Page 1
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark One)
[ x ] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 2006
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: 001-9383
WESTAMERICA BANCORPORATION
(Exact Name of Registrant as Specified in its Charter)
CALIFORNIA 94-2156203
(State or Other Jurisdiction of (I.R.S. Employer
Incorporation or Organization) Identification No.)
1108 Fifth Avenue, San Rafael, California 94901
(Address of Principal Executive Offices) (Zip Code)
Registrant's Telephone Number, including Area Code (707) 863-6000
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 whether the registrant is a large
accelerated filer, an accelerated filer, or a non-accelerated
filer. See definition of "accelerated filer and large accelerated
filer" in Rule 12b-2 of the Exchange Act. (Check one):
Large Accelerated Filer [ X ] Accelerated Filer [ ]
Non-Accelerated Filer [ ]
Indicate by check mark whether the registrant is a shell company
(as defined in Rule 12b-2 of the Exchange Act).
Yes [ ] No [ X ]
Indicate the number of shares outstanding of each of the registrant's classes
of common stock, as of the latest practicable date:
Title of Class Shares outstanding as of October 31, 2006
Common Stock, 30,775,097
No Par Value
Page 2
TABLE OF CONTENTS
Page
-------------
Forward Looking Statements 2
PART I - FINANCIAL INFORMATION
Item 1 - Financial Statements 3
Notes to Unaudited Condensed Consolidated Financial Statements 8
Financial Summary 13
Item 2 - Management's Discussion and Analysis of Financial Condition
and Results of Operations 14
Item 3 - Quantitative and Qualitative Disclosures about Market Risk 29
Item 4 - Controls and Procedures 29
PART II - OTHER INFORMATION
Item 1 - Legal Proceedings 30
Item 1A - Risk Factors 30
Item 2 - Unregistered Sales of Equity Securities and Use of Proceeds 30
Item 3 - Defaults upon Senior Securities 30
Item 4 - Submission of Matters to a Vote of Security Holders 30
Item 5 - Other Information 30
Item 6 - Exhibits 31
Signature 32
Exhibit Index 33
Exhibit 11 - Computation of Earnings Per Share 34
Exhibit 31.1 - Certification of Chief Executive Officer pursuant to
Securities Exchange Act Rule 13a-14(a)/15d-14(a) 35
Exhibit 31.2 - Certification of Chief Financial Officer pursuant to
Securities Exchange Act Rule 13a-14(a)/15d-14(a) 36
Exhibit 32.1 - Certification of Chief Executive Officer Required by 18 U.S.C. Section 1350 37
Exhibit 32.2 - Certification of Chief Financial Officer Required by 18 U.S.C. Section 1350 38
FORWARD-LOOKING STATEMENTS
This report on Form 10-Q 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.
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) a slowdown in the national and
California economies; (2) fluctuations in asset prices including, but not
limited to, stocks, bonds, real estate, and commodities; (3) 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; (4) changes in the interest rate environment;
(5) changes in the regulatory environment; (6) significantly increasing
competitive pressure in the banking industry; (7) operational risks including
data processing system failures or fraud; (8) the effect of acquisitions and
integration of acquired businesses; (9) volatility of rate sensitive deposits
and investments; (10) asset/liability management risks and liquidity risks;
(11) changes in liquidity levels in capital markets; and (12) changes in the
securities markets. The reader is directed to the Company's annual report on
Form 10-K for the year ended December 31, 2005, for further discussion of
factors which could affect the Company's business and cause actual results to
differ materially from those expressed in any forward-looking statement made
in this report. The Company undertakes no obligation to update any
forward-looking statements in this report.
Page 3
Part I. FINANCIAL INFORMATION
Item 1. Financial Statements
WESTAMERICA BANCORPORATION
CONSOLIDATED BALANCE SHEETS
(In thousands)
(unaudited)
At September 30, At
--------------------------December 31,
2006 2005* 2005*
---------------------------------------
Assets:
Cash and cash equivalents $191,611 $193,220 $209,273
Money market assets 564 540 534
Investment securities available for sale 617,736 660,630 662,388
Investment securities held to maturity,
with market values of:
$1,204,811 at September 30, 2006 1,211,589
$1,350,109 at September 30, 2005 1,358,266
$1,323,782 at December 31, 2005 1,337,216
Loans, gross 2,552,929 2,675,907 2,672,221
Allowance for loan losses (55,338) (59,674) (55,849)
---------------------------------------
Loans, net of allowance for loan losses 2,497,591 2,616,233 2,616,372
Other real estate owned 656 0 0
Premises and equipment, net 30,979 33,640 33,221
Identifiable intangibles 23,098 27,233 26,170
Goodwill 121,719 124,122 121,907
Interest receivable and other assets 149,817 147,589 150,478
---------------------------------------
Total Assets $4,845,360 $5,161,473 $5,157,559
=======================================
Liabilities:
Deposits:
Noninterest bearing $1,298,519 $1,412,470 $1,419,313
Interest bearing:
Transaction 581,705 635,019 658,667
Savings 926,262 1,094,130 1,022,645
Time 744,645 732,316 745,476
---------------------------------------
Total deposits 3,551,131 3,873,935 3,846,101
Short-term borrowed funds 768,841 764,143 775,173
Debt financing and notes payable 36,956 40,318 40,281
Liability for interest, taxes and
other expenses 61,456 42,671 60,940
---------------------------------------
Total Liabilities 4,418,384 4,721,067 4,722,495
---------------------------------------
Shareholders' Equity:
Authorized - 150,000 shares of common stock
Issued and outstanding:
30,910 at September 30, 2006 343,869
32,198 at September 30, 2005 342,806
31,882 at December 31, 2005 343,035
Deferred compensation 2,734 2,423 2,423
Accumulated other comprehensive income:
Unrealized gain on securities
available for sale, net 1,805 2,762 1,882
Retained earnings 78,568 92,415 87,724
---------------------------------------
Total Shareholders' Equity 426,976 440,406 435,064
---------------------------------------
Total Liabilities and
Shareholders' Equity $4,845,360 $5,161,473 $5,157,559
=======================================
See accompanying notes to unaudited condensed consolidated financial
statements.
* Adjusted to adopt Financial Accounting Standard 123 (revised 2004),
"Share-Based Payment." See Note 4.
Page 4
WESTAMERICA BANCORPORATION
CONSOLIDATED STATEMENTS OF INCOME AND COMPREHENSIVE INCOME
(In thousands, except per share data)
(unaudited)
Three months ended Nine months ended
September 30, September 30,
2006 2005* 2006 2005*
----------------------------------------------------
Interest Income:
Loans $41,292 $40,008 $123,558 $114,882
Money market assets and funds sold 1 1 3 2
Investment securities available for sale
Taxable 4,099 4,427 12,730 15,305
Tax-exempt 3,128 3,278 9,449 9,943
Investment securities held to maturity
Taxable 6,973 7,985 22,211 22,538
Tax-exempt 5,872 6,105 17,759 17,893
----------------------------------------------------
Total interest income 61,365 61,804 185,710 180,563
----------------------------------------------------
Interest Expense:
Transaction deposits 430 401 1,285 1,004
Savings deposits 1,173 956 2,995 2,790
Time deposits 7,408 4,610 19,985 11,984
Short-term borrowed funds 7,399 5,421 21,766 13,645
Notes payable 578 640 1,754 1,707
----------------------------------------------------
Total interest expense 16,988 12,028 47,785 31,130
----------------------------------------------------
Net Interest Income 44,377 49,776 137,925 149,433
----------------------------------------------------
Provision for credit losses 75 150 375 750
----------------------------------------------------
Net Interest Income After
Provision For Credit Losses 44,302 49,626 137,550 148,683
----------------------------------------------------
Noninterest Income:
Service charges on deposit accounts 7,155 7,436 21,424 21,905
Merchant credit card 2,430 2,631 7,208 6,346
Debit card 883 834 2,587 2,343
Financial services commissions 377 388 1,037 1,007
Trust fees 298 323 867 905
Mortgage banking 36 62 134 230
Gains on sales of real property 0 2,369 0 3,700
Securities gains (losses) 0 0 0 (4,903)
Other 2,720 3,397 8,343 8,581
----------------------------------------------------
Total Noninterest Income 13,899 17,440 41,600 40,114
----------------------------------------------------
Noninterest Expense:
Salaries and related benefits 13,080 14,149 39,897 41,988
Occupancy 3,321 3,201 9,820 9,383
Data processing 1,503 1,544 4,568 4,632
Equipment 1,194 1,347 3,775 3,891
Amortization of intangibles 1,016 1,064 3,071 2,561
Courier service 904 989 2,736 2,879
Professional fees 532 497 1,823 1,821
Other 3,853 4,528 11,542 13,117
----------------------------------------------------
Total Noninterest Expense 25,403 27,319 77,232 80,272
----------------------------------------------------
Income Before Income Taxes 32,798 39,747 101,918 108,525
----------------------------------------------------
Provision for income taxes 8,561 10,862 27,069 29,609
----------------------------------------------------
Net Income $24,237 $28,885 $74,849 $78,916
====================================================
Comprehensive Income:
Unrealized gain (loss) on securities
available for sale, net 6,576 (5,423) (77) (9,720)
Securities losses/impairment losses
included in net income 0 0 0 2,844
----------------------------------------------------
Comprehensive Income $30,813 $23,462 $74,772 $72,040
====================================================
Average Shares Outstanding 31,070 32,352 31,372 32,379
Diluted Average Shares Outstanding 31,558 32,972 31,919 33,007
Per Share Data:
Basic Earnings $0.78 $0.89 $2.39 $2.44
Diluted Earnings 0.77 0.88 2.34 2.39
Dividends Paid 0.32 0.30 0.96 0.90
See accompanying notes to unaudited condensed consolidated financial
statements.
* Adjusted to adopt Financial Accounting Standard 123 (revised 2004),
"Share-Based Payment." See Note 4.
Page 5
WESTAMERICA BANCORPORATION
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY
(In thousands)
(unaudited)
Accumulated
Compre-
Common Deferred hensive Retained
Shares Stock Compensation Income Earnings Total
------------------------------------------------------------------------------
Balance, December 31, 2004* 31,640 $255,205 $2,146 $9,638 $99,672 $366,661
Net income for the period 78,916 78,916
Stock issued and stock options
assumed for acquisition of
Redwood Empire Bancorp 1,639 89,538 89,538
Other stock issued 198 6,116 6,116
Stock option tax benefits* 1,332 1,332
Restricted stock activity 21 797 277 1,074
Stock based compensation* 1,583 1,583
Purchase and retirement of stock (1,300) (11,765) (57,148) (68,913)
Dividends (29,025) (29,025)
Unrealized loss on securities
available for sale, net (6,876) (6,876)
------------------------------------------------------------------------------
Balance, September 30, 2005* 32,198 $342,806 $2,423 $2,762 $92,415 $440,406
==============================================================================
Balance, December 31, 2005* 31,882 $343,035 $2,423 $1,882 $87,724 $435,064
Net income for the period 74,849 74,849
Stock issued 364 11,463 11,463
Stock option tax benefits 1,628 1,628
Restricted stock activity 20 727 311 1,038
Stock based compensation 1,919 1,919
Purchase and retirement of stock (1,356) (14,903) (53,809) (68,712)
Dividends (30,196) (30,196)
Unrealized loss on securities
available for sale, net (77) (77)
------------------------------------------------------------------------------
Balance, September 30, 2006 30,910 $343,869 $2,734 $1,805 $78,568 $426,976
==============================================================================
See accompanying notes to unaudited condensed consolidated financial
statements.
* Adjusted to adopt Financial Accounting Standard 123 (revised 2004), "Share-Based
Payment." See Note 4.
