed as Exhibit 4.1 to TriCo's Form S-8 Registration Statement dated January 18, 1995 (No. 33-88704)
10.4* TriCo's Non-Qualified Stock Option Plan filed as Exhibit 4.2 to TriCo's Form S-8 Registration Statement dated January 18, 1995 (No. 33-88704)
10.5* TriCo's Incentive Stock Option Plan filed as Exhibit 4.3 to TriCo's Form S-8 Registration Statement dated January 18, 1995 (No. 33-88704)
10.6* TriCo's 1995 Incentive Stock Option Plan filed as Exhibit 4.1 to TriCo's Form S-8 Registration Statement dated August 23, 1995 (No. 33-62063)
10.7* TriCo's 2001 Stock Option Plan filed as Exhibit 4 to TriCo's Form S-8 Registration Statement dated July 27, 2001 (No. 33-66064)
10.8* Employment Agreement between TriCo and Richard Smith dated April 10, 2001, filed as Exhibit 10.8 to TriCo's Form S-4 Registration Statement dated January 16, 2003 (No. 333-102546)
10.9* Tri Counties Bank Executive Deferred Compensation Plan dated September 1, 1987, as restated April 1, 1992, and amended November 12, 2002, filed as Exhibit 10.9 to TriCo's Form S-4 Registration Statement dated January 16, 2003 (No. 333-102546)
10.10* Tri Counties Bank Supplemental Retirement Plan for Directors dated September 1, 1987, as restated January 1, 2001, filed as Exhibit 10.10 to TriCo's Form S-4 Registration Statement dated January 16, 2003 (No. 333-102546)
10.11* Tri Counties Bank Supplemental Executive Retirement Plan effective September 1, 1987, filed as Exhibit 10.11 to TriCo's Form S-4 Registration Statement dated January 16, 2003 (No. 333-102546)
10.12* Tri Counties Bank Deferred Compensation Plan for Directors effective April 1, 1992, filed as Exhibit 10.12 to TriCo's Form S-4 Registration Statement dated January 16, 2003 (No. 333-102546)
10.13* Employment Agreement between TriCo and Richard O'Sullivan dated April 10, 2001, filed as Exhibit 10.13 to TriCo's Quarterly Report on Form 10-Q for the quarter ended March 31, 2003
10.14* Form of Joint Beneficiary Agreement effective March 31, 2003 between Tri Counties Bank and each of George Barstow, Dan Bay, Ron Bee, Craig Carney, Robert Elmore, Greg Gill, Richard Miller, Andrew Mastorakis, Richard O'Sullivan, Thomas Reddish, Jerald Sax, and Richard Smith, filed as Exhibit 10.14 to TriCo's Quarterly Report on Form 10-Q for the quarter ended September 30, 2003
10.15* Form of Joint Beneficiary Agreement effective March 31, 2003 between Tri Counties Bank and each of Don Amaral, William Casey, Craig Compton, John Hasbrook, Michael Koehnen, Wendell Lundberg, Donald Murphy, Carroll Taresh, and Alex Vereshagin, filed as Exhibit 10.15 to TriCo's Quarterly Report on Form 10-Q for the quarter ended September 30, 2003
10.16* Form of Tri-Counties Bank Executive Long Term Care Agreement effective June 10, 2003 between Tri Counties Bank and each of Craig Carney, Andrew Mastorakis, Richard Miller, Richard O'Sullivan, and Thomas Reddish, filed as Exhibit 10.16 to TriCo's Quarterly Report on Form 10-Q for the quarter ended September 30, 2003
10.17* Form of Tri-Counties Bank Director Long Term Care Agreement effective June 10, 2003 between Tri Counties Bank and each of Don Amaral, William Casey, Craig Compton, John Hasbrook, Michael Koehnen, Donald Murphy, Carroll Taresh, and Alex Verischagin, filed as Exhibit 10.17 to TriCo's Quarterly Report on Form 10-Q for the quarter ended September 30, 2003
10.18 Form of Indemnification Agreement between TriCo Bancshares/Tri Counties Bank and each of the directors of TriCo Bancshares/Tri Counties Bank effective on the date that each director is first elected.
