10-K 1 f10k_022512.htm FORM 10-K f10k_022512.htm

UNITED STATES SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549

FORM 10-K
(Mark one)
þ
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 2011
 
or
o
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from ______________ to______________.
 
Commission File Number: 001-9383
WESTAMERICA BANCORPORATION
(Exact name of the registrant as specified in its charter)

CALIFORNIA
94-2156203
(State or Other Jurisdiction
(I.R.S. Employer
of Incorporation or Organization)
Identification Number)

1108 FIFTH AVENUE, SAN RAFAEL, CALIFORNIA 94901
(Address of principal executive offices) (zip code)

Registrant’s telephone number, including area code: (707) 863-6000

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

Title of class:                                
 
Name of each exchange on which registered: 
Common Stock, no par value
 
 
The NASDAQ Stock Market LLC
Securities registered pursuant to Section 12(g) of the Act: None

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. YES þ NO o
 
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act. YES o NO þ
 
Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. YES þ NO o
 
Indicate by check mark if 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 (section 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 þ NO o
 
Indicate by check mark if disclosure of delinquent filers pursuant to item 405 of Regulation S-K (section 229.405) is not contained herein, and will not be contained, to the best of the registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. 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 the definitions of “large accelerated filer,” “accelerated filer,” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):

Large accelerated filer þ
Accelerated filer o
Non-accelerated filer o
Smaller reporting company o
 
(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 þ
 
The aggregate market value of the Common Stock held by non-affiliates of the registrant as of June 30, 2011 as reported on the NASDAQ Global Select Market, was $1,348,878,201.44. Shares of Common Stock held by each executive officer and director and by each person who owns 5% or more of the outstanding Common Stock have been excluded in that such persons may be deemed to be affiliates. This determination of affiliate status is not necessarily a conclusive determination for other purposes.

Number of shares outstanding of each of the registrant’s classes of common stock, as of the close of business on February 16, 2012
28,083,480 Shares

DOCUMENTS INCORPORATED BY REFERENCE

Portions of the definitive Proxy Statement relating to registrant’s Annual Meeting of Shareholders, to be held on April 26, 2012, are incorporated by reference in Items 10, 11, 12, 13 and 14 of Part III to the extent described therein.

 
 

 
TABLE OF CONTENTS


 
 
Page
PART I
 
Item 3
Item 4
   
PART II
 
Item 5
Item 6
Item 7
Item 7A
Item 8
Item 9
Item 9A
Item 9B
   
PART III  
Item 10
Item 11
Item 12
Item 13
Item 14
   
PART IV  
Item 15
 
 

 
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FORWARD-LOOKING STATEMENTS
 
This report on Form 10-K contains forward-looking statements about Westamerica Bancorporation for which it claims the protection of the safe harbor provisions contained in the Private Securities Litigation Reform Act of 1995. Examples of forward-looking statements include, but are not limited to: (i) projections of revenues, expenses, income or loss, earnings or loss per share, the payment or nonpayment of dividends, capital structure and other financial items; (ii) statements of plans, objectives and expectations of the Company or its management or board of directors, including those relating to products or services; (iii) statements of future economic performance; and (iv) statements of assumptions underlying such statements.  Words such as "believes", "anticipates", "expects", "intends", "targeted", "projected", "continue", "remain", "will", "should", "may" and other similar expressions are intended to identify forward-looking statements but are not the exclusive means of identifying such statements.

These forward-looking statements are based on Management’s current knowledge and belief and include information concerning the Company’s possible or assumed future financial condition and results of operations. A number of factors, some of which are beyond the Company’s ability to predict or control, could cause future results to differ materially from those contemplated. These factors include but are not limited to (1) the length and severity of current and potential future difficulties in the global, national and California economies and the effects of government efforts to address those difficulties; (2) liquidity levels in capital markets; (3) fluctuations in asset prices including, but not limited to stocks, bonds, real estate, and commodities; (4) the effect of acquisitions and integration of acquired businesses; (5) economic uncertainty created by terrorist threats and attacks on the United States, the actions taken in response, and the uncertain effect of these events on the national and regional economies; (6) changes in the interest rate environment; (7) changes in the regulatory environment; (8) competitive pressure in the banking industry; (9) operational risks including data processing system failures or fraud; (10) volatility of interest rate sensitive loans, deposits and investments; (11) asset/liability management risks and liquidity risks; (12) the effect of natural disasters, including earthquakes, fire, flood, drought, and other disasters, on the uninsured value of loan collateral, the financial condition of debtors and issuers of investment securities, the economic conditions affecting the Company’s market place, and commodities and asset values, and (13) changes in the securities markets. The Company undertakes no obligation to update any forward-looking statements in this report. See also “Risk Factors” in Item 1A and other risk factors discussed elsewhere in this Report.
 
PART I

ITEM 1. BUSINESS

Westamerica Bancorporation (the “Company”) is a bank holding company registered under the Bank Holding Company Act of 1956, as amended (“BHCA”). Its legal headquarters are located at 1108 Fifth Avenue, San Rafael, California 94901. Principal administrative offices are located at 4550 Mangels Boulevard, Fairfield, California 94534 and its telephone number is (707) 863-6000. The Company provides a full range of banking services to individual and corporate customers in Northern and Central California through its subsidiary bank, Westamerica Bank (“WAB” or the “Bank”). The principal communities served are located in Northern and Central California, from Mendocino, Lake and Nevada Counties in the north to Kern County in the south. The Company’s strategic focus is on the banking needs of small businesses. In addition, the Bank owns 100% of the capital stock of Community Banker Services Corporation (“CBSC”), a company engaged in providing the Company and its subsidiaries with data processing services and other support functions.

The Company was incorporated under the laws of the State of California in 1972 as “Independent Bankshares Corporation” pursuant to a plan of reorganization among three previously unaffiliated Northern California banks. The Company operated as a multi-bank holding company until mid-1983, at which time the then six subsidiary banks were merged into a single bank named Westamerica Bank and the name of the holding company was changed to Westamerica Bancorporation.

The Company acquired five banks within its immediate market area during the early to mid 1990’s. In April 1997, the Company acquired ValliCorp Holdings, Inc., parent company of ValliWide Bank, the largest independent bank holding company headquartered in Central California. Under the terms of all of the merger agreements, the Company issued shares of its common stock in exchange for all of the outstanding shares of the acquired institutions. The subsidiary banks acquired were merged with and into WAB. These six aforementioned business combinations were accounted for as poolings-of-interests.

 
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In August, 2000, the Company acquired First Counties Bank. In June of 2002 the Company acquired Kerman State Bank. On March 1, 2005, the Company acquired Redwood Empire Bancorp, the parent company of National Bank of the Redwoods (NBR). These acquisitions were accounted for using the purchase accounting method.

On February 6, 2009, Westamerica Bank acquired the banking operations of County Bank (“County”) from the Federal Deposit Insurance Corporation (“FDIC”). The Bank and the FDIC entered loss sharing agreements regarding future losses incurred on acquired loans and foreclosed loan collateral. Under the terms of the loss sharing agreements, the FDIC absorbs 80 percent of losses and is entitled to 80 percent of loss recoveries on the first $269 million of losses, and absorbs 95 percent of losses and is entitled to 95 percent of loss recoveries on losses exceeding $269 million. The term for loss sharing on residential real estate loans is ten years, while the term for loss sharing on non-residential real estate loans is five years in respect to losses and eight years in respect to loss recoveries. The County acquisition was accounted for under the acquisition method of accounting in accordance with FASB ASC 805, Business Combinations.On August 20, 2010, Westamerica Bank acquired assets and assumed liabilities of the former Sonoma Valley Bank (“Sonoma”) from the FDIC. The acquired assets and assumed liabilities were measured at estimated fair values, as required by FASB ASC 805, Business Combinations.

Management made significant estimates and exercised significant judgment in accounting for these 2009 and 2010 acquisitions. Management judgmentally measured loan fair values based on loan file reviews (including borrower financial statements and tax returns), appraised collateral values, expected cash flows, and historical loss factors. Repossessed loan collateral was primarily valued based upon appraised collateral values. The Bank also recorded identifiable intangible assets representing the value of the core deposit customer bases based on Management’s evaluation of the cost of such deposits relative to alternative funding sources. In determining the value of the identifiable intangible assets, Management used significant estimates including average lives of depository accounts, future interest rate levels, the cost of servicing various depository products, and other significant estimates. Management used quoted market prices to determine the fair value of investment securities, FHLB advances and other borrowings which were purchased and assumed. See Note 2 of the Notes to Consolidated Financial Statements for additional information regarding the Sonoma acquisition.

At December 31, 2011, the Company had consolidated assets of approximately $5.0 billion, deposits of approximately $4.2 billion and shareholders’ equity of approximately $558.6 million. The Company and its subsidiaries employed 961 full-time equivalent staff as of December 31, 2011.

The Company’s annual report on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K and any amendments to those reports as well as beneficial ownership reports on Forms 3, 4 and 5 are available through the SEC’s website (http://www.sec.gov). Such documents are also available free of charge from the Company, as well as the Company’s director, officer and employee Code of Conduct and Ethics, by request to:

Westamerica Bancorporation
Corporate Secretary A-2M
Post Office Box 1200
Suisun City, California 94585-1200

Supervision and Regulation

The following is not intended to be an exhaustive description of the statutes and regulations applicable to the Company’s or the Bank’s business. The description of statutory and regulatory provisions is qualified in its entirety by reference to the particular statutory or regulatory provisions. Moreover, major new legislation and other regulatory changes affecting the Company, the Bank, and the financial services industry in general have occurred in the last several years and can be expected to occur in the future. The nature, timing and impact of new and amended laws and regulations cannot be accurately predicted.

Regulation and Supervision of Bank Holding Companies

The Company is a bank holding company subject to the BHCA. The Company reports to, is registered with, and may be examined by, the Board of Governors of the Federal Reserve System (“FRB”). The FRB also has the authority to examine the Company’s subsidiaries. The Company is a bank holding company within the meaning of Section 3700 of the California Financial Code. As such, the Company and the Bank are subject to examination by, and may be required to file reports with, the California Commissioner of Financial Institutions (the “Commissioner”).

 
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The FRB has significant supervisory and regulatory authority over the Company and its affiliates. The FRB requires the Company to maintain certain levels of capital. See “Capital Standards.” The FRB also has the authority to take enforcement action against any bank holding company that commits any unsafe or unsound practice, or violates certain laws, regulations or conditions imposed in writing by the FRB. Under the BHCA, the Company is required to obtain the prior approval of the FRB before it acquires, merges or consolidates with any bank or bank holding company. Any company seeking to acquire, merge or consolidate with the Company also would be required to obtain the prior approval of the FRB.

The Company is generally prohibited under the BHCA from acquiring ownership or control of more than 5% of any class of voting shares of any company that is not a bank or bank holding company and from engaging directly or indirectly in activities other than banking, managing banks, or providing services to affiliates of the holding company. However, a bank holding company, with the approval of the FRB, may engage, or acquire the voting shares of companies engaged, in activities that the FRB has determined to be closely related to banking or managing or controlling banks. A bank holding company must demonstrate that the benefits to the public of the proposed activity will outweigh the possible adverse effects associated with such activity.

The FRB generally prohibits a bank holding company from declaring or paying a cash dividend that would impose undue pressure on the capital of subsidiary banks or would be funded only through borrowing or other arrangements which might adversely affect a bank holding company’s financial position. Under the FRB policy, 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. See the section entitled “Restrictions on Dividends and Other Distributions” for additional restrictions on the ability of the Company and the Bank to pay dividends.

