10-K 1 f10k_022714.htm FORM 10-K f10k_022714.htm
UNITED STATES SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549

FORM 10-K
(Mark one)
[X]
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 
For the fiscal year ended December 31, 2013
or
[   ]
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: 001-09383
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 [X] NO [   ]
 
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 [   ] NO [X]
 
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 [X] NO [   ]
 
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 [X] NO [   ]
 
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. [   ]
 
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 [X]
Accelerated filer [   ]
Non-accelerated filer [   ]
Smaller reporting company [   ]
 
(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 [   ] NO [X]

The aggregate market value of the Common Stock held by non-affiliates of the registrant as of June 30, 2013 as reported on the NASDAQ Global Select Market, was $1,169,919,408.79. 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 18, 2014
26,409,146 Shares

DOCUMENTS INCORPORATED BY REFERENCE

Portions of the definitive Proxy Statement relating to registrant’s Annual Meeting of Shareholders, to be held on April 24, 2014, are incorporated by reference in Items 10, 11, 12, 13 and 14 of Part III to the extent described therein.

 
 

 
TABLE OF CONTENTS


 
 
Page
 
Item 1
Item 1A
Item 1B
Item 2
Item 3
Item 4
 
Item 5
Item 6
Item 7
Item 7A
Item 8
Item 9
Item 9A
Item 9B
 
Item 10
Item 11
Item 12
Item 13
Item 14
 
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 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 a failure or breach in data processing systems or those of third party vendors and other service providers, including as a result of cyber attacks 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.




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.

During the period 2000 through 2005, the Company acquired three additional banks. These acquisitions were accounted for using the purchase accounting method.

 
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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.On August 20, 2010, Westamerica Bank acquired assets and assumed liabilities of the former Sonoma Valley Bank (“Sonoma”) from the FDIC. The County and Sonoma 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 deposit 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.

At December 31, 2013, the Company had consolidated assets of approximately $4.8 billion, deposits of approximately $4.2 billion and shareholders’ equity of approximately $543 million. The Company and its subsidiaries employed 914 full-time equivalent staff as of December 31, 2013.

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 Commissioner of the California Department of Business Oversight (the “Commissioner”).

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.

 
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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.
 
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 Business Oversight (“DBO”), 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.

 
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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:

·
Centralized 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.
·
Restricted the preemption of state law by federal law and disallowed subsidiaries and affiliates of national banks from availing themselves of such preemption.
·
Applied the same leverage and risk-based capital requirements that would apply to insured depository institutions to most bank holding companies.
·
Required 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.
·
Changed the assessment base for federal deposit insurance from the amount of insured deposits to consolidated assets less tangible capital, eliminated the ceiling on the size of the Deposit Insurance Fund ("DIF") and increased the floor of the size of the DIF.
·
Imposed 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.
·
Required large, publicly traded bank holding companies to create a risk committee responsible for the oversight of enterprise risk management.
·
Implemented corporate governance revisions, including with regard to executive compensation and proxy access by shareholders, that would apply to all public companies, not just financial institutions.
·
Made permanent the $250 thousand limit for federal deposit insurance.
·
Repealed the federal prohibitions on the payment of interest on demand deposits, thereby permitting depository institutions to pay interest on business transaction and other accounts.
·
Amended 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 implementation of new regulations 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.

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.
 
 
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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, 2013, the Company’s and the Bank’s respective ratios exceeded applicable regulatory requirements. See Note 9 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.

On July 2, 2013, the Federal Reserve Board approved a final rule that implements changes to the regulatory capital framework for all banking organizations. See the section entitled “Capital to Risk-Adjusted Assets” in Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations for the Company’s interpretation of the final rule in regard to its capital ratios.
 
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.

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.

 
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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, asset quality and supervisory rating ("CAMELS rating").

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.

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. 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.

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 terminated 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 including merger applications.

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.

 
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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”).

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 blackout 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.

 
- 8 -

 
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.


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.
 
 
- 9 -

 
Current market developments may adversely affect the Company’s industry, business and results of operations.
 
Declines in the housing market during recent years, with significantly reduced home prices and higher levels of foreclosures and unemployment, 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, increasing margin requirements, and other liquidity reducing activities and actions. While liquidity 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 weakness 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.

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 26.5 million shares of common stock were outstanding at December 31, 2013. Pursuant to its stock option plans, at December 31, 2013, the Company had outstanding options for 2.1 million shares of common stock, of which 1.5 million were currently exercisable. As of December 31, 2013, 1.3 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, 2013, approximately 1.5 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.
 
 
- 10 -

 
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. As described in this report under “Item 7 Management’s Discussion and Analysis of Financial Condition and Results of Operations, Loan Portfolio Credit Risk,” $251 million of the Company’s purchased loans as of December 31, 2013 are indemnified by the FDIC; such indemnification expired February 6, 2014 for approximately 92 percent of the indemnified loans and expires February 6, 2019 for approximately 8 percent of the indemnified loans.  The risk inherent in such loans will increase with the expiration of FDIC indemnification.

