10-Q 1 a09-11332_110q.htm 10-Q

Table of Contents

 

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C.  20549

 

FORM 10-Q

 

(Mark One)

 

x

 

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

 

For the quarterly period ended March 31, 2009

 

o

 

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

 

For the transition period from                

 

Commission File Number: 001-33890

 

1ST PACIFIC BANCORP

 

State of California

 

NO. 20-5738252

(State or other jurisdiction of incorporation)

 

(IRS Employer Identification No.)

 

 

 

9333 Genesee Ave., #300, San Diego, California

 

92121

(Address of principal executive offices)

 

(Zip Code)

 

Registrant’s telephone number, including area code:  (858) 875-2000

 

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

 

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

 

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

 

Large accelerated filer o

 

Accelerated filer o

 

 

 

Non-accelerated filer o

 

Smaller Reporting Company x

(Do not check if a smaller reporting company)

 

 

 

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

 

On May 9, 2009, there were 4,980,481 shares of 1st Pacific Bancorp common stock outstanding.

 

 

 



Table of Contents

 

1st Pacific Bancorp

Quarterly Report on Form 10-Q for the period ended March 31, 2009

 

INDEX

 

 

 

Page

 

 

 

Forward-Looking Statements

 

3

 

 

 

PART I - FINANCIAL INFORMATION

 

 

 

 

 

Item 1 - Financial Statements

 

 

Unaudited Condensed Consolidated Balance Sheets at March 31, 2009 and December 31, 2008

 

5

 

 

 

Unaudited Condensed Consolidated Income Statements for the three months ended March 31, 2009 and 2008

 

6

 

 

 

Unaudited Condensed Consolidated Statement of Changes in Shareholders’ Equity from December 31, 2007 through March 31, 2009

 

7

 

 

 

Unaudited Condensed Consolidated Statements of Cash Flows for the three months ended March 31, 2009 and 2008

 

8

 

 

 

Notes to Unaudited Condensed Consolidated Financial Statements

 

9

 

 

 

Item 2 - Management’s Discussion and Analysis of Financial Condition and Results of Operations

 

13

 

 

 

Item 3 - Quantitative and Qualitative Disclosures About Market Risk

 

22

 

 

 

Item 4T - Controls and Procedures

 

22

 

 

 

PART II - OTHER INFORMATION

 

 

 

 

 

Item 1- Legal Proceedings

 

24

 

 

 

Item 1A- Risk Factors

 

24

 

 

 

Item 2 - Unregistered Sales of Equity Securities and Use of Proceeds

 

24

 

 

 

Item 3 — Defaults Upon Senior Securities

 

24

 

 

 

Item 4 — Submission of Matters to a Vote of Security Holders

 

24

 

 

 

Item 5 — Other Information

 

24

 

 

 

Item 6 - Exhibits

 

25

 

 

 

Signatures

 

26

 

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FORWARD-LOOKING STATEMENTS

 

1st Pacific Bancorp (“we,” “our,” “us” or the “Company”) may from time to time make written or oral “forward-looking statements,” including statements contained in our filings with the Securities and Exchange Commission (the “SEC”) (including this Quarterly Report on Form 10-Q and the exhibits hereto), in our reports to shareholders and in other communications by us, which are made in good faith by us pursuant to the “safe harbor” provisions of the Private Securities Litigation Reform Act of 1995.

 

These forward-looking statements include statements concerning our beliefs, plans, objectives, goals, expectations, anticipations, estimates, intentions, operations, future results and prospects, including statements that include the words “may,” “could,” “should,” “would,” “believe,” “expect,” “will,” “shall,” “anticipate,” “estimate,” “propose,” “continue,” “predict,” “intend,” “plan” and similar expressions.  These forward-looking statements are based upon current expectations and are subject to risk, uncertainties and assumptions, including those described in this quarterly report and the other documents that are incorporated by reference herein.  Should one or more of these risks or uncertainties materialize, or should underlying assumptions prove incorrect, actual results may vary materially from those anticipated, estimated, expected, projected, intended, committed or believed.

 

In connection with the safe harbors created by Section 21E of the Securities Exchange Act of 1934, as amended, and the provisions of the Private Securities Litigation Reform Act of 1995, the Company provides the following cautionary statements identifying important factors (some of which are beyond our control) which could cause the actual results or events to differ materially from those set forth in or implied by the forward-looking statements and related assumptions. Such factors include, but are not limited to, the following:

 

·                  The factors described in Item 1A-Risk Factors of the Company’s Annual Report on Form 10-K for the 2008 fiscal year filed on March 31, 2009.

 

·                  Potential losses of businesses and population in the County of San Diego, and rising housing and insurance costs that may be responsible for such losses.

 

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

 

·                  Stock, bond market and monetary fluctuations.

 

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

 

·                  Credit risks of commercial, SBA, real estate, consumer and other lending activities, including risks related to changes in the values of real estate and other security for loans.

 

·                  Risks associated with concentrations, including commercial real estate loans, in the loan portfolio.

 

·                  The questionable availability of take-out financing or problems with sales or lease-up with respect to commercial and residential projects, due to the current economic environment.

 

·                  Competitors in our market area of similar size, with similar business plans and/or offering similar services.

 

·                  Our ability to develop competitive new products and services and the acceptance of those products and services by targeted customers and, when required, regulators.

 

·                  Our ability to securely and effectively implement new technology (including Internet services) for both the delivery of services and internal operations.

 

·                  The willingness of customers to substitute competitors’ products and services for our products and services and vice versa.

 

·                  Changes in consumer and business spending and savings habits.

 

·                  Unanticipated regulatory or judicial proceedings.

 

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·                  The loss of significant customers.

 

·                  The risk and cost resulting from the opening of one or more new offices and adding employees.

 

·                  Increased regulation of the securities markets, including the securities of 1st Pacific Bancorp, whether pursuant to the Sarbanes-Oxley Act of 2002 or otherwise.

 

·                  Changes in critical accounting policies and judgments.

 

·                  Other internal and external developments that could materially impact our operational and financial performance.

 

Investors and other readers are cautioned not to place undue reliance on forward-looking statements, which reflect management’s analysis only as of the date of the statement.  Actual results may differ materially from what is expected. The Company undertakes no obligation, unless required by law, to update publicly any forward-looking statements, whether as a result of new information, future events or otherwise.

 

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PART 1 – FINANCIAL INFORMATION

 

Item 1 - Financial Statements

 

1st Pacific Bancorp

Unaudited Condensed Consolidated Balance Sheets

 

 

 

March 31,

 

December 31,

 

 

 

2009

 

2008

 

 

 

 

 

 

 

Cash and Due From Banks

 

$

8,714,213

 

$

6,482,152

 

Federal Funds Sold

 

42,020,000

 

18,010,000

 

TOTAL CASH AND CASH EQUIVALENTS

 

50,734,213

 

24,492,152

 

 

 

 

 

 

 

Investment Securities Available for Sale

 

21,486,012

 

25,052,874

 

 

 

 

 

 

 

Construction & Land Development

 

106,883,633

 

109,592,264

 

Real Estate - Comm’l & Residential

 

153,707,939

 

147,965,134

 

SBA 7a & 504

 

10,080,685

 

8,820,177

 

Commercial & Consumer

 

86,607,143

 

85,521,204

 

Allowance for Loan Losses

 

(5,555,559

)

(5,058,837

)

NET LOANS

 

351,723,841

 

346,839,942

 

 

 

 

 

 

 

Premises and Equipment

 

3,434,787

 

3,611,224

 

Federal Reserve, FHLB and Bankers’ Bank Stock, at Cost

 

4,246,700

 

4,611,400

 

Other Real Estate Owned

 

4,219,751

 

1,390,000

 

Core Deposit Intangible

 

1,227,445

 

1,312,544

 

Accrued Interest and Other Assets

 

13,695,931

 

13,599,879

 

 

 

 

 

 

 

TOTAL ASSETS

 

$

450,768,680

 

$

420,910,015

 

 

 

 

 

 

 

Noninterest-Bearing Deposits

 

$

82,447,288

 

$

62,534,488

 

Interest-Bearing Deposits

 

281,201,660

 

271,301,605

 

TOTAL DEPOSITS

 

363,648,948

 

333,836,093

 

 

 

 

 

 

 

Subordinated Debt and Other Borrowings

 