11.1 Computation of earnings per share
21.1 Tri Counties Bank, a California banking corporation, and TriCo Capital Trust I, a Delaware business trust, are the only subsidiaries of Registrant
23.1 Consent of KPMG LLP
31.1 Rule 13a-14(a)/15d-14(a) Certification of CEO
31.2 Rule 13a-14(a)/15d-14(a) Certification of CFO
32.1 Section 1350 Certification of CEO
32.2 Section 1350 Certification of CFO
*Previously filed and incorporated herein by reference.
(b) Reports on Form 8-K:
During the quarter ended December 31, 2003 the Company filed the following Current Reports on Form 8-K:
Description Date of Report ------------------------------------------- --------------- Quarterly results of operations October 24, 2003
(c) Exhibits filed:
See Exhibit Index under Item 15(a)(3) above for the list of exhibits required to be filed by Item 601 of regulation S-K with this report.
(d) Financial statement schedules filed:
See Item 15(a)(2) above.
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.
Date: March 5, 2003 TRICO BANCSHARES
By: /s/ Richard P. Smith ---------------------------------------- Richard P. Smith, President and Chief Executive Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the Registrant in the capacities and on the dates indicated.
Date: March 5, 2004 /s/ Richard P. Smith ---------------------------------------- Richard P. Smith, President, Chief Executive Officer and Director (Principal Executive Officer)
Date: March 5, 2004 /s/ Thomas J. Reddish ---------------------------------------- Thomas J. Reddish, Executive Vice President and Chief Financial Officer (Principal Financial and Accounting Officer)
Date: March 5, 2004 /s/ Donald J. Amaral ---------------------------------------- Donald J. Amaral, Director
Date: March 5, 2004 /s/ William J. Casey ---------------------------------------- William J. Casey, Director and Chairman of the Board
Date: March 5, 2004 /s/ Craig S. Compton ---------------------------------------- Craig S. Compton, Director
Date: March 5, 2004 /s/ Wendell J. Lundberg ---------------------------------------- Wendell J. Lundberg, Director
Date: March 5, 2004 /s/ Donald E. Murphy ---------------------------------------- Donald E. Murphy, Director and Vice Chairman of the Board
Date: March 5, 2004 /s/ Steve G. Nettleton ---------------------------------------- Steve G. Nettleton, Director
Date: March 5, 2004 /s/ Carroll R. Taresh ---------------------------------------- Carroll R. Taresh, Director
Date: March 5, 2004 /s/ Alex A. Vereschagin ---------------------------------------- Alex A. Vereschagin, Jr., Director
EXHIBITS
Exhibit 10.18
INDEMNIFICATION AGREEMENT
This Indemnification Agreement ("Agreement") is entered into on __________, by and between TriCo Bancshares/Tri Counties Bank, a California corporation ("Company"), and ______________________________ ("Director"), a director of the Company.
Recitals
It is in the best interests of the Company to attract and retain qualified directors to serve this Company.
In order to attract and retain such persons, it is necessary to provide assurance that their interests will be protected and defended to the extent permitted by applicable law if a claim is brought or threatened against them based upon their actions as directors of this Company.
It is now and has always been the express policy of the Company to indemnify its directors so as to provide them with the maximum possible protection permitted by law.
The substantial increase in corporate litigation subjects directors to expensive litigation risks at the same time the availability of directors' liability insurance has been limited.
Director believes that the protection available under the Company's Certificate of Incorporation and insurance policies may not be adequate in the present circumstances, and may not be willing to continue to serve as a director without adequate protection, and the Company desires Director to continue to serve in such capacity.
NOW, THEREFORE, the parties agree as follows:
Terms of Agreement
Agreement to Serve. Director agrees to continue to serve as a director of the Company for so long as he or she is duly elected or appointed or until such time as he or she tenders his or her resignation in writing.