Transactions between the Company and the Bank are restricted under Regulation W. The regulation codifies prior interpretations of the FRB and its staff under Sections 23A and 23B of the Federal Reserve Act. In general, subject to certain specified exemptions, a bank or its subsidiaries are limited in their ability to engage in “covered transactions” with affiliates: (a) to an amount equal to 10% of the bank’s capital and surplus, in the case of covered transactions with any one affiliate; and (b) to an amount equal to 20% of the bank’s capital and surplus, in the case of covered transactions with all affiliates. The Company is considered to be an affiliate of the Bank. A “covered transaction” includes, among other things, a loan or extension of credit to an affiliate; a purchase of securities issued by an affiliate; a purchase of assets from an affiliate, with some exceptions; and the issuance of a guarantee, acceptance or letter of credit on behalf of an affiliate.

Federal regulations governing bank holding companies and change in bank control (Regulation Y) provide for a streamlined and expedited review process for bank acquisition proposals submitted by well-run bank holding companies. These provisions of Regulation Y are subject to numerous qualifications, limitations and restrictions. In order for a bank holding company to qualify as “well-run,” both it and the insured depository institutions which it controls must meet the “well capitalized” and “well managed” criteria set forth in Regulation Y.

The Gramm-Leach-Bliley Act (the “GLBA”), or the Financial Services Act of 1999, repealed provisions of the Glass-Steagall Act, which had prohibited commercial banks and securities firms from affiliating with each other and engaging in each other’s businesses. Thus, many of the barriers prohibiting affiliations between commercial banks and securities firms have been eliminated.

The BHCA was also amended by the GLBA to allow new “financial holding companies” (“FHCs”) to offer banking, insurance, securities and other financial products to consumers. Specifically, the GLBA amended section 4 of the BHCA in order to provide for a framework for the engagement in new financial activities. A bank holding company (“BHC”) may elect to become an FHC if all its subsidiary depository institutions are well capitalized and well managed. If these requirements are met, a BHC may file a certification to that effect with the FRB and declare that it elects to become an FHC. After the certification and declaration is filed, the FHC may engage either de novo or through an acquisition in any activity that has been determined by the FRB to be financial in nature or incidental to such financial activity. BHCs may engage in financial activities without prior notice to the FRB if those activities qualify under the list of permissible activities in section 4(k) of the BHCA. However, notice must be given to the FRB within 30 days after an FHC has commenced one or more of the financial activities. The Company has not elected to become an FHC.
 
 
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Regulation and Supervision of Banks

The Bank is a California state-chartered Federal Reserve member bank and its deposits are insured by the FDIC. The Bank is subject to regulation, supervision and regular examination by the California Department of Financial Institutions (“DFI”), and the Federal Reserve. The regulations of these agencies affect most aspects of the Bank’s business and prescribe permissible types of loans and investments, the amount of required reserves, requirements for branch offices, the permissible scope of its activities and various other requirements.

In addition to federal banking law, the Bank is also subject to applicable provisions of California law. Under California law, the Bank is subject to various restrictions on, and requirements regarding, its operations and administration including the maintenance of branch offices and automated teller machines, capital requirements, deposits and borrowings, shareholder rights and duties, and investment and lending activities.

California law permits a state-chartered bank to invest in the stock and securities of other corporations, subject to a state-chartered bank receiving either general authorization or, depending on the amount of the proposed investment, specific authorization from the Commissioner. In addition, the Federal Deposit Insurance Corporation Improvement Act (“FDICIA”) imposes limitations on the activities and equity investments of state chartered, federally insured banks. FDICIA also prohibits a state bank from making an investment or engaging in any activity as a principal that is not permissible for a national bank, unless the Bank is adequately capitalized and the FDIC approves the investment or activity after determining that such investment or activity does not pose a significant risk to the deposit insurance fund.

On July 21, 2010, financial regulatory reform legislation entitled the "Dodd-Frank Wall Street Reform and Consumer Protection Act" (the "Dodd-Frank Act") was signed into law. The Dodd-Frank Act implements far-reaching changes across the financial regulatory landscape, including provisions that, among other things, will:

·  
Centralize responsibility for consumer financial protection by creating a new agency, the Consumer Financial Protection Bureau, responsible for implementing, examining and enforcing compliance with federal consumer financial laws.
·  
Restrict the preemption of state law by federal law and disallow subsidiaries and affiliates of national banks from availing themselves of such preemption.
·  
Apply the same leverage and risk-based capital requirements that apply to insured depository institutions to most bank holding companies.
·  
Require bank regulatory agencies to seek to make their capital requirements for banks countercyclical so that capital requirements increase in times of economic expansion and decrease in times of economic contraction.
·  
Change the assessment base for federal deposit insurance from the amount of insured deposits to consolidated assets less tangible capital, eliminate the ceiling on the size of the Deposit Insurance Fund ("DIF") and increase the floor of the size of the DIF.
·  
Impose comprehensive regulation of the over-the-counter derivatives market, which would include certain provisions that would effectively prohibit insured depository institutions from conducting certain derivatives businesses in the institution itself.
·  
Require large, publicly traded bank holding companies to create a risk committee responsible for the oversight of enterprise risk management.
·  
Implement corporate governance revisions, including with regard to executive compensation and proxy access by shareholders, that apply to all public companies, not just financial institutions.
·  
Make permanent the $250 thousand limit for federal deposit insurance and provide unlimited federal deposit insurance until December 31, 2012 for non-interest bearing demand transaction accounts at all insured depository institutions.
·  
Repeal the federal prohibitions on the payment of interest on demand deposits, thereby permitting depository institutions to pay interest on business transaction and other accounts.
·  
Amend the Electronic Fund Transfer Act ("EFTA") to, among other things, give the FRB the authority to establish rules regarding interchange fees charged for electronic debit transactions by payment card issuers having assets over $10 billion and to enforce a new statutory requirement that such fees be reasonable and proportional to the actual cost of a transaction to the issuer. While the Company’s assets are currently less than $10 billion, interchange fees charged by larger institutions may dictate the level of fees smaller institutions will be able to charge to remain competitive.

Many aspects of the Dodd-Frank Act are subject to rulemaking and will take effect over several years, making it difficult to anticipate the overall financial impact on the Company, its customers or the financial industry more generally. Provisions in the legislation that affect the payment of interest on demand deposits and interchange fees may increase the costs associated with deposits as well as place limitations on certain revenues those deposits may generate.
 
 
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Capital Standards

The federal banking agencies have risk-based capital adequacy guidelines intended to provide a measure of capital adequacy that reflects the degree of risk associated with a banking organization’s operations for both transactions resulting in assets being recognized on the balance sheet as assets, and the extension of credit facilities such as letters of credit and recourse arrangements, which are recorded as off balance sheet items. Under these guidelines, nominal dollar amounts of assets and credit equivalent amounts of off balance sheet items are multiplied by one of several risk adjustment percentages, which range from 0% for assets with low credit risk, such as certain U.S. government securities, to 100% for assets with relatively higher credit risk, such as certain loans. A banking organization’s risk-based capital ratios are obtained by dividing its qualifying capital by its total risk-adjusted assets and off balance sheet items.

The federal banking agencies take into consideration concentrations of credit risk and risks from nontraditional activities, as well as an institution’s ability to manage those risks, when determining the adequacy of an institution’s capital. This evaluation is made as a part of the institution’s regular safety and soundness examination. The federal banking agencies also consider interest rate risk (related to the interest rate sensitivity of an institution’s assets and liabilities, and its off balance sheet financial instruments) in the evaluation of a bank’s capital adequacy.

As of December 31, 2011, the Company’s and the Bank’s respective ratios exceeded applicable regulatory requirements. See Note 10 to the consolidated financial statements for capital ratios of the Company and the Bank, compared to the standards for well capitalized depository institutions and for minimum capital requirements.

The Company anticipates changes to the regulatory capital framework due to the Dodd-Frank Act, which requires bank regulatory agencies to seek to make their capital requirements for banks countercyclical so that capital requirements increase in times of economic expansion and decrease in times of economic contraction.

Prompt Corrective Action and Other Enforcement Mechanisms

FDICIA requires each federal banking agency to take prompt corrective action to resolve the problems of insured depository institutions, including but not limited to those that fall below one or more prescribed minimum capital ratios.

An institution that, based upon its capital levels, is classified as “well capitalized,” “adequately capitalized” or “undercapitalized” may be treated as though it were in the next lower capital category if the appropriate federal banking agency, after notice and opportunity for hearing, determines that an unsafe or unsound condition or an unsafe or unsound practice warrants such treatment. At each successive lower capital category, an insured depository institution is subject to more restrictions. In addition to measures taken under the prompt corrective action provisions, commercial banking organizations may be subject to potential enforcement actions by the federal banking agencies for unsafe or unsound practices in conducting their businesses or for violations of any law, rule, regulation or any condition imposed in writing by the agency or any written agreement with the agency.

Safety and Soundness Standards

The Company’s ability to pay dividends to its shareholders is subject to the restrictions set forth in the California General Corporation Law (“CGCL”). The CGCL provides that a corporation may make a distribution to its shareholders if (i) the corporation’s retained earnings equal or exceed the amount of the proposed distribution plus unpaid accrued dividends, (if any) on securities with a dividend preference, or  (ii) immediately after the dividend, the corporation’s total assets equal or exceed total liabilities plus unpaid accrued dividends (if any) on securities with a dividend preference.

FDICIA also implemented certain specific restrictions on transactions and required federal banking 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, restricts the use of brokered deposits, limits the aggregate extensions of credit by a depository institution to an executive officer, director, principal shareholder or related interest, and reduces deposit insurance coverage for deposits offered by undercapitalized institutions for deposits by certain employee benefits accounts. The federal banking agencies may require an institution to submit  an acceptable compliance plan as well as have the flexibility to pursue other more appropriate or effective courses of action given the specific circumstances and severity of an institution’s noncompliance with one or more standards.

 
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Federal banking agencies require banks to maintain adequate valuation allowances for potential credit losses. The Company has an internal staff that continually reviews loan quality and reports to the Board of Directors. This analysis includes a detailed review of the classification and categorization of problem loans, assessment of the overall quality and collectability of the loan portfolio, consideration of loan loss experience, trends in problem loans, concentration of credit risk, and current economic conditions, particularly in the Bank’s market areas. Based on this analysis, Management, with the review and approval of the Board, determines the adequate level of allowance required. The allowance is allocated to different segments of the loan portfolio, but the entire allowance is available for the loan portfolio in its entirety.

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.

In addition to the restrictions imposed under federal law, banks chartered under California law generally may only pay cash dividends to the extent such payments do not exceed the lesser of retained earnings of the bank or the bank’s net income for its last three fiscal years (less any distributions to shareholders during this period). In the event a bank desires to pay cash dividends in excess of such amount, the bank may pay a cash dividend with the prior approval of the Commissioner in an amount not exceeding the greatest of the bank’s retained earnings, the bank’s net income for its last fiscal year or the bank’s net income for its current fiscal year.

The federal banking agencies also have the authority to prohibit a depository institution from engaging in business practices which are considered to be unsafe or unsound, possibly including payment of dividends or other payments under certain circumstances even if such payments are not expressly prohibited by statute.

Premiums for Deposit Insurance

Substantially all of the deposits of the Bank are insured up to applicable limits by the Deposit Insurance Fund ("DIF") of the FDIC and are subject to deposit insurance assessments to maintain the DIF. The FDIC utilizes a risk-based assessment system that imposes insurance premiums based upon a risk matrix that takes into account a bank's capital level and supervisory rating ("CAMELS rating").

In December 2008, the FDIC issued a final rule that raised the then current assessment rates uniformly by 7 basis points for the first quarter of 2009 assessment (basis points representing cents per $100 of assessable deposits). In February 2009, the FDIC issued final rules to amend a restoration plan for the DIF, change the risk-based assessment system and set new assessment rates beginning in the second quarter of 2009. The initial base assessment rates ranged from 12 to 45 basis points, on an annualized basis. After the effect of potential base-rate adjustments, total base assessment rates range from 7 to 77.5 basis points.