60,155,000

 

60,155,000

 

Accrued Interest and Other Liabilities

 

4,620,541

 

4,337,719

 

TOTAL LIABILITIES

 

428,424,489

 

398,328,812

 

 

 

 

 

 

 

Common Stock

 

37,232,651

 

37,232,651

 

Additional Paid-in Capital

 

627,594

 

555,094

 

Retained Earnings (Deficit)

 

(14,639,837

)

(14,210,945

)

Accumulated Other Comprehensive Income (Loss), net of tax

 

(876,217

)

(995,597

)

TOTAL SHAREHOLDERS’ EQUITY

 

22,344,191

 

22,581,203

 

 

 

 

 

 

 

TOTAL LIABILITIES AND

 

 

 

 

 

SHAREHOLDERS’ EQUITY

 

$

450,768,680

 

$

420,910,015

 

 

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

 

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1st Pacific Bancorp

Unaudited Condensed Consolidated Income Statements

 

 

 

For the

 

 

 

Three Months

 

 

 

Ended

 

 

 

March 31,

 

 

 

2009

 

2008

 

INTEREST INCOME

 

 

 

 

 

Interest and Fees on Loans

 

$

5,479,844

 

$

6,710,716

 

Interest on Investment Securities

 

348,346

 

363,169

 

Interest on Federal Funds Sold and Other

 

18,547

 

145,101

 

TOTAL INTEREST INCOME

 

5,846,737

 

7,218,986

 

INTEREST EXPENSE

 

 

 

 

 

Interest on NOW, Savings & Money Market Accounts

 

179,142

 

720,628

 

Interest on Time Deposits

 

1,534,930

 

1,785,966

 

Interest on Borrowings

 

422,498

 

290,515

 

TOTAL INTEREST EXPENSE

 

2,136,570

 

2,797,109

 

NET INTEREST INCOME

 

3,710,167

 

4,421,877

 

 

 

 

 

 

 

Provision for Loan Losses

 

696,000

 

 

NET INTEREST INCOME AFTER

 

 

 

 

 

PROVISION FOR LOAN LOSSES

 

3,014,167

 

4,421,877

 

 

 

 

 

 

 

NONINTEREST INCOME

 

 

 

 

 

Service Charges, Fees and Other Income

 

241,023

 

231,589

 

Gain on Sale of Investment Securities

 

228,750

 

 

 

 

469,773

 

231,589

 

NONINTEREST EXPENSE

 

 

 

 

 

Salaries and Employee Benefits

 

2,113,516

 

2,276,656

 

Occupancy and Equipment Expense

 

761,318

 

746,971

 

Marketing and Business Promotion

 

47,924

 

98,308

 

Data Processing

 

347,455

 

312,318

 

Professional Fees

 

397,825

 

137,279

 

Regulatory Fees

 

166,117

 

72,711

 

Office and Administrative Expenses

 

221,409

 

236,176

 

Loss on Sublease

 

165,000

 

 

Other Miscellaneous Expenses

 

11,967

 

5,331

 

 

 

4,232,531

 

3,885,750

 

INCOME (LOSS) BEFORE TAXES

 

(748,591

)

767,716

 

 

 

 

 

 

 

Income Tax Expense (Benefit)

 

(319,700

)

320,500

 

NET INCOME (LOSS)

 

$

(428,891

)

$

447,216

 

 

 

 

 

 

 

Per Share Data:

 

 

 

 

 

Net Income (Loss) - Basic

 

$

(0.09

)

$

0.09

 

Net Income (Loss) - Diluted

 

$

(0.09

)

$

0.09

 

 

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

 

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1st Pacific Bancorp

Unaudited Condensed Consolidated Statement of Changes in Shareholders’ Equity

 

 

 

Shares

 

Common
Stock

 

Paid In
Capital

 

Retained
Earnings
(Deficit)

 

Comprehensive
Income (Loss)

 

Accum Other
Comprehensive
Income (Loss)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, December 31, 2007

 

4,944,443

 

$

37,028,186

 

$

350,511

 

$

7,649,040

 

 

 

$

(53,790

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Stock-based Compensation

 

 

 

 

 

204,583

 

 

 

 

 

 

 

Exercise of Stock Options, Including Tax Benefits

 

36,038

 

204,465

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Comprehensive Loss:

 

 

 

 

 

 

 

 

 

 

 

 

 

Net Loss for the Period

 

 

 

 

 

 

 

(21,859,985

)

$

(21,859,985

)

 

 

Unrecognized Loss in Investment Securities Available for Sale, net

 

 

 

 

 

 

 

 

 

(1,402,480

)

(1,402,480

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Reclassification of Net Losses included in Net Loss, net

 

 

 

 

 

 

 

 

 

460,673

 

460,673

 

Total Comprehensive Loss

 

 

 

 

 

 

 

 

 

$

(22,801,792

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, December 31, 2008

 

4,980,481

 

37,232,651

 

555,094

 

(14,210,945

)

 

 

(995,597

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Stock-based Compensation

 

 

 

 

 

72,500

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Comprehensive Loss:

 

 

 

 

 

 

 

 

 

 

 

 

 

Net Loss for the Period

 

 

 

 

 

 

 

(428,891

)

$

(428,891

)

 

 

Unrecognized Gain in Investment Securities Available for Sale, net

 

 

 

 

 

 

 

 

 

254,343

 

254,343

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Reclassification of Net Gains included in Net Loss, net

 

 

 

 

 

 

 

 

 

(134,963

)

(134,963

)

Total Comprehensive Loss

 

 

 

 

 

 

 

 

 

$

(309,511

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, March 31, 2009

 

4,980,481

 

$

37,232,651

 

$

627,594

 

$

(14,639,837

)

 

 

$

(876,217

)

 

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

 

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1st Pacific Bancorp

Unaudited Condensed Consolidated Statements of Cash Flows

 

 

 

For the

 

 

 

Three Months

 

 

 

Ended

 

 

 

March 31,

 

 

 

2009

 

2008

 

OPERATING ACTIVITIES

 

 

 

 

 

Net Income (Loss)

 

$

(428,891

)

$

447,216

 

Adjustments to Reconcile Net Income (Loss) to

 

 

 

 

 

Net Cash Provided by Operating Activities:

 

 

 

 

 

Depreciation and Amortization

 

208,047

 

206,130

 

Provision for Loan Losses

 

696,000

 

 

Stock-based Compensation Expense

 

72,500

 

68,700

 

Gain on Sale of Investment Securities

 

(228,750

)

 

Loss on Foreclosed Real Estate

 

11,753

 

 

Loss on Sublease

 

165,000

 

 

Other Items - Net

 

391,248

 

(45,953

)

NET CASH PROVIDED
BY OPERATING ACTIVITIES

 

886,907

 

676,093

 

 

 

 

 

 

 

INVESTING ACTIVITIES

 

 

 

 

 

Purchases of Investment Securities

 

 

(14,867,218

)

Maturities and Sales of Investment Securities

 

3,795,612

 

2,811,314

 

Change in Equity Securities

 

364,700

 

(891,950

)

Net Change in Loans

 

(8,629,649

)

7,554,739

 

Proceeds from Sale of Other Real Estate Owned

 

208,246

 

 

 

Purchases of Premises and Equipment

 

(196,610

)

(83,317

)

NET CASH USED
BY INVESTING ACTIVITIES

 

(4,457,701

)

(5,476,432

)

 

 

 

 

 

 

FINANCING ACTIVITIES

 

 

 

 

 

Stock Options Exercised

 

 

26,975

 

Increase (Decrease) in Borrowings

 

 

30,000,000

 

Increase (Decrease) in Deposits

 

29,812,855

 

(22,684,424

)

NET CASH PROVIDED
BY FINANCING ACTIVITIES

 

29,812,855

 

7,342,551

 

 

 

 

 

 

 

INCREASE IN CASH
AND CASH EQUIVALENTS

 

26,242,061

 

2,542,212

 

 

 

 

 

 

 

Cash and Cash Equivalents at Beginning of Period

 

24,492,152

 

17,557,189

 

 

 

 

 

 

 

CASH AND CASH EQUIVALENTS
AT END OF PERIOD

 

$

50,734,213

 

$

20,099,401

 

 

 

 

 

 

 

Supplemental disclosure of noncash items:

 

 

 

 

 

Transfers of loans to other real estate owned

 

$

3,049,750

 

$

 

 

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

 

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1st Pacific Bancorp

Notes to Unaudited Condensed Consolidated Financial Statements

 

Note 1 — Consolidation and Basis of Presentation

 

The accompanying unaudited interim condensed consolidated financial statements include the accounts of 1st Pacific Bancorp (the “Company”) and the consolidated accounts of its wholly-owned subsidiary, 1st Pacific Bank of California (the “Bank”). All significant intercompany balances and transactions have been eliminated. The unaudited condensed consolidated financial statements have been prepared pursuant to the rules and regulations of the SEC for interim reporting.