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, 2013, real estate served as the principal source of collateral with respect to approximately 58% 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 recovering from a severe recession. Much of the California real estate market  experienced a decline in values of varying degrees. This decline had 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. Generally, the counties surrounding and near San Francisco Bay have been recovering from the recent recession more soundly than counties in the California “Central Valley,” from Sacramento in the north to Bakersfield in the south. Approximately 27% of the Company’s loans are to borrowers in the California “Central Valley.” Economic conditions in California are subject to various uncertainties at this time, including the pace of recovery in construction and real estate sectors, the effect of drought on the agricultural sector and its infrastructure, and the California state government’s budgetary difficulties and fiscal condition. 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.

All of the properties of the Company are located in California. Also, most of the real and personal properties which currently secure a majority of the Company’s loans are located in California. California is prone to earthquakes, brush and forest fires, flooding, drought and other natural disasters. In addition to possibly sustaining uninsured damage to its own properties, if there is a major earthquake, flood, drought, 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.
 
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 in the value of investment securities;
·
an impairment in the value of life insurance policies owned by the Company;
·
an impairment in the value of real estate owned by the Company.
 
The recent financial crisis led to the failure or merger of a number of financial institutions. Financial institution failures can result 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.
 
 
- 11 -

 
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, deflation, 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.
 
Such business 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 loss recognition 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. A reduction in subsidiary dividends paid to the Company could limit the capacity of the Company to pay dividends. 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.

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 that 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. 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. 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. 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.

 
- 12 -

 
Recently, the FRB has been providing vast amounts of liquidity into the banking system due to current economic and capital market conditions. The FRB has been purchasing large quantities of U.S. government securities, including agency-backed mortgage securities, increasing the demand for such securities thereby reducing interest rates. The FRB began reducing these activities in the fourth quarter 2013 which could reduce liquidity in the markets and cause interest rates to rise, thereby increasing funding costs to the Bank, reducing the availability of funds to the Bank to finance its existing operations, and causing fixed-rate investment securities and loans to decline in value.

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 or delays 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. 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.

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, including those of third party vendors and other service providers, to conduct its business. Any failure, interruption or breach in security of these systems could result in failures or disruptions in the Company’s data processing, accounting, customer relationship management and other systems. Communication and information systems failures can result from a variety of risks including, but not limited to, events that are wholly or partially out of the Company’s control, such as telecommunication line integrity, weather, terrorist acts, natural disasters, accidental disasters, unauthorized breaches of security systems, cyber attacks, and other events. Although the Company devotes significant resources to maintain and regularly upgrade its systems and processes that are designed to protect the security of the Company’s computer systems, software, networks and other technology assets and the confidentiality, integrity and availability of information belonging to the Company and its customers, there is 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 or its vendors. 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.

 
- 13 -

 
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. At December 31, 2013, $250.7 million in loans and $7.8 million in repossessed loan collateral remained outstanding.  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. At December 31, 2013, $53.8 million in loans and $-0- million in repossessed loan collateral remained outstanding. 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.


None


Branch Offices and Facilities

Westamerica Bank is engaged in the banking business through 92 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 banking  office locations and one centralized administrative service center facility and leases 67 facilities. Most of the leases contain 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.


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.


Not applicable

 
- 14 -

 


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
 
2013:
           
First quarter
  $ 45.80     $ 42.59  
Second quarter
    46.56       41.76  
Third quarter
    50.78       45.73  
Fourth quarter
    57.59       48.29  
2012:
               
First quarter
  $ 49.53     $ 43.90  
Second quarter
    48.62       43.01  
Third quarter
    49.39       44.08  
Fourth quarter
    47.72       40.50  

As of January 31, 2014, there were approximately 6,500 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. See Item 8, Financial Statements and Supplementary Data, Note 20 to the Consolidated Financial Statements for recent quarterly dividend information. 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.”

The notes to the consolidated financial statements included in this report contain additional information regarding the Company’s capital levels, capital structure, 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.




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- 15 -

 
Stock performance

The following chart compares the cumulative return on the Company’s stock during the ten years ended December 31, 2013 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, 2003 and reinvestment of all dividends.

 
 
 
Period ending
 
   
2003
   
2004
   
2005
   
2006
   
2007
   
2008
 
Westamerica Bancorporation (WABC)
  $ 100.00     $ 119.66     $ 111.48     $ 109.15     $ 98.81     $ 116.43  
S&P 500 (SPX)
    100.00       110.87       116.31       134.66       142.05       89.51  
NASDAQ Bank Index (CBNK)
    100.00       113.64       111.45       126.83       101.60       79.73  

 
 
Period ending
 
   
2009
   
2010
   
2011
   
2012
   
2013
 
Westamerica Bancorporation (WABC)
  $ 129.73     $ 133.47     $ 108.91     $ 109.16     $ 149.37  
S&P 500 (SPX)
    113.20       130.28       133.00       154.26       204.18  
NASDAQ Bank Index (CBNK)
    66.74       76.20       68.19       80.96       114.72  



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- 16 -

 
The following chart compares the cumulative return on the Company’s stock during the five years ended December 31, 2013 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, 2008 and reinvestment of all dividends.