Definitions. As used in this Agreement:
a. The term "Proceeding" shall include any threatened, pending or completed action or proceeding, whether of a civil, criminal, administrative or investigative nature, in which Director is or was a party or is threatened to be made a party by reason of the fact that Director is or was a director of the Company (or any subsidiary of the Company), or is or was serving at the request of the Company as a director, officer, employee or agent of another foreign or domestic corporation, partnership, joint venture, trust or other enterprise.
b. The term "Expenses" shall include, without limitation, expenses of investigation, judicial or administrative proceedings or appeals, amounts paid in settlement by or on behalf of Director, attorneys' fees and disbursements and any expenses of establishing a right to indemnification under paragraph 7 of this Agreement, but shall not include amounts of judgments, fines or penalties against Director.
Indemnity in Third-Party Proceedings. The Company shall indemnify Director in accordance with the provisions of this paragraph 3 against all Expenses, judgments, fines, settlements and other amounts actually and reasonably incurred by Director in connection with the Proceeding (other than a Proceeding by or in the right of the Company to procure a judgment in its favor), but only if Director acted in good faith and in a manner which he or she reasonably believed to be in the best interests of the Company, and, in the case of a criminal proceeding, had no reasonable cause to believe that his or her conduct was unlawful. The termination of any such Proceeding by judgment, order, settlement, conviction or upon a plea of nolo contendere or its equivalent shall not, of itself, create a presumption that Director did not act in good faith in a manner which he or she reasonably believed to be in the best interests of the Company, or that Director had reasonable cause to believe that his or her conduct was unlawful.
Indemnity in Proceedings by or in the Right of the Company. The Company shall indemnify Director in accordance with the provisions of this paragraph 4 against all Expenses actually and reasonably incurred by Director in connection with the defense or settlement of any Proceeding if Director acted in good faith and in a manner which he or she believed to be in the best interests of the Company and its shareholders, except that no indemnification for Expenses shall be made under this paragraph 4 in respect of any claim, issue or matter as to which Director shall have been adjudged to be liable to the Company in the performance of his or her duty to the Company and its shareholders, unless and only to the extent that the court in which such Proceeding is or was pending shall determine upon application that, in view of all the circumstances of the case, Director is fairly and reasonably entitled to indemnity for such Expenses and then only to the extent such court shall determine.
Indemnification of Expenses of Successful Party. Notwithstanding any other provision of this Agreement, to the extent that Director has been successful on the merits in defense of any Proceeding, or in defense of any claim, issue or matter therein, Director shall be indemnified against all Expenses actually and reasonably incurred by Director in connection therewith.
Advances of Expenses. At the written request of Director, the Expenses incurred by Director in any Proceeding shall be paid by the Company prior to the final disposition of such Proceeding, provided that Director shall undertake in writing to repay such amount to the extent that it is determined ultimately that Director is not entitled to indemnification. If the Company makes an advance of expenses pursuant to this paragraph 6, the Company shall be subrogated to every right of recovery Director may have against any insurance carrier from whom the Company has purchased insurance for such purpose.
Right of Director to Indemnification Upon Application; Procedure Upon Application.
a. Any indemnification under paragraphs 3 and 4 or advance under paragraph 6 shall be paid by the Company no later than 45 days after receipt of the written request of Director, unless a determination is made within said 45-day period by (1) the Board of Directors by a majority vote of a quorum consisting of directors who were not parties to the Proceeding in respect of which indemnification is being sought, or (2) if a quorum of disinterested directors is not available, independent legal counsel in a written opinion (which counsel shall be appointed by a quorum of the Board of Directors), or (3) the stockholders of the Company with the shares owned by Director to be indemnified not being entitled to vote thereon, or (4) the court in which the Proceeding is or was pending upon application made by the Company or Director or the attorney or other person rendering services in connection with the defense, whether or not the application is opposed by the Company, that Director has not met the relevant standards for indemnification set forth in paragraphs 3 and 4.