Page 6
WESTAMERICA BANCORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
(unaudited)
For the nine months
ended September 30,
2006 2005*
--------------------------
Operating Activities:
Net income $74,849 $78,916
Adjustments to reconcile net income to net cash
provided by operating activities:
Depreciation of fixed assets 2,923 3,104
Amortization of intangibles 4,782 4,048
Provision for credit losses 375 750
Amortization of loan fees, net of cost (225) (156)
Increase in interest income receivable (319) (1,946)
Increase in other assets (1,339) (5,524)
Stock option compensation expense 1,919 1,583
Excess tax benefits from stock-based compensation (1,628) (359)
Decrease in income taxes payable (3,691) (24)
Increase in interest expense payable 1,712 1,495
Increase (decrease) in other liabilities 6,233 (9,182)
Loss on sales of investment securities 0 4,903
Gain on sales of real estate 0 (3,700)
Net loss on writedown of equipment 187 9
Originations of loans for resale (620) (425)
Proceeds from sale of loans originated for resale 626 428
Net gain on sale of property acquired
in satisfaction of debt 0 (24)
--------------------------
Net Cash Provided by Operating Activities 85,784 73,896
--------------------------
Investing Activities:
Net cash used in mergers and acquisitions 0 (35,210)
Net repayments of loans 117,968 63,643
Purchases of investment securities available for sale (7,716) 0
Proceeds from maturity of securities available for sale 52,019 89,007
Proceeds from sale of securities available for sale 0 196,109
Purchases of investment securities held to maturity 0 (213,191)
Proceeds from maturity of securities held to maturity 125,628 125,385
Purchases of FRB/FHLB** securities (103) (4,382)
Proceeds from sale of FRB/FHLB securities 209 1,513
Purchases of property, plant and equipment (869) (1,020)
Proceeds from sale of property and equipment 0 0
Proceeds from sale of real estate 0 4,533
Proceeds from property acquired in satisfaction of debt 0 64
--------------------------
Net Cash Provided by Investing Activities 287,136 226,451
--------------------------
Financing Activities:
Net decrease in deposits (294,970) (79,664)
Net decrease in short-term borrowings (6,332) (58,678)
Repayments of notes payable (3,325) (3,301)
Exercise of stock options/issuance of shares 11,325 5,942
Tax benefit from stock-based compensation 1,628 359
Repurchases/retirement of stock (68,712) (68,913)
Dividends paid (30,196) (29,025)
--------------------------
Net Cash Used In Financing Activities (390,582) (233,280)
--------------------------
Net (Decrease) Increase In Cash and Cash Equivalents (17,662) 67,067
--------------------------
Cash and Cash Equivalents at Beginning of Period 209,273 126,153
--------------------------
Cash and Cash Equivalents at End of Period $191,611 $193,220
==========================
Page 7
Supplemental Disclosure of Noncash Activities:
Loans transferred to other real estate/repossessed collateral $656 $40
Unrealized gain (loss) on securities available for sale ($77) ($6,876)
Supplemental Disclosure of Cash Flow Activity:
Interest paid for the period 49,497 33,234
Income tax payments for the period 29,226 30,427
The acquisition of Redwood Empire Bancorp involved
the following:
Cash issued -- 57,128
Common stock issued -- 89,538
Liabilities assumed -- 504,901
Fair value of assets acquired, other than cash and cash equivalents -- (495,596)
Core deposit intangible -- (16,600)
Customer based intangible - merchant draft processing -- (10,300)
Goodwill -- (107,153)
Net cash and cash equivalent received -- 21,918
See accompanying notes to unaudited condensed consolidated financial
statements.
* Adjusted to adopt Financial Accounting Standard 123 (revised 2004),
"Share-Based Payment." See Note 4.
** Federal Reserve Bank/Federal Home Loan Bank ("FRB/FHLB")
Page 8
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
Note 1: Basis of Presentation
The accompanying unaudited consolidated financial statements have been
prepared in accordance with generally accepted accounting principles for
interim financial information and pursuant to the rules and regulations of the
Securities and Exchange Commission. The results of operations reflect interim
adjustments, all of which are of a normal recurring nature and which, in the
opinion of Management, are necessary for a fair presentation of the results
for the interim periods presented. The interim results for the nine months
ended September 30, 2006 and 2005 are not necessarily indicative of the
results expected for the full year. These unaudited consolidated financial
statements should be read in conjunction with the audited consolidated
financial statements and accompanying notes as well as other information
included in the Company's Annual Report on Form 10-K for the year ended
December 31, 2005.
Note 2: Significant Accounting Policies.
Certain accounting policies underlying the preparation of these financial
statements require Management to make estimates and judgments. These estimates
and judgments may affect reported amounts of assets and liabilities, revenues
and expenses, and disclosures of contingent assets and liabilities. The most
significant of these involve the Allowance for Credit Losses, which is
discussed in Note 1 to the audited consolidated financial statements included
in the Company's Annual Report on Form 10-K for the year ended December 31,
2005.
Effective March 1, 2005, the Company acquired Redwood Empire Bancorp ("REBC"),
parent company of National Bank of the Redwoods. The REBC acquisition was
accounted for using the "purchase method" of accounting for business
combinations which requires valuing assets and liabilities which do not have
quoted market prices. In determining fair values for assets and liabilities
without quoted market prices for the REBC acquisition, management engaged an
independent consultant to determine such fair values. Critical assumptions
used in the valuation included prevailing market interest rates on similar
financial products, future cash flows, maturity structures and durations of
similar financial products, the cost of processing deposit products, the
interest rate structure for similar funding sources over the estimated
duration of acquired deposits, the duration of customer relationships, and
other critical assumptions.
In February 2006, the Financial Accounting Standards Board ("FASB") issued
Statement of Accounting Standards No. 155 (SFAS 155), "Accounting for Certain
Hybrid Financial Instruments -- an amendment of FASB Statement No. 133 and
140". SFAS 155 clarifies existing and establishes new accounting for certain
hybrid financial instruments. The Company is currently evaluating the impact
of SFAS 155 on its accounting practices. SFAS 155 is effective for all
financial instruments acquired or issued by the Company after December 31,
2006.
On March 17, 2006, the Financial Accounting Standards Board issued FASB
Statement of Financial Accounting Standards No. 156 (SFAS 156), "Accounting
for Servicing of Financial Assets an amendment of FASB No. 140". This
Statement amends FASB Statement No. 140, "Accounting for Transfers and
Servicing of Financial Assets and Extinguishments of Liabilities" (SFAS 140).
The new Standard addresses the recognition and measurement of separately
recognized servicing assets and liabilities and provides an approach to
simplify efforts to obtain hedge-like (offset) accounting. The standard
requires that a separately recognized servicing asset or servicing liability
be initially measured at fair value, if practicable, and permits an entity
with a separately recognized servicing asset or servicing liability to choose
either the amortization method or the fair value method for subsequent
measurement. The Company currently has approximately $100 thousand in mortgage
servicing rights which are currently amortized over the period of estimated
mortgage income. This method is consistent with the SFAS 140 requirements. The
Company does not currently hedge its mortgage servicing rights as the risks to
earnings from fluctuating values is not significant. SFAS 156 is effective for
fiscal years beginning after September 15, 2006. The Company will be adopting
this new Standard beginning January 1, 2007.
In June 2006, the Financial Accounting Standards Board issued FASB
Interpretation No.48 (FIN 48), "Accounting Uncertainty in Income Taxes". This
Interpretation clarifies the accounting for uncertainty in income taxes
recognized in an enterprise's financial statements in accordance with FASB
Statement No.109, Accounting for Income Taxes. This Interpretation prescribes
a recognition threshold and measurement attribute for the financial statement
recognition and measurement of a tax position taken or expected to be taken in
a tax return and also provides guidance on derecognition, classification,
interest and penalties, accounting in interim periods, disclosure, and
transition. The evaluation of a tax position in accordance with this
Interpretation is a two-step process. The first step is recognition: The
enterprise determines whether it is more likely than not that a tax position
will be sustained. The second step is measurement: A tax position that meets
the more-likely-than-not recognition threshold is measured to determine the
amount of benefit to recognize in the financial statements. The tax position
is measured at the largest amount of benefit that is greater than 50 percent
likely of being realized upon ultimate settlement. Differences between tax
positions taken in a tax return and amounts recognized in the financial
statements will generally result in: a) An increase in a liability for income
taxes payable (or a reduction of an income tax refund receivable) or b) A
reduction in a deferred tax asset or an increase in a deferred tax liability
c) Both (a) and (b). FIN 48 is effective fiscal years beginning after December
15, 2006. The Company does not expect the adoption of this new standard to
have a material impact on its results of operations.
In September 2006, the Financial Accounting Standards Board issued FASB
Statement No. 158, "Employers' Accounting for Defined Benefit Pension and
Other Postretirement Plans, an amendment of FASB Statements No. 87, 88, 106,
and 132(R)" ("FAS 158"). FAS 158 requires the recognition of the funded status
of the Company's benefit plans as a net liability or asset, which requires an
offsetting adjustment to accumulated other comprehensive income in
shareholders' equity. FAS 158 further requires the Company to measure its
benefit obligations as of the balance sheet date. The Company must adopt the
recognition and disclosure provisions of FAS 158 effective December 31, 2006
and the measurement provisions of FAS 158 effective December 31, 2008. The
Company does not sponsor a defined benefit plan, but does maintain a
post-retirement medical benefit plan. At December 31, 2005, the accumulated
post-retirement benefit obligation exceeded plan assets by $4.3 million, of
which $3.6 million was recognized as a liability on the Company's balance
sheet. The remaining $700 thousand obligation represented the unrecognized
transition obligation, which is being amortized to earnings in an amount of
$61 thousand annually. Therefore, in applying the recognition and disclosure
provisions of FAS 158 on a prospective basis at December 31, 2006, the Company
anticipates recognizing a reduction in accumulated other comprehensive income
in the net of tax amount of approximately $400 thousand.
Page 9
In September 2006, the SEC staff issued Staff Accounting Bulletin No. 108,
"Considering the Effects of Prior Year Misstatements when Quantifying
Misstatements in Current Year Financial Statements" (SAB 108). The Company
is assessing the provisions of SAB 108 and, if necessary, will be adopting
SAB 108 effective January 1, 2006.
Note 3: Goodwill and Other Intangible Assets
The Company has recorded goodwill and other identifiable intangibles
associated with purchase business combinations. Goodwill is not amortized, but
is periodically evaluated for impairment. The Company did not recognize
impairment during the nine months ended September 30, 2006. Identifiable
intangibles are amortized to their estimated residual values over their
expected useful lives. Such lives and residual values are also periodically
reassessed to determine if any amortization period adjustments are indicated.
During the third quarter of 2006, no such adjustments were recorded.
In connection with the acquisition of Redwood Empire Bancorp ("REBC") in the
first quarter of 2005, the Company recorded goodwill and identifiable
intangibles of $109 million and $27 million, respectively, in accordance with
the purchase method of accounting. The following table summarizes the
Company's goodwill and identifiable intangible assets, as of January 1 and
September 30 for 2006 and 2005 (dollars in thousands). In the first quarter of
2006 goodwill relating to the REBC acquisition was reduced by $193 related to
stock options issued in connection with the acquisition and increased $5
related to accrued expenses. In the second quarter of 2005 goodwill relating
to the REBC acquisition was reduced by $3,381, which represents the premium
received on the required divestiture of a former REBC branch office in Lake
County and an adjustment related to stock options issued in connection with
the acquisition.