 
 
 
Period ending
 
   
2008
   
2009
   
2010
   
2011
   
2012
   
2013
 
Westamerica Bancorporation (WABC)
  $ 100.00     $ 111.42     $ 114.64     $ 93.54     $ 93.76     $ 128.29  
S&P 500 (SPX)
    100.00       126.47       145.55       148.59       172.34       228.11  
NASDAQ Bank Index (CBNK)
    100.00       83.71       95.57       85.53       101.55       143.89  

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, 2013 (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
    69     $ 52.39       69       1,725  
November 1 through November 30
    121       53.33       121       1,604  
December 1 through December 31
    136       54.78       136       1,468  
Total
    326       53.74       326       1,468  
                                 
*
Includes 4 thousand, 10 thousand and 4 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 under stock option plans, and other ongoing requirements.

Shares were repurchased during the fourth quarter of 2013 pursuant to a program approved by the Board of Directors on July 25, 2013 authorizing the purchase of up to 2 million shares of the Company’s common stock from time to time prior to September 1, 2014.





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- 18 -

 

The following financial information for the five years ended December 31, 2013 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:
 
2013
   
2012
   
2011
   
2010
   
2009
 
Interest and loan fee income
  $ 154,396     $ 183,364     $ 207,979     $ 221,155     $ 241,949  
Interest expense
    4,671       5,744       8,382       12,840       19,380  
Net interest income
    149,725       177,620       199,597       208,315       222,569  
Provision for loan losses
    8,000       11,200       11,200       11,200       10,500  
Noninterest income:
                                       
Net losses from securities
          (1,287 )                  
Gain on acquisition
                      178       48,844  
Deposit service charges and other
    57,011       58,309       60,097       61,276       63,167  
Total noninterest income
    57,011       57,022       60,097       61,454       112,011  
Noninterest expense
                                       
Settlements
                2,100       43       158  
Other noninterest expense
    112,614       116,885       125,578       127,104       140,618  
Total noninterest expense
    112,614       116,885       127,678       127,147       140,776  
Income before income taxes
    86,122       106,557       120,816       131,422       183,304  
Provision for income taxes
    18,945       25,430       32,928       36,845       57,878  
Net income
    67,177       81,127       87,888       94,577       125,426  
Preferred stock dividends and discount accretion
                            3,963  
Net income applicable to common equity
  $ 67,177     $ 81,127     $ 87,888     $ 94,577     $ 121,463  
Average common shares outstanding
    26,826       27,654       28,628       29,166       29,105  
Average diluted common shares outstanding
    26,877       27,699       28,742       29,471       29,353  
Shares outstanding at December 31
    26,510       27,213       28,150       29,090       29,208  
Per common share:
                                       
Basic earnings
  $ 2.50     $ 2.93     $ 3.07     $ 3.24     $ 4.17  
Diluted earnings
    2.50       2.93       3.06       3.21       4.14  
Book value at December 31
    20.48       20.58       19.85       18.74       17.31  
Financial Ratios:
                                       
Return on assets
    1.38 %     1.64 %     1.78 %     1.95 %     2.39 %
Return on common equity
    12.48 %     14.93 %     16.14 %     18.11 %     25.84 %
Net interest margin *
    4.08 %     4.79 %     5.32 %     5.54 %     5.42 %
Net loan losses to average loans
                                       
    Originated loans
    0.26 %     0.72 %     0.68 %     0.79 %     0.60 %
    Purchased covered loans
    0.62 %     0.18 %     0.16 %            
    Purchased non-covered loans
    0.61 %     0.11 %                  
Efficiency ratio **
    50.11 %     46.01 %     45.77 %     44.13 %     39.74 %
Equity to assets
    11.20 %     11.31 %     11.08 %     11.06 %     10.16 %
Period End Balances:
                                       
Assets
  $ 4,847,055     $ 4,952,193     $ 5,042,161     $ 4,931,524     $ 4,975,501  
Originated loans
    1,523,284       1,664,183       1,862,607       2,029,541       2,201,088  
Purchased covered loans
    250,670       372,283       535,278       692,972       855,301  
Purchased non-covered loans
    53,790       74,891       125,921       199,571        
Allowance for loan losses
    31,693       30,234       32,597       35,636       41,043  
Investment securities
    2,211,680       1,981,677       1,561,556       1,252,212       1,111,143  
Deposits
    4,163,781       4,232,492       4,249,921       4,132,961       4,060,208  
Identifiable intangible assets and goodwill
    140,230       144,934       150,302       156,277       157,366  
Short-term borrowed funds
    62,668       53,687       115,689       107,385       128,134  
Federal Home Loan Bank advances
    20,577       25,799       26,023       61,698       85,470  
Term repurchase agreement
    10,000       10,000       10,000             99,044  
Debt financing and notes payable
          15,000       15,000       26,363       26,497  
Shareholders’ equity
    542,934       560,102       558,641       545,287       505,448  
Capital Ratios at Period End:
                                       
Total risk based capital
    16.18 %     16.33 %     15.75 %     15.50 %     14.50 %
Tangible equity to tangible assets
    8.56 %     8.64 %     8.35 %     8.15 %     7.22 %
Dividends Paid Per Common Share
  $ 1.49     $ 1.48     $ 1.45     $ 1.44     $ 1.41  
Common Dividend Payout Ratio
    60 %     51 %     47 %     45 %     34 %
____________
*
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 -

 

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 52 through 91, 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 of America 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 accounting 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 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.