b. The right to indemnification or advancement of Expenses as provided by this Agreement shall be enforceable by Director in any court of competent jurisdiction. The burden of proving that indemnification or advances are not appropriate shall be on the Company. Neither the failure of the Company (including its Board of Directors or independent legal counsel or stockholders) to have made a determination prior to the commencement of such action that Director has met the applicable standard of conduct nor an actual determination by the Company (including its Board of Directors or independent legal counsel or stockholders) that Director has not met such standard shall be a defense to the action or create a presumption that Director has not met the applicable standard of conduct. Director's Expenses actually and reasonably incurred in connection with successfully establishing his or her right to indemnification or advances, in whole or in part, shall also be indemnified by the Company.
c. With respect to any Proceeding for which indemnification is requested, the Company will be entitled to participate therein at its own expense and, except as otherwise provided below, the Company may assume the defense thereof, with counsel satisfactory to Director. After notice from the Company to Director of its election to assume the defense of a Proceeding, the Company will not be liable to Director under this Agreement for any Expenses subsequently incurred by Director in connection with the defense thereof, other than as provided below. The Company shall not settle any Proceeding in any manner which would impose any penalty or limitation on Director without Director's written consent. Director shall have the right to employ counsel in any Proceeding but the fees and expenses of such counsel incurred after notice from the Company of its assumption of the defense of the Proceeding shall be at the expense of Director, unless (i) the employment of counsel by Director has been authorized by the Company, (ii) Director shall have reasonably concluded that there may be a conflict of interest between the Company and Director in the conduct of the defense of a Proceeding, or (iii) the Company shall not in fact have employed counsel to assume the defense of a Proceeding, in each of which cases the fees and expenses of Director's counsel shall be advanced by the Company. Notwithstanding the foregoing, the Company shall not be entitled to assume the defense of any Proceeding brought by or in the right of the Company.
Limitation on Indemnification. No payment pursuant to this Agreement shall be made by the Company:
a. to indemnify or advance funds to Director for Expenses with respect to Proceedings initiated or brought voluntarily by Director and not by way of defense, except with respect to Proceedings brought to establish or enforce a right to indemnification under this Agreement, but such indemnification or advancement of Expenses may be provided by the Company in specific cases if the Board of Directors finds it to be appropriate;
b. to indemnify Director for any Expenses, judgments, fines or penalties sustained in any Proceeding for which payment is actually made to Director under a valid and collectible insurance policy, except in respect of any excess beyond the amount of payment under such insurance;
c. to indemnify Director for any Expenses, judgments, fines or penalties sustained in any Proceeding for an accounting of profits made from the purchase or sale by Director of securities of the Company pursuant to the provisions of section 16(b) of the Securities Exchange Act of 1934, the rules and regulations promulgated thereunder and amendments thereto or similar provisions of any federal, state or local statutory law;
d. to indemnify Director for any Expenses, judgments, fines or penalties resulting from Director's conduct which is finally adjudged to have been willful misconduct, knowingly fraudulent or deliberately dishonest;
e. if a court of competent jurisdiction finally determines that such payment hereunder is unlawful; or
f. if contrary to section 317 of the California Corporations Code.
Indemnification Hereunder Not Exclusive. The indemnification and advancement of Expenses provided by this Agreement shall not be deemed exclusive of any other rights to which Director may be entitled under the Certificate of Incorporation or the Bylaws of the Company, any agreement, any vote of stockholders or disinterested directors, the California Corporations Code, or otherwise, both as to action in his official capacity and as to action in another capacity while holding such office. The indemnification provided by this Agreement shall continue as to Director even though he or she may have ceased to be a director and shall inure to the benefit of the heirs and personal representatives of Director.
Partial Indemnification. If Director is entitled under any provision of this Agreement to indemnification by the Company for a portion of the Expenses, judgments, fines or penalties actually and reasonably incurred by him or her in any Proceeding but not, however, for the total amount thereof, the Company shall nevertheless indemnify Director for the portion of such Expenses, judgments, fines or penalties to which Director is entitled.