In May 2009, the FDIC issued a final rule which levied a special assessment applicable to all insured depository institutions totaling 5 basis points of each institution's total assets less Tier 1 capital as of June 30, 2009, not to exceed 10 basis points of domestic deposits. The special assessment was part of the FDIC's efforts to rebuild the DIF.

In November 2009, the FDIC issued a rule that required all insured depository institutions, with limited exceptions, to prepay their estimated quarterly risk-based assessments for the fourth quarter of 2009 and for all of 2010, 2011 and 2012. The FDIC also adopted a uniform three-basis point increase in assessment rates effective on January 1, 2011; however, as further discussed below, the FDIC has elected to forego this increase under a new DIF restoration plan adopted in October 2010.

In October 2010, the FDIC adopted a new DIF restoration plan to ensure that the DIF reserve ratio reaches 1.35% by September 30, 2020, as required by the Dodd-Frank Act. Under the new restoration plan, the FDIC will forego the uniform three-basis point increase in initial assessment rates scheduled to take place on January 1, 2011 and maintain the current schedule of assessment rates for all depository institutions. At least semi-annually, the FDIC will update its loss and income projections for the fund and, if needed, will increase or decrease assessment rates, following notice-and-comment rulemaking if required.

 
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In November 2010, the FDIC issued a final rule to implement provisions of the Dodd-Frank Act that provide for temporary unlimited coverage for noninterest-bearing transaction accounts. The separate coverage for non-interest-bearing transaction accounts became effective on December 31, 2010 and terminates on December 31, 2012.

In February 2011, the FDIC issued a final rule changing the deposit insurance assessment base from total domestic deposits to average total assets minus average tangible equity, as required by the Dodd-Frank Act, effective April 1, 2011. The FDIC also issued a final rule revising the deposit insurance assessment system for “large” institutions having more than $10 billion in assets and another for "highly complex" institutions that have over $50 billion in assets and are fully owned by a parent with over $500 billion in assets. The Bank is neither a “large” nor “highly complex” institution. Under the new assessment rules, the initial base assessment rates range from 5 to 35 basis points, and after potential adjustments for unsecured debt and brokered deposits, assessment rates range from 2.5 to 45 basis points.

The Company cannot provide any assurance as to the effect of any future changes in its deposit insurance premium rates.

Community Reinvestment Act and Fair Lending Developments

The Bank is subject to certain fair lending requirements and reporting obligations involving home mortgage lending operations and Community Reinvestment Act (“CRA”) activities. The CRA generally requires the federal banking agencies to evaluate the record of financial institutions in meeting the credit needs of their local communities, including low and moderate income neighborhoods. In addition to substantive penalties and corrective measures that may be required for a violation of certain fair lending laws, the federal banking agencies may take compliance with such laws and CRA into account when regulating and supervising other activities.

Financial Privacy Legislation and Customer Information Security

The GLBA, in addition to the previously described changes in permissible nonbanking activities permitted to banks, BHCs and FHCs, also required the federal banking agencies, among other federal regulatory agencies, to adopt regulations governing the privacy of consumer financial information. The Bank is subject to the FRB’s regulations in this area. The federal bank regulatory agencies have established standards for safeguarding nonpublic personal information about customers that implement provisions of the GLBA (the “Guidelines”). Among other things, the Guidelines require each financial institution, under the supervision and ongoing oversight of its Board of Directors or an appropriate committee thereof, to develop, implement and maintain a comprehensive written information security program designed to ensure the security and confidentiality of customer information, to protect against any anticipated threats or hazards to the security or integrity of such information, and to protect against unauthorized access to or use of such information that could result in substantial harm or inconvenience to any customer.

U.S.A. PATRIOT Act

Title III of the Uniting and Strengthening America by Providing Appropriate Tools Required to Intercept and Obstruct Terrorism Act of 2001 (“USA Patriot Act”) is the International Money Laundering Abatement and Anti-Terrorist Financing Act of 2001. It includes numerous provisions for fighting international money laundering and blocking terrorist access to the U.S. financial system. The goal of Title III is to prevent the U.S. financial system and the U.S. clearing mechanisms from being used by parties suspected of terrorism, terrorist financing and money laundering. The provisions of Title III of the USA Patriot Act which affect  the Bank are generally set forth as amendments to the Bank Secrecy Act. These provisions relate principally to U.S. banking organizations’ relationships with foreign banks and with persons who are resident outside the United States. The USA Patriot Act does not impose any filing or reporting obligations for banking organizations, but does require certain additional due diligence and recordkeeping practices.

Sarbanes-Oxley Act of 2002

The stated goals of the Sarbanes-Oxley Act of 2002 (“Sarbanes-Oxley”) are to increase corporate responsibility, to provide for enhanced penalties for accounting and auditing improprieties at publicly traded companies and to protect investors by improving the accuracy and reliability of corporate disclosures pursuant to the securities laws. Sarbanes-Oxley generally applies to all companies, both U.S. and non-U.S., that file or are required to file periodic reports under the Securities Exchange Act of 1934 (the “Exchange Act”).
 
 
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Sarbanes-Oxley includes very specific additional disclosure requirements and corporate governance rules, required the SEC and securities exchanges to adopt extensive additional disclosure, corporate governance and other related rules and mandates further studies of certain issues. Sarbanes-Oxley represents significant federal involvement in matters traditionally left to state regulatory systems, such as the regulation of the accounting profession, and to state corporate law, such as the relationship between a board of directors and management and between a board of directors and its committees and public company shareholders. Sarbanes-Oxley addresses, among other matters: (i) independent audit committees for reporting companies whose securities are listed on national exchanges or automated quotation systems (the “Exchanges”) and expanded duties and responsibilities for audit committees; (ii) certification of financial statements by the chief executive officer and the chief financial officer; (iii) the forfeiture of bonuses or other incentive-based compensation and profits from the sale of an issuer’s securities by directors and senior officers in the twelve month period following initial publication of any financial statements that later require restatement; (iv) a prohibition on insider trading during pension plan black out periods; (v) disclosure of off-balance sheet transactions; (vi) a prohibition on personal loans to directors and officers under most circumstances with exceptions for certain normal course transactions by regulated financial institutions; (vii) expedited electronic filing requirements related to trading by insiders in an issuer’s securities on Form 4; (viii) disclosure of a code of ethics and filing a Form 8-K for a change or waiver of such code; (ix) accelerated filing of periodic reports; (x) the formation of the Public Company Accounting Oversight Board (“PCAOB”) to regulate public accounting firms and the audit of public companies that are subject to the securities laws; (xi) auditor independence; (xii) internal control evaluation and reporting; and (xiii) various increased criminal penalties for violations of securities laws.

Programs To Mitigate Identity Theft

In November 2007, federal banking agencies together with the National Credit Union Administration and Federal Trade Commission adopted regulations under the Fair and Accurate Credit Transactions Act of 2003 to require financial institutions and other creditors to develop and implement a written identity theft prevention program to detect, prevent and mitigate identity theft in connection with certain new and existing accounts. Covered accounts generally include consumer accounts and other accounts that present a reasonably foreseeable risk of identity theft. Each institution’s program must include policies and procedures designed to: (i) identify indicators, or “red flags,” of possible risk of identity theft; (ii) detect the occurrence of red flags; (iii) respond appropriately to red flags that are detected; and (iv) ensure that the program is updated periodically as appropriate to address changing circumstances. The regulations include guidelines that each institution must consider and, to the extent appropriate, include in its program.

Pending Legislation

Changes to state laws and regulations (including changes in interpretation or enforcement) can affect the operating environment of BHCs and their subsidiaries in substantial and unpredictable ways. From time to time, various legislative and regulatory proposals are introduced. These proposals, if codified, may change banking statutes and regulations and the Company’s operating environment in substantial and unpredictable ways. If codified, these proposals could increase or decrease the cost of doing business, limit or expand permissible activities or affect the competitive balance among banks, savings associations, credit unions and other financial institutions. The Company cannot accurately predict whether those changes in laws and regulations will occur, and, if those changes occur, the ultimate effect they would have upon our financial condition or results of operations. It is likely, however, that the current level of enforcement and compliance-related activities of federal and state authorities will continue and potentially increase.

Competition

In the past, the Bank’s principal competitors for deposits and loans have been major banks and smaller community banks, savings and loan associations and credit unions. To a lesser extent, competition was also provided by thrift and loans, mortgage brokerage companies and insurance companies. Other institutions, such as brokerage houses, mutual fund companies, credit card companies, and certain retail establishments have offered investment vehicles which also compete with banks for deposit business. Federal legislation in recent years has encouraged competition between different types of financial institutions and fostered new entrants into the financial services market.

Legislative changes, as well as technological and economic factors, can be expected to have an ongoing impact on competitive conditions within the financial services industry. While the future impact of regulatory and legislative changes cannot be predicted with certainty, the business of banking will remain highly competitive.

 
- 9 -

 
ITEM 1A. RISK FACTORS

Readers and prospective investors in the Company’s securities should carefully consider the following risk factors as well as the other information contained or incorporated by reference in this report.

The risks and uncertainties described below are not the only ones facing the Company. Additional risks and uncertainties that Management is not aware of or focused on or that Management currently deems immaterial may also impair the Company’s business operations. This report is qualified in its entirety by these risk factors.

If any of the following risks actually occur, the Company’s financial condition and results of operations could be materially and adversely affected. If this were to happen, the value of the company’s securities could decline significantly, and investors could lose all or part of their investment in the Company’s common stock.

Market and Interest Rate Risk

Changes in interest rates could reduce income and cash flow.

The discussion in this report under “Item 7 Management’s Discussion and Analysis of Financial Condition and Results of Operations – Asset, Liability and Market Risk Management” and “- Liquidity and Funding” and “Item 7A Quantitative and Qualitative Disclosures About Market Risk” is incorporated by reference in this paragraph. The Company’s income and cash flow depend to a great extent on the difference between the interest earned on loans and investment securities compared to the interest paid on deposits and other borrowings, and the Company’s success in competing for loans and deposits. The Company cannot control or prevent changes in the level of interest rates which fluctuate in response to general economic conditions, the policies of various governmental and regulatory agencies, in particular, the Federal Open Market Committee of the FRB, and pricing practices of the Company’s competitors. Changes in monetary policy, including changes in interest rates, will influence the origination of loans, the purchase of investments, the generation of deposits and other borrowings, and the rates received on loans and investment securities and paid on deposits and other liabilities.

Changes in capital market conditions could reduce asset valuations.

Capital market conditions, including liquidity, investor confidence, bond issuer credit worthiness perceived counter-party risk, the supply of and demand for financial instruments, the financial strength of market participants, and other factors, can materially impact the value of the Company’s assets. An impairment in the value of the Company’s assets could result in asset write-downs, reducing the Company’s asset values, earnings, and equity.
 
Current market developments may adversely affect the Company’s industry, business and results of operations.
 
Declines in the housing market during recent years, with falling home prices and increasing foreclosures and unemployment, have resulted in significant write-downs of asset values by financial institutions, including government-sponsored entities and major commercial and investment banks. These write-downs caused many financial institutions to seek additional capital, to merge with larger and stronger institutions and, in some cases, to fail. During the recent financial crisis and recession, liquidity within the financial system was challenged due to institutions evaluating counter-party risk, margin requirements rose, and other liquidity reducing activities and actions. While liquidity has generally returned to the United States financial system, a recurrence of economic weakness or asset valuation declines could reduce domestic liquidity levels. Further, global economic and financial difficulties, including within Europe, could reduce liquidity in the United States. The Company has no direct operating exposure to European sovereign debt; however, the Company clears daily transactions through large domestic banks which have global operations and exposure. Any resulting lack of available credit, volatility in the financial markets and reduced business activity could materially and adversely affect the Company’s business, financial condition and results of operations.
 