 

The preparation of these unaudited consolidated financial statements, prepared in conformity with accounting principles generally accepted in the United States of America (“GAAP”), required management to make estimates and assumptions which affect the reported amounts of assets and liabilities at the date of the consolidated financial statements and the reported amounts of revenues and expenses during the reporting period. Operating results for the three month period ended March 31, 2009, are not necessarily indicative of the results that may be expected in subsequent quarters or for the full year ending December 31, 2009.

 

Aside from its ownership of the Bank, the Company is inactive except for interest expense associated with junior subordinated debentures and certain other corporate expenses. The Company formed a Delaware trust affiliate, FPBN Trust I (the “Trust”) for the purpose of issuing trust preferred securities. For financial reporting purposes, the Company accounts for its investment in the Trust using the equity method under which the subsidiary’s net earnings are recognized in the Company’s statement of income, pursuant to Financial Accounting Standards Board Interpretation No. 46 (“FIN 46”), “Consolidation of Variable Interest Entities, an Interpretation of ARB No. 51.” Pursuant to FIN 46, the Trust is not consolidated into the Company’s financial statements. The Federal Reserve Board has ruled that subordinated notes payable to unconsolidated special purpose entities (“SPE’s”) such as the Trust, net of the bank holding company’s investment in the SPE, qualify as Tier 1 Capital, subject to certain limits. See the “Borrowings” section of Item 2 - Management’s Discussion and Analysis of Financial Condition and Results of Operations below for further details regarding the trust preferred securities.

 

In the opinion of management, the unaudited condensed consolidated financial statements contain all adjustments, including normal recurring adjustments and accruals necessary to fairly present the financial position of the Company for the interim period ended March 31, 2009. These financial statements do not include all of the disclosures required by GAAP and have been condensed or omitted pursuant to such SEC rules and regulations and, accordingly, should be read in conjunction with the audited financial statements and notes thereto contained in the Company’s Annual Report on Form 10-K for the fiscal year ended December 31, 2008. There were no significant changes in accounting principle since the last report.

 

Certain prior period amounts have been reclassified to conform to the current period’s presentation. In the opinion of management, the unaudited financial information for the three month period ended March 31, 2009; reflect all adjustments, consisting only of normal recurring accruals and provisions, necessary for a fair presentation thereof.

 

Note 2 — Stock-Based Compensation Plans

 

During the three month periods ended March 31, 2008 and March 31, 2009, the Company recognized pre-tax stock-based compensation expense of $68,700 and $72,500, respectively, pursuant to SFAS 123(R). The stock-based compensation expense is calculated based upon the original grant date fair value as allowed under SFAS 123(R). The valuation variables utilized at the grant dates are discussed in the Company’s Annual Report on Form 10-K for the 2008 fiscal year filed on March 31, 2009 in the respective years of the original grants. There were no grants of performance based options or stock during the first three months of 2009. The following table is a summary of non-performance based stock option activity as of March 31, 2009:

 

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2009 Activity

 

Non-Performance Based Options

 

YTD

 

 

 

 

 

Outstanding at Beginning of Period

 

922,148

 

Granted

 

14,000

 

Exercised

 

 

Forfeited and Expired

 

(1,500

)

 

 

 

 

Outstanding at End of Period

 

934,648

 

 

As of March 31, 2009, the Company expects to realize approximately $837,046 of unrecognized compensation expense for non-performance based stock options which will be expensed over the remaining vesting period of approximately 2.2 years. Unrecognized compensation expense related to performance based options of $196,384 will be recognized only when the performance and vesting criteria are met. The Company has not recognized any pre-tax compensation expense related to performance based options in 2009 because the performance and vesting criteria are not expected to be met.

 

Note 3 — Recent Accounting Changes

 

On April 1, 2009, the Financial Accounting Standards Board (“FASB”) issued Staff Position (“FSP”) FAS 141(R)-1, “Accounting for Assets Acquired and Liabilities Assumed in a Business Combination That Arise from Contingencies” which is effective for assets or liabilities arising from contingencies in business combinations for which the acquisition date is on or after the beginning of the first annual reporting period beginning on or after December 15, 2008. This FSP amends and clarifies SFAS No. 141(R), “Business Combinations,” and requires, among other things, that an acquirer recognize at fair value, at the acquisition date, an asset acquired or a liability assumed in a business combination that arises from a contingency if the acquisition-date fair value of that asset or liability can be determined during the measurement period. The Company was not part of a business combination during 2008 and, therefore, SFAS 141 (R)-1 will not affect the Company’s consolidated financial position or results of operations as of this filing.

 

FASB Statement No. 157, “Fair Value Measurements,” provides a framework for measuring fair value and expands disclosures about fair value measurements. This statement established a fair value hierarchy about the assumptions used to measure fair value and clarifies assumptions about risk and the effect of a restriction on the sale or use of an asset. The standard was effective for fiscal years beginning after November 15, 2007. In February 2008, the FASB issued FSP 157-2, Effective Date of FASB Statement No. 157. This FSP delays the effective date of FAS 157 for all nonfinancial assets and nonfinancial liabilities, except those that are recognized or disclosed at fair value on a recurring basis (at least annually) to fiscal years beginning after November 15, 2008, and interim periods within those fiscal years. The impact of adoption was not material. In October 2008, the FASB issued FSP 157-3, “Determining the Fair Value of a Financial Asset when the Market for That Asset is Not Active.” This FSP clarifies the application of FAS No. 157 in a market that is not active. The impact of adoption was not material. In April 2009, the FASB issued FSP 157-4, “Determining Fair Value When the Volume and Level of Activity for the Asset or Liability Have Significantly Decreased and Identifying Transactions That Are Not Orderly.” This FSP provides additional guidance for estimating fair value in accordance with FASB Statement No. 157, “Fair Value Measurements,” when the volume and level of activity for the asset or liability have significantly decreased. This FSP also includes guidance on identifying circumstances that indicate a transaction is not orderly. This issue is effective for reporting periods ending after June 15, 2009, with early adoption permitted for periods ending after March 15, 2009. Early adoption has been deemed unnecessary and the impact of adoption is not expected to be material.

 

Issued in April, 2009, FSP FAS 107-1 and APB 28-1, “Interim Disclosures about Fair Value of Financial Instruments,” requires disclosures about fair value of financial instruments in interim reporting periods of publicly traded companies that were previously only required to be disclosed in annual financial statements. The provisions of FSP FAS 107-1 and APB 28-1 are effective for the Company’s interim period ending on June 30, 2009. As FSP FAS 107-1 and APB 28-1 amends only the disclosure requirement about fair value of

 

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financial instruments in interim periods, the adoption of FSP FAS 107-1 and APB 28-1 is not expected to affect the Company’s statements of income and condition.

 

Issued in April 2009, FSP FAS 115-2 and FAS 124-2, “Recognition and Presentation of Other-Than-Temporary Impairments,” amends current other-than-temporary impairment guidance in GAAP for debt securities to make the guidance more operational and to improve the presentation and disclosure of other-than-temporary impairments on debt and equity securities in the financial statements. This FSP does not amend existing recognition and measurement guidance related to other-than-temporary impairments of equity securities. The provision of FSP FAS 115-2 and FAS 124-2 are effective for the company’s interim period ending on June 30, 2009. Management is currently evaluating the effect that the provisions of FSP FAS 115-2 and FAS 124-2 may have on the Company’s statements of income and condition.