Net Income

During the three years ended December 31, 2013, market interest rates declined to low levels. The Federal Reserve’s Federal Open Market Committee has maintained highly accommodative monetary policies to influence interest rates to low levels in order to provide stimulus to the economy following the “financial crisis” recession. In the fourth quarter 2013, the Open Market Committee began a gradual removal of its accommodative monetary policies. The Company’s principal source of revenue is net interest and loan fee income, which represents interest earned on loans and investment securities (“earning assets”) reduced by interest paid on deposits and other borrowings (“interest bearing liabilities”). The change in market interest rates in the three years ended December 31, 2013 has reduced the spread between interest rates on earning assets and interest bearing liabilities. As a result, the Company’s net interest income declined. The Company also earns revenue from service charges on deposit accounts, merchant processing services, debit card fees, and other fees (“noninterest income”). Service charges on deposit accounts are subject to laws and regulations; recent regulations and customer activity have caused service charges on deposit accounts to decline in the three years ended December 31, 2013; however, debit card fees and trust fees have increased due to higher transaction volumes and the Company’s sales efforts. The Company incurs noninterest expenses to deliver products and services to our customers. Management is focused on controlling noninterest expense levels.

 
- 20 -

 
Components of Net Income

Year ended December 31,
(Dollars in thousands except per share amounts)
 
 2013
   
 2012
   
 2011
 
Net interest and loan fee income *
  $ 167,737     $ 197,027     $ 218,867  
Provision for loan losses
    (8,000 )     (11,200 )     (11,200 )
Noninterest income
    57,011       57,022       60,097  
Noninterest expense
    (112,614 )     (116,885 )     (127,678 )
Income before income taxes *
    104,134       125,964       140,086  
Taxes *
    (36,957 )     (44,837 )     (52,198 )
Net income
  $ 67,177     $ 81,127     $ 87,888  
Net income per average fully-diluted common share
  $ 2.50     $ 2.93     $ 3.06  
Net income as a percentage of average shareholders’ equity
    12.48 %     14.93 %     16.14 %
Net income as a percentage of average total assets
    1.38 %     1.64 %     1.78 %
                         
*
Fully taxable equivalent (FTE)

Comparing 2013 to 2012, net income decreased $14.0 million or 17.2%, primarily due to lower net interest and loan fee income (FTE), partially offset by decreases in loan loss provision, noninterest expense and income tax provision (FTE). The lower net interest and loan fee income (FTE) was primarily caused by a lower average volume of loans and lower yields on interest-earning assets, partially offset by higher average balances of investments, lower average balances of interest-bearing liabilities and lower rates paid on interest-bearing deposits. The provision for loan losses was reduced, reflecting Management's evaluation of losses inherent in the loan portfolio; net loan losses and nonperforming loan volumes have declined relative to earlier periods. Noninterest expense decreased $4.3 million primarily due to reduced personnel costs, professional fees, loan administration costs, expenses related to other real estate owned and intangible asset amortization.

Comparing 2012 to 2011, net income decreased $6.8 million, primarily due to lower net interest income (FTE) and a $1.3 million loss on sale of securities, partially offset by decreases in noninterest expense and income tax provision (FTE). The lower net interest income (FTE) was primarily caused by a lower average volume of loans and lower yields on interest earning assets, partially offset by higher average balances of investments, lower average balances of interest-bearing liabilities and lower rates on interest-bearing deposits. The provision for loan losses remained the same, reflecting Management's evaluation of losses inherent in the loan portfolio. Noninterest expense declined primarily due to a $2.1 million settlement accrual in 2011 and reduced costs related to personnel and nonperforming assets.
 
Net Interest and Loan Fee Income (FTE)

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. Comparing 2013 to 2012, net interest and loan fee income (FTE) decreased $29.3 million or 14.9% to $167.7 million. Net interest and loan fee income (FTE) in 2012 decreased $21.8 million or 10.0% from 2011, to $197.0 million.

Components of Net Interest and Loan Fee Income (FTE)

Year ended December 31,
(Dollars in thousands)
 
 2013
   
 2012
   
 2011
 
Interest and loan fee income
  $ 154,396     $ 183,364     $ 207,979  
Interest expense
    (4,671 )     (5,744 )     (8,382 )
FTE adjustment
    18,012       19,407       19,270  
Net interest and loan fee income (FTE)
  $ 167,737     $ 197,027     $ 218,867  
Net interest margin (FTE)
    4.08 %     4.79 %     5.32 %
                         
Comparing 2013 with 2012, net interest and loan fee income (FTE) decreased $29.3 million or 14.9%, primarily due to a lower average volume of loans (down $360 million) and lower yields on interest-earning assets (down 74 basis points), partially offset by higher average balances of investments (up $355 million), lower average balances of interest-bearing liabilities (down $161 million) and lower rates paid on interest-bearing deposits (down 2 basis points).

Loan volumes have declined due to problem loan workout activities, particularly with purchased loans, and reduced volumes of loan originations. In Management’s opinion, competitive loan pricing does not currently provide adequate forward earnings potential. As a result, the Company has not currently taken an aggressive posture relative to loan portfolio growth. Management has maintained relatively stable interest-earning asset volumes by increasing investment securities as loan volumes have declined.