The soundness of other financial institutions could adversely affect the Company.
 
Financial services institutions are interrelated as a result of trading, clearing, counterparty, or other relationships.  The Company routinely executes transactions with counterparties in the financial services industry, including brokers and dealers, commercial banks, investment banks, and other institutional clients. Many of these transactions expose the Company to credit risk in the event of default of the Company’s counterparty or client. In addition, the Company’s credit risk may be increased when the collateral the Company holds cannot be realized or is liquidated at prices not sufficient to recover the full amount of the secured obligation. There is no assurance that any such losses would not materially and adversely affect the Company’s results of operations or earnings.

 
- 10 -

 
Shares of Company common stock eligible for future sale or grant of stock options could have a dilutive effect on the market for Company common stock and could adversely affect the market price.

The Articles of Incorporation of the Company authorize the issuance of 150 million shares of common stock (and two additional classes of 1 million shares each, denominated “Class B Common Stock” and “Preferred Stock”, respectively) of which approximately 28.2 million shares of common stock were outstanding at December 31, 2011. Pursuant to its stock option plans, at December 31, 2011, the Company had outstanding options for 2.3 million shares of common stock, of which 1.8 million were currently exercisable. As of December 31, 2011, 4.1 million shares of Company common stock remained available for grants under the Company’s stock option plans. Sales of substantial amounts of Company common stock in the public market could adversely affect the market price of its common stock.

The  Company’s payment of dividends on common stock could be eliminated or reduced.
 
Holders of the Company’s common stock are entitled to receive dividends only when, as and if declared by the Company’s Board of Directors. Although the Company has historically paid cash dividends on the Company’s common stock, the Company is not required to do so and the Company’s Board of Directors could reduce or eliminate the Company’s common stock dividend in the future.
 
The Company could repurchase shares of its common stock at price levels considered excessive.

The Company repurchases and retires its common stock in accordance with Board of Directors-approved share repurchase programs. At December 31, 2011, approximately 1.4 million shares remained available to repurchase under such plans. The Company has been active in repurchasing and retiring shares of its common stock when alternative uses of excess capital, such as acquisitions, have been limited. The Company could repurchase shares of its common stock at price levels considered excessive, thereby spending more cash on such repurchases as deemed reasonable and effectively retiring fewer shares than would be retired if repurchases were affected at lower prices.

Risks Related to the Nature and Geographical Location of the Company’s Business

The Company invests in loans that contain inherent credit risks that may cause the Company to incur losses.

The Company can provide no assurance that the credit quality of the loan portfolio will not deteriorate in the future and that such deterioration will not adversely affect the Company.

The Company’s operations are concentrated geographically in California, and poor economic conditions may cause the Company to incur losses.

Substantially all of the Company’s business is located in California. A portion of the loan portfolio of the Company is dependent on real estate. At December 31, 2011, real estate served as the principal source of collateral with respect to approximately 56% of the Company’s loan portfolio. The Company’s financial condition and operating results will be subject to changes in economic conditions in California. The California economy is currently weak following a severe recession. Much of the California real estate market has experienced a decline in values of varying degrees. This decline is having an adverse impact on the business of some of the Company’s borrowers and on the value of the collateral for many of the Company’s loans. Economic conditions in California are subject to various uncertainties at this time, including the decline in construction and real estate sectors, the California state government’s budgetary difficulties and continuing fiscal difficulties. The Company can provide no assurance that conditions in the California economy will not deteriorate in the future and that such deterioration will not adversely affect the Company.

The markets in which the Company operates are subject to the risk of earthquakes and other natural disasters.

Most of the properties of the Company are located in California. Also, most of the real and personal properties which currently secure some of the Company’s loans are located in California. California is a state which is prone to earthquakes, brush fires, flooding, drought and other natural disasters. In addition to possibly sustaining damage to its own properties, if there is a major earthquake, flood, fire or other natural disaster, the Company faces the risk that many of its borrowers may experience uninsured property losses, or sustained job interruption and/or loss which may materially impair their ability to meet the terms of their loan obligations. A major earthquake, flood, prolonged drought, fire or other natural disaster in California could have a material adverse effect on the Company’s business, financial condition, results of operations and cash flows.
 
 
- 11 -

 
Adverse changes in general business or economic conditions could have a material adverse effect on the Company’s financial condition and results of operations.
 
A sustained or continuing weakness or weakening in business and economic conditions generally or specifically in the principal markets in which the Company does business could have one or more of the following adverse impacts on the Company’s business:
·  
a decrease in the demand for loans and other products and services offered by the Company;
·  
an increase or decrease in the usage of unfunded credit commitments;
·  
a decrease in the amount of deposits;
·  
a decrease in non-depository funding available to the Company;
·  
an impairment of certain intangible assets, such as goodwill;
·  
an increase in the number of clients and counterparties who become delinquent, file for protection under bankruptcy laws or default on their loans or other obligations to the Company, which could result in a higher level of nonperforming assets, net charge-offs, provision for loan losses, and valuation adjustments on assets;
·  
an impairment of investment securities;
·  
an impairment of life insurance policies owned by the Company;
·  
an impairment of real estate owned by the Company.
 
Current market conditions have also led to the failure or merger of a number of financial institutions. Financial institution failures or near-failures have resulted in further losses as a consequence of defaults on securities issued by them and defaults under contracts entered into with such entities as counterparties. Weak economic conditions can significantly weaken the strength and liquidity of financial institutions.
 
The Company’s financial performance generally, and in particular the ability of borrowers to pay interest on and repay principal of outstanding loans and the value of collateral securing those loans, is highly dependent upon on the business environment in the markets where the Company operates, in the State of California and in the United States as a whole. A favorable business environment is generally characterized by, among other factors, economic growth, healthy labor markets, efficient capital markets, low inflation, high business and investor confidence, and strong business earnings. Unfavorable or uncertain economic and market conditions can be caused by: declines in economic growth, high rates of unemployment, declines in business activity or consumer, investor or business confidence; limitations on the availability of or increases in the cost of credit and capital; increases in inflation or interest rates; natural disasters; or a combination of these or other factors.
 
Overall, during 2010 and 2011, the business environment has been adverse for many households, businesses and government entities in the United States, including California. There can be no assurance that these conditions will improve in the near term. Such conditions could adversely affect the credit quality of the Company’s loans, the demand for loans, loan volumes and related revenue, securities valuations, amounts of deposits, availability of funding, results of operations and financial condition.
 
The value of securities in the Company’s investment securities portfolio may be negatively affected by disruptions in securities markets
 
The market for some of the investment securities held in the Company’s portfolio can be extremely volatile. Volatile market conditions may detrimentally affect the value of these securities, such as through reduced valuations due to the perception of heightened credit and liquidity risks. There can be no assurance that the declines in market value will not result in other than temporary impairments of these assets, which would lead to accounting charges that could have a material adverse effect on the Company’s net income and capital levels.

Regulatory Risks

Restrictions on dividends and other distributions could limit amounts payable to the Company.

As a holding company, a substantial portion of the Company’s cash flow typically comes from dividends paid by the Bank. Various statutory provisions restrict the amount of dividends the Company’s subsidiaries can pay to the Company without regulatory approval. In addition, if any of the Company’s subsidiaries were to liquidate, that subsidiary’s creditors will be entitled to receive distributions from the assets of that subsidiary to satisfy their claims against it before the Company, as a holder of an equity interest in the subsidiary, will be entitled to receive any of the assets of the subsidiary.

 
- 12 -

 
Adverse effects of changes in banking or other laws and regulations or governmental fiscal or monetary policies could adversely affect the Company.

The Company is subject to significant federal and state regulation and supervision, which is primarily for the benefit and protection of the Company’s customers and not for the benefit of investors. In the past, the Company’s business has been materially affected by these regulations. As an example, the FRB amended Regulation E, which implements the Electronic Fund Transfer Act, in a manner which limits the ability of a financial institution to assess an overdraft fee for paying automated teller machine (ATM) and one-time debit card transactions that overdraw a consumer’s account, unless the consumer affirmatively consents, or opts in, to the institution’s payment of overdrafts for these transactions. The rule had a mandatory compliance date of July 1, 2010 for new accounts and August 15, 2010 for existing accounts. Implementation of the new provisions significantly reduced overdraft fees assessed by the Bank.

Laws, regulations or policies, including accounting standards and interpretations currently affecting the Company and the Company’s subsidiaries, may change at any time. Regulatory authorities may also change their interpretation of these statutes and regulations. Therefore, the Company’s business may be adversely affected by any future changes in laws, regulations, policies or interpretations or regulatory approaches to compliance and enforcement including future acts of terrorism, major U.S. corporate bankruptcies and reports of accounting irregularities at U.S. public companies.

Additionally, the Company’s business is affected significantly by the fiscal and monetary policies of the federal government and its agencies. The Company is particularly affected by the policies of the FRB, which regulates the supply of money and credit in the United States of America. Under long- standing policy of the FRB, a BHC is expected to act as a source of financial strength for its subsidiary banks. As a result of that policy, the Company may be required to commit financial and other resources to its subsidiary bank in circumstances where the Company might not otherwise do so. Among the instruments of monetary policy available to the FRB are (a) conducting open market operations in U.S. government securities, (b) changing the discount rates of borrowings by depository institutions, (c) changing interest rates paid on balances financial institutions deposit with the FRB, and (d) imposing or changing reserve requirements against certain borrowings by banks and their affiliates. These methods are used in varying degrees and combinations to directly affect the availability of bank loans and deposits, as well as the interest rates charged on loans and paid on deposits. The policies of the FRB may have a material effect on the Company’s business, results of operations and financial condition.

Federal and state governments could pass legislation detrimental to the Company’s performance.

As an example, the Company could experience higher credit losses because of federal or state legislation or regulatory action that reduces the amount the Bank's borrowers are otherwise contractually required to pay under existing loan contracts. Also, the Company could experience higher credit losses because of federal or state legislation or regulatory action that limits the Bank's ability to foreclose on property or other collateral or makes foreclosure less economically feasible.

The FDIC insures deposits at insured financial institutions up to certain limits. The FDIC charges insured financial institutions premiums to maintain the Deposit Insurance Fund. Recent economic conditions have increased bank failures, in which case the FDIC takes control of failed banks and ensures payment of deposits up to insured limits using the resources of the Deposit Insurance Fund. In such case, the FDIC may increase premium assessments to maintain adequate funding of the Deposit Insurance Fund.

The behavior of depositors in regard to the level of FDIC insurance could cause our existing customers to reduce the amount of deposits held at the Bank, and could cause new customers to open deposit accounts at the Bank. The level and composition of the Bank's deposit portfolio directly impacts the Bank's funding cost and net interest margin.

The FRB has been providing vast amounts of liquidity into the banking system due to current economic and capital market conditions. A reduction in the FRB’s activities or capacity could reduce liquidity in the markets, thereby increasing funding costs to the Bank or reducing the availability of funds to the Bank to finance its existing operations.

 
- 13 -

 
Systems, Accounting and Internal Control Risks

The accuracy of the Company’s judgments and estimates about financial and accounting matters will impact operating results and financial condition.

The discussion under “Item 7 Management’s Discussion and Analysis of Financial Condition and Results of Operations - Critical Accounting Policies” in this report and the information referred to in that discussion is incorporated by reference in this paragraph. The Company makes certain estimates and judgments in preparing its financial statements. The quality and accuracy of those estimates and judgments will have an impact on the Company’s operating results and financial condition.