 

Note 4 — Earnings (Loss) Per Share

 

Earnings (loss) per common share is computed by dividing net income (loss) by the weighted average number of common shares outstanding. Diluted earnings (loss) per share reflects the potential dilution that could occur if securities or other contracts to issue common stock were exercised or converted into common stock or resulted in the issuance of common stock which share in the company’s earnings (loss). Common stock equivalents for 2009 have been excluded since their effect was anti-dilutive. A reconciliation of the numerators and denominators of the basic and diluted earning per common share computation for the three months ended March 31, 2009 and March 31, 2008 are presented below:

 

 

 

Three Months Ended March 31,

 

 

 

2009

 

2008

 

Basic earnings (loss) per common share:

 

 

 

 

 

Net income (loss) as reported

 

$

(428,891

)

$

447,216

 

Weighted average common shares outstanding

 

4,980,481

 

4,947,106

 

Basic earnings (loss) per common share

 

$

(0.09

)

$

0.09

 

 

 

 

 

 

 

Diluted earnings (loss) per common share:

 

 

 

 

 

Net income (loss) as reported

 

$

(428,891

)

$

447,216

 

Weighted average diluted common shares outstanding

 

4,980,481

 

5,125,317

 

Diluted earnings (loss) per common share

 

$

(0.09

)

$

0.09

 

 

Note 5 — Fair Values of Assets and Liabilities

 

FASB Statement No. 157, “Fair Value Measurements,” establishes a fair value hierarchy which requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. This statement describes methods used to appropriately measure fair value in accordance with GAAP, expands fair value disclosure requirements and applies whenever other accounting pronouncements require or permit fair value measurements.

 

Financial assets and financial liabilities measured at fair value for SFAS No. 157 are grouped in three levels, based on the markets in which the assets and liabilities are traded and the reliability of the assumptions used to determine fair value. SFAS No. 157 establishes a three-tier fair value hierarchy, which prioritizes the inputs used in measuring fair value at times other than the purchase or sale of an asset or liability. These tiers include:

 

·

Level 1: Quoted prices in active exchange markets for identical assets or liabilities.

 

 

·

Level 2: Significant other observable inputs other than Level 1 prices such as quoted prices for similar assets or liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data.

 

 

·

Level 3: Significant unobservable inputs that reflect a reporting entity’s own assumptions about the assumptions that market participants would us in pricing an asset or liability.

 

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The valuation methodologies used for assets and liabilities recorded at fair value are described below:

 

Securities: The fair values of securities available for sale are determined by obtaining quoted prices on nationally recognized securities exchanges (Level 1) or matrix pricing, which is a mathematical technique used widely in the industry to value debt securities without relying exclusively on quoted prices for specific securities but rather by relying on the securities’ relationship to other benchmark quoted securities (Level 2).

 

Other Real Estate Owned:  The fair value of foreclosed real estate is generally based on estimated market prices from independently prepared appraisals and adjusted for current market conditions, as necessary, on a nonrecurring basis. When a current appraised value is not available or management determines the fair value of the collateral is further impaired below the appraised value and there is no observable market price, management assumptions are used to adjust fair value, if necessary (Level 3).

 

Collateral-Dependent Impaired Loans:  The Bank does not record loans at fair value on a recurring basis. However, from time to time, fair value adjustments are recorded on these loans to reflect (1) partial write-downs, through charge-offs or specific reserve allowances, that are based on the current appraised or market-quoted value of the underlying collateral or (2) the full charge-off of the loan carrying value. In some cases, the properties for which market quotes or appraised values have been obtained are located in areas where comparable sales data is limited, outdated, or unavailable. Fair value estimates for collateral-dependent impaired loans are obtained from real estate brokers or other third-party consultants (Level 3).

 

The tables below present the balances of assets and liabilities measured at fair value (in thousands):

 

 

 

March 31, 2009

 

 

 

Total

 

Level 1

 

Level 2

 

Level 3

 

Assets measured at fair value on a recurring basis

 

 

 

 

 

 

 

 

 

Securities available for sale

 

$

21,486

 

$

 

$

21,486

 

$

 

Total

 

$

21,486

 

$

 

$

21,486

 

$

 

 

 

 

 

 

 

 

 

 

 

Assets measured at fair value on a non-recurring basis

 

 

 

 

 

 

 

 

 

Foreclosed Assets (OREO) (1)

 

$

4,220

 

$

 

$

 

$

4,220

 

Non-Accrual/Impaired Loans (2)

 

3,212

 

 

 

3,212

 

Total

 

$

7,432

 

$

 

$

 

$

7,432

 

 


(1)

Represents Other Real Estate Owned net of cost to sell of $418,684 (excludes OREO assets with a fair value greater than cost).

(2)

Represents current balance less related charge-offs and due from SBA.

 

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

 

Basis of Presentation

The Company is a California corporation incorporated on August 4, 2006 and is registered with the Board of Governors of the Federal Reserve System as a bank holding company under the Bank Holding Company Act of 1956, as amended. The Bank is a wholly-owned bank subsidiary of the Company and was incorporated in California on April 17, 2000.  The Bank is a California corporation licensed to operate as a commercial bank under the California Banking Law by the California Department of Financial Institutions (the “DFI”).  In accordance with the Federal Deposit Insurance Act, the Federal Deposit Insurance Corporation (the “FDIC”) insures the deposits of the Bank.  The Bank is a member of the Federal Reserve System.

 

The reorganization to form a holding company was completed on January 16, 2007, whereby all outstanding shares of the Bank were converted into an equal number of shares of the Company. Prior to the reorganization, the Company had minimal activity, which was primarily related to preparing for the reorganization. The consolidated financial statements include the accounts of the Company and the Bank. All significant intercompany balances and transactions have been eliminated in consolidation.

 

The following management’s discussion and analysis should be read in conjunction with our Annual Report for the 2008 fiscal year as filed on Form 10-K and with the unaudited financial statements and notes set forth in this report. Our 2008 Annual Report on Form 10-K also includes a discussion of critical accounting policies considered material to this presentation of the Company’s financial statements. At present time, the holding company does not engage in any material business activities other than ownership of the Bank; therefore, financial information is primarily reflective of the Bank.

 

Certain statements contained in this quarterly report on Form 10-Q are forward-looking in nature and involve known and unknown risks, uncertainties, and other factors that may cause our actual results, performance or achievements to be materially different from any future results. For a discussion of some of the factors that might cause such a difference, see the Forward-Looking Statements section above or Item 1A — Risk Factors in our Annual Report on Form 10-K for the year ended December 31, 2008.

 

Nature of Operations

The Company is organized as a single operating unit and operates seven full-service offices in southern California, three in San Diego, one in Oceanside, one in El Cajon, one in Solana Beach and one in La Jolla. A limited service branch office was opened in downtown San Diego in February 2008.

 

The Company’s primary source of revenue is interest earned on loans it provides to customers. The Company funds its lending activities primarily through providing deposit products and services to customers, but also through advances from the Federal Home Loan Bank, correspondent banks and the Federal Reserve Bank. The Company’s customers are predominately small and medium-sized businesses and professionals in San Diego County.

 

Financial Overview

The Company reported a net loss of $428,891, or ($0.09) per diluted share, for the first quarter of 2009, compared with net income of $447,216, or $0.09 per diluted share, for the first quarter of 2008.

 

At March 31, 2009, the Bank’s Total Risk-Based capital ratio was 8.5% and the Bank is considered “adequately capitalized.” Total Risk-Based capital ratio was 8.7% at December 31, 2008. Also see the Capital Resources section below.

 

During the first quarter of 2009, total assets increased $29.9 million to $450.8 million, and total loans increased $5.4 million to $357.3 million compared to the prior quarter. Deposits grew during the quarter, increasing $29.8 million or approximately 9% over the prior quarter to $363.6 million at March 31, 2009.

 

Compared to the first quarter of 2008, the decline in operating results is largely attributable to a reduction in net interest income of $721,000 and an increase in the provision for loan losses of $696,000. Net interest margin was 3.68% for the first quarter of 2009, compared with 3.54% for the previous quarter, and 4.60%

 

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for the first quarter a year ago.  The decline in the net interest margin compared to the first quarter of the prior year results from the Company’s asset sensitive balance sheet and the continuing effects of the Federal Reserve rate cuts during 2008. As discussed in the Loan Portfolio and Loan Quality sections below, the increase in the provision for loan losses is associated with the increase in total loans during the quarter, replenishing the reserve for $199,000 in net charge offs during the quarter and the increase in the allowance to total loans from 1.44% to 1.55% compared to the prior quarter.