At At
January 1, September 30,
2006 Additions Reductions 2006
----------------------------------------------------
Goodwill $125,879 $5 ($193) $125,691
Accumulated Amortization (3,972) 0 0 (3,972)
----------------------------------------------------
Net $121,907 $5 ($193) $121,719
====================================================
Core Deposit Intangibles $24,383 $0 $0 $24,383
Accumulated Amortization (6,972) 0 (1,714) (8,686)
Merchant Draft Processing Intangible 10,300 0 0 10,300
Accumulated Amortization (1,541) 0 (1,358) (2,899)
----------------------------------------------------
Net $26,170 $0 ($3,072) $23,098
====================================================
At At
January 1, September 30,
2005 Additions Reductions 2005
----------------------------------------------------
Goodwill $22,968 $108,507 ($3,381) $128,094
Accumulated Amortization (3,972) 0 0 (3,972)
----------------------------------------------------
Net $18,996 $108,507 ($3,381) $124,122
====================================================
Core Deposit Intangibles $7,783 $16,600 $0 $24,383
Accumulated Amortization (4,889) 0 (1,482) (6,371)
Merchant Draft Processing Intangible 0 10,300 0 10,300
Accumulated Amortization 0 0 (1,079) (1,079)
----------------------------------------------------
Net $2,894 $26,900 ($2,561) $27,233
====================================================
At September 30, 2006, the estimated aggregate amortization of core deposit
intangibles, in thousands of dollars, for the remainder of 2006 and annually
through 2011 is $566, $2,153, $2,021, $1,859, $1,636, and $1,386,
respectively. The weighted average amortization period for core deposit
intangibles is 11.88 years.
At September 30, 2006, the estimated aggregate amortization of merchant draft
processing intangible, in thousands of dollars, for the remainder of 2006 and
annually through 2011 is $450, $1,500, $1,200, $962, $774, and $624,
respectively. The weighted average amortization period for merchant draft
processing intangibles is 11.42 years.
Page 10
Note 4: Stock Options
The Company grants stock options and restricted performance shares (RPSs) to
employees in exchange for employee services, pursuant to the
shareholder-approved 1995 Stock Option Plan, which was amended and restated in
2003. Stock options are granted with an exercise price equal to the fair
market value of the related common stock and generally became exercisable in
equal annual installments over a three-year period with each installment
vesting on the anniversary date of the grant. Each stock option has a maximum
ten-year term. A restricted performance share grant becomes vested after three
years of being awarded, provided the Company has attained its performance
goals for such three-year period.
Effective January 1, 2006, the Company adopted FASB Statement No.123(revised
2004), Share-Based Payment (SFAS No. 123(R)) on a modified retrospective
basis. SFAS No. 123(R) requires the Company to begin using the fair value
method to account for stock based awards granted to employees in exchange for
their services. Prior to the adoption of SFAS No. 123(R), the Company
accounted for stock option plans using the intrinsic value method, as
permitted by SFAS No. 123, "Accounting for Stock-Based Compensation." Under
the prior intrinsic value method, compensation expense was recorded for stock
options only if the price of the underlying stock on the date of grant
exceeded the exercise price of the option. The Company's historical stock
option grants were awarded with exercise prices equal to the prevailing price
of the underlying stock on the dates of grant; therefore, no compensation
expense was recorded using the intrinsic value method. The Company's
recognition of compensation expense for restricted performance share grants
has not changed with the adoption of SFAS No. 123(R). The Company has
recognized compensation expense for historical restricted performance share
grants over the relevant attribution period. Restricted performance share
grants have no exercise price, therefore, the intrinsic value is measured
using an estimated per share price at the vesting date for each restricted
performance share. The estimated per share price is adjusted during the
attribution period to reflect actual stock price performance. The Company's
obligation for unvested outstanding restricted performance share grants is
classified as a liability until the vesting date, at which time the issued
shares become classified as shareholders' equity.
The scope of SFAS 123(R) includes a wide range of stock-based compensation
arrangements including stock options, restricted stock plans,
performance-based awards, stock appreciation rights, and employee stock
purchase plans. SFAS 123(R) requires that the Company measure the cost of
employee services received in exchange for an award of equity instruments
based on the fair value of the award on the grant date. That cost must be
recognized in the income statement over the vesting period of the award. In
applying the "modified retrospective" method to implement SFAS No. 123 (R),
the Company adjusted the financial statements for prior periods to give effect
to the fair-value-based method of accounting for awards that were granted,
modified or settled in the fiscal years beginning after December 15, 1994 on a
basis consistent with the pro forma disclosures required by Statement 123.
Accordingly, compensation costs and the related tax effects are recognized in
those financial statements as though awards for those periods before the
effective date of Statement 123(R) had been accounted for under Statement 123.
In addition, the opening balances of common stock, deferred taxes and retained
earnings for the earliest year presented are adjusted to reflect the
cumulative effect of the modified retrospective application on earlier
periods.
The following table summarizes information about stock options granted under
the Plans as of September 30, 2006. The intrinsic value is calculated as the
difference between the market value as of September 30, 2006 and the exercise
price of the shares. The market value as of September 30, 2006 was $50.51 as
reported by the NASDAQ Global Market:
---------------------------------------------------------------------------------------------------------------------
Options Outstanding Options Exercisable
---------------------------------------------------------------------------------------------------------------------
Range of Shares Aggregate Weighted Weighted Shares Aggregate Weighted Weighted
Exercise (in Intrinsic Average Average (in Intrinsic Average Average
Price thousands) Value Remaining Exercise thousands) Value Remaining Exercise
(in Contractual Price (in Contractual Price
thousands) Life thousands) Life
(years) (years)
---------------------------------------------------------------------------------------------------------------------
$10 - 15 11 $411 1.9 $13.09 11 $411 1.9 $13.09
15 - 19 1 25 1.9 16.76 1 25 1.9 16.76
19 - 20 8 237 0.6 19.25 8 237 0.6 19.25
20 - 25 401 10,631 3.6 24.00 401 10,631 3.6 24.00
32 - 33 219 3,884 1.6 32.79 219 3,884 1.6 32.79
33 - 35 249 3,977 2.6 34.56 249 3,977 2.6 34.56
35 - 40 648 7,451 5.1 39.02 648 7,451 5.1 39.02
40 - 45 432 4,218 6.6 40.75 432 4,218 6.6 40.75
45 - 50 449 405 7.6 49.61 298 268 7.6 49.61
50 - 55 720 0 8.9 52.55 158 0 8.5 52.54
---------------------------------------------------------------------------------------------------------------------
$10 - 55 3,138 $31,239 5.9 41.02 2,425 $31,102 5.0 37.82
=====================================================================================================================
Page 11
The Company applies the Roll-Geske option pricing model (Modified Roll) to
determine grant date fair value of stock option grants. This model modifies
the Black-Scholes Model to take into account dividends and American options.
During the nine months ended September 30, 2006 and 2005, the Company granted
258 thousand and 560 thousand stock options, respectively. The following
weighted average assumptions were used in the option pricing to value stock
options granted in the periods indicated:
For the
Nine months ended
September 30,
2006 2005
--------------------------
Expected volatility*1 16% 15%
Expected life in years*2 4.0 7.0
Risk-free interest rate*3 4.41% 3.91%
Expected dividend yield 2.63% 2.47%
Fair value per award $6.54 $6.61
*1 Measured using daily price changes of Company's stock over respective
expected term of the option and the implied volatility derived from the market
prices of the Company's stock and traded options.
*2 the expected life is the number of years that the Company estimates that
the options will be outstanding prior to exercise
*3 the risk-free rate for periods within the contractual term of the option is
based on the US Treasury yield curve in effect at the time of the grant
Employee stock option grants are being expensed by the Company over the
grants' three year vesting period. The Company issues new shares upon the
exercise of options. The Company estimates it will issue approximately 275
thousand shares during 2006 related to stock-based compensation programs. The
number of shares authorized to be issued for options is 2.2 million.
The impact of adopting SFAS 123(R) for the three months and nine months ended
September 30, 2006 and 2005 and at September 30, 2006 and 2005 is summarized
in the following tables (in thousands, except per share data):
For the three months ended September 30,
----------------------------------------------------
2006 2005
----------------------------------------------------
Intrinsic Fair Intrinsic Fair
Value Value Value Value
Method Method Method Method
----------------------------------------------------
Income before income taxes $33,443 $32,798 $40,275 $39,747
Net income 24,614 24,237 29,194 28,885
Net earnings per share - basic $0.79 $0.78 $0.90 $0.89
Net earnings per share - diluted share 0.78 0.77 0.89 0.88
Cash flow provided by operations $30,486 $29,475 $26,204 $25,986
Cash flow used in financing activities (100,866) ($99,855) (54,833) (54,615)
For the nine months ended September 30,
----------------------------------------------------
2006 2005
----------------------------------------------------
Intrinsic Fair Intrinsic Fair
Value Value Value Value
Method Method Method Method
----------------------------------------------------
Income before income taxes $103,837 $101,918 $110,108 $108,525
Net income 75,972 74,849 79,842 78,916
Net earnings per share - basic $2.42 $2.39 $2.47 $2.44
Net earnings per share - diluted share 2.38 2.34 2.42 2.39
Cash flow provided by operations $87,412 $85,784 $74,254 $73,896
Cash flow used in financing activities (392,210) (390,582) (233,639) (233,280)
A summary of option activity during the nine months ended September 30, 2006
is presented below:
Shares Weighted Weighted
(In Average Average
Thousands) Exercise Remaining
Price Contractual
Term
---------------------------------------
Outstanding at January 1, 2006 3,269 $39.13
Granted 258 52.56
Exercised (362) 31.32
Forfeited or expired (27) 52.13
-------------
Outstanding at September 30, 2006 3,138 41.02 5.9
=============
Exercisable at September 30, 2006 2,425 37.82 5.0 years
=============
Page 12
A summary of the Company's nonvested option activity during the nine months
ended September 30, 2006 is presented below.
Shares Weighted
(In Average
Thousands) Grant
Date
Fair Value
--------------------------
Nonvested at January 1, 2006 968
Granted 258
Vested (487)
Forfeited (26)
-------------
Nonvested at September 30, 2006 713 $6.65
=============
The weighted average estimated grant date fair value, as defined by SFAS
123(R), for options granted under the Company's stock option plan during the
nine months ended September 30, 2006 and 2005 was $6.54 and $6.61 per share,
respectively. The total remaining unrecognized compensation cost related to
nonvested awards as of September 30, 2006 is $3.3 million and the weighted
average period over which the cost is expected to be recognized is 1.7 years.
The total intrinsic value of options exercised during the nine months ended
September 30, 2006 and 2005 was $6.9 million and $4.2 million, respectively.
The total fair value of RPSs that vested during the nine months ended
September 30, 2006 and 2005 was $1.0 million and $905 thousand, respectively.
The actual tax benefit realized for the tax deductions from the exercise of
options totaled $1.6 million and $359 thousand, respectively, for the nine
months ended September, 2006 and 2005.
A summary of the status of the Company's restricted performance shares as of
September 30, 2006 and 2005 and changes during the nine months ended on those
dates, follows (in thousands):
2006 2005
--------------------------
Outstanding at January 1, 44 58
Granted 15 21
Exercised (20) (21)
Forfeited 0 (8)
--------------------------
Outstanding at September 30, 39 50
==========================
As of September 30, 2006 and 2005, the restricted performance shares had a
weighted-average contractual life of 1.53 and 1.47 years, respectively. The
compensation cost that was charged against income for the Company's restricted
performance shares granted was $507 thousand and $900 thousand for the nine
month ended September 30, 2006 and 2005, respectively. There were no stock
appreciation rights or incentive stock options granted in the nine months
ended September, 2006 and 2005.
Note 5: Post Retirement Benefits
The Company uses an actuarial-based accrual method of accounting for
post-retirement benefits. The Company offers a continuation of group insurance
coverage to employees electing early retirement until age 65. The Company pays
a portion of these early retirees' insurance premium which are determined at
their date of retirement. The Company reimburses a portion of Medicare Part B
premiums for all retirees and spouses over 65.