The Company’s information systems may experience an interruption or breach in security.

The Company relies heavily on communications and information systems to conduct its business. Any failure, interruption or breach in security of these systems could result in failures or disruptions in the Company’s accounting, customer relationship management and other systems. Communication and information systems failures can result from a variety of risks including, but not limited to, telecommunication line integrity, weather, terrorist acts, natural disasters, accidental disasters, unauthorized breaches of security systems, and other events. There can be no assurance that any such failures, interruptions or security breaches will not occur or, if they do occur, that they will be adequately corrected by the Company. The occurrence of any such failures, interruptions or security breaches could damage the Company’s reputation, result in a loss of customer business, subject the Company to additional regulatory scrutiny, or expose the Company to litigation and possible financial liability, any of which could have a material adverse effect on the Company’s financial condition and results of operations.

The Company’s controls and procedures may fail or be circumvented.

Management regularly reviews and updates the Company’s internal control over financial reporting, disclosure controls and procedures, and corporate governance policies and procedures. The Company maintains controls and procedures to mitigate against risks such as processing system failures and errors, and customer or employee fraud, and maintains insurance coverage for certain of these risks. Any system of controls and procedures, however well designed and operated, is based in part on certain assumptions and can provide only reasonable, not absolute, assurances that the objectives of the system are met. Events could occur which are not prevented or detected by the Company’s internal controls or are not insured against or are in excess of the Company’s insurance limits or insurance underwriters’ financial capacity. Any failure or circumvention of the Company’s controls and procedures or failure to comply with regulations related to controls and procedures could have a material adverse effect on the Company’s business, results of operations and financial condition.

The Company may have underestimated losses on purchased loans.
 
On February 6, 2009, the Bank acquired approximately $1.2 billion in loans and repossessed loan collateral of the former County Bank  from the FDIC as its receiver. On August 20, 2010, the Bank acquired approximately $217 million in loans and repossessed loan collateral of the former Sonoma Valley Bank from the FDIC as its receiver. These purchased assets had suffered substantial deterioration at the respective acquisition dates, and the Company can provide no assurance that they will not continue to deteriorate now that they are the Bank’s assets. If Management’s estimates of purchased asset fair values as of the acquisition dates are higher than ultimate cash flows, the recorded carrying amount of the assets may need to be reduced with a corresponding charge to earnings, net of FDIC loss indemnification on former County Bank assets.

ITEM 1B. UNRESOLVED STAFF COMMENTS

None
 
 
- 14 -

 
ITEM 2. PROPERTIES

Branch Offices and Facilities

Westamerica Bank is engaged in the banking business through 95 branch offices in 21 counties in Northern and Central California. WAB believes all of its offices are constructed and equipped to meet prescribed security requirements.

The Company owns 33 branch office locations and one administrative facility and leases 74 facilities. Most of the leases contain multiple renewal options and provisions for rental increases, principally for changes in the cost of living index, and for changes in other operating costs such as property taxes and maintenance.

ITEM 3. LEGAL PROCEEDINGS

Neither the Company nor any of its subsidiaries is a party to any material pending legal proceeding, nor is their property the subject of any material pending legal proceeding, other than ordinary routine legal proceedings arising in the ordinary course of the Company’s 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. MINE SAFETY DISCLOSURES

Not applicable
 
PART II

ITEM 5. MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDERS MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES

The Company’s common stock is traded on the NASDAQ Global Select Market (“NASDAQ”) under the symbol “WABC”. The following table shows the high and the low sales prices for the common stock, for each quarter, as reported by NASDAQ:
 
 
High
 
Low
 
2011:
       
First quarter
$ 56.96   $ 49.25  
Second quarter
  52.53     46.91  
Third quarter
  50.52     36.32  
Fourth quarter
  46.73     36.34  
2010:
           
First quarter
$ 61.25   $ 50.87  
Second quarter
  60.37     52.17  
Third quarter
  55.99     50.04  
Fourth quarter
  56.72     48.70  

As of January 31, 2012, there were approximately 7,000 shareholders of record of the Company’s common stock.

The Company has paid cash dividends on its common stock in every quarter since its formation in 1972, 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, cash balances, financial condition and capital requirements of the Company and its subsidiaries as well as policies of the FRB pursuant to the BHCA. See Item 1, “Business - Supervision and Regulation.” As of December 31, 2011, $166 million was allowable for payment of dividends by the Company to its shareholders, under applicable laws and regulations.

The notes to the consolidated financial statements included in this report contain additional information regarding the Company’s capital levels, regulations affecting subsidiary bank dividends paid to the Company, the Company’s earnings, financial condition and cash flows, and cash dividends declared and paid on common stock.

 
- 15 -

 
As discussed in Note 9 to the consolidated financial statements, in December 1986, the Company declared a dividend distribution of one common share purchase right (the “Right”) for each outstanding share of common stock. The Rights expired on December 31, 2009.

On February 13, 2009, the Company issued a warrant to purchase 246,640 shares of its common stock at an exercise price of $50.92 per share with an expiration date of February 13, 2019. The warrant remained outstanding as of December 31, 2011.


Stock performance

The following chart compares the cumulative return on the Company’s stock during the ten years ended December 31, 2011 with the cumulative return on the S&P 500 composite stock index and NASDAQ’S Bank Index. The comparison assumes $100 invested in each on December 31, 2001 and reinvestment of all dividends.


 
 
Period ending
 
   
2001
   
2002
   
2003
   
2004
   
2005
   
2006
 
Westamerica Bancorporation (WABC)
  $ 100.00     $ 103.78     $ 131.49     $ 157.22     $ 146.38     $ 143.30  
S&P 500 (SPX)
    100.00       77.90       100.25       111.12       116.59       135.06  
NASDAQ Bank Index (CBNK)
    100.00       106.95       142.29       161.68       158.54       180.52  

 
 
Period ending
 
   
2007
   
2008
   
2009
   
2010
   
2011
 
Westamerica Bancorporation (WABC)
  $ 130.78     $ 153.98     $ 171.49     $ 176.43     $ 143.88  
S&P 500 (SPX)
    142.48       89.88       113.66       130.78       133.55  
NASDAQ Bank Index (CBNK)
    144.58       113.51       95.01       108.45       97.06  

 
- 16 -

 
The following chart compares the cumulative return on the Company’s stock during the five years ended December 31, 2011 with the cumulative return on the S&P 500 composite stock index and NASDAQ’S Bank Index. The comparison assumes $100 invested in each on December 31, 2006 and reinvestment of all dividends.



 
 
Period ending
 
   
2006
   
2007
   
2008
   
2009
   
2010
   
2011
 
Westamerica Bancorporation (WABC)
  $ 100.00     $ 91.26     $ 107.46     $ 119.67     $ 123.12     $ 100.41  
S&P 500 (SPX)
    100.00       105.49       66.55       84.16       96.84       98.88  
NASDAQ Bank Index (CBNK)
    100.00       80.09       62.88       52.63       60.08       53.77  

ISSUER PURCHASES OF EQUITY SECURITIES

The table below sets forth the information with respect to purchases made by or on behalf of Westamerica Bancorporation or any “affiliated purchaser” (as defined in Rule 10b-18(a)(3) under the Securities Exchange Act of 1934), of common stock during the quarter ended December 31, 2011 (in thousands, except per share data).

 
 
 
 
 
 
 
 
Period
 
 
 
 
 
(a)
Total
Number of
Shares
Purchased
   
 
 
 
(b)
Average
Price
Paid
per
Share
   
(c)
Total Number
of Shares
Purchased
as Part of
Publicly
Announced
Plans or
Programs*
   
 
(d)
Maximum
Number of
Shares that
May Yet Be
Purchased
Under the
Plans or
Programs
 
October 1 through October 31
    41     $ 44.48       41       1,689  
November 1 through November 30
    184       42.70       184       1,505  
December 1 through December 31
    136       42.52       136       1,369  
Total
    361       42.83       361       1,369  

*
Includes 8 thousand, 1 thousand and 11 thousand shares purchased in October, November and December, respectively, by the Company in private transactions with the independent administrator of the Company’s Tax Deferred Savings/Retirement Plan (ESOP). The Company includes the shares purchased in such transactions within the total number of shares authorized for purchase pursuant to the currently existing publicly announced program.

 
- 17 -

 
The Company repurchases shares of its common stock in the open market to optimize the Company’s use of equity capital and enhance shareholder value and with the intention of lessening the dilutive impact of issuing new shares to meet stock performance, option plans, and other ongoing requirements.

Shares were repurchased during the fourth quarter of 2011 pursuant to a program approved by the Board of Directors on July 28, 2011 authorizing the purchase of up to 2 million shares of the Company’s common stock from time to time prior to September 1, 2012.





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- 18 -

 
ITEM 6. SELECTED FINANCIAL DATA

The following financial information for the five years ended December 31, 2011 has been derived from the Company’s audited consolidated financial statements. This information should be read in conjunction with those statements, notes and other information included elsewhere herein.

WESTAMERICA BANCORPORATION
FINANCIAL SUMMARY
(Dollars in thousands, except per share data)
 
 Year ended December 31:
 
2011
   
2010
   
2009
   
2008
   
2007
 
Interest income
  $ 207,979     $ 221,155     $ 241,949     $ 208,469     $ 235,872  
Interest expense
    8,382       12,840       19,380       33,243       72,555  
Net interest income
    199,597       208,315       222,569       175,226       163,317  
Provision for loan losses
    11,200       11,200       10,500       2,700       700  
Noninterest income:
                                       
Net losses from securities
    ––       ––       ––       (56,955 )     ––  
Gain on acquisition
    ––       178       48,844       ––       ––  
Deposit service charges and other
    60,097       61,276       63,167       54,899       59,278  
Total noninterest income (loss)
    60,097       61,454       112,011       (2,056 )     59,278  
Noninterest expense
                                       
Settlements
    2,100       43       158       134       220  
Visa litigation
    ––       ––       ––       (2,338 )     2,338  
Other noninterest expense
    125,578       127,104       140,618       102,965       98,870  
Total noninterest expense
    127,678       127,147       140,776       100,761       101,428  
Income before income taxes
    120,816       131,422       183,304       69,709       120,467  
Provision for income taxes
    32,928       36,845       57,878       9,874       30,691  
Net income
    87,888       94,577       125,426       59,835       89,776  
Preferred stock dividends and discount accretion
    ––       ––       3,963       ––       ––  
Net income applicable to common equity
  $ 87,888     $ 94,577     $ 121,463     $ 59,835     $ 89,776  
Average common shares outstanding
    28,628       29,166       29,105       28,892       29,753  
Average diluted common shares outstanding
    28,742       29,471       29,353       29,273       30,165  
Shares outstanding at December 31
    28,150       29,090       29,208       28,880       29,018  
Per common share:
                                       
Basic earnings
  $ 3.07     $ 3.24     $ 4.17     $ 2.07     $ 3.02  
Diluted earnings
    3.06       3.21       4.14       2.04       2.98  
Book value at December 31
    19.85       18.74       17.31       14.19       13.60  
Financial Ratios:
                                       
Return on assets
    1.78 %     1.95 %     2.39 %     1.42 %     1.93 %
Return on common equity
    16.14 %     18.11 %     25.84 %     14.77 %     22.11 %
Net interest margin *
    5.32 %     5.54 %     5.42 %     5.13 %     4.40 %
Net loan losses to average originated loans
    0.73 %     0.79 %     0.60 %     0.44 %     0.14 %
Efficiency ratio **
    45.77 %     44.13 %     39.74 %     51.88 %     41.46 %
Equity to assets
    11.08 %     11.06 %     10.16 %     10.16 %     8.66 %
Allowance for loan losses to originated loans
    1.75 %     1.76 %     1.86 %     1.87 %     2.10 %
Period End Balances:
                                       