 

Other items of significance when comparing March 2009 results to those of March 2008 include the realization of a $229,000 gain upon sale of a Washington Mutual, Inc. corporate bond and the recognition of a $165,000 loss on the sublease of a portion of the Solana Beach branch office. The Bank expects to realize cost savings of approximately $9,000 per month from this sublease.

 

Liquidity Management and Cash Flows

The Company’s balance sheet liquidity, which is a measure of its ability to meet fluctuations in deposit levels and provide for customers’ credit needs, is managed through various funding strategies that reflect the maturity structures of the sources of funds being gathered and the assets being funded.  Liquidity primarily relies on funds from short-term liabilities such as demand deposits, certificates of deposit, and short-term borrowings and is augmented by payments of principal and interest on loans. Access to short-term investments, primarily Federal funds sold, is the primary means for providing immediate liquidity.

 

To augment immediate balance sheet liquidity, the Company maintains various credit and borrowing facilities. In general, credit and borrowing facilities may be reduced or withdrawn at any time and may include provisions for pledging of collateral. Following is a summary of the total borrowing capacity available under these facilities and amounts outstanding at March 31, 2009:

 

Source of Borrowing Facility

 

Capacity

 

Outstanding at
3/31/2009

 

Secured line based on pledged loan collateral at:

 

 

 

 

 

Federal Home Loan Bank

 

$

50,000,000

 

$

50,000,000

 

Federal Reserve Bank

 

$

34,553,667

 

$

0

 

 

Subsequent to March 31, 2009, the Bank was approved to submit additional loan collateral to the Federal Reserve Bank which increased available, unused borrowing capacity at the Discount Window by approximately $20 million.

 

The strategy of the Company’s management regarding its liquidity position is to manage and monitor liquidity proactively to ensure the safety and soundness of the Company’s capital base, while maintaining adequate net interest margins and spreads to provide an appropriate return to shareholders. The Company has procedures in place to manage its liquidity on a daily basis and maintains “contingency” sources of liquidity, whereby a certain level of liquidity sources are reserved to be used for unforeseen contingency purposes.

 

As of March 31, 2009, the Bank had total brokered deposits of $110.8 million, including $37.0 million in Certificate of Deposit Account Registry Service (“CDARs”), a program offered to its customers seeking additional deposit insurance.

 

As a result of the Bank being considered “adequately capitalized,” the Bank is not able to accept, renew or rollover brokered deposits unless and until such time as it receives a waiver from the FDIC. The Bank has applied for a waiver from the FDIC so that it may continue to accept, renew or rollover CDARs reciprocal brokered deposits; however, this waiver has not been granted yet and there can be no guarantee that it will be granted. If not, the Bank will need to seek other alternatives, which may be more costly for funding purposes, as these deposits mature.

 

In order to manage liquidity, the Company’s management monitors a number of liquidity ratios, including the level of liquid assets to funding sources (both on and off the balance sheet), the level of dependence on

 

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non-core funding sources, the level of loans to funding sources, the level of short-term investments to total assets, contingent sources to total deposits, available liquidity to total funding and the level of unfunded loan commitments.  As of March 31, 2009, management of the Company considers its liquidity sufficient to meet the Company’s liquidity needs.

 

Despite recording a net loss for the three month ended March 31, 2009, the Company had positive cash flow from operating activities because the net loss generally resulted from non cash charges, including provision for loan losses, loss on sublease, depreciation and other non-cash expenses. The Company’s net cash used by investing activities of $4.5 million consisted mainly of an increase of $8.6 million in loans offset by maturities and sales of investment securities totaling $3.8 million. Net cash provided by financing activities of $29.8 million was due to an increase in total deposits; mainly brokered deposits and noninterest bearing business accounts. The Company expects that its deposit sources and borrowing capacity will continue to provide sufficient resources for its investing activities.

 

Borrowings

 

The Company’s total amount of FHLB borrowings of $50.0 million at March 31, 2009 has not fluctuated since December 31, 2008 and its holdings of subordinated debt of $10.2 million have not changed since December 31, 2007.

 

Federal Home Loan Bank (“FHLB”) borrowings were $50.0 million at March 31, 2009, compared to $40.0 million at March 31, 2008. The following is a schedule of FHLB advances at March 31, 2009, in order of final maturity date:

 

Date of
Advance

 

Final
Maturity Date

 

Rate

 

Principal
Balance

 

12/17/2008

 

6/17/2009

 

0.480

%

$

5,000,000

 

9/13/2007

 

9/14/2009

 

4.500

%

5,000,000

 

12/17/2008

 

12/17/2009

 

1.060

%

5,000,000

 

5/12/2008

 

5/12/2010

 

2.965

%

10,000,000

 

7/8/2008

 

7/8/2010

 

3.360

%

10,000,000

 

12/17/2008

 

12/17/2010

 

1.760

%

5,000,000

 

12/17/2008

 

12/17/2011

 

2.006

%

5,000,000

 

9/13/2007

 

9/13/2012

 

4.310

%

5,000,000

 

 

 

 

 

Total

 

$

50,000,000

 

 

The Company maintains $5.0 million in Floating Rate Junior Subordinated Debentures issued in March, 2005, with a final maturity of June 15, 2020, a right on behalf of the Bank for early redemptions beginning in March, 2010, and an interest rate which floats quarterly based on 3 Month LIBOR plus a spread of 178 basis points. The coupon interest rate on the subordinated debt as of March 31, 2009 was 3.10% (3 month LIBOR plus 1.78%).

 

In June 2007, the Company issued $5.0 million in floating rate preferred securities (the “Trust Preferred Securities”) through a Delaware trust affiliate, FPBN Trust I (the “Trust”). The Trust used the proceeds from the sale of the Trust Preferred Securities together with the proceeds from the sale of Common Securities to purchase $5,155,000 in aggregate principal amount of the Company’s unsecured floating rate junior subordinated debt securities due September 1, 2037 issued by the Company (the “Junior Subordinated Debt Securities”). As of March 31, 2009, the coupon interest rate was 2.66% (3 month LIBOR plus 1.40%) and floats quarterly.

 

Due to the current financial condition of the Bank, the Federal Reserve Bank of San Francisco has requested certain limits on our paying of dividends, making payments on trust preferred securities or any other capital distribution. In this regard, the Company has resolved not to declare or pay any dividends without prior approval of the FRB and the Bank has agreed not to declare or pay any dividends without prior approval of the FRB and the DFI. The Company has deferred payment on the trust preferred securities in accordance with and allowable under the indenture agreement and does not anticipate resuming those payments in the

 

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near term. The Company’s inability to receive dividends from the Bank could adversely affect our business, financial condition and results of operations. See also the Liquidity Management, Interest Rate Risk, Financing and Capital Resources section of the Company’s on Form 10-K for the year ended December 31, 2008.

 

Capital Resources

 

Shareholders’ equity at March 31, 2009, totaled $22.3 million compared to $22.6 million at December 31, 2008. Tangible book value per share totaled $4.23 at March 31, 2009, compared to $4.26 as of December 31, 2008 and $6.78 at March 31, 2008.

 

Regulatory capital adequacy requirements, based on risk-adjusted assets, require that the Bank maintain minimum ratios to be categorized as “well capitalized” or “adequately capitalized.” The Company is not subject to similar regulatory capital requirements because its consolidated assets do not exceed $500 million, the minimum asset size criteria for bank holding companies subject to those requirements. The Bank’s actual consolidated capital ratios and the required ratios for a “well capitalized” and “adequately capitalized” bank are as follows:

 

 

 

Required Ratios

 

Actual Ratios

 

 

 

Well

 

Adequately

 

 

 

 

 

 

 

Capitalized

 

Capitalized

 

March 31, 2009

 

December 31, 2008

 

 

 

 

 

 

 

 

 

 

 

Tier 1 Leverage Capital (to Average Assets)

 

5.00

%

4.00

%

5.47

%

5.39

%

Tier 1 Capital (to Risk Weighted Assets)

 

6.00

%

4.00

%

5.98

%

6.17

%

Total Capital (to Risk Weighted Assets)

 

10.00

%

8.00

%

8.51

%

8.73

%

 

The Bank has implemented a number of initiatives to improve its operating results and is evaluating alternatives to improve its capital ratios from “adequately capitalized” back to the “well capitalized” level. In October 2008, the Company applied for funding of 3% of risk-weighted assets through the U.S. Treasury Troubled Asset Relief Program (“TARP”) and is currently waiting to hear about the status of the application as of the filing date of this report. The Company is also considering other strategic initiatives to strengthen its capital ratios, including seeking merger partners, adopting a direct stock purchase plan, and reducing the size of the Bank’s assets.