 
- 21 -

 
Yields on interest-earning assets have declined due to relatively low interest rates prevailing in the market. Management’s response to prevailing economic conditions and competitive loan pricing has been to reduce loan volumes, placing greater reliance on lower-yielding investment securities. Rates on interest-bearing deposits have declined to offset some of the decline in asset yields.

In 2013, interest and loan fee income (FTE) was down $30.4 million or 15.0% from 2012. 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. The total average balances of loans declined due to decreases in the average balances of commercial real estate loans (down $155 million), taxable commercial loans (down $63 million), consumer loans (down $57 million), residential real estate loans (down $53 million), tax-exempt commercial loans (down $22 million) and construction loans (down $11 million). The average investment portfolio increased largely due to higher average balances of corporate securities (up $205 million), collateralized mortgage obligations (up $172 million) and municipal securities (up $47 million), partially offset by  decreases in average balances of mortgage backed securities (down $37 million) and securities of U.S. government sponsored entities (down $30 million).

The average yield on the Company's earning assets decreased from 4.93% in 2012 to 4.19% in 2013. The composite yield on loans declined 41 basis points to 5.36% mostly due to lower yields on commercial real estate loans (down 45 basis points), consumer loans (down 62 basis points), residential real estate loans (down 14 basis points), taxable commercial loans (down 8 basis points) and tax-exempt loans (down 20 basis points). Nonperforming loans are included in average loan volumes used to compute loan yields; fluctuations in nonaccrual loan volumes impact loan yields. The yield on construction loans in 2013 was elevated due to interest received on nonaccrual loans and discount accretion on purchased loans. The investment yields in general declined due to market rates. The investment portfolio yield decreased 71 basis points to 3.13% in 2013 primarily due to lower yields on collateralized mortgage obligations and mortgage backed securities (down 65 basis points), municipal securities (down 55 basis points) and corporate securities (down 46 basis points).

Comparing 2013 with 2012, interest expense declined $1.1 million or 18.7% due to lower average balances of interest-bearing liabilities and lower rates paid on interest-bearing deposits. Lower-cost checking and savings deposits accounted for 86.3% of total average deposits in 2013 compared with 82.8% in 2012. Average interest-bearing liabilities fell $161 million in 2013 compared with 2012 primarily due to declines in the average balances of time deposits $100 thousand or more (down $120 million) and time deposits less than $100 thousand (down $36 million), preferred money market accounts (down $23 million) and customer sweep accounts (down $23 million), partially offset by increases in the average balances of regular savings (up $25 million) and money market savings (up $17 million). Rates paid on interest-bearing deposits averaged 0.14% in 2013 compared with 0.16% for 2012 as a result of decreases in rates paid on time deposits less than $100 thousand (down 10 basis points).

Comparing 2012 with 2011, net interest and loan fee income (FTE) declined $21.8 million mostly due to a lower average volume of loans (down $422 million) and lower yields on interest earning assets (down 59 basis points), partially offset by higher average balances of investments (up $424 million), lower average balances of interest-bearing liabilities (down $103 million) and lower rates on interest-bearing deposits (down 9 basis points).

Interest and loan fee income (FTE) was down $24.5 million or 10.8% from 2012 to 2011. 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. Average interest earning assets increased $2 million in 2012 compared with 2011 due to a $424 million increase in average investments, offset by a $422 million decrease in average loans. The average investment portfolio increased mostly due to higher average balances of collateralized mortgage obligations and mortgage backed securities (up $271 million), municipal securities (up $108 million) and corporate securities (up $92 million), partially offset by a $57 million decline in securities issued by U.S. government sponsored entities. The decrease in the average balance of the loan portfolio was attributable to decreases in average balances of commercial real estate loans (down $183 million), taxable commercial loans (down $118 million), construction loans (down $31 million), residential real estate loans (down $48 million), tax-exempt commercial loans (down $19 million) and consumer loans (down $22 million).

The average yield on earning assets in 2012 was 4.93% compared with 5.52% in 2011. The loan portfolio yield for 2012 compared with 2011 was lower by 22 basis points mostly due to lower yields on consumer loans (down 76 basis points), residential real estate loans (down 33 basis points) and tax-exempt commercial loans (down 35 basis points) and taxable commercial loans (down 9 basis points), partially offset by higher yields on commercial real estate loans (up 15 basis points). Nonperforming loans are included in average loan volumes used to compute loan yields; fluctuations in nonaccrual loan volumes impact loan yields. The yield on commercial real estate loans in 2012 and 2011 was elevated due to interest received on nonaccrual loans and discount accretion on purchased loans. The investment portfolio yield decreased 76 basis points to 3.84% from 2012 to 2011 primarily due to lower yields on collateralized mortgage obligations and mortgage backed securities (down 118 basis points), municipal securities (down 55 basis points), and securities of U.S. government sponsored entities (down 26 basis points), partially offset by a 5 basis points increase in yields on corporate securities which contain floating interest rate structures.