Assets
  $ 5,042,161     $ 4,931,524     $ 4,975,501     $ 4,032,934     $ 4,558,959  
Originated loans
    1,862,607       2,029,541       2,201,088       2,382,426       2,502,976  
Purchased covered loans
    535,278       692,972       855,301       ––       ––  
Purchased non-covered loans
    125,921       199,571       ––       ––       ––  
Investment securities
    1,561,556       1,252,212       1,111,143       1,237,779       1,578,109  
Deposits
    4,249,921       4,132,961       4,060,208       3,095,054       3,264,790  
Identifiable intangible assets and goodwill
    150,302       156,277       157,366       136,907       140,148  
Short-term borrowed funds
    115,689       107,385       128,134       457,275       798,599  
Federal Home Loan Bank advances
    26,023       61,698       85,470       ––       ––  
Term repurchase agreement
    10,000       ––       99,044       ––       ––  
Debt financing and notes payable
    15,000       26,363       26,497       26,631       36,773  
Shareholders’ equity
    558,641       545,287       505,448       409,852       394,603  
Capital Ratios at Period End:
                                       
Total risk based capital
    15.75 %     15.50 %     14.50 %     11.76 %     10.64 %
Tangible equity to tangible assets
    8.35 %     8.15 %     7.22 %     7.01 %     5.76 %
Dividends Paid Per Common Share
  $ 1.45     $ 1.44     $ 1.41     $ 1.39     $ 1.36  
 
____________
*
Yields on securities and certain loans have been adjusted upward to a “fully taxable equivalent” (“FTE”) basis, which is a non-GAAP financial measure, in order to reflect the effect of income which is exempt from federal income taxation at the current statutory tax rate.
**
The efficiency ratio is defined as noninterest expense divided by total revenue (net interest income on an FTE basis, which is a non-GAAP financial measure, and noninterest income).

 
- 19 -

 
ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following discussion addresses information pertaining to the financial condition and results of operations of Westamerica Bancorporation and subsidiaries (the “Company”) that may not be otherwise apparent from a review of the consolidated financial statements and related footnotes. It should be read in conjunction with those statements and notes found on pages 47 through 88, as well as with the other information presented throughout the Report.

Critical Accounting Policies

The Company’s consolidated financial statements are prepared in accordance with accounting principles generally accepted in the United States and follow general practices within the banking industry. Application of these principles requires the Company to make certain estimates, assumptions, and judgments that affect the amounts reported in the financial statements and accompanying notes. These estimates, assumptions, and judgments are based on information available as of the date of the financial statements; accordingly, as this information changes, the financial statements could reflect different estimates, assumptions, and judgments. Certain policies inherently have a greater reliance on the use of estimates, assumptions and judgments and as such have a greater possibility of producing results that could be materially different than originally reported. Estimates, assumptions and judgments are necessary when assets and liabilities are required to be recorded at fair value, when a decline in the value of an asset not carried on the financial statements at fair value warrants an impairment writedown or valuation reserve to be established, or when an asset or liability needs to be recorded contingent upon a future event. Carrying assets and liabilities at fair value inherently results in more financial statement volatility. The fair values and the information used to record valuation adjustments for certain assets and liabilities are based either on quoted market prices or are provided by other third-party sources, when available. The Company utilizes third-party sources to value its investment securities; securities individually valued using quoted prices in active markets are classified as Level 1 assets in the fair value hierarchy, and securities valued using quoted prices in active markets for similar securities (commonly referred to as “matrix” pricing) are classified as Level 2 assets in the fair value hierarchy. The Company validates the reliability of third-party provided values by comparing individual security pricing for a sample of securities between more than one third-party source. When third-party information is not available, valuation adjustments are estimated in good faith by Management.

The most significant accounting policies followed by the Company are presented in Note 1 to the consolidated financial statements. These policies, along with the disclosures presented in the other financial statement notes and in this discussion, provide information on how significant assets and liabilities are valued in the financial statements and how those values are determined. Based on the valuation techniques used and the sensitivity of financial statement amounts to the methods, assumptions, and estimates underlying those amounts, Management has identified the allowance for loan losses accounting and purchased loan accounting to be the accounting areas requiring the most subjective or complex judgments, and as such could be most subject to revision as new information becomes available. A discussion of the factors affecting accounting for the allowance for loan losses and purchased loans is included in the “Loan Portfolio Credit Risk” discussion below.

Acquisitions

As described in Note 2, Westamerica Bank (“Bank”) acquired assets and assumed liabilities of the former Sonoma Valley Bank (“Sonoma”) on August 20, 2010 from the Federal Deposit Insurance Corporation (“FDIC”).

On February 6, 2009, the Bank acquired assets and assumed liabilities of the former County Bank (“County”) from the FDIC. The Bank acquired approximately $1.62 billion assets and assumed approximately $1.58 billion liabilities. The Bank and the FDIC entered loss sharing agreements regarding future losses incurred on acquired loans and foreclosed loan collateral. Under the terms of the loss sharing agreements, the FDIC absorbs 80 percent of losses and is entitled to 80 percent of loss recoveries on the first $269 million of losses, and absorbs 95 percent of losses and is entitled to 95 percent of loss recoveries on losses exceeding $269 million. The loss sharing agreement on residential real estate loans expires February 6, 2019 and the loss-sharing agreement on non-residential real estate loans expires February 6, 2014 as to losses and February 6, 2017 as to loss recoveries.

In both acquisitions, the acquired assets and assumed liabilities were measured at estimated fair values, as required by FASB ASC 805, Business Combinations. Management made significant estimates and exercised significant judgment in accounting for the acquisition. Management judgmentally measured loan fair values based on loan file reviews (including borrower financial statements and tax returns), appraised collateral values, expected cash flows, and historical loss factors. Repossessed loan collateral was primarily valued based upon appraised collateral values. The Bank also recorded identifiable intangible assets representing the value of the core deposit customer bases based on an evaluation of the cost of such deposits relative to alternative funding sources. In determining the value of the identifiable intangible asset, Management used significant estimates including average lives of depository accounts, future interest rate levels, the cost of servicing various depository products, future FDIC insurance assessments, and other significant estimates. Management used quoted market prices to determine the fair value of investment securities, FHLB advances and other borrowings.
 
 
- 20 -

 
Net Income

For 2011, the Company reported net income applicable to common equity of $87.9 million or $3.06 diluted earnings per common share (“EPS”), compared with net income applicable to common equity of $94.6 million or $3.21 EPS, for 2010. The 2011 results included $2.1 million in litigation settlement accruals which decreased net income by $1.2 million and expenses related to the integration of the former Sonoma Valley Bank (“Sonoma”) of $393 thousand after tax, equivalent to $0.06 diluted earnings per common share. The 2010 results included a $178 thousand gain on the acquisition of Sonoma Valley Bank.

Components of Net Income

Year ended December 31,
(Dollars in thousands except per share amounts)
 
2011
   
2010
   
2009
 
Net interest and fee income *
  $ 218,867     $ 226,683     $ 242,218  
Provision for loan losses
    (11,200 )     (11,200 )     (10,500 )
Noninterest income
    60,097       61,454       112,011  
Noninterest expense
    (127,678 )     (127,147 )     (140,776 )
Income before income taxes *
    140,086       149,790       202,953  
Taxes *
    (52,198 )     (55,213 )     (77,527 )
    Net income      87,888        94,577        125,426  
Preferred dividends and discount accretion
     ––        ––        (3,963 )
Net income applicable to common equity
  $ 87,888     $ 94,577     $ 121,463  
Net income applicable to common equity per average fully-diluted common share
  $ 3.06     $ 3.21     $ 4.14  
Net income applicable to common equity as a percentage of average shareholders’ equity
    16.14 %     18.11 %     25.84 %
Net income applicable to common equity as a percentage of average total assets
    1.78 %     1.95 %     2.39 %
 
*     Fully taxable equivalent (FTE)
 
Comparing 2011 to 2010, net income applicable to common equity decreased $6.7 million or 7.1%, due to lower net interest income (FTE), lower noninterest income and higher noninterest expense, partially offset by a decrease in the income tax provision (FTE). The lower net interest income (FTE) was mainly caused by a lower average volume of loans and lower yields on interest earning assets, partially offset by higher average balances of investments and lower rates paid on interest-bearing liabilities. The provision for loan losses was unchanged, reflecting Management's evaluation of losses inherent in the loan portfolio not covered by loss-sharing agreements with the FDIC and purchased loan credit-default discounts. Noninterest income decreased $1.4 million largely due to lower service charges on deposit accounts. Noninterest expense increased $531 thousand mostly due to the $2.1 million settlement accrual, offset by lower personnel costs and deposit insurance assessments.

Comparing 2010 to 2009, net income applicable to common equity decreased $26.9 million, primarily due to a $48.8 million gain on acquisition in 2009, lower net interest income (FTE) and higher provision for loan losses, partially offset by decreases in noninterest expense and income tax provision (FTE) and the elimination of preferred stock dividends and discount accretion. The lower net interest income (FTE) was primarily caused by a lower volume of average interest earning assets, lower yields on investments and higher rates paid on borrowings, partially offset by higher yields on loans, lower average balances of interest-bearing liabilities and lower rates paid on interest-bearing deposits. The provision for loan losses increased $700 thousand, reflecting Management's assessment of losses inherent in the loan portfolio not covered by loss-sharing agreements with the FDIC and purchased loan credit-default discounts. Noninterest income decreased $50.6 million largely due to a $48.8 million acquisition gain in 2009. Noninterest expense declined $13.6 million primarily due to decreases in personnel, occupancy and equipment expenses reflecting the integration of the acquired County operations and lower FDIC insurance assessments. The income tax provision (FTE) decreased $22.3 million. Net income applicable to common equity in 2009 reflected $4.0 million in preferred stock dividends and discount accretion.
 
 
- 21 -

 
Net Interest and Fee Income

The Company's primary source of revenue is net interest income, or the difference between interest income earned on loans and investment securities and interest expense paid on interest-bearing deposits and other borrowings. Net interest and fee income (FTE) in 2011 decreased $7.8 million or 3.4% from 2010, to $218.9 million. Comparing 2010 to 2009, net interest and fee income (FTE) decreased $15.5 million or 6.4% to $226.7 million.

Components of Net Interest and Fee Income

Year ended December 31,
(Dollars in thousands)
 
 2011
   
 2010
   
 2009
 
Interest and fee income
  $ 207,979     $ 221,155     $ 241,949  
Interest expense
    (8,382 )     (12,840 )     (19,380 )
FTE adjustment
    19,270       18,368       19,649  
Net interest and fee income (FTE)
  $ 218,867     $ 226,683     $ 242,218  
Net interest margin (FTE)
    5.32 %     5.54 %     5.42 %

Comparing 2011 with 2010, net interest and fee income (FTE) decreased $7.8 million or 3.4%, primarily due to a lower average volume of loans (down $217 million) and lower yields on interest earning assets (down 0.33%), partially offset by higher average balances of investments ($236 million) and lower rates paid on interest-bearing liabilities (down 0.16%).

Yields on interest-earning assets have declined due to relatively low interest rates prevailing in the market. Economic conditions, competitive pricing and deleveraging by businesses and individuals have reduced loan volumes, placing greater reliance on lower-yielding investment securities. Rates on interest-bearing deposits and borrowings have declined to offset some of the decline in asset yields.

In Management's judgment, economic conditions and competitive pricing create a cautious view toward commercial lending, and economic pressure on consumers has reduced demand for automobile and other consumer loans. As a result, the Company has not taken an aggressive posture relative to loan portfolio growth.