 

The primary source of our funds from which the Company services its debt and pays its obligations and dividends is through the receipt of dividends from the Bank. Based on the financial condition of the Bank, various statutes and regulations have limited the availability of dividends to the Company from the Bank.  In this regard, the Bank has agreed with the DFI and the FRB to seek their approval before paying dividends to the Company. As a result, if the Bank continues to be unable to pay dividends to the Company, the Company may not be able to service its debt, pay its obligations or pay dividends on its outstanding equity securities. The Bank’s continued inability to pay dividends to the Company has and will continue to adversely affect business operations, financial condition, results of operations and prospects.

 

Investments

The main objective of the Company’s investment portfolio is to provide adequate liquidity sources to meet fluctuations in loan demand and deposit structure. The investment portfolio is also used to meet pledging requirements of public or other depositors, minimize tax liability, accomplish strategic goals and assist various local public entities with their financing needs. The Company actively manages its investment portfolio and coordinates borrowings with the goal of achieving a positive, stable net interest spread.

 

The Company’s investment portfolio consisted of $21.5 million in available for sale securities as of March 31, 2009, a decrease of $14.3 million since March 31, 2008 and a decrease of $3.6 million since December 31, 2008. During the first quarter of 2009, $1.2 million of the Company’s corporate bonds were sold and $2.0 million matured.

 

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The tables below set forth the composition of the Company’s portfolio of available for sale securities for the periods ended March 31, 2009 and December 31, 2008:

 

 

 

March 31, 2009

 

 

 

Amortized
Cost

 

Gross
Unrealized
Gains

 

Gross
Unrealized
Losses

 

Market Value

 

Total
Percent

 

Corporate Debt Securities

 

$

2,542,609

 

$

0

 

$

(69,100

)

$

2,473,509

 

11.51

%

Bank-Qualified Municipals

 

4,854,552

 

2,147

 

(206,551

)

4,650,148

 

21.64

%

Government-Sponsored Agency - MBS

 

5,534,813

 

131,232

 

(24,033

)

5,642,012

 

26.26

%

Collateralized Mortgage Obilgations

 

9,084,994

 

0

 

(1,320,872

)

7,764,122

 

36.14

%

U.S. Agency MBS

 

954,157

 

2,064

 

0

 

956,221

 

4.45

%

 

 

$

22,971,125

 

$

135,443

 

$

(1,620,556

)

$

21,486,012

 

100.00

%

 

 

 

December 31, 2008

 

 

 

Amortized
Cost

 

Gross
Unrealized
Gains

 

Gross
Unrealized
Losses

 

Market Value

 

Total
Percent

 

Corporate Debt Securities

 

$

5,736,787

 

$

60,000

 

$

(218,867

)

$

5,577,920

 

22.26

%

Bank-Qualified Municipals

 

4,826,452

 

5

 

(465,867

)

4,360,590

 

17.41

%

Government-Sponsored Agency - MBS

 

5,729,350

 

101,902

 

(15,406

)

5,815,846

 

23.21

%

Collateralized Mortgage Obilgations

 

9,451,374

 

0

 

(1,102,430

)

8,348,944

 

33.33

%

U.S. Agency MBS

 

996,363

 

0

 

(46,789

)

949,574

 

3.79

%

 

 

$

26,740,326

 

$

161,907

 

$

(1,849,359

)

$

25,052,874

 

100.00

%

 

At March 31, 2009, certain investment securities included in available-for-sale categories had a fair value that was below their amortized cost. The Company conducts a regular assessment of its investment portfolios to determine whether any securities are other-than-temporarily impaired. This assessment is based on the nature of the securities, the financial condition of the issuer, the extent and duration of the loss and the intent and ability of the Company, as of the reporting date, to hold these securities either to maturity or through the expected recovery period. Unrealized losses at March 31, 2009, are concentrated in ten municipal securities and four private-label collateralized mortgage obligations all of which were purchased during 2008 and have been affected by the dislocation in the securities market; however each of these bonds continues to be rated investment grade by independent rating agencies. As of March 31, 2009, based on the nature of these investments and as management has the ability to hold the debt securities for the foreseeable future, these unrealized losses were not considered other-than-temporary.

 

Loan Portfolio

Total loans increased by $5.4 million from $351.9 million at December 31, 2008 to $357.3 million at March 31, 2009. Residential and commercial real estate loans, consumer loans and SBA loans increased by $5.7 million, $3.7 million and $1.3 million, respectively. Construction and land loans decreased $2.7 million and commercial loans decreased $2.6 million. Total loans increased 4.4% when compared to $342.2 million at the end of the same quarter of 2008. At March 31, 2009 the portfolio consisted of approximately: 19% commercial loans, 30% construction and land, 42% residential and commercial real estate, 3% SBA type loans and 6% consumer loans. The Company does not engage in traditional long-term mortgage lending, and consequently, has no sub-prime mortgages in its loan portfolio.

 

Loan Quality and the Allowance for Loan Losses

 

Trends in Certain Loan Quality Categories

The following information is provided to show relevant trends related to various components of our loan portfolio since December 31, 2008.

 

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Nonperforming LoansNonperforming loans decreased from $12.3 million at December 31, 2008, to $4.5 million at March 31, 2009.  This decrease of $7.8 million is primarily the result of the following:

 

·                  During the first quarter, three loans were paid off, including two construction loans and one land loan, totaling approximately $4.6 million.

·                  During the first quarter, we foreclosed on four properties reducing nonaccrual loans by approximately $3.4 million. These properties included three land loans and one commercial real estate loan.

 

Special Mention Loans - Loans internally graded and categorized as special mention have increased from $32.9 million at December 31, 2008, to $48.9 million at March 31, 2009; the increase of $16.0 million is primarily the result of the following:

 

·                  During the first quarter, one construction loan totaling $5.2 million was upgraded from substandard due to resolution of lien issues and virtual completion of the project.

·                  During the first quarter, six special mention loans totaling $10.6 million were downgraded to substandard, including three land and construction loans, one real estate secured term loans and two commercial loans — one guaranteed by the SBA.

·                  During February and March, nine additional loans totaling $20.5 million were internally downgraded to special mention. These loans included five construction loans and four commercial loans — one guaranteed by the SBA.

 

Substandard Loans - Total loans in this category decreased from $22.7 million at the end of the fourth quarter of 2008 to $19.3 million at March 31, 2009.  The changes in this category were concentrated as follows:

 

·                  During the first quarter, payoffs and foreclosures in nonperforming loans (see above) totaling $7.8 million also reduced substandard loans.

·                  During the first quarter, one construction loan totaling $5.2 million was upgraded to special mention due to resolution of lien issues and virtual completion of the project.

·                  During the first quarter, six special mention loans totaling $10.6 million were downgraded to substandard, including three land and construction loans, one real estate secured term loans and two commercial loans — one guaranteed by the SBA.

 

Nonperforming assets

The Company’s nonperforming assets consist of loans which have (i) been placed on nonaccrual status, (ii) been subject to troubled debt restructurings, or (iii) become contractually past due 90 days or more with respect to principal or interest and have not been restructured or otherwise placed on nonaccrual status. Generally, loans are placed in nonaccrual status when they are past due 90 days or more and management has determined that they may not be fully collectible as to principal and interest.

 

Nonperforming assets were $8.7 million, or 1.93% of total assets, at March 31, 2009, compared with $14.9 million, or 3.54% of total assets, at December 31, 2008 and $4.3 million, or 1.01% of total assets at March 31, 2008. The Company’s nonperforming assets as of March 31, 2009 consisted of $4.5 million in nonperforming loans and $4.2 million in other real estate owned. Nonaccrual loans, as well as other potential problem loans, are subject to continuing management attention and are considered in the determination of the allowance for loan losses.  Nonperforming assets at the end of March 2009 include loan balances of approximately $642,855 with an SBA guaranty amount of $483,125. Other nonperforming loans at the end of March 2009 included three construction loans totaling approximately $2.7 million and one land loan for approximately $315,000. Each of these nonperforming loans is independently evaluated in connection with assessing the adequacy of the allowance for loan losses. Below is a summary of nonperforming assets at March 31, 2009 and December 31, 2008.