In accordance with SFAS No.132 "Employers' Disclosures about Pensions and
Other Post-Retirement Benefits", the Company provides the following interim
disclosure related to its post-retirement benefit plan.
The following table sets forth the net periodic post retirement benefit costs
for the nine months ended September 30.
For the nine months ended
September 30,
--------------------------
2006 2005
--------------------------
(In thousands)(In thousands)
Service cost $141 $209
Interest cost 159 158
Amortization of unrecognized
transition obligation 45 46
--------------------------
Net periodic cost $345 $413
==========================
The Company does not fund its post-retirement benefit plan.
Page 13
WESTAMERICA BANCORPORATION
Financial Summary
(In thousands, except per share data)
Three months ended Nine months ended
September 30, September 30,
----------------------------------------------------
2006 2005* 2006 2005*
----------------------------------------------------
Net Interest Income (FTE)*** $50,198 $55,993 $155,675 $168,036
Provision for Credit Losses (75) (150) (375) (750)
Noninterest Income:
Gains on sales of real property 0 2,369 0 3,700
Securities gains (losses) 0 0 0 (4,903)
Deposit service charges and other 13,899 15,071 41,600 41,317
----------------------------------------------------
Total noninterest income 13,899 17,440 41,600 40,114
Noninterest Expense (25,403) (27,319) (77,232) (80,272)
Provision for income taxes (FTE)*** (14,382) (17,079) (44,819) (48,212)
----------------------------------------------------
Net Income $24,237 $28,885 $74,849 $78,916
====================================================
Average Shares Outstanding 31,070 32,352 31,372 32,379
Diluted Average Shares Outstanding 31,558 32,972 31,919 33,007
Shares Outstanding at Period End 30,910 32,198 30,910 32,198
As Reported:
Basic Earnings Per Share $0.78 $0.89 $2.39 $2.44
Diluted Earnings Per Share $0.77 $0.88 $2.34 $2.39
Return On Assets 1.98% 2.23% 2.02% 2.09%
Return On Equity 22.75% 27.01% 23.59% 25.76%
Net Interest Margin (FTE)*** 4.54% 4.76% 4.61% 4.84%
Net Loan Losses to Average Loans 0.07% 0.05% 0.05% 0.02%
Efficiency Ratio** 39.6% 37.2% 39.1% 38.6%
Average Balances:
Total Assets $4,846,286 $5,141,666 $4,949,661 $5,058,776
Earning Assets 4,419,609 4,695,342 4,513,838 4,644,636
Total Gross Loans 2,555,472 2,643,270 2,586,547 2,562,880
Total Deposits 3,602,565 3,872,414 3,679,677 3,831,947
Shareholders' Equity 422,735 424,277 424,189 409,567
Balances at Period End:
Total Assets $4,845,360 $5,161,473
Earning Assets 4,382,818 4,709,647
Total Gross Loans 2,552,929 2,675,907
Total Deposits 3,551,131 3,873,935
Shareholders' Equity 426,976 440,406
Financial Ratios at Period End:
Allowance for Loan Losses to Loans 2.18% 2.23%
Book Value Per Share $13.81 $13.68
Equity to Assets 8.81% 8.53%
Total Capital to Risk Adjusted Assets 11.02% 10.41%
Dividends Paid Per Share $0.32 $0.30 $0.96 $0.90
Dividend Payout Ratio 42% 34% 41% 38%
The above financial summary has been derived from the Company's unaudited
consolidated financial statements. This information should be read in
conjunction with those statements, notes and the other information included
elsewhere herein.
* Adjusted to adopt Financial Accounting Standard 123 (revised 2004),
"Share-Based Payment." See Note 4.
** The efficiency ratio is defined as noninterest expense divided by total
revenue (net interest income on a tax-equivalent basis and noninterest
income).
*** Yields on securities and certain loans have been adjusted upward to a
"fully taxable equivalent" ("FTE") basis in order to reflect the effect of
income which is exempt from federal income taxation at the current statutory
tax rate.
Page 14
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations
Westamerica Bancorporation and subsidiaries (the "Company") reported third
quarter 2006 net income of $24.2 million or $0.77 diluted earnings per share.
These results compare to net income of $28.9 million or $0.88 diluted earnings
per share for the same period of 2005. The third quarter of 2005 noninterest
income included a $2.4 million gain on sale of real estate and $588 thousand
in tax-exempt insurance proceeds which, on a combined basis, accounted for
$0.06 diluted earnings per share.
On a year-to-date basis, the Company reported net income for the nine months
ended September 30, 2006 of $74.8 million or diluted earnings per share of
$2.34, compared with $78.9 million or $2.39 diluted earnings per share for the
same period of 2005. The 2005 year-to-date results included gains on real
estate sales, and life insurance proceeds, offset by securities losses, which
reduced net income by $100 thousand.
Following is a summary of the components of net income for the periods
indicated (in thousands except per share amounts):
Three months ended Nine months ended
September 30, September 30,
----------------------------------------------------
2006 2005* 2006 2005*
----------------------------------------------------
Net interest income (FTE) $50,198 $55,993 $155,675 $168,036
Provision for credit losses (75) (150) (375) (750)
Noninterest income:
Gains on sales of real property 0 2,369 0 3,700
Securities gains (losses) 0 0 0 (4,903)
Deposit service charges and other 13,899 15,071 41,600 41,317
----------------------------------------------------
Total noninterest income 13,899 17,440 41,600 40,114
Noninterest expense (25,403) (27,319) (77,232) (80,272)
Provision for income taxes (FTE) (14,382) (17,079) (44,819) (48,212)
----------------------------------------------------
Net income $24,237 $28,885 $74,849 $78,916
====================================================
Average diluted shares 31,558 32,972 31,919 33,007
Diluted earnings per share $0.77 $0.88 $2.34 $2.39
Average total assets $4,846,286 $5,141,666 $4,949,661 $5,058,776
Net income (annualized) to average total assets 1.98% 2.23% 2.02% 2.09%
* Adjusted to adopt SFAS 123(R)
Net income for the third quarter of 2006 was $4.6 million or 16.1% less than
the same quarter of 2005, primarily attributable to lower net interest income
(FTE) and noninterest income, partially offset by decreases in provision for
credit losses, noninterest expense and income tax provision (FTE). The
decrease in net interest income (FTE) (down $5.8 million or 10.3%) was the net
result of lower average interest-earning assets and higher funding costs,
partially offset by higher yields on earning assets. The credit loss provision
decreased $75 thousand or 50.0% from a year ago, reflecting Management's
assessment of credit risk for the loan portfolio. Noninterest income decreased
$3.5 million or 20.3% mainly because the 2005 period included a $2.4 million
gain on sale of real estate and $588 thousand in life insurance proceeds.
Noninterest expense decreased $1.9 million or 7.0% largely due to lower
personnel costs. The provision for income taxes (FTE) decreased $2.7 million
or 15.8% primarily due to lower profitability, higher tax credits and refunds,
and other tax preference items.
Comparing the first nine months of 2006 to the prior year, net income
decreased $4.1 million or 5.2%, due to lower net interest income (FTE),
partially offset by higher noninterest income and decreases in noninterest
expense, credit loss provision and tax provision. The lower net interest
income (FTE) was mainly caused by rates on interest-bearing liabilities rising
faster than yields on earning assets and lower average earning assets,
partially offset by the effect of lower interest-bearing liabilities. The
credit loss provision decreased $375 thousand to reflect Management's
assessment of credit risk. Noninterest income increased $1.5 million or 3.7%.
Noninterest expense declined $3.0 million or 3.8%. The income tax provision
(FTE) decreased $3.4 million or 7.0% primarily due to lower earnings, higher
tax credits and refunds, and other tax preference items.
Page 15
Net Interest Income
Following is a summary of the components of net interest income for the
periods indicated (in thousands):
Three months ended Nine months ended
September 30, September 30,
----------------------------------------------------
2006 2005 2006 2005
----------------------------------------------------
Interest and fee income $61,365 $61,804 $185,710 $180,563
Interest expense (16,988) (12,028) (47,785) (31,130)
FTE adjustment 5,821 6,217 17,750 18,603
----------------------------------------------------
Net interest income (FTE) $50,198 $55,993 $155,675 $168,036
====================================================
Average earning assets $4,419,609 $4,695,342 $4,513,838 $4,644,636
Net interest margin (FTE) 4.54% 4.76% 4.61% 4.84%
The Company's primary source of revenue is net interest income, or the
difference between interest income earned on loans and investments and
interest expense paid on interest-bearing deposits and borrowings. Net
interest income (FTE) decreased during the third quarter of 2006 by $5.8
million or 10.3% from the same period in 2005 to $50.2 million, mainly due to
lower average earning assets (down $276 million) and higher rates paid on
interest-bearing liabilities (up 75 basis points "bp"), partially offset by
higher yields on earning assets excluding loan fees (up 26 bp) and a lower
volume of interest-bearing liabilities (down $221 million).
Comparing the first nine months of 2006 with the same period of 2005, net
interest income (FTE) decreased $12.4 million or 7.4%, primarily due to lower
average earning assets and higher rates paid on interest-bearing liabilities,
partially offset by higher yields on earning assets excluding loan fees.
Interest and Fee Income
Interest and fee income (FTE) for the third quarter of 2006 decreased $835
thousand or 1.2% from the same period in 2005. The decrease was caused
primarily by lower average earning assets (down $276 million), partially
offset by higher yields on average earning assets excluding loan fees (up 26
bp).
The average earning asset decrease of $276 million in the third quarter of
2006 compared to the same period in 2005 was substantially attributable to a
$188 million decline in the investment portfolio: mortgage backed securities
and collateralized mortgage obligations (down $124 million), U.S. government
sponsored entity obligations (down $32 million) and municipal securities (down
$30 million).
Average total loans were lower by $88 million in the third quarter of 2006
compared with the same period in 2005 due to decreases in average balances of
commercial loans (down $55 million), commercial real estate loans (down $23
million) and direct consumer loans (down $18 million).
The average yield on the Company's earning assets, excluding loan fee income,
increased from 5.75% in the third quarter of 2005 to 6.01% in the same period
in 2006 (up 26 bp). The composite yield on loans, excluding loan fees, rose 35
bp to 6.54% due to increases in rates charged on commercial loans (up 84 bp),
construction loans (up 242 bp), indirect consumer loans (up 35 bp) and
consumer credit lines (up 184 bp).
The investment portfolio yield increased 9 bp to 5.28%, mainly caused by
increases in the yield on US. Government sponsored entity obligations (up 26
bp) and mortgage backed securities and collateralized mortgage obligations (up
9 bp), partially offset by a 13 bp decline in municipal securities. The
decline in the yield on municipal securities was attributable to yields on
maturities, calls and serial payments exceeding yields on securities
purchased.
Comparing the first nine months of 2006 with the corresponding period a year
ago, interest and fee income (FTE) was up $4.3 million or 2.2%. The increase
largely resulted from higher yields on earning assets, partially offset by a
lower volume of those assets.
Average earning assets decreased $131 million or 2.8% for the first nine
months of 2006 compared with the same period of 2005. The loan portfolio grew
$24 million due to increases in average balances of residential real estate
loans (up $41 million), commercial real estate loans (up $16 million) and
construction loans (up $9 million), partially offset by decreases in average
balances of commercial loans (down $27 million) and consumer credit lines
(down $11 million). Investments declined $154 million due to decreases in
average balances of mortgage backed securities and collateralized mortgage
obligations (down $68 million), U.S. government sponsored entity obligations
(down $66 million), municipal securities (down $15 million) and preferred
stock & corporate securities (down $6 million).