At December 31, 2011, purchased FDIC covered loans represented 21 percent of the Company’s loan portfolio. Under the terms of the FDIC loss-sharing agreements, the FDIC is obligated to reimburse the Bank 80 percent of loan interest income foregone on covered loans. Such reimbursements are limited to the lesser of 90 days contractual interest or actual unpaid contractual interest at the time a principal loss is recognized in respect to the underlying loan.

In 2011, interest and fee income (FTE) was down $12.3 million or 5.1% from 2010. The decrease resulted from a lower average volume of loans and lower yields on interest earning assets, partially offset by higher average balances of investments. A lower average balance of the loan portfolio was mostly attributable to decreases in average balances of taxable commercial loans (down $99 million), commercial real estate loans (down $46 million), residential real estate loans (down $45 million), tax-exempt commercial loans (down $19 million) and construction loans (down $11 million). The average investment portfolio increased mostly due to higher average balances of municipal securities (up $91 million), U.S. government sponsored entity obligations (up $80 million), and corporate securities (up $61 million).

The average yield on earning assets for 2011 was 5.52% compared with 5.85% in 2010. The loan portfolio yield for 2011 decreased 0.14% compared with 2010 primarily due to lower yields on consumer loans (down 0.58%), residential real estate loans (down 0.43%), tax-exempt commercial loans (down 0.15%) and commercial real estate loans (down 0.04%), partially offset by increases in yields on construction loans (up 2.12%) and taxable commercial loans (up 0.06%). The higher yield on construction loans in 2011 was attributable to higher interest receipts on construction loans on nonaccrual status. The investment portfolio yield declined from 5.13% in 2010 to 4.60% in 2011 mainly due to decreases in yields on collateralized mortgage obligations (down 1.23%), residential mortgage-backed securities (down 0.23%) and municipal securities (down 0.20%), partially offset by a 0.39% increase in yields on corporate securities which contain floating interest rate structures.

Comparing 2011 with 2010, interest expense declined $4.5 million or 34.7%, due to lower rates paid on interest-bearing liabilities and a shift from higher costing term repurchase agreements, time deposits less than $100 thousand to low-cost checking and savings accounts. Higher average balances of preferred money market savings (up $48 million), money market savings (up $43 million), money market checking accounts (up $31 million), regular savings (up $27 million) and Federal Home Loan Bank advances (up $7 million) were partially offset by lower average balances of short-term borrowed funds (down $94 million), time deposits less than $100 thousand (down $45 million), time deposits $100 thousand or more (down $15 million) and long-term debt (down $4 million). Lower average balances of short-term borrowed funds were attributable to repayment of the $100 million term repurchase agreement in December of 2010. Lower average balances of long-term debt were attributable to the redemption of a $10 million subordinated note.
 
 
- 22 -

 
Rates paid on interest-bearing liabilities averaged 0.29% in 2011 compared with 0.45% in 2010 mainly due to lower rates on time deposits over $100 thousand (down 0.19%), money market savings (down 0.15%), preferred money market savings (down 0.27%), short-term borrowed funds (down 0.74%), and debt financing and notes payable (down 2.78%), partially offset by a 0.18% increase in rates on time deposits less than $100 thousand. Rates on short-term borrowed funds decreased as the Company repaid the $100 million term repurchase agreement in December of 2010. Rates on debt financing payable declined due to adjustments to the premium amortization on a $10 million subordinated note, which the Company redeemed in August 2011.

In 2010, net interest income (FTE) decreased from 2009 primarily due to a lower volume of average interest earning assets (down $378 million) and lower yields on investments (down 0.29%), partially offset by higher yields on loans (up 0.12%), lower average balances of interest-bearing liabilities (down $287 million) and lower rates paid on interest-bearing deposits (down 0.2%).

Comparing 2010 with 2009, interest and fee income (FTE) was down $22.1 million or 8.4%. The decrease resulted from a lower volume of average interest earning assets and lower yields on investment securities, partially offset by higher yields on loans. Average interest earning assets decreased $378 million or 8.5% in 2010 compared with 2009 due to a $273 million decrease in average loans and a $105 million decrease in average investments. The decrease in the average balance of the loan portfolio was attributable to decreases in average balances of taxable commercial loans (down $92 million), residential real estate loans (down $75 million), indirect automobile loans (down $50 million), commercial real estate loans (down $38 million), tax-exempt commercial loans (down $20 million) and construction loans (down $11 million). The average investment portfolio decreased $105 million largely due to declines in average balances of residential collateralized mortgage obligations (down $87 million), residential mortgage backed securities (down $41 million) and municipal securities (down $31 million), partially offset by increases in average balances of $34 million of corporate securities and $20 million of U.S. government sponsored entity obligations.

The average yield on interest earning assets in 2010 was 5.85%, unchanged from 2009. The loan portfolio yield in 2010 compared with 2009 period was higher by 0.12%, due to increases in yields on taxable commercial loans (up 0.58%) and construction loans (up 1.36%), partially offset by a 0.35% decrease in yields on residential real estate loans. The investment portfolio yield decreased from 5.42% in 2009 to 5.13% in 2010 as maturities and paydowns on higher yielding portfolio securities were replaced with securities bearing lower yields. Yields on U.S. government sponsored entity obligations decreased 2.7%. Yields on municipal securities and U.S. Treasuries declined 0.08% and 2.24%, respectively.

Comparing 2010 with 2009, interest expense declined $6.5 million or 33.7%, primarily due to lower average balances of interest-bearing liabilities and lower rates on interest-bearing deposits. The Company’s average checking and savings deposits represented 77% of total deposits in 2010 compared with 74% in 2009. As a result, the Company’s reliance on higher-costing time deposits was reduced. Average interest-bearing liabilities in 2010 fell by $287 million from 2009 mainly due to decreases in average balances of federal funds purchased (down $108 million), FHLB advances (down $45 million), time deposits less than $100 thousand (down $100 million), time deposits $100 thousand or more (down $57 million) and money market checking accounts (down $14 million), partially offset by increases in the average balance of money market savings (up $24 million) and regular savings (up $16 million). Rates paid on interest-bearing liabilities averaged 0.45% in 2010 compared with 0.62% in 2009. The average rate paid on interest-bearing deposits declined 0.2% to 0.34% in 2010 compared with 2009 mainly due to lower rates on time deposits less than $100 thousand (down 0.49%), time deposits $100 thousand or more (down 0.26%), preferred money market savings (down 0.16%) and regular savings (down 0.08%).

 
- 23 -

 
The following tables present information regarding the consolidated average assets, liabilities and shareholders’ equity, the amounts of interest income earned from average interest earning assets and the resulting yields, and the amount of interest expense paid on average interest-bearing liabilities and the resulting rates paid. Average loan balances include nonperforming loans. Interest income includes proceeds from loans on nonaccrual status only to the extent cash payments have been received and applied as interest income. Yields on tax-exempt securities and loans have been adjusted upward to reflect the effect of income exempt from federal income taxation at the current statutory tax rate.

Distribution of Assets, Liabilities & Shareholders’ Equity and Yields, Rates & Interest Margin

   
Year Ended December 31, 2011
 
 
 
Average
Balance
   
Interest
Income/
Expense
   
Rates
Earned/
Paid
 
(Dollars in thousands)
Assets
                 
Money market assets and funds sold
  $ 430     $ ––       –– %
Investment securities:
                       
Available for sale
                       
Taxable
    445,527       11,166       2.51 %
Tax-exempt (1)
    258,867       15,989       6.18 %
Held to maturity
                       
Taxable
    188,751       6,238       3.30 %
Tax-exempt (1)
    483,255       29,878       6.18 %
Loans:
                       
Commercial
                       
Taxable
    437,581       28,087       6.42 %
Tax-exempt (1)
    148,144       9,494       6.41 %
Commercial real estate
    1,199,390       78,179       6.52 %
Real estate construction
    57,529       4,331       7.53 %
Real estate residential
    312,615       12,340       3.95 %
Consumer
    581,286       31,547       5.43 %
Total Loans (1)
    2,736,545       163,978       5.99 %
Interest earning assets (1)
    4,113,375       227,249       5.52 %
Other assets
    837,379                  
Total assets
  $ 4,950,754                  
Liabilities and shareholders’ equity
                       
Deposits:
                       
Noninterest bearing demand
  $ 1,496,362       ––       ––  
Savings and interest-bearing transaction
    1,826,118       2,419       0.13 %
Time less than $100,000
    313,548       2,090       0.67 %
Time $100,000 or more
    535,866       2,296       0.43 %
Total interest-bearing deposits
    2,675,532       6,805       0.25 %
Short-term borrowed funds
    105,157       216       0.21 %
Federal Home Loan Bank advances
    41,741       520       1.25 %
Term repurchase agreement
    3,945       39       0.98 %
Debt financing and notes payable
    22,066       802       3.63 %
Total interest-bearing liabilities
    2,848,441       8,382       0.29 %
Other liabilities
    61,493                  
Shareholders’ equity
    544,458                  
Total liabilities and shareholders’ equity
  $ 4,950,754                  
Net interest spread (2)
                    5.23 %
Net interest income and interest margin (1)(3)
          $ 218,867       5.32 %
____________
(1)
Amounts calculated on a fully taxable equivalent basis using the current statutory federal tax rate.
(2)
Net interest spread represents the average yield earned on interest earning assets less the average rate paid on interest-bearing liabilities.
(3)
Net interest margin is computed by dividing net interest income by total average interest earning assets.

 
- 24 -

 
Distribution of Assets, Liabilities & Shareholders’ Equity and Yields, Rates & Interest Margin

   
Year Ended December 31, 2010
 
 
 
Average
Balance
   
Interest
Income/
Expense
   
Rates
Earned/
Paid
 
(Dollars in thousands)
Assets
                 
Money market assets and funds sold
  $ 1,820     $ 2       0.11 %
Investment securities:
                       
Available for sale
                       
Taxable
    299,730       8,806       2.94 %
Tax-exempt (1)
    183,484       11,982       6.53 %
Held to maturity
                       
Taxable
    175,475       7,641       4.35 %
Tax-exempt (1)
    479,969       30,075       6.27 %
Loans:
                       
Commercial
                       
Taxable
    536,530       34,140       6.36 %
Tax-exempt (1)
    166,702       10,941       6.56 %
Commercial real estate
    1,245,369       81,755       6.56 %
Real estate construction
    68,602       3,711       5.41 %
Real estate residential
    357,398       15,668       4.38 %
Consumer
    579,432       34,802       6.01 %
Total Loans (1)
    2,954,033       181,017       6.13 %
Interest earning assets (1)
    4,094,511       239,523       5.85 %
Other assets
    758,969                  
Total assets
  $ 4,853,480                  
Liabilities and shareholders’ equity
                       
Deposits:
                       
Noninterest bearing demand
  $ 1,412,702       ––       ––  
Savings and interest-bearing transaction
    1,676,882       3,543       0.21 %
Time less than $100,000
    358,096       1,769       0.49 %
Time $100,000 or more
    550,810       3,406       0.62 %
Total interest-bearing deposits
    2,585,788       8,718       0.34 %
Short-term borrowed funds
    107,821       463       0.43 %
Federal Home Loan Bank advances
    34,378       437       1.25 %
Term repurchase agreement
    94,842       1,528       1.61 %
Debt financing and notes payable
    26,433       1,694       6.41 %
Total interest-bearing liabilities
    2,849,262       12,840       0.45 %
Other liabilities
    69,333                  
Shareholders’ equity
    522,183                  
Total liabilities and shareholders’ equity
  $ 4,853,480                  
Net interest spread (2)
                    5.40 %
Net interest income and interest margin (1)(3)
          $ 226,683       5.54 %
____________
(1)
Amounts calculated on a fully taxable equivalent basis using the current statutory federal tax rate.
(2)
Net interest spread represents the average yield earned on interest earning assets less the average rate paid on interest-bearing liabilities.
(3)
Net interest margin is computed by dividing net interest income by total average interest earning assets.
 