 

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March 31,

 

December 31,

 

 

 

2009

 

2008

 

 

 

(in thousands)

 

Loans 90 Days Past Due and Still Accruing

 

$

799

 

$

 

Loans on Nonaccrual

 

3,696

 

12,264

 

Total Nonperforming Loans

 

4,495

 

12,264

 

Non-Accrual Debt Securities

 

 

1,260

 

Other Real Estate Owned

 

4,220

 

1,390

 

Total Nonperforming Assets

 

$

8,714

 

$

14,914

 

 

 

 

 

 

 

Loans 90 Days Past Due as a Percentage of Total Loans

 

0.22

%

0.00

%

Nonaccrual Loans as Percentage of Total Loans

 

1.03

%

3.49

%

Nonperforming Loans as a Percent of Total Loans

 

1.26

%

3.49

%

 

 

 

 

 

 

Allowance for Loan Losses as a Percent of Nonperforming Loans

 

123.61

%

33.92

%

Nonperforming Assets as a Percent of Total Assets

 

1.93

%

3.54

%

 

Other Potential Problem Loans

At March 31, 2009, in addition to loans disclosed above as past due or nonaccrual, management has also identified five potential problem loans totaling approximately $3.6 million. Estimated potential problem loans as of December 31, 2008 totaled approximately $1.0 million. Loans are considered potential problem loans when the borrower’s ability to comply with the present loan payment terms in the future is questionable.  However, the inability of the borrower to comply with repayment terms was not sufficiently probable to place these loans on nonaccrual status at March 31, 2009. Estimated possible losses from these potential problem loans have been provided for in determining the allowance for loan losses at March 31, 2009. See additional loan portfolio information in the Company’s Annual Report on Form 10-K for the year ended December 31, 2008.

 

Allowance for Loan Losses

The Company maintains an allowance for loan losses that is increased by a provision for loan losses charged against operating results. The provision for loan losses is determined by management as the amount to be added to the allowance for probable loan losses after net charge-offs have been deducted to bring the allowance to an adequate level to absorb probable loan losses within the existing portfolio.

 

A provision for loan losses of $696,000 was made in the first quarter of 2009 compared to no provision in the same period of the prior year.  Net loan charge-offs were $199,278 during the first quarter of 2009 compared with net charge-offs of $11.1 million for the quarter ended December 31 2008 and $25,000 for the first quarter of 2008. The total allowance for loan losses was $5.6 million, or 1.55% of total loans, at March 31 2009, compared to $5.1 million, or 1.44% of total loans at December 31, 2008, and $4.5 million, or 1.31% of total loans at March 31, 2008.

 

No assurance can be given that economic conditions, which could adversely affect the Company’s service areas or other circumstances, will not be reflected in increased provisions for loan losses in the future. Management believes that the allowance at March 31, 2009, is adequate to cover potential future losses. However, because future events affecting borrowers and collateral cannot be predicted with certainty, there can be no assurance that the existing allowance for loan losses is adequate or that a substantial increase will not be necessary should the quality of any loans in the portfolio deteriorate. Any material increase in the allowance for loan losses may adversely affect the Company’s financial condition and results of operations.

 

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The table below summarizes the changes in allowance for loan losses:

 

 

 

Three Months

 

 

 

Ended

 

 

 

March 31,

 

 

 

2009

 

2008

 

 

 

 

 

 

 

Allowance, Beginning of Period

 

$

5,058,837

 

$

4,516,625

 

Provision for Loan Losses

 

696,000

 

 

Recoveries on Loans Charged Off

 

270,076

 

 

Loans Charged Off

 

(469,354

)

(25,000

)

Allowance, End of Period

 

$

5,555,559

 

$

4,491,625

 

 

Deposits

As of March 31, 2009, total deposits have increased $29.8 million to $363.6 million from $333.8 million at December 31, 2008. This net increase in deposits is mostly attributable to a $19.9 million increase in noninterest-bearing demand deposits and a $14.8 million increase in time deposits. These increases were offset by decreases in savings and money market accounts of $3.6 million and interest bearing NOW accounts of $1.3 million. Compared to the first quarter of the prior year, deposits increased $41.0 million, which includes a $58.9 million increase in time deposits and a $12.5 million increase in noninterest-bearing demand deposits offset by $27.0 million decrease in money market deposit accounts.

 

Total time deposits include funds that are considered brokered deposits, which totaled $110.8 million at March 31, 2009. Approximately, $37.0 million of these brokered deposits were funds associated with customers using the CDARs reciprocal program. See also the Liquidity Management and Cash Flows section above for additional information regarding the Company’s CDARs restrictions. Brokered deposits totaled $84.9 million at December 31, 2008 and $36.0 million at March 31, 2008.

 

Income Statement Review

 

Net Interest Income/Net Interest Margin

The principal component of the Company’s revenues is net interest income. Net interest income is the difference between the interest earned on loans and investments and the interest paid on deposits and other interest-bearing liabilities. The following table sets forth the components of net interest income, average earning assets and net interest margin:

 

 

 

Three Months

 

 

 

Ended March 31,

 

 

 

2009

 

2008

 

 

 

 

 

 

 

Interest Income

 

$

5,846,737

 

$

7,218,986

 

Interest Expense

 

2,136,570

 

2,797,109

 

 

 

 

 

 

 

Net Interest Income

 

$

3,710,167

 

$

4,421,877

 

 

 

 

 

 

 

Average Earning Assets

 

$

408,362,218

 

$

385,470,079

 

Net Interest Margin (1)

 

3.68

%

4.60

%

 


(1) Interim periods are presented on an annualized basis.

 

During the three month period ended March 31, 2009 compared to the same period of the prior year, the Company experienced a 16% decrease in net interest income while average earning assets increased by 6%. For the same periods, net interest margin declined from 4.60% to 3.68%.

 

The decline in net interest margin from the same periods of the prior year can be attributed to many factors including a decrease in loan yields and the cumulative affects of changes in monetary policy.  Since the Bank is asset sensitive, its yields on assets reprice faster than its cost of funds.  As of March 31, 2009, the

 

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target Federal Funds rate was 0.25% compared to 2.25% at March 31, 2008.  This 200 basis point drop in a one year period continues to put pressure on the Company’s net interest margin.

 

Yield on loans decreased 162 basis points to 6.27% for the three months of 2009, compared to 7.89% for the same period of 2008. However, the cost of interest-bearing deposits decreased only 120 basis points to 2.57% for March 31, 2009 compared to 3.77% at the end of the same period of 2008.

 

On a sequential quarter basis, net interest margin increased to 3.68%, 14 basis points, from 3.54% at December 31, 2008. Between the two periods, the Company’s yield on loans increased slightly from 6.22% to 6.27% and the cost of interest bearing deposits decreased from 2.89% to 2.57%, partially explaining the margin increase.

 

Interest rate sensitivity is closely monitored and managed; however, management anticipates continued volatility in the Company’s net interest margin due to changes in earning asset mix, the level of non-earning assets, including nonaccrual loans and OREO, changes in cost of funds, and changes in the level of interest rates, the direction of interest rates as determined by rate policies of the Federal Reserve Board and the possibility of losing the ability to participate in the CDARs program due to the Company’s current designation as an adequately capitalized institution.

 

Noninterest Income

Noninterest income represents deposit account service charges, fees from the sale or brokering of loans, gains on sales of securities and other types of fee income.

 

For the quarter ended March 31, 2009, the Company realized $241,023 in noninterest income compared to $231,589 for the quarter ended March 31, 2008, an increase of $9,434. This increase can be partially attributed to a change in systems and procedures to more effectively collect non-sufficient funds and overdraft charges. Additionally, during the quarter ended March 31, 2009, the Bank realized a gain of $228,750 on the sale of 100% of its position in debt obligations of Washington Mutual, Inc.

 

Noninterest Expense

Noninterest expense represents salaries and benefits costs, occupancy and equipment expenses, professional expenses, outside services and other miscellaneous expenses necessary to conduct business.

 

Total noninterest expenses were $4,232,531 for the first quarter of 2009, an increase of $346,781, or 9%, compared to the first quarter of the prior year. Below is a summary of significant operating expense variances between these two periods.