 
- 22 -

 
Interest expense was reduced by lowering rates paid on interest-bearing deposits and borrowings and by reducing the volume of higher-cost funding sources. Lower-cost checking and savings deposits accounted for 82.8% of total average deposits in 2012 compared with 79.6% in 2011. In 2012 interest expense declined $2.6 million or 31.5% from 2011, due to lower average balances of interest-bearing liabilities and lower rates paid on interest-bearing deposits. In 2012 average interest-bearing deposits fell $62 million compared with 2011 primarily due to declines in the average balances of time deposits $100 thousand or more (down $75 million), time deposits less than $100 thousand (down $49 million), and preferred money market savings (down $38 million), partially offset by increases in the average balances of money market checking accounts (up $41 million), money market savings (up $30 million) and regular savings (up $29 million). Average balances of debt financing declined $7 million due to the redemption of a $10 million subordinated note in August 2011. Increases were partially offset by higher average balances of term repurchase agreement (up $6 million). Rates paid on interest-bearing deposits averaged 0.16% in 2012 compared with 0.25% in 2011 mainly due to lower rates on money market savings (down 7 basis points), preferred money market savings (down 32 basis points), regular savings (down 5 basis points), time deposits $100 thousand and more (down 10 basis points) and time deposits less than $100 thousand (down 10 basis points).





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- 23 -

 
Summary of Average Balances, Yields/Rates and Interest Differential

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 amounts of interest expense incurred on average interest-bearing liabilities and the resulting rates. Average loan balances include nonperforming loans. Interest income includes reversal of previously accrued interest on loans placed on non-accrual status during the period and proceeds from loans on nonaccrual status only to the extent cash payments have been received and applied as interest income and accretion of purchased loan discounts. 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, 2013
 
(Dollars in thousands)
 
Average
Balance
   
Interest
Income/
Expense
   
Yields/
Rates
 
Assets
                 
Investment securities:
                 
Available for sale
                 
Taxable
  $ 823,228     $ 14,685       1.78 %
Tax-exempt (1)
    186,101       10,435       5.61 %
Held to maturity
                       
Taxable
    431,246       7,516       1.74 %
Tax-exempt (1)
    714,515       34,961       4.89 %
Loans:
                       
Commercial
                       
Taxable
    256,638       16,042       6.25 %
Tax-exempt (1)
    106,871       6,264       5.86 %
Commercial real estate
    862,266       53,615       6.22 %
Real estate construction
    15,514       1,182       7.62 %
Real estate residential
    211,360       7,357       3.48 %
Consumer
    501,932       20,351       4.05 %
Total Loans (1)
    1,954,581       104,811       5.36 %
Interest-earning assets (1)
    4,109,671       172,408       4.19 %
Other assets
    754,191                  
Total assets
  $ 4,863,862                  
Liabilities and shareholders’ equity
                       
Deposits:
                       
Noninterest bearing demand
  $ 1,683,447       ––       ––  
Savings and interest-bearing transaction
    1,910,131       1,182       0.06 %
Time less than $100,000
    228,061       1,070       0.47 %
Time $100,000 or more
    341,184       1,096       0.32 %
Total interest-bearing deposits
    2,479,376       3,348       0.14 %
Short-term borrowed funds
    57,454       77       0.13 %
Federal Home Loan Bank advances
    25,499       480       1.88 %
Term repurchase agreement
    10,000       98       0.98 %
Debt financing and notes payable
    12,452       668       5.37 %
Total interest-bearing liabilities
    2,584,781       4,671       0.18 %
Other liabilities
    57,469                  
Shareholders’ equity
    538,165                  
Total liabilities and shareholders’ equity
  $ 4,863,862                  
Net interest spread (2)
                    4.01 %
Net interest income and interest margin (1)(3)
          $ 167,737       4.08 %
                         
____________
(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 incurred on interest-bearing liabilities.
(3)
Net interest margin is computed by calculating the difference between interest income and expense, divided by the average balance of interest-earning assets. The net interest margin is greater than the net interest spread due to the benefit of noninterest-bearing demand deposits.

 
- 24 -

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

   
Year Ended December 31, 2012
 
(Dollars in thousands)
 
Average
Balance
   
Interest
Income/
Expense
   
Yields/
Rates
 
Assets
                 
Investment securities:
                 
Available for sale
                 
Taxable
  $ 491,338     $ 11,430       2.33 %
Tax-exempt (1)
    214,268       12,603       5.88 %
Held to maturity
                       
Taxable
    460,381       9,916       2.15 %
Tax-exempt (1)
    634,482       35,277       5.56 %
Loans:
                       
Commercial
                       
Taxable
    319,235       20,216       6.33 %
Tax-exempt (1)
    128,887       7,815       6.06 %
Commercial real estate
    1,016,805       67,863       6.67 %
Real estate construction
    26,314       1,946       7.40 %
Real estate residential
    264,497       9,583       3.62 %
Consumer
    559,132       26,122       4.67 %
Total Loans (1)
    2,314,870       133,545       5.77 %
Interest-earning assets (1)
    4,115,339       202,771       4.93 %
Other assets
    838,963                  
Total assets
  $ 4,954,302                  
Liabilities and shareholders’ equity
                       
Deposits:
                       