The average yield on earning assets excluding loan fees for the first three
quarters of 2006 was 5.97% compared with 5.69% in the corresponding period of
2005. The loan portfolio yield excluding loan fees for the first nine months
of 2006 compared with the same period of 2005 was higher by 36 bp, due to
increases in rates charged on commercial loans (up 86 bp), construction loans
(up 184 bp), consumer credit lines (up 175 bp), indirect consumer loans (up 26
bp), residential real estate loans (up 16 bp) and commercial real estate loans
(up 6 bp).
The investment portfolio yield rose by 12 bp. The increase resulted from
higher yields on U.S. government sponsored entity obligations (up 25 bp) and
mortgage backed securities and collateralized mortgage obligations (up 18 bp),
partially offset by lower yields on preferred stock & corporate securities
(down 16 bp) and municipal securities (down 11 bp).
Page 16
Interest Expense
Interest expense in the third quarter of 2006 increased $5.0 million compared
with the same period in 2005. The increase was attributable to higher rates
paid on the interest-bearing liabilities, partially offset by lower average
interest-bearing liabilities.
The average rate paid on interest-bearing liabilities increased from 1.45% in
the third quarter of 2005 to 2.20% in the same quarter of 2006. Rates paid on
most liabilities moved with general market conditions. The average rate on
federal funds purchased rose 180 bp. Rates on deposits increased as well,
including those on CDs over $100 thousand, which rose 169 bp; on retail CDs,
which went up by 84 bp; and on money market savings accounts, which rose 18
bp.
Interest-bearing liabilities declined $221 million or 6.8% for the third
quarter of 2006 over the same period of 2005. Decreases in federal funds
purchased (down $100 million), retail CDs (down $45 million) and money market
savings accounts (down $132 million) were partially offset by increases in CDs
over $100 thousand (up $54 million) and other short-term borrowings (up $63
million).
Comparing the first nine months of 2006 to the corresponding period of 2005,
interest expense rose $16.7 million mainly due to higher rates paid on
interest-bearing liabilities.
Rates paid on liabilities averaged 2.03% during the first nine months of 2006
compared to 1.28% in the corresponding period of 2005. Rates on most
interest-bearing liabilities moved up with the general trend in the market.
The average rate on federal funds purchased rose 188 bp. Rates on most
deposits were also higher: CDs over $100 thousand which rose 166 bp, retail
CDs which increased by 63 bp, and money market savings accounts which
increased by 9 bp.
Interest-bearing liabilities declined $105 million or 3.2% over the first nine
months of 2005 mostly due to lower average balances of federal funds purchased
(down $46 million), retail CDs (down $42 million) and money market savings
(down $125 million). These decreases were partially offset by increases in
average balances of CDs over $100 thousand (up $68 million) and other short
term borrowings (up $53 million).
In all periods, the Company has focused its sales efforts on growing the
balances of more profitable, noninterest bearing and lower-cost transaction
accounts in order to minimize the cost of funds.
Net Interest Margin (FTE)
The following summarizes the components of the Company's net interest margin
for the periods indicated:
Three months ended Nine months ended
September 30, September 30,
----------------------------------------------------
2006 2005 2006 2005
----------------------------------------------------
Yield on earning assets 6.05% 5.77% 6.02% 5.73%
Rate paid on interest-bearing
liabilities 2.20% 1.45% 2.03% 1.28%
----------------------------------------------------
Net interest spread 3.85% 4.32% 3.99% 4.45%
Impact of all other net
noninterest bearing funds 0.69% 0.44% 0.62% 0.39%
----------------------------------------------------
Net interest margin 4.54% 4.76% 4.61% 4.84%
====================================================
During the third quarter of 2006, the net interest margin declined 22 bp
compared to the same period in 2005. Rates paid on interest-bearing
liabilities climbed faster than yields on earning assets, resulting in a 47 bp
decline in net interest spread. The decline in the net interest spread was
partially mitigated by the higher value of noninterest bearing funding
sources. While the average balance of these sources decreased $88 million or
6.3%, their value increased 25 bp because of the higher market rates of
interest at which they could be invested.
The net interest margin in the first nine months of 2006 declined by 23 bp
when compared with the corresponding period of 2005. Earning asset yields
increased 29 bp and the cost of interest-bearing liabilities rose by 75 bp,
resulting in a 46 bp decrease in the interest spread. Noninterest bearing
funding sources declined $40 million or 2.9%, their margin contribution
increased by 23 bp.
Page 17
Summary of Average Balances, Yields/Rates and Interest Differential
The following tables present, for the periods indicated, information regarding
the Company's consolidated average assets, liabilities and shareholders'
equity, the amount of interest income from average earning assets and the
resulting yields, and the amount of interest expense paid on interest-bearing
liabilities. Average loan balances include nonperforming loans. Interest
income includes proceeds from loans on nonaccrual status only to the extent
cash payments have been received and applied as interest income. Yields on
securities and certain loans have been adjusted upward to a "fully taxable
equivalent" ("FTE") basis in order to reflect the effect of income which is
exempt from federal income taxation at the current statutory tax rate (dollars
in thousands).
For the three months ended
September 30, 2006
---------------------------------------
Interest Rates
Average Income/ Earned/
Balance Expense Paid
---------------------------------------
Assets:
Money market assets and funds sold $966 $1 0.41%
Investment securities:
Available for sale
Taxable 385,478 4,099 4.25%
Tax-exempt 251,143 4,571 7.28%
Held to maturity
Taxable 646,991 6,973 4.31%
Tax-exempt 579,559 8,954 6.18%
Loans:
Commercial:
Taxable 343,958 7,487 8.64%
Tax-exempt 238,849 3,889 6.46%
Commercial real estate 913,919 16,396 7.12%
Real estate construction 71,372 1,774 9.86%
Real estate residential 509,252 5,916 4.65%
Consumer 478,122 7,126 5.91%
--------------------------
Total loans 2,555,472 42,588 6.54%
--------------------------
Total earning assets 4,419,609 67,186 6.05%
Other assets 426,677
-------------
Total assets $4,846,286
=============
Liabilities and shareholders' equity
Deposits:
Noninterest bearing demand $1,311,786 $-- --
Savings and interest-bearing
transaction 1,546,392 1,603 0.41%
Time less than $100,000 234,647 1,722 2.91%
Time $100,000 or more 509,741 5,686 4.43%
--------------------------
Total interest-bearing deposits 2,290,780 9,011 1.56%
Short-term borrowed funds 717,524 7,399 4.04%
Debt financing and notes payable 36,978 578 6.25%
--------------------------
Total interest-bearing liabilities 3,045,282 16,988 2.20%
Other liabilities 66,483
Shareholders' equity 422,735
-------------
Total liabilities and shareholders' equity $4,846,286
=============
Net interest spread (1) 3.85%
Net interest income and interest margin (2) $50,198 4.54%
==========================
(1) Net interest spread represents the average yield earned on earning assets
minus the average rate paid on interest-bearing liabilities.
(2) Net interest margin is computed by calculating the difference between
interest income and expense (annualized), divided by the average balance of
earning assets.
Page 18
For the three months ended
September 30, 2005
---------------------------------------
Interest Rates
Average Income/ Earned/
Balance Expense Paid
---------------------------------------
Assets:
Money market assets and funds sold $750 $1 0.53%
Investment securities:
Available for sale
Taxable 419,670 4,427 4.22%
Tax-exempt 261,428 4,814 7.37%
Held to maturity
Taxable 773,863 7,985 4.13%
Tax-exempt 596,362 9,399 6.30%
Loans:
Commercial:
Taxable 387,812 7,019 7.18%
Tax-exempt 249,607 4,092 6.50%
Commercial real estate 937,380 16,819 7.12%
Real estate construction 73,911 1,367 7.34%
Real estate residential 489,649 5,521 4.51%
Consumer 504,911 6,577 5.17%
--------------------------
Total loans 2,643,270 41,395 6.22%
--------------------------
Total earning assets 4,695,343 68,021 5.77%
Other assets 446,323
-------------
Total assets $5,141,666
=============
Liabilities and shareholders' equity:
Deposits:
Noninterest bearing demand $1,400,272 $-- --
Savings and interest-bearing
transaction 1,736,917 1,357 0.31%
Time less than $100,000 279,932 1,462 2.07%
Time $100,000 or more 455,293 3,148 2.74%
--------------------------
Total interest-bearing deposits 2,472,142 5,967 0.96%
Short-term borrowed funds 754,215 5,421 2.81%
Debt financing and notes payable 40,340 640 6.35%
--------------------------
Total interest-bearing liabilities 3,266,697 12,028 1.45%
Other liabilities 50,420
Shareholders' equity 424,277
-------------
Total liabilities and shareholders' equity $5,141,666
=============
Net interest spread (1) 4.32%
Net interest income and interest margin (2) $55,993 4.76%
==========================
(1) Net interest spread represents the average yield earned on earning assets
minus the average rate paid on interest-bearing liabilities.
(2) Net interest margin is computed by calculating the difference between
interest income and expense (annualized), divided by the average balance of
earning assets.
Page 19
For the nine months ended
September 30, 2006
---------------------------------------
Interest Rates
Average income/ earned/
Balance expense paid
---------------------------------------
Assets:
Money market assets and funds sold $878 $3 0.46%
Investment securities:
Available for sale
Taxable 398,065 12,730 4.26%
Tax-exempt 252,853 13,974 7.37%
Held to maturity
Taxable 691,468 22,211 4.28%
Tax-exempt 584,027 26,980 6.16%
Loans:
Commercial:
Taxable 352,747 22,243 8.43%
Tax-exempt 246,450 11,963 6.49%
Commercial real estate 917,044 49,800 7.26%
Real estate construction 75,624 5,136 9.08%
Real estate residential 509,936 17,709 4.58%
Consumer 484,746 20,711 5.71%
--------------------------
Total loans 2,586,547 127,562 6.58%
--------------------------
Total earning assets 4,513,838 203,460 6.02%
Other assets 435,823
-------------
Total assets $4,949,661
=============
Liabilities and shareholders' equity:
Deposits:
Noninterest bearing demand $1,328,071 $-- --
Savings and interest-bearing
transaction 1,602,949 4,280 0.36%
Time less than $100,000 243,814 4,763 2.61%
Time $100,000 or more 504,843 15,222 4.03%
--------------------------
Total interest-bearing deposits 2,351,606 24,265 1.38%
Short-term borrowed funds 740,923 21,766 3.87%
Debt financing and notes payable 37,372 1,754 6.26%
--------------------------
Total interest-bearing liabilities 3,129,901 47,785 2.03%
Other liabilities 67,500
Shareholders' equity 424,189
-------------
Total liabilities and shareholders' equity $4,949,661
=============
Net interest spread (1) 3.99%
Net interest income and interest margin (2) $155,675 4.61%
==========================
(1) Net interest spread represents the average yield earned on earning assets
minus the average rate paid on interest-bearing liabilities.
(2) Net interest margin is computed by calculating the difference between
interest income and expense (annualized), divided by the average balance of
earning assets.