 

Increases in other operating expenses:

·                  $165,000 for a one-time sublease loss;

·                  $154,617 in professional fees associated with loan collection, OREO carrying costs and the loss on sale of two OREO properties;

·                  $99,000 for loan portfolio review services;

·                  $91,275 in FDIC assessment charges;

·                  $35,136 in data processing expenses primarily related to CDARs account opening charges and nonrecurring expenses related to the planned core system conversion;

·                  $35,749 in amortization expense for core deposit intangible.

 

Decreases in certain other operating expense due to concerted efforts to reduce controllable costs:

·                  $163,141 for salary and benefits expenses primarily related to reduced FTEs and reductions in commissions and incentives;

·                  $50,385 in marketing expenses;

·                  $21,088 in board fees and expenses;

·                  $16,256 for stationery and supplies.

 

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Income Taxes

For the three months ended March 31, 2009, the Company’s income tax benefit was $319,700 compared to income tax expense of $320,500 for the same period of the prior year. The effective tax rates were 42.7% and 41.7% for the three months ended March 31, 2009 and 2008, respectively.

 

Contractual Obligations

Our significant contractual obligations and significant commitments at December 31, 2008 are included in our Annual Report on Form 10-K for the year ended December 31, 2008. Management believes that the Company’s present facilities are in good physical condition and are adequately covered by insurance. Certain of the leases contain options to extend the term of the lease. The Company is confident that, if necessary, it would be able to secure suitable alternative space on similar terms without having a substantial effect on operations.  The Company has secured a tenant for sublease at its Solana Beach branch office for $4,500 per month beginning May 1, 2009. A portion of the La Jolla branch office is also being evaluated for sublease.

 

Off Balance Sheet Arrangements

The Company, in its ordinary course of business, has commitments to disburse loan proceeds both under revolving and non-revolving arrangements. As of March 31, 2009, the total of these commitments approximated $91.2 million compared to $112.1 million as of December 31, 2008 and $108.9 million as of March 31, 2008.  Since many of the commitments are expected to expire without being drawn upon, the total amounts do not necessarily represent future cash requirements. For discussion about the Company’s borrowing facilities see Item 2 — Management’s Discussion and Analysis of Financial Condition and Results of Operations, Liquidity and Cash Flows section above.

 

ITEM 3 — Quantitative and Qualitative Disclosures about Market Risk

 

Market risk at the Company is primarily derived from the exposure to interest rate risk.  Other types of market risk, such as foreign currency exchange risk, commodity price risk and equity price risk, are not significant in the normal course of the Company’s operations.

 

Additional information regarding the Company’s market risk may be found in Item 7A of our Annual Report on Form 10-K for the year ended December 31, 2008. There have been no material changes in the Company’s market risk exposure during the first three months of 2009.

 

ITEM 4T - Controls and Procedures

 

(a)          Evaluation of Disclosure Controls and Procedures

Under the supervision and with the participation of management, including the Company’s principal executive officer and principal financial officer, the Company has evaluated the effectiveness of its disclosure controls and procedures as defined in Rule 13a-15(e) and 15d-15(e) under the Exchange Act for the end of the period covered by this Quarterly Report on Form 10-Q. Based on that evaluation, the Company’s principal executive officer and principal financial officer have concluded that these controls and procedures are effective in all material respects, including those to ensure that information required to be disclosed in reports filed or submitted under the Exchange Act is recorded, processed, summarized and reported, within the time periods specified in the rules and forms of the SEC, and is accumulated and communicated to management, including the principal executive officer and the principal financial officer, as appropriate, to allow for timely decisions regarding required disclosure.

 

(b)         Changes in Internal Control Over Financial Reporting

Internal control over financial reporting is defined in Rule 13a-15(f) promulgated under the Securities Exchange Act of 1934, as amended, as a process designed by, or under the supervision of, the company’s principal executive and principal financial officers and effected by the company’s board of directors, management and other personnel, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with GAAP and includes those policies and procedures that:

 

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·      pertain to the maintenance of records that in reasonable detail accurately and fairly reflect the transactions and dispositions of assets of the company,

·      provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with GAAP, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and

·      provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use or disposition of the company’s assets that could have a material effect on the financial statements.

 

Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate. No change occurred during the last fiscal quarter that has materially affected, or is reasonably likely to materially affect, the Company’s internal control over financial reporting.

 

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Table of Contents

 

PART II - OTHER INFORMATION

 

Item 1 – Legal Proceedings

 

The Company is not a party to any material, pending legal proceedings, other than ordinary, routine litigation incidental to its business.

 

Item 1A – Risk Factors

 

There have been no material changes to our risk factors as previously disclosed in our Annual Report on Form 10-K for the year ended December 31, 2008.

 

Item 2 – Unregistered Sales of Equity Securities and Use of Proceeds

 

There are no matters reportable under this item.

 

Item 3 – Defaults Upon Senior Securities

 

There are no matters reportable under this item.

 

Item 4 – Submission of Matters to a Vote of Security Holders

 

There are no matters reportable under this item.

 

Item 5 – Other Information

 

(a)                      There are no matters reportable under this item.

(b)                     There are no matters reportable under this item.

 

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Table of Contents

 

Item 6 – Exhibits

 

Those exhibits marked with a (*) refer to exhibits filed herewith. The other exhibits are incorporated herein by reference, as indicated in the following list.

 

Exhibit No.

 

Description

 

 

 

2.1

 

Agreement and Plan of Reorganization and Merger by and between 1st Pacific Bancorp, PBC Merger Company and 1st Pacific Bank of California dated as of November 7, 2006, incorporated by reference to Exhibit 2 to 1st Pacific Bancorp’s Registration Statement on Form S-4EF filed on November 9, 2006.

 

 

 

2.2

 

Agreement and Plan of Reorganization and Merger dated February 22, 2007, by and among 1st Pacific Bancorp, 1st Pacific Bank of California and Landmark National Bank incorporated by reference to Exhibit 10.2 to 1st Pacific Bancorp’s report on Form 8-K filed February 23, 2007.

 

 

 

3.1

 

Articles of Incorporation of 1st Pacific Bancorp incorporated by reference to Exhibit 3.1 to 1st Pacific Bancorp’s Registration Statement on Form S-4EF filed on November 9, 2006.

 

 

 

3.2

 

Bylaws of 1st Pacific Bancorp incorporated by reference to Exhibit 3.2 to 1st Pacific Bancorp’s Registration Statement on Form S-4EF filed on November 9, 2006.

 

 

 

4.1

 

Specimen form of Certificate for 1st Pacific Bancorp Common Stock incorporated by reference to Exhibit 4 to 1st Pacific Bancorp’s Registration Statement on Form S-4EF filed on November 9, 2006.

 

 

 

4.2

 

Second Amended and Restated 2000 Stock Option Plan of 1st Pacific Bank of California, as amended by Amendment No. 1, incorporated by reference to Exhibit 4.1 to 1st Pacific Bancorp’s Registration Statement on Form S-8 filed February 21, 2007.

 

 

 

4.3

 

1st Pacific Bancorp 2007 Omnibus Stock and Incentive Plan, incorporated by reference to Exhibit 4.3 to 1st Pacific Bancorp’s report on Form 8-K filed April 10, 2007.

 

 

 

10.1

 

Separation and Consulting Agreement and General Release of Claims dated July 3, 2008, between 1st Pacific Bancorp, 1st Pacific Bank of California and A. Vincent Siciliano, incorporated by reference to 1st Pacific Bancorp’s report on Form 8-K filed July 7, 2008.

 

 

 

31.1*

 

Certification of the Chief Executive Officer pursuant to Rule 13a-14(a)/15d-14(a)

 

 

 

31.2*

 

Certification of the Chief Financial Officer pursuant to Rule 13a-14(a)/15d-14(a)

 

 

 

32.1*

 

Certification of the Chief Executive Officer and Chief Financial Officer pursuant to 18 USC Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002

 

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SIGNATURES

 

Pursuant to the requirements 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.

 

 

1st Pacific Bancorp

 

 

 

 

Date:

May 13, 2009

/s/ Ronald J. Carlson

 

 

Ronald J. Carlson

 

 

President and Chief Executive Officer

 

 

 

 

 

 

Date:

May 13, 2009

/s/ James H. Burgess

 

James H. Burgess

 

Executive Vice President and

 

Chief Financial Officer

 

26