Maintenance of Liability Insurance.
a. The Company hereby covenants and agrees that, as long as Director continues to serve as a director of the Company and thereafter as long as Director may be subject to any Proceeding, the Company, subject to subsection 11(c) below, shall maintain in full force and effect Directors' and Officers' liability insurance ("D&O Insurance") in reasonable amounts from established and reputable insurers.
b. In all D&O Insurance policies, Director shall be named as an insured in such a manner as to provide the Director the same rights and benefits as are accorded to the most favorably insured of the Company's directors and officers.
c. Notwithstanding the foregoing, the Company shall have no obligation to obtain or maintain D&O Insurance if the Company determines in good faith that such insurance is not reasonably available, the premium costs for such insurance are disproportionate to the amount of coverage provided, the coverage provided by such insurance is so limited by exclusions that it provides an insufficient benefit, or Director is covered by similar insurance maintained by a subsidiary of the Company.
Savings Clause. If this Agreement or any portion hereof is invalidated on any ground by any court of competent jurisdiction, the Company shall nevertheless indemnify Director to the extent permitted by any applicable portion of this Agreement that has not been invalidated or by any other applicable law.
Notice. Director shall, as a condition precedent to his or her right to be indemnified under this Agreement, give to the Company notice in writing as soon as practicable of any Proceeding for which indemnity will or could be sought under this Agreement. Notice to the Company shall be directed to TriCo Bancshares, 63 Constitution Drive, Chico, California 95973, Attn: President (or such other address as the Company shall designate in writing to Director). Notice shall be deemed received three days after the date postmarked if sent by prepaid mail, properly addressed. In addition, Director shall give the Company such information and cooperation as it may reasonably require and as shall be within Director's power.
Counterparts. This Agreement may be executed in any number of counterparts, all of which shall be deemed to constitute one and the same instrument.
Applicable Law. This Agreement shall be governed by, and construed and interpreted in accordance with, the law of the State of California.
Successors and Assigns. This Agreement shall be binding upon the Company and its successors and assigns.
Amendments. No amendment, waiver, modification, termination or cancellation of this Agreement shall be effective unless in writing signed by both parties hereto. The indemnification rights afforded to Director hereby are contract rights and may not be diminished, eliminated or otherwise affected by amendments to the Certificate of Incorporation or Bylaws of the Company or by other agreements.
Survival of Company's Obligations. The obligations hereunder shall survive all the following to the extent not prohibited by applicable law:
a. Director's resignation or removal from office for any reason.
b. A change in control of the Company.
c. The merger, reorganization, sale of assets, dissolution, liquidation or conversion of the Company.
d. The bankruptcy or insolvency of the Company.
e. Any amendment of the Company's Certificate of Incorporation or Bylaws.
f. Any action by a state or federal banking agency including, without limitation, the California State Banking Department, the Board of Governors of the Federal Reserve System and the Federal Deposit Insurance Corporation to liquidate or place in receivership the Company or any of its assets or subsidiaries.
IN WITNESS WHEREOF, the parties hereto have caused this Agreement to be executed as of the date first above written.
DIRECTOR
---------------------------------------- Print Name:
TRICO BANCSHARES/TRI COUNTIES BANK, a California corporation
By: ---------------------------------------- Title: President and Chief Executive Officer
Exhibit 11.1
TRICO BANCSHARES Computation of Earnings Per Share on Common and Common Equivalent Shares and on Common Shares Assuming Full Dilution
Exhibit 23.1
Independent Auditors' Consent
To the Audit Committee of the Board of Directors TriCo Bancshares and Subsidiaries:
We consent to the incorporation by reference in the registration statements (Nos. 33-88702, 33-62063, and 33-66064) on Form S-8 of our report dated January 29, 2004, relating to the consolidated balance sheets of TriCo Bancshares and Subsidiary as of December 31, 2003 and 2002 and the related consolidated statements of income and comprehensive income, shareholders' equity and cash flows for the years ended December 31, 2003 and 2002, which report appears in the December 31, 2003, annual report on Form 10-K of TriCo Bancshares and Subsidiary.