Page 20
For the nine months ended
September 30, 2005
---------------------------------------
Interest Rates
Average Income/ Earned/
Balance Expense Paid
---------------------------------------
Assets:
Money market assets and funds sold $708 $2 0.38%
Investment securities:
Available for sale
Taxable 502,581 15,305 4.06%
Tax-exempt 245,665 14,635 7.94%
Held to maturity
Taxable 748,789 22,538 4.01%
Tax-exempt 584,012 27,607 6.30%
Loans:
Commercial
Taxable 377,313 19,641 6.96%
Tax-exempt 248,877 12,324 6.62%
Commercial real estate 901,373 48,477 7.19%
Real estate construction 66,634 3,623 7.27%
Real estate residential 469,169 15,716 4.42%
Consumer 499,515 19,298 5.17%
--------------------------
Total loans 2,562,881 119,079 6.20%
--------------------------
Total earning assets 4,644,636 199,166 5.73%
Other assets 414,140
-------------
Total assets $5,058,776
=============
Liabilities and shareholders' equity:
Deposits:
Noninterest bearing demand $1,367,580 $-- --
Savings and interest-bearing
transaction 1,741,720 3,794 0.29%
Time less than $100,000 286,170 4,243 1.98%
Time $100,000 or more 436,477 7,741 2.37%
--------------------------
Total interest-bearing deposits 2,464,367 15,778 0.86%
Short-term borrowed funds 734,394 13,645 2.45%
Debt financing and notes payable 35,866 1,707 6.35%
--------------------------
Total interest-bearing liabilities 3,234,627 31,130 1.28%
Other liabilities 47,002
Shareholders' equity 409,567
-------------
Total liabilities and shareholders' equity $5,058,776
=============
Net interest spread (1) 4.45%
Net interest income and interest margin (2) $168,036 4.84%
==========================
(1) Net interest spread represents the average yield earned on earning assets
minus the average rate paid on interest-bearing liabilities.
(2) Net interest margin is computed by calculating the difference between
interest income and expense (annualized), divided by the average balance of
earning assets.
Page 21
Summary of Changes in Interest Income and Expense due to Changes in Average
Asset & Liability Balances and Yields Earned & Rates Paid
The following tables set forth a summary of the changes in interest income and
interest expense due to changes in average asset and liability balances
(volume) and changes in average interest rates for the periods indicated.
Changes not solely attributable to volume or rates have been allocated in
proportion to the respective volume and rate components (dollars in
thousands).
Three months ended September 30, 2006
compared with three months
ended September 30, 2005
---------------------------------------
Volume Rate Total
---------------------------------------
Interest and fee income:
Money market assets and funds sold $0 $0 $0
Investment securities:
Available for sale
Taxable (363) 35 (328)
Tax-exempt (188) (55) (243)
Held to maturity
Taxable (1,355) 343 (1,012)
Tax-exempt (262) (183) (445)
Loans:
Commercial:
Taxable (851) 1,319 468
Tax-exempt (175) (28) (203)
Commercial real estate (421) (2) (423)
Real estate construction (48) 455 407
Real estate residential 225 170 395
Consumer (362) 911 549
---------------------------------------
Total loans (1,632) 2,825 1,193
Total earning assets (3,800) 2,965 (835)
---------------------------------------
Interest expense:
Deposits:
Savings and interest-bearing
transaction (161) 407 246
Time less than $100,000 (264) 524 260
Time $100,000 or more 414 2,124 2,538
---------------------------------------
Total interest-bearing deposits (11) 3,055 3,044
---------------------------------------
Short-term borrowed funds (275) 2,253 1,978
Debt financing and notes payable (53) (9) (62)
---------------------------------------
Total interest-bearing liabilities (339) 5,299 4,960
---------------------------------------
Increase (decrease) in Net Interest Income ($3,461) ($2,334) ($5,795)
=======================================
Page 22
Nine months ended September 30, 2006
compared with nine months
ended September 30, 2005
---------------------------------------
Volume Rate Total
---------------------------------------
Interest and fee income:
Money market assets and funds sold $1 $0 $1
Investment securities:
Available for sale
Taxable (3,311) 736 (2,575)
Tax-exempt 418 (1,079) (661)
Held to maturity
Taxable (1,787) 1,460 (327)
Tax-exempt 1 (628) (627)
Loans:
Commercial:
Taxable (1,342) 3,944 2,602
Tax-exempt (119) (242) (361)
Commercial real estate 848 475 1,323
Real estate construction 532 981 1,513
Real estate residential 1,401 592 1,993
Consumer (584) 1,997 1,413
---------------------------------------
Total loans 736 7,747 8,483
---------------------------------------
Total earning assets (3,942) 8,236 4,294
---------------------------------------
Interest expense:
Deposits:
Savings and interest-bearing
transaction (320) 806 486
Time less than $100,000 (691) 1,211 520
Time $100,000 or more 1,368 6,113 7,481
---------------------------------------
Total interest-bearing deposits 357 8,130 8,487
---------------------------------------
Short-term borrowed funds 122 7,999 8,121
Debt financing and notes payable 71 (24) 47
---------------------------------------
Total interest-bearing liabilities 550 16,105 16,655
---------------------------------------
Increase (decrease) in Net Interest Income ($4,492) ($7,869) ($12,361)
=======================================
Page 23
Provision for Credit Losses
The level of the provision for credit losses during each of the periods
presented reflects the Company's continued efforts to manage credit costs by
enforcing underwriting and administration procedures and aggressively pursuing
collection efforts with troubled debtors. The Company provided $75 thousand
for credit losses in the third quarter of 2006, compared with $150 thousand in
the corresponding period of 2005. For the first nine months of 2006 and 2005,
$375 thousand and $750 thousand were provided in each respective period. The
provision reflects Management's assessment of credit risk in the loan
portfolio for each of the periods presented. For further information regarding
net credit losses and the allowance for credit losses, see the "Classified
Assets" section of this report.
Noninterest Income
The following table summarizes the components of noninterest income for the
periods indicated (in thousands).
Three months ended Nine months ended
September 30, September 30,
----------------------------------------------------
2006 2005 2006 2005
----------------------------------------------------
Service charges on deposit accounts $7,155 $7,436 $21,424 $21,905
Merchant credit card fees 2,430 2,631 7,208 6,346
Debit card fees 883 834 2,587 2,343
ATM fees and interchange 753 725 2,148 2,058
Other service fees 510 481 1,445 1,315
Financial services commissions 377 388 1,037 1,007
Trust fees 298 323 867 905
Official check sales income 358 308 1,064 800
Mortgage banking income 36 62 134 230
Gains on sale of foreclosed property 0 24 0 24
Securities gains (losses) 0 0 0 (4,903)
Gain on sale of real estate 0 2,369 0 3,700
Other noninterest income 1,099 1,859 3,686 4,384
----------------------------------------------------
Total $13,899 $17,440 $41,600 $40,114
====================================================
Noninterest income for the third quarter of 2006 decreased by $3.5 million or
20.3% from the same period in 2005 primarily because 2005 included a $2.4
million gain on sale of real estate. Service charges on deposits declined $281
thousand or 3.8% mainly due to decreases in deficit fees charged on analyzed
accounts (down $298 thousand or 17.7%), DDA activity and return item charges,
partially offset by a $161 thousand or 4.6% increase in overdraft charges.
Other noninterest income decreased $760 thousand or 40.9% mostly because the
2005 period included $588 thousand in insurance proceeds.
In the first nine months of 2006, noninterest income increased $1.5 million or
3.7% compared with the same period of the previous year. In 2005 the Company
incurred $4.9 million in losses on sales of securities to manage the Company's
interest rate risk position following the REBC acquisition. The losses were
partially offset by a $3.7 million gain on sale of real estate. Merchant
credit card fees increased $862 thousand or 13.6% mainly due to the
acquisition of of the merchant card servicing business of Redwood Empire
Bancorp on March 1, 2005. Official check sales income increased $264 thousand
or 33.0% due to the higher earnings credit rate on outstanding items. Debit
card fees increased $244 thousand or 10.4% mainly due to increased usage.
Other service fees rose $130 thousand or 9.9% largely due to higher internet
banking income (up $122 thousand or 50.6%). Service charges on deposits
declined $481 thousand or 2.2% largely due to a decrease in deficit fees
charged on analyzed accounts (down $522 thousand or 10.5%) as a result of the
higher earnings credit rate, lower returned item charges (down $186 thousand
or 10.0%) and DDA activity (down $160 thousand or 3.6%), partially offset by
an increase in overdraft fees (up $366 thousand or 3.6%). Other noninterest
income declined $698 thousand or 15.9% mostly because the 2005 period included
$588 thousand in insurance proceeds.
Page 24
Noninterest Expense
The following table summarizes the components of noninterest expense for the
periods indicated (dollars in thousands).
Three months ended Nine months ended
September 30, September 30,
----------------------------------------------------
2006 2005* 2006 2005*
----------------------------------------------------
Salaries and related benefits $13,080 $14,149 $39,897 $41,988
Occupancy 3,321 3,201 9,820 9,383
Data processing services 1,503 1,544 4,568 4,632
Equipment 1,194 1,347 3,775 3,891
Courier service 904 989 2,736 2,879
Telephone 371 537 1,269 1,618
Professional fees 532 497 1,823 1,821
Postage 410 377 1,217 1,175
Stationery and supplies 307 298 849 950
Loan expense 253 309 683 745
Advertising/public relations 197 247 650 728
Correspondent Service Charges 212 233 602 747
Operational losses 129 222 572 612
Amortization of deposit intangibles 1,016 1,064 3,071 2,561
Other noninterest expense 1,974 2,305 5,700 6,542
----------------------------------------------------
Total $25,403 $27,319 $77,232 $80,272
====================================================
Average full time equivalent staff 901 956 915 964
Noninterest expense to revenues (FTE) 39.63% 37.20% 39.15% 38.56%
* Adjusted to adopt SFAS 123(R)
Noninterest expense decreased $1.9 million or 7.0% in the third quarter of
2006 compared to the same period in 2005. Salaries and related benefits
decreased $1.1 million or 7.6%, primarily due to a $621 thousand decrease in
regular salary and lower incentive payments. The decrease in regular salaries
was attributable to the effect of a smaller workforce, partially offset by
annual merit increases to continuing staff. Telephone expense declined $166
thousand or 30.9% primarily due to lower rates contained in a new vendor
contract. Equipment expense decreased $153 thousand or 11.4% mainly due to
lower repair and maintenance costs. Other noninterest expense declined $331
thousand or 14.4% mainly due to lower expense for insurance, employee
recruiting and subscriptions. Occupancy expense increased $120 thousand or
3.7% mainly due to the REBC acquisition.
In the first nine months of 2006, noninterest expense decreased $3.0 million
or 3.8% compared with the corresponding period of 2005. Salaries and related
benefits declined $2.1 million or 5.0%, primarily the net result of a $1.4
million decrease in regular salary, lower retirement plan expenses and
incentive payments, partially offset by higher workers compensation costs. The
decrease in regular salaries was attributable to the net effect of a smaller
workforce and annual merit increases to continuing staff. Telephone expense
declined $349 thousand or 21.6% primarily due to lower rates contained in a
new vendor contract. Correspondent service charges decreased $145 thousand or
19.4% mainly due to decreased usage. Courier service cost was lower by $143
thousand or 5.0% than in the same period of 2005. Equipment expense declined
$116 thousand or 3.0% mainly due to lower repair and maintenance costs.
Stationery and supplies decreased $101 thousand or 10.6%. Other noninterest
expense decreased $842 thousand or 12.9% largely due to reclassification of
credit card expense and lower insurance costs, offset by a $223 thousand
increase in amortization of low-income housing investments as tax benefits are
realized. Occupancy expense was higher by $437 thousand or 4.7% primarily due
to a $536 thousand increase in rent, net of sublease income, moving expense,
higher utility costs and an increase in miscellaneous occupancy expenses. A
$510 thousand increase in amortization of identifiable intangibles was
attributable to the March 1, 2005 REBC acquisition.
Provision for Income Tax
During the third quarter of 2006, the Company recorded income tax expense
(FTE) of $14.4 million, $2.7 million or 15.8% lower than the third quarter of
2005. The current quarter provision represents an effective tax rate of 37.2%
(FTE), unchanged from the third quarter of 2005. On a year-to-date basis, the
income tax provision (FTE) was $44.8 million for 2006 compared with $48.2
million for 2005. The effective tax rate of 37.5% (FTE) for the first nine
months of 2006 is slightly lower than the 37.9% (FTE) for the same period of
2005. Tax provision in 2006 reflected tax credits and other benefits realized
from additional investments in low income housing projects, tax refunds and
other tax items. Tax provision in 2005 reflected tax refunds in connection
with the acceptance of amended returns and the tax-free nature of $588
thousand in life insurance proceeds.