Noninterest bearing demand
  $ 1,603,981       ––       ––  
Savings and interest-bearing transaction
    1,887,959       1,238       0.07 %
Time less than $100,000
    264,466       1,515       0.57 %
Time $100,000 or more
    460,833       1,530       0.33 %
Total interest-bearing deposits
    2,613,258       4,283       0.16 %
Short-term borrowed funds
    81,323       77       0.09 %
Federal Home Loan Bank advances
    25,916       483       1.86 %
Term repurchase agreement
    10,000       99       0.99 %
Debt financing and notes payable
    15,000       802       5.35 %
Total interest-bearing liabilities
    2,745,497       5,744       0.21 %
Other liabilities
    61,515                  
Shareholders’ equity
    543,309                  
Total liabilities and shareholders’ equity
  $ 4,954,302                  
Net interest spread (2)
                    4.72 %
Net interest income and interest margin (1)(3)
          $ 197,027       4.79 %
                         
____________
(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 incurred on interest-bearing liabilities.
(3)
Net interest margin is computed by calculating the difference between interest income and expense, divided by the average balance of interest-earning assets. The net interest margin is greater than the net interest spread due to the benefit of noninterest-bearing demand deposits.

 
- 25 -

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

   
Year Ended December 31, 2011
 
(Dollars in thousands)
 
Average
Balance
   
Interest
Income/
Expense
   
Yields/
Rates
 
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 incurred on interest-bearing liabilities.
(3)
Net interest margin is computed by calculating the difference between interest income and expense, divided by the average balance of interest-earning assets. The net interest margin is greater than the net interest spread due to the benefit of noninterest-bearing demand deposits.
 
 
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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 yields/rates for the periods indicated. Changes not solely attributable to volume or yields/rates have been allocated in proportion to the respective volume and yield/rate components.

Summary of Changes in Interest Income and Expense

Years Ended December 31,
 
2013 Compared with 2012
 
(In thousands)
 
Volume
   
Yield/Rate
   
Total
 
Increase (decrease) in interest and loan fee income:
                 
Investment securities:
                 
Available for sale Taxable
  $ 6,370     $ (3,115 )   $ 3,255  
Tax- exempt (1)
    (1,607 )     (561 )     (2,168 )
Held to maturity Taxable
    (612 )     (1,788 )     (2,400 )
Tax- exempt (1)
    4,127       (4,443 )     (316 )
Loans:
                       
Commercial:
                       
Taxable
    (3,919 )     (255 )     (4,174 )
Tax- exempt (1)
    (1,300 )     (251 )     (1,551 )
Commercial real estate
    (9,871 )     (4,377 )     (14,248 )
Real estate construction
    (821 )     57       (764 )
Real estate residential
    (1,865 )     (361 )     (2,226 )
Consumer
    (2,548 )     (3,223 )     (5,771 )
Total loans (1)
    (20,324 )     (8,410 )     (28,734 )
Total decrease in interest and loan fee income (1)
    (12,046 )     (18,317 )     (30,363 )
Increase (decrease) in interest expense:
                       
Deposits:
                       
Savings/ interest-bearing
    12       (68 )     (56 )
Time less than $100,000
    (194 )     (251 )     (445 )
Time $100,000 or more
    (386 )     (48 )     (434 )
Total interest-bearing
    (568 )     (367 )     (935 )
Short-term borrowed funds
    (27 )     27       ––  
Federal Home Loan Bank advances
    (13 )     10       (3 )
Term repurchase agreement
    ––       (1 )     (1 )
Notes and mortgages payable
    (137 )     3       (134 )
Total decrease in interest expense
    (745 )     (328 )     (1,073 )
Decrease in net interest income (1)
  $ (11,301 )   $ (17,989 )   $ (29,290 )
                         
____________
(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

Years Ended December 31,
 
2012 Compared with 2011
 
(In thousands)
 
Volume
   
Yield/Rate
   
Total
 
Increase (decrease) in interest and loan fee income:
                 
Investment securities:
                 
Available for sale Taxable
  $ 1,112     $ (848 )   $ 264  
Tax- exempt (1)
    (2,644 )     (742 )     (3,386 )
Held to maturity Taxable
    6,464       (2,786 )     3,678  
Tax- exempt (1)
    8,659       (3,260 )     5,399  
Loans:
                       
Commercial:
                       
Taxable
    (7,497 )     (374 )     (7,871 )
Tax- exempt (1)
    (1,181 )     (498 )     (1,679 )
Commercial real estate
    (12,123 )     1,807       (10,316 )
Real estate construction
    (2,310 )     (75 )     (2,385 )
Real estate residential
    (1,788 )     (969 )     (2,757 )
Consumer
    (1,109 )     (4,316 )     (5,425 )
Total loans (1)
    (26,008 )     (4,425 )     (30,433 )
Total decrease in interest and loan fee income (1)
    (12,417 )     (12,061 )     (24,478 )
Increase (decrease) in interest expense:
                       
Deposits:
                       
Savings/ interest-bearing
    82       (1,263 )     (1,181 )
Time less than $100,000
    (301 )     (274 )     (575 )
Time $100,000 or more
    (291 )     (475 )     (766 )
Total interest-bearing
    (510 )     (2,012 )     (2,522 )
Short-term borrowed funds
    (41 )     (98 )     (139 )
Federal Home Loan Bank advances
    (37 )     ––       (37 )
Term repurchase agreement
    46       14       60  
Notes and mortgages payable
    (305 )     305       ––  
Total decrease in interest expense
    (847 )     (1,791 )     (2,638 )
Decrease in net interest income (1)
  $ (11,570 )   $ (10,270 )   $ (21,840 )
                         
____________
(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 provision for loan losses reflects Management's assessment of credit risk in the loan portfolio during each of the periods presented.