 
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Distribution of Assets, Liabilities & Shareholders’ Equity and Yields, Rates & Interest Margin

   
Year Ended December 31, 2009
 
 
 
Average
Balance
   
Interest
Income/
Expense
   
Rates
Earned/
Paid
 
(Dollars in thousands)
Assets
                 
Money market assets and funds sold
  $ 841     $ 3       0.36 %
Investment securities:
                       
Available for sale
                       
Taxable
    240,829       9,002       3.74 %
Tax-exempt (1)
    166,669       11,217       6.73 %
Held to maturity
                       
Taxable
    307,763       13,971       4.54 %
Tax-exempt (1)
    529,597       33,334       6.29 %
Loans:
                       
Commercial
                       
Taxable
    629,027       36,360       5.78 %
Tax-exempt (1)
    186,295       12,362       6.64 %
Commercial real estate
    1,283,114       84,473       6.58 %
Real estate construction
    79,425       3,213       4.05 %
Real estate residential
    431,931       20,640       4.73 %
Consumer
    617,169       37,023       6.00 %
Total Loans (1)
    3,226,961       194,071       6.01 %
Interest earning assets (1)
    4,472,660       261,598       5.85 %
Other assets
    613,977                  
Total assets
  $ 5,086,637                  
Liabilities and shareholders’ equity
                       
Deposits:
                       
Noninterest bearing demand
  $ 1,354,534       ––       ––  
Savings and interest-bearing transaction
    1,648,095       4,677       0.28 %
Time less than $100,000
    458,117       4,506       0.98 %
Time $100,000 or more
    607,642       5,366       0.88 %
Total interest-bearing deposits
    2,713,854       14,549       0.54 %
Short-term borrowed funds
    225,962       751       0.33 %
Federal Home Loan Bank advances
    79,417       1,010       1.25 %
Term repurchase agreement
    90,344       1,381       1.53 %
Debt financing and notes payable
    26,567       1,689       6.36 %
Total interest-bearing liabilities
    3,136,144       19,380       0.62 %
Other liabilities
    71,635                  
Shareholders’ equity
    524,324                  
Total liabilities and shareholders’ equity
  $ 5,086,637                  
Net interest spread (2)
                    5.23 %
Net interest income and interest margin (1)(3)
          $ 242,218       5.42 %
____________
(1)
Amounts calculated on a fully taxable equivalent basis using the current statutory federal tax rate.
(2)
Net interest spread represents the average yield earned on interest earning assets less the average rate paid on interest-bearing liabilities.
(3)
Net interest margin is computed by dividing net interest income by total average interest earning assets.

 
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The following tables set forth a summary of the changes in interest income and interest expense due to changes in average assets and liability balances (volume) and changes in average interest rates for the periods indicated. Changes not solely attributable to volume or rates have been allocated in proportion to the respective volume and rate components.

Summary of Changes in Interest Income and Expense

 
 
2011 Compared with 2010
 
Years Ended December 31,
(In thousands)
 
Volume
   
Rate
   
Total
 
(Decrease) increase in interest and fee income:
                 
Money market assets and funds sold
  $ (1 )   $ (1 )   $ (2 )
Investment securities:
                       
Available for sale Taxable
    3,800       (1,440 )     2,360  
Tax- exempt (1)
    4,687       (680 )     4,007  
Held to maturity Taxable
    545       (1,948 )     (1,403 )
Tax- exempt (1)
    205       (402 )     (197 )
Loans:
                       
Commercial:
                       
Taxable
    (6,349 )     296       (6,053 )
Tax- exempt (1)
    (1,194 )     (253 )     (1,447 )
Commercial real estate
    (3,000 )     (576 )     (3,576 )
Real estate construction
    (667 )     1,287       620  
Real estate residential
    (1,854 )     (1,474 )     (3,328 )
Consumer
    111       (3,366 )     (3,255 )
Total loans (1)
    (12,953 )     (4,086 )     (17,039 )
Total decrease in interest and fee income (1)
    (3,717 )     (8,557 )     (12,274 )
Increase (decrease) in interest expense:
                       
Deposits:
                       
Savings/ interest-bearing
    293       (1,417 )     (1,124 )
Time less than $100,000
    (240 )     561       321  
Time $100,000 or more
    (90 )     (1,020 )     (1,110 )
Total interest-bearing
    (37 )     (1,876 )     (1,913 )
Short-term borrowed funds
    (11 )     (236 )     (247 )
Federal Home Loan Bank advances
    92       (9 )     83  
Term repurchase agreement
    (1,061 )     (428 )     (1,489 )
Notes and mortgages payable
    (246 )     (646 )     (892 )
Total decrease in interest expense
    (1,263 )     (3,195 )     (4,458 )
Decrease in net interest income (1)
  $ (2,454 )   $ (5,362 )   $ (7,816 )
 
__________
(1)
Amounts calculated on a fully taxable equivalent basis using the current statutory federal tax rate.
 
 
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Summary of Changes in Interest Income and Expense

   
2010 Compared with 2009
 
Years Ended December 31,
(In thousands)
 
Volume
   
Rate
   
Total
 
Increase (decrease) in interest and fee income:
                 
Money market assets and funds sold
  $ 2     $ (3 )   $ (1 )
Investment securities:
                       
Available for sale Taxable
    1,950       (2,146 )     (196 )
Tax- exempt (1)
    1,106       (341 )     765  
Held to maturity Taxable
    (5,782 )     (548 )     (6,330 )
Tax- exempt (1)
    (3,110 )     (149 )     (3,259 )
Loans:
                       
Commercial:
                       
Taxable
    (5,666 )     3,446       (2,220 )
Tax- exempt (1)
    (1,287 )     (134 )     (1,421 )
Commercial real estate
    (2,478 )     (240 )     (2,718 )
Real estate construction
    (480 )     978       498  
Real estate residential
    (3,363 )     (1,609 )     (4,972 )
Consumer
    (2,267 )     46       (2,221 )
Total loans (1)
    (15,541 )     2,487       (13,054 )
Total decrease in interest and fee income (1)
    (21,375 )     (700 )     (22,075 )
Increase (decrease) in interest expense:
                       
Deposits:
                       
Savings/ interest-bearing
    80       (1,214 )     (1,134 )
Time less than $100,000
    (834 )     (1,903 )     (2,737 )
Time $100,000 or more
    (466 )     (1,494 )     (1,960 )
Total interest-bearing
    (1,220 )     (4,611 )     (5,831 )
Short-term borrowed funds
    (466 )     178       (288 )
Federal Home Loan Bank advances
    (573 )     ––       (573 )
Term repurchase agreement
    71       76       147  
Notes and mortgages payable
    (9 )     14       5  
Total decrease in interest expense
    (2,197 )     (4,343 )     (6,540 )
(Decrease) increase in net interest income (1)
  $ (19,178 )   $ 3,643     $ (15,535 )
____________
(1)
Amounts calculated on a fully taxable equivalent basis using the current statutory federal tax rate.

Provision for Loan Losses

The Company manages credit costs by consistently enforcing conservative underwriting and administration procedures and aggressively pursuing collection efforts with debtors experiencing financial difficulties.

The Company recorded purchased County and Sonoma loans at estimated fair value upon the acquisition dates of February 6, 2009 and August 20, 2010, respectively. Such fair values were recognized for individual loans, although small balance homogenous loans were pooled for valuation purposes. The valuation discounts recorded for purchased loans included Management’s assessment of the risk of principal loss under economic and borrower conditions prevailing on the date of purchase. Any deterioration in such conditions or reassessment by Management could require additional loss recognition through a provision for loan losses. The purchased County loans are “covered” by loss-sharing agreements the Company entered with the FDIC which mitigates any additional losses during the term of the agreements.

In Management’s judgment, the overall borrower and economic conditions have been relatively stable for the purchased County loans. However, a provision for loan losses of $987 thousand, net of FDIC indemnification, was recorded for County loans in 2011. Management believes the overall borrower and economic conditions have been relatively stable for the purchased Sonoma loans; no provision for loan losses was recorded for Sonoma loans in 2011. Management regularly evaluates the acquisition date fair value discounts and, in its judgment, believes the fair value discounts remaining at December 31, 2011 represent appropriate loss estimates inherent in the purchased loans. However, no assurance can be given that future provisions for loan losses related to purchased loans will not be necessary.

In 2011, the provision for loan losses was $11.2 million, compared to $11.2 million for 2010 and $10.5 million for 2009. The provision reflects Management's assessment of credit risk in the loan portfolio for each of the periods presented. For further information regarding credit risk, the FDIC loss-sharing agreements, net credit losses and the allowance for loan losses, see the “Loan Portfolio Credit Risk” and “Allowance for Credit Losses” sections of this report.

 
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Noninterest Income

Components of Noninterest Income

Years Ended December 31,
(In thousands)
 
2011
   
2010
   
2009
 
Service charges on deposit accounts
  $ 29,523     $ 33,517     $ 36,392  
Merchant processing services
    9,436       9,057       9,068  
Debit card fees
    4,956       4,888       4,875  
ATM processing fees
    3,815       3,848       3,693  
Other service charges
    2,827       2,768       2,200  
Trust fees
    1,887       1,705       1,429  
Check sale income
    844       893       887  
Safe deposit rental
    695       678       697  
Financial services commissions
    423       747       583  
Gain on acquisition
          178       48,844  
Other noninterest income
    5,691       3,175       3,343  
Total
  $ 60,097     $ 61,454     $ 112,011  

In 2011, noninterest income decreased $1.4 million or 2.2% compared with 2010. Service charges on deposits decreased $4.0 million due to declines in fees charged on overdrawn accounts and insufficient funds (down $3.3 million) and deficit fees charged on analyzed accounts (down $580 thousand). Financial services commissions decreased $324 thousand due to lower sales of mutual funds and annuities. Merchant processing services income increased $379 thousand mainly due to higher transaction volumes. Trust fees increased $182 thousand due to increased accounts.

In 2010 noninterest income decreased $50.6 million compared with 2009 primarily due to the $48.8 million gain on acquisition of County in 2009. Service charges on deposits decreased $2.9 million or 7.9% due to declines in fees charged on overdrawn and insufficient accounts (down $2.4 million) and deficit fees charged on analyzed accounts (down $839 thousand), partially offset by service fees charged on checking accounts (up $373 thousand). New regulations over overdraft fees were adopted July 1, 2010 and limited the Bank’s ability to assess overdraft fees. Other categories of fees partially offset the decline in noninterest income. Other service fees increased $568 thousand or 25.8% mainly due to increases in check cashing fees, internet banking fees and foreign currency commissions. Trust fees increased $276 thousand or 19.3% mostly due to new trust assets. Financial service commissions increased $164 thousand or 28.1%. ATM fees and interchange income was higher by $155 thousand or 4.2% due to increased transaction volumes.

 
- 29 -

 
Noninterest Expense

Components of Noninterest Expense

Years Ended December 31,
(Dollars in thousands)
 
2011
   
2010
   
2009
 
Salaries and related benefits
  $ 58,501     $ 61,748     $ 65,391  
Occupancy
    16,209       15,633       18,748  
Outsourced data processing services
    8,844       8,957       9,000  
Amortization of intangible assets
    5,975       6,333       6,697  
Professional fees
    4,802       3,376       3,583  
Equipment
    3,837       4,325       5,859  
Deposit insurance assessments
    3,440       5,168       6,260  
Courier service
    3,342       3,495       3,808  
Other Real Estate Owned
    2,458       895       616  
Loan expenses
    2,104       1,639       2,031  
Settlements
    2,100       43       158  
Telephone
    1,705       1,590       1,977  
Postage
    1,467