Page 25
Classified Assets
The Company closely monitors the markets in which it conducts its lending
operations and continues its strategy to control exposure to loans with high
credit risk and to increase diversification of the loan portfolio. Loan
reviews are performed using grading standards and criteria similar to those
employed by bank regulatory agencies. Loans receiving lesser grades fall under
the "classified" category, which includes all nonperforming and potential
problem loans, and receive an elevated level of attention to ensure
collection. Other real estate owned is recorded at the lower of cost or
market.
The following is a summary of classified loans and other real estate owned on
the dates indicated (dollars in thousands):
At September 30, At
--------------------------December 31,
2006 2005 2005
---------------------------------------
Classified loans $24,111 $36,656 $29,997
Other real estate owned 656 0 0
---------------------------------------
Classified loans and other real estate owned $24,767 $36,656 $29,997
=======================================
Allowance for loan losses /
classified loans 230% 163% 186%
Classified loans at September 30, 2006, decreased $12.5 million or 34.2% from
a year ago primarily due to nine loan payoffs totaling $16.6 million, a
transfer to other real estate owned and three loan upgrades totaling $4.4
million, partially offset by 15 loan downgrades totaling $14.6 million.
Classified loans at September 30, 2006, declined $5.9 million or 19.6% from
December 31, 2005 mostly due to three loan payoffs totaling $11.4 million, a
transfer to other real estate owned and three loan upgrades totaling $4.4
million, partially offset by 15 loan downgrades totaling $14.6 million.
Other real estate owned at September 30, 2006 was $656 thousand compared with
none a year ago and at December 31, 2005 because collateral for one commercial
real estate loan was foreclosed in the second quarter of 2006.
Nonperforming Loans
Nonperforming loans include nonaccrual loans and loans 90 days past due as to
principal or interest and still accruing. Loans are placed on nonaccrual
status when they become 90 days or more delinquent, unless the loan is well
secured and in the process of collection. Interest previously accrued on loans
placed on nonaccrual status is charged against interest income. In addition,
loans secured by real estate with temporarily impaired values and commercial
loans to borrowers experiencing financial difficulties are placed on
nonaccrual status even though the borrowers continue to repay the loans as
scheduled. Such loans are classified as "performing nonaccrual" and are
included in total nonperforming assets. When the ability to fully collect
nonaccrual loan principal is in doubt, cash payments received are applied
against the principal balance of the loan until such time as full collection
of the remaining recorded balance is expected. Any subsequent interest
received is recorded as interest income on a cash basis.
The following is a summary of nonperforming loans and OREO on the dates
indicated (dollars in thousands):
At September 30, At
--------------------------December 31,
2006 2005 2005
---------------------------------------
Performing nonaccrual loans $3,889 $4,514 $4,256
Nonperforming, nonaccrual loans 1,162 2,293 2,068
---------------------------------------
Total nonaccrual loans 5,051 6,807 6,324
Loans 90 days past due and
still accruing 252 1,334 162
---------------------------------------
Total nonperforming loans 5,303 8,141 6,486
Other real estate owned 656 0 0
---------------------------------------
Total $5,959 $8,141 $6,486
=======================================
As a percentage of total loans 0.23% 0.30% 0.24%
Performing nonaccrual loans at September 30, 2006 decreased $625 thousand and
$367 thousand from a year ago and December 31, 2005, respectively, primarily
as a result of charge-offs, loans being returned to accrual status and loans
being placed on nonperforming nonaccrual, partially offset by new loans being
placed on nonaccrual.
Nonperforming nonaccrual loans at September 30, 2006 declined $1.1 million and
$906 thousand from a year ago and December 31, 2005, respectively. The
decrease was due to the net result of loans being returned to accrual status
or being charged off or paid off, and others being added to nonperforming
nonaccrual.
Loans 90 days past due and still accruing decreased $1.1 million and increased
$90 thousand from September 30, 2005 and December 31, 2005, respectively. The
balance was higher a year ago mainly attributable to a $1.2 million commercial
loan which is 100 percent secured by Westamerica Bank certificates of deposit.
Such loan was brought current in October 2005.
Changes in other real estate owned are discussed above.
Page 26
The Company had no restructured loans as of September 30, 2006, September 30,
2005 and December 31, 2005.
The amount of gross interest income that would have been recorded for
nonaccrual loans for the three and nine month periods ended September 30,
2006, if all such loans had performed in accordance with their original terms,
was $122 thousand and $384 thousand, respectively, compared to $148 thousand
and $422 thousand, respectively, for the third quarter and the first three
quarters of 2005.
The amount of interest income that was recognized on nonaccrual loans from all
cash payments, including those related to interest owed from prior years, made
during the three and nine months ended September 30, 2006, totaled $164
thousand and $316 thousand, respectively, compared to $23 thousand and $308
thousand, respectively, for the comparable periods in 2005. These cash
payments represent annualized yields of 12.25% and 7.21%, respectively, for
the third quarter and the first nine months of 2006 compared to 1.28% and
5.67%, respectively, for the third quarter and the first nine months of 2005.
Total cash payments received during the third quarter and first nine months of
2006 which were applied against the book balance of nonaccrual loans
outstanding at September 30, 2006, totaled approximately $3 thousand and $50
thousand, respectively. Total cash payments received during the third quarter
and first nine months of 2005 which were applied against the book balance of
nonaccrual loans outstanding at September 30, 2005, totaled approximately $101
thousand and $329 thousand, respectively.
Management believes the overall credit quality of the loan portfolio continues
to be strong; however, nonperforming assets could fluctuate from period to
period. The performance of any individual loan can be affected by external
factors such as the interest rate environment, economic conditions or factors
particular to the borrower. No assurance can be given that additional
increases in nonaccrual loans will not occur in the future.
Allowance for Credit Losses
The Company's allowance for credit losses is maintained at a level considered
adequate to provide for losses that can be estimated based upon specific and
general conditions. These include conditions unique to individual borrowers,
as well as overall credit loss experience, the amount of past due,
nonperforming loans and classified loans, recommendations of regulatory
authorities, prevailing economic conditions and other factors. A portion of
the allowance is specifically allocated to impaired and other identified loans
whose full collectibility is uncertain. Such allocations are determined by
Management based on loan-by-loan analyses. A second allocation is based in
part on quantitative analyses of historical credit loss experience, in which
criticized and classified credit balances identified through an internal
credit review process are analyzed using a linear regression model to
determine standard loss rates. The results of this analysis are applied to
current criticized and classified loan balances to allocate the reserve to the
respective segments of the loan portfolio. In addition, loans with similar
characteristics not usually criticized using regulatory guidelines are
analyzed based on the historical loss rates and delinquency trends, grouped by
the number of days the payments on these loans are delinquent. Last,
allocations are made to general loan categories based on commercial office
vacancy rates, mortgage loan foreclosure trends, agriculture commodity prices,
and levels of government funding. The remainder of the reserve is considered
to be unallocated and is established at a level considered necessary based on
relevant economic conditions and available data, including unemployment
statistics, unidentified economic and business conditions, the quality of
lending management and staff, credit quality trends, concentrations of credit,
and changing underwriting standards due to external competitive factors.
Management considers the $59.0 million allowance for credit losses to be
adequate as a reserve against losses as of September 30, 2006.
Page 27
The following table summarizes the credit loss provision, net credit losses
and allowance for credit losses for the periods indicated (dollars in
thousands):
Three months ended Nine months ended
September 30, September 30,
----------------------------------------------------
2006 2005 2006 2005
----------------------------------------------------
Balance, beginning of period $59,372 $59,862 $59,537 $54,152
Credit loss provision 75 150 375 750
Allowance acquired through merger 0 0 0 5,213
Loans charged off (1,011) (684) (2,775) (2,037)
Recoveries of previously
charged off loans 590 346 1,889 1,596
----------------------------------------------------
Net credit losses (421) (338) (886) (441)
----------------------------------------------------
Balance, end of period $59,026 $59,674 $59,026 $59,674
====================================================
Components:
Allowance for loan losses $55,338 $59,674 $55,338 $59,674
Reserve for unfunded credit commitments (1) 3,688 -- 3,688 --
Allowance for credit losses $59,026 $59,674 $59,026 $59,674
====================================================
Allowance for loan losses /
loans outstanding 2.17% 2.23%
(1) Effective December 31, 2005, the Company transferred the portion of the
allowance for credit losses related to lending commitments and letters of
credit to other liabilities.
Asset and Liability Management
The fundamental objective of the Company's management of assets and
liabilities is to maximize its economic value while maintaining adequate
liquidity and a conservative level of interest rate risk.
Interest rate risk is the most significant market risk affecting the Company.
Interest rate risk results from many factors. Assets and liabilities may
mature or reprice at different times. Assets and liabilities may reprice at
the same time but by different amounts. Short-term and long-term market
interest rates may change by different amounts. The remaining maturity of
various assets or liabilities may shorten or lengthen as interest rates
change. In addition, interest rates may have an impact on loan demand, credit
losses, and other sources of earnings such as account analysis fees on
commercial deposit accounts, official check fees and correspondent bank
service charges.
The recent rise in short-term interest rates has affected the volume of
lower-costing deposit products, placing more reliance on higher-cost
certificates of deposit and wholesale funding. Competitive loan pricing and
loosened underwriting standards in the banking industry are limiting the
opportunity to originate commercial loans which will remain profitable
throughout the duration of the loans, in Management's opinion. Current
interest rate spreads between loan origination yields and the rates paid on
deposits and other funding sources are very narrow. Such interest rate spreads
have been, and could continue to be pressured in the near-term as funding
costs rise while loan yields reprice at a slower pace. As a result, the
Company has not taken an aggressive posture relative to current loan growth.
The interest rate spread is also very narrow in regard to bond investments. As
such, Westamerica has not been making additional investments in bonds other
than continuing investments for Community Reinvestment Act purposes. The
Company's exposure to interest rate risk has not materially changed during the
first nine months of 2006. The duration of the Company's earning assets and
funding has not changed by a meaningful amount. Management continues to
monitor the interest rate environment as well as economic conditions and other
factors it deems relevant in managing the Company's exposure to interest rate
risk.
In adjusting the Company's asset/liability position, Management attempts to
manage interest rate risk while enhancing net interest margin and net interest
income. At times, depending on expected increases or decreases in general
interest rates, the relationship between long and short term interest rates,
market conditions and competitive factors, Management may adjust the Company's
interest rate risk position in order to manage its net interest margin and net
interest income. The Company's results of operations and net portfolio values
remain subject to changes in interest rates and to fluctuations in the
difference between long and short term interest rates.
Management assesses interest rate risk by comparing the Company's most likely
earnings plan with various earnings models using many interest rate scenarios
that differ in the direction of interest rate changes, the degree of change
over time, the speed of change and the projected shape of the yield curve. The
Company's most likely earnings plan is currently based on slight monetary
policy easing by the Federal Reserve in 2007. This earnings plan would be
negatively impacted if, to the contrary, monetary policy was tightened in
2007. For example, assuming an increase of 50 bp in the federal funds rate and
a corresponding increase in the 10 year Constant Maturity Treasury Bond yield
during the same period, estimated earnings at risk would be approximately 1.7%
of the Company's most likely net income plan over the next twelve months.
Simulation estimates depend on, and will change with, the size and mix of the
actual and projected balance sheet at the time of each simulation.
The Company does not currently engage in trading activities or use derivative
instruments to control interest rate risk, even though such activities may be
permitted with the approval of the Company's Board of Directors.