The Company provided $8.0 million, $11.2 million and $11.2 million for loan losses in 2013, 2012 and 2011. The reduced provision for loan losses for 2013 reflects Management’s current evaluation of credit quality for the loan portfolio. The Company recorded purchased County Bank and Sonoma Valley Bank loans at estimated fair value upon the acquisition dates, February 6, 2009 and August 20, 2010, respectively. Such estimated 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 dates of purchase. The purchased County Bank loans are “covered” by loss-sharing agreements the Company entered with the FDIC which mitigates losses during the term of the agreements. Any deterioration in estimated value related to principal loss subsequent to the acquisition dates requires additional loss recognition through a provision for loan losses. No assurance can be given future provisions for loan losses related to purchased loans will not be necessary. 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)
 
2013
   
2012
   
2011
 
Service charges on deposit accounts
  $ 25,693     $ 27,691     $ 29,523  
Merchant processing services
    9,031       9,734       9,436  
Debit card fees
    5,829       5,173       4,956  
Other service charges
    2,846       2,801       2,827  
ATM processing fees
    2,758       3,396       3,815  
Trust fees
    2,313       2,078       1,887  
Financial services commissions
    831       689       423  
Loss on sale of securities
          (1,287 )      
Other
    7,710       6,747       7,230  
Total
  $ 57,011     $ 57,022     $ 60,097  
                         
In 2013, noninterest income was $57.0 million, unchanged from 2012. In 2012 noninterest income included a $1.3 million loss realized from the sale of a collateralized mortgage obligation bond whose underlying support tranches began experiencing escalating losses. Service charges on deposits decreased $2.0 million or 7.2% due to declines in fees charged on overdrawn accounts and insufficient funds (down $1.1 million) and deficit fees charged on analyzed accounts (down $762 thousand). Merchant processing services income decreased $703 thousand mainly due to lower transaction volumes. ATM processing fees decreased $638 thousand primarily because the Bank customers had fewer transactions at non-Westamerica ATMs and other cash dispensing terminals. Offsetting these decreases were higher debit card fees (up $656 thousand) due to higher transaction volumes. Additionally, trust fees and financial services commissions increased $235 thousand and $142 thousand, respectively, from increased sales. Other noninterest income increased $963 thousand primarily due to higher recoveries of charged off purchased loans and life insurance proceeds.

In 2012, noninterest income decreased $3.1 million compared with 2011. The decline in 2012 noninterest income is partially due to a $1.3 million loss realized from the sale of a collateralized mortgage obligation bond whose underlying support tranches began experiencing escalating losses. Service charges on deposits decreased $1.8 million or 6.2% due to declines in fees charged on overdrawn and insufficient funds accounts (down $2.2 million), partially offset by higher deficit fees charged on analyzed accounts (up $298 thousand) and higher fees charged on checking accounts (up $134 thousand). ATM processing fees decreased $419 thousand or 11.0% primarily because the Bank customers had fewer transactions at non-Westamerica ATMs and other cash dispensing terminals. Merchant processing services income increased $298 thousand or 3.2% mainly due to increased transactions. Financial services commissions and trust fees increased $266 thousand and $191 thousand, respectively, from improved sales activities.



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Noninterest Expense

Components of Noninterest Expense

Years Ended December 31,
                 
(In thousands)
 
2013
   
2012
   
2011
 
Salaries and related benefits
  $ 56,633     $ 57,388     $ 58,501  
Occupancy
    15,137       15,460       16,209  
Outsourced data processing services
    8,548       8,531       8,844  
Amortization of intangible assets
    4,704       5,368       5,975  
Furniture and equipment
    3,869       3,775       3,837  
Professional fees
    3,057       3,217       4,802  
Courier service
    2,868       3,117       3,342  
Other Real Estate Owned
    1,035       1,235       2,458  
Settlements
                2,100  
Other
    16,763       18,794       21,610  
Total
  $ 112,614     $ 116,885     $ 127,678  
                         
Noninterest expense decreased $4.3 million or 3.7% in 2013 compared with 2012. Salaries and related benefits decreased $755 thousand or 1.3% primarily due to employee attrition. Amortization of identifiable intangibles decreased $664 thousand as such assets are amortized on a declining balance method. Occupancy expense decreased $323 thousand or 2.1% mainly due to lower lease rates on bank premises and utility costs. Expenses relating to other real estate owned decreased $200 thousand mainly due to lower writedowns. Professional fees declined $160 thousand or 5.0% due to lower legal fees associated with nonperforming assets. Other noninterest expense decreased $2.0 million primarily due to lower administration expenses related to nonperforming loans and decreases in postage, customer check printing expenses and correspondent bank service charges.

In 2012, noninterest expense decreased $10.8 million or 8.5% compared with 2011 partially due to a $2.1