Our report, dated January 29, 2004, contains an explanatory paragraph indicating that the related consolidated statements of income and comprehensive income, shareholders' equity, and cash flows of TriCo Bancshares and Subsidiary for the year ended December 31, 2001 were audited by other auditors who have ceased operations.
/s/ KPMG LLP
Sacramento, California March 9, 2004
Exhibit 31.1
Certification Pursuant to Rule 13a-14(a)/15d-14(a) of the Securities Exchange Act of 1934, as Amended
I, Richard P. Smith, certify that;
1. I have reviewed this annual report on Form 10-K of TriCo Bancshares; 2. Based on my knowledge, this annual report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this annual report; 3. Based on my knowledge, the financial statements, and other financial information included in this annual report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this annual report; 4. The registrant's other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the registrant and we have; a. Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this annual report is being prepared; b. Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, 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; c. Evaluated the effectiveness of the registrant's disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluations; and d. Disclosed in this report any change in the registrant's internal control over financial reporting that occurred during the registrant's most recent fiscal quarter that has materially affected, or is reasonably likely to materially affect, the registrant's internal control over financial reporting; and 5. The registrant's other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant's auditors and the audit committee of the registrant's board of directors: a. All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant's ability to record, process, summarize and report financial information; and b. Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal control over financial reporting.
Date: March 5, 2004 /s/ Richard P. Smith ---------------------------------------- Richard P. Smith President and Chief Executive Officer
Exhibit 31.2
Certification Pursuant to Rule 13a-14(a)/15d-14(a) of the Securities Exchange Act of 1934, as Amended
I, Thomas J. Reddish, certify that;
1. I have reviewed this annual report on Form 10-K of TriCo Bancshares; 2. Based on my knowledge, this annual report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this annual report; 3. Based on my knowledge, the financial statements, and other financial information included in this annual report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this annual report; 4. The registrant's other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the registrant and we have; a. Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this annual report is being prepared; b. Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, 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; c. Evaluated the effectiveness of the registrant's disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluations; and d. Disclosed in this report any change in the registrant's internal control over financial reporting that occurred during the registrant's most recent fiscal quarter that has materially affected, or is reasonably likely to materially affect, the registrant's internal control over financial reporting; and 5. The registrant's other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant's auditors and the audit committee of the registrant's board of directors: a. All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant's ability to record, process, summarize and report financial information; and b. Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal control over financial reporting.
Date: March 5, 2004 /s/ Thomas J. Reddish ---------------------------------------- Thomas J. Reddish Executive Vice President and Chief Financial Officer
Exhibit 32.1
Certification Pursuant to 18 U.S.C. Section 1350.
In connection with the Annual Report of TriCo Bancshares (the "Company") on Form 10-K for the year ending December 31, 2003 as filed with the Securities and Exchange Commission on the date hereof (the "Report"), I, Richard P. Smith, President and Chief Executive Officer of the Company, certify, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, that:
(1) The Report fully complies with the requirements of section 13(a) or 15(d) of the Securities Exchange Act of 1934; and
(2) The information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Company.
/s/ Richard P. Smith ------------------------------------------ Richard P. Smith President and Chief Executive Officer
A signed original of this written statement required by Section 906 has been provided to TriCo Bancshares and will be retained by TriCo Bancshares and furnished to the Securities and Exchange Commission or its staff upon request.
Exhibit 32.2
Certification Pursuant to 18 U.S.C. Section 1350.
In connection with the Annual Report of TriCo Bancshares (the "Company") on Form 10-K for the year ending December 31, 2003 as filed with the Securities and Exchange Commission on the date hereof (the "Report"), I, Thomas J. Reddish, Vice President and Chief Financial Officer of the Company, certify, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, that:
(1) The Report fully complies with the requirements of section 13(a) or 15(d) of the Securities Exchange Act of 1934; and
(2) The information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Company.
/s/ Thomas J. Reddish ------------------------------------------ Thomas J. Reddish Executive Vice President and Chief Financial Officer
A signed original of this written statement required by Section 906 has been provided to TriCo Bancshares and will be retained by TriCo Bancshares and furnished to the Securities and Exchange Commission or its staff upon request.