Page 28
Liquidity
The Company's principal source of asset liquidity is investment securities
available for sale and principal payments from outstanding consumer and other
loans. At September 30, 2006, investment securities available for sale totaled
$618 million, representing a decrease of $44.7 million from December 31, 2005.
The decrease is primarily attributable to principal payments from maturities.
At September 30, 2006, indirect auto loans totaled $409 million, which were
experiencing stable monthly principal payments of approximately $18 million.
In addition, at September 30, 2006, the Company had customary lines for
overnight borrowings from other financial institutions in excess of $700
million and a $35 million line of credit, under which $18.0 million was
outstanding. Additionally, as a member of the Federal Reserve System, the
Company has access to borrowing from the Federal Reserve. The Company's
short-term debt rating from Fitch Ratings is F1. Management expects the
Company can access short-term debt financing if desired. The Company's
long-term debt rating from Fitch Ratings is A with a stable outlook.
Management is confident the Company could access additional long-term debt
financing if desired.
The Company generates significant liquidity from its operating activities. The
Company's profitability during the first nine months of 2006 and 2005
contributed to substantial operating cash flows of $85.8 million and $73.9
million, respectively. In 2006, operating activities and retained earnings
from prior years provided cash for $68.7 million of Company stock repurchases,
$30.2 million in shareholder dividends and $3.3 million for repayment of long
term debt. Similarly, in 2005, operating activities and retained earnings from
prior years provided cash for $29.0 million in shareholder dividends, $3.3
million for repayment of long term debt and $68.9 million utilized to
repurchase common stock.
The Company's investing activities were also a net source of cash in the first
nine months of 2006. Proceeds from maturing investment securities of $177.6
million were only partially reinvested, for a net increase in cash of $169.9
million. Other investing activities included net loan repayments of $118.0
million. These cash inflows offset a $295.0 million decrease in customers'
deposits and a $6.3 million reduction in short-term borrowings.
In the first nine months of 2005, the Company's primary use of cash was the
REBC acquisition. The Company paid cash of $57 million and issued 1.6 million
shares of its common stock to REBC shareholders in exchange for $435 million
in loans, $47 million in investment securities, $370 million in deposits,
a merchant card processing business, and other assets and liabilities. In the
first nine months of 2005, the Company also sold approximately $196 million in
securities available for sale to manage its interest rate risk position in
light of the REBC acquisition. The Company also divested approximately $34
million in deposits in a branch sale required by regulators in approving the
REBC acquisition.
The Company anticipates maintaining its cash levels in 2006 mainly through
profitability and retained earnings. It is anticipated that loan demand will
be moderate during the remainder of 2006, although such demand will be
dictated by economic and competitive conditions. A highly competitive
environment for deposits has developed as short-term interest rates have
steadily increased. The Company aggressively solicits non-interest bearing
demand deposits and money market checking deposits, which are the least
sensitive to interest rates. However, higher costing products, including money
market savings and certificates of deposit, have been less stable during the
recent period of rising short-term interest rates. The growth of deposit
balances is subject to heightened competition and the success of the Company's
sales efforts and delivery of superior customer service. Depending on economic
conditions, interest rate levels, and a variety of other conditions, deposit
growth may be used to fund loans, purchase investment securities or to reduce
short-term borrowings. However, due to concerns regarding uncertainty in the
general economic environment, competition, possible terrorist attacks and
political uncertainty, loan demand and levels of customer deposits are not
certain. Shareholder dividends and share repurchases are expected to continue
subject to the Board's discretion and continuing evaluation of capital levels,
earnings, asset quality and other factors.
Westamerica Bancorporation ("the Parent Company") is a separate entity and
apart from Westamerica Bank ("the Bank") and must provide for its own
liquidity. In addition to its operating expenses, the Parent Company is
responsible for the payment of dividends to its shareholders, and interest and
principal on outstanding debt. Substantially all of the Parent Company's
revenues are obtained from subsidiary service fees and dividends. Payment of
such dividends to the Parent Company by the Bank is limited under regulations
for Federal Reserve member banks and California law. The amount that can be
paid in any calendar year, without prior approval from federal and state
regulatory agencies, cannot exceed the net profits (as defined) for that year
plus the net profits of the preceding two calendar years less dividends paid.
The Company believes that such restrictions will not have an impact on the
Parent Company's ability to meet its ongoing cash obligations.
Capital Resources
The current and projected capital position of the Company and the impact of
capital plans and long-term strategies are reviewed regularly by Management.
The Company repurchases shares of its common stock in the open market pursuant
to stock repurchase plans approved by the Board with the intention of
lessening the dilutive impact of issuing new shares under stock option plans,
returning excess capital to shareholders, and other ongoing requirements.
These programs have been implemented to optimize the Company's use of equity
capital and enhance shareholder value. Pursuant to these programs, the Company
collectively repurchased 1.4 million shares and 1.3 million shares in the nine
month period ended September 30, 2006 and 2005, respectively.
The Company's capital position represents the level of capital available to
support continued operations and expansion. The Company's primary capital
resource is shareholders' equity, which was $427.0 million at September 30,
2006, a decrease of $13.4 million or 3.0% from a year ago, and a decrease of
$8.1 million or 1.9% from December 31, 2005. These decreases are reflective of
the effect of common stock repurchases, dividends paid to shareholders and a
change in unrealized gain(loss) on securities available for sale, offset by
the generation of earnings and stock issuance in connection with employee
stock option exercises. The Company's ratio of equity to total assets rose to
8.81% at September 30, 2006, from 8.53% a year ago and 8.44% on December 31,
2005, because total assets decreased relatively more than shareholders'
equity.
Page 29
The following summarizes the ratios of capital to risk-adjusted assets for the
periods indicated:
At September 30, At Minimum
--------------------------December 31, Regulatory
2006 2005 2005 Requirement
----------------------------------------------------
Tier I Capital 9.70% 9.09% 9.08% 4.00%
Total Capital 11.02% 10.41% 10.40% 8.00%
Leverage ratio 6.39% 5.99% 6.01% 4.00%
The risk-based capital ratios rose at September 30, 2006, compared with
September 30 and December 31 of 2005, primarily due to lower risk-adjusted
assets.
Capital ratios are reviewed by Management on a regular basis to ensure that
capital exceeds the prescribed regulatory minimums and is adequate to meet the
Company's anticipated future needs. All ratios as shown in the table above are
in excess of the regulatory definition of "well capitalized".
Item 3. Quantitative and Qualitative Disclosures about Market Risk
The Company does not currently engage in trading activities or use derivative
instruments to control interest rate risk, even though such activities may be
undertaken with the approval of the Company's Board of Directors.
Interest rate risk as discussed above is the most significant market risk
affecting the Company. Other types of market risk, such as foreign currency
exchange risk, equity price risk and commodity price risk, are not significant
in the normal course of the Company's business activities.
Item 4. Controls and Procedures
The Company's principal executive officer and principal financial officer have
evaluated the effectiveness of the Company's "disclosure controls and
procedures," as such term is defined in Rule 13a-15(e) of the Securities
Exchange Act of 1934, as amended, as of September 30, 2006. Based upon their
evaluation, the principal executive officer and principal financial officer
concluded that the Company's disclosure controls and procedures are effective.
The evaluation did not identify any change in the Company's internal control
over financial reporting that occurred during the quarter ended September 30,
2006 that has materially affected, or is reasonably likely to materially
affect, the Company's internal control over financial reporting.
Page 30
PART II. OTHER INFORMATION
Item 1. Legal Proceedings
Due to the nature of the banking business, the Bank is at times
party to various legal actions; generally such actions are of
a routine nature and arise in the normal course of business of
the Subsidiary Bank. The Bank is not a party to any pending or
threatened legal action that, if determined adversely to the
Bank, is likely in Management's opinion to have a material
adverse effect on the Bank's financial condition or results of
operations.
Item 1A. Risk Factors
There are no material changes to the risk factors disclosed in the Company's
Annual Report on Form 10-K for the fiscal year ended December 31, 2005.
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
(a) None
(b) None
(c) 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 September 30, 2006 (in thousands, except
per share data).
(c) (d)
Total Maximum
Number Number
of Shares of Shares
(b) Purchased that May
(a) Average as Part of Yet Be
Total Price Publicly Purchased
Number of Paid Announced Under the
Shares per Plans Plans or
Period Purchased Share or Programs* Programs
-----------------------------------------------------------------
July 1
through
July 31 127 $47.09 127 434
-----------------------------------------------------------------
August 1
through
August 31 206 47.85 206 1,992
-----------------------------------------------------------------
September 1
through
September 30 103 49.33 103 1,889
-----------------------------------------------------------------
Total 436 $47.98 436 1,889
=================================================================
* Includes 3, 7 and 5 shares purchased in July, August and September,
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.
The Company repurchases shares of its common stock in the open market to
optimize the Company's use of equity capital and enhance shareholder value and
with the intention of lessening the dilutive impact of issuing new shares to
meet stock performance, option plans, and other ongoing requirements.
Shares were repurchased during the third quarter of 2006 pursuant to a program
approved by the Board of Directors on August 25, 2005 authorizing the purchase
of up to 2,000,000 shares of the Company's common stock from time to time
prior to September 1, 2006. A replacement plan was approved by the Board of
Directors on August 24, 2006 to repurchase up to 2,000,000 shares prior to
September 1, 2007. At September 30, 2006, approximately 1.9 million shares
remain available to purchase under this authorization.
Item 3. Defaults upon Senior Securities
None
Item 4. Submission of Matters to a Vote of Security Holders
None
Item 5. Other Information
None
Page 31
Item 6. Exhibits
(a) The exhibit list required by this item is incorporated by
reference to the Exhibit Index filed with this report.
Exhibit 11: Computation of Earnings Per Share on Common
and Common Equivalent Shares and on Common
Shares Assuming Full Dilution
Exhibit 31.1: Certification of Chief Executive
Officer pursuant to Securities
Exchange Act Rule 13a-14(a)/15d-14(a)
Exhibit 31.2: Certification of Chief Financial
Officer pursuant to Securities
Exchange Act Rule 13a-14(a)/15d-14(a)
Exhibit 32.1: Certification of Chief Executive Officer
pursuant to 18 U.S.C. Section 1350, as adopted
pursuant to Section 906 of the Sarbanes-Oxley
Act of 2002
Exhibit 32.2: Certification of Chief Financial Officer
pursuant to 18 U.S.C. Section 1350, as adopted
pursuant to Section 906 of the Sarbanes-Oxley
Act of 2002
Page 32
SIGNATURES
Pursuant to the requirements of the Securities Exchange
Act of 1934, the registrant has duly caused this report to be
signed on its behalf by the undersigned hereunto duly
authorized.
WESTAMERICA BANCORPORATION
(Registrant)
November 6, 2006 /s/ JOHN "ROBERT" THORSON
--------------- -------------------------
Date John "Robert" Thorson
Senior Vice President
and Chief Financial Officer
(Chief Accounting Officer)
Page 33
Exhibit Index
Exhibit 11: Computation of Earnings Per Share on Common
and Common Equivalent Shares and on Common
Shares Assuming Full Dilution
Exhibit 31.1: Certification of Chief Executive
Officer pursuant to Securities
Exchange Act Rule 13a-14(a)/15d-14(a)
Exhibit 31.2: Certification of Chief Financial
Officer pursuant to Securities
Exchange Act Rule 13a-14(a)/15d-14(a)
Exhibit 32.1: Certification of Chief Executive Officer
pursuant to 18 U.S.C. Section 1350, as adopted
pursuant to Section 906 of the Sarbanes-Oxley
Act of 2002
Exhibit 32.2: Certification of Chief Financial Officer
pursuant to 18 U.S.C. Section 1350, as adopted
pursuant to Section 906 of the Sarbanes-Oxley
Act of 2002