UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended March 31, 2003
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: 0-24802
MONTEREY BAY BANCORP, INC.
(Exact Name Of Registrant As Specified In Its Charter)
DELAWARE 77-0381362
(State Or Other Jurisdiction (I.R.S. Employer
Of Incorporation Or Organization) Identification Number)
567 Auto Center Drive, Watsonville, California 95076
(Address Of Principal Executive Offices)(Zip Code)
(831) 768 - 4800
(Registrant's Telephone Number, Including Area Code)
(831) 722 - 6794
(Registrant's Facsimile Number, Including Area Code)
WWW.MONTEREYBAYBANK.COM
(Registrant's Internet Site)
INFO@MONTEREYBAYBANK.COM
(Registrant's Electronic Mail Address)
Indicate by check mark whether the registrant (1) has filed all the 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 an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act).
YES NO X
--- ---
APPLICABLE ONLY TO CORPORATE ISSUERS:
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date: 3,460,974 shares of common
stock, par value $0.01 per share, were outstanding as of May 8, 2003.
1
MONTEREY BAY BANCORP, INC. AND SUBSIDIARY
INDEX
PAGE
----
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
Condensed Consolidated Statements Of Financial Condition (unaudited)
As Of March 31, 2003 And December 31, 2002 3 - 4
Condensed Consolidated Statements Of Income (unaudited) For The
Three Months Ended March 31, 2003 And March 31, 2002 5 - 6
Condensed Consolidated Statement Of Stockholders' Equity (unaudited)
For The Three Months Ended March 31, 2003 7
Condensed Consolidated Statements Of Cash Flows (unaudited) For The
Three Months Ended March 31, 2003 And March 31, 2002 8 - 9
Notes To Condensed Consolidated Financial Statements (unaudited) 10 - 17
Item 2. Management's Discussion And Analysis Of Financial Condition
And Results Of Operations 18 - 48
Item 3. Quantitative And Qualitative Disclosure About Market Risk 48
Item 4. Controls And Procedures 48
PART II. OTHER INFORMATION
Item 1. Legal Proceedings 48
Item 2. Changes In Securities 48
Item 3. Defaults Upon Senior Securities 48
Item 4. Submission Of Matters To A Vote Of Security Holders 49
Item 5. Other Information 49
Item 6. Exhibits And Reports On Form 8-K 49
(a) Exhibits
(b) Reports On Form 8-K
Signature Page 50
Certifications Pursuant To Section 302 Of The Sarbanes-Oxley Act Of 2002 51 - 52
2
Item 1. Financial Statements
MONTEREY BAY BANCORP, INC. AND SUBSIDIARY
CONDENSED CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION (UNAUDITED)
MARCH 31, 2003 AND DECEMBER 31, 2002
(Dollars In Thousands)
-------------------------------------------------------------------------------
March 31, December 31,
2003 2002
-------- --------
ASSETS
Cash and cash equivalents $9,828 $11,447
Securities available for sale, at estimated fair value:
Investment securities (amortized cost of $7,721 and $7,719 at
March 31, 2003 and December 31, 2002) 7,070 7,030
Mortgage backed securities (amortized cost of $40,057 and $37,198 at
March 31, 2003 and December 31, 2002) 40,278 37,466
Loans held for sale, at lower of cost or market 475 1,545
Loans receivable held for investment (net of allowances for loan losses of
$8,436 at March 31, 2003 and $8,162 at December 31, 2002) 538,716 521,929
Investment in capital stock of the Federal Home Loan Bank, at cost 4,726 4,679
Accrued interest receivable 3,095 2,867
Premises and equipment, net 7,004 7,161
Core deposit intangibles, net 663 833
Bank owned life insurance 9,149 9,036
Real estate acquired via foreclosure, net -- 846
Other assets 4,799 4,857
-------- --------
TOTAL ASSETS $625,803 $609,696
======== ========
See Notes to Condensed Consolidated Financial Statements
3
MONTEREY BAY BANCORP, INC. AND SUBSIDIARY
CONDENSED CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION (UNAUDITED) (Continued)
MARCH 31, 2003 AND DECEMBER 31, 2002
(Dollars In Thousands)
--------------------------------------------------------------------------------
March 31, December 31,
2003 2002
-------- --------
LIABILITIES AND STOCKHOLDERS' EQUITY
LIABILITIES
Non-interest bearing demand deposits $ 27,116 $ 23,549
Interest bearing NOW checking accounts 41,551 43,629
Savings deposits 18,539 18,474
Money market deposits 143,249 126,061
Certificates of deposit 247,290 246,621
-------- --------
Total deposits 477,745 458,334
-------- --------
Advances from the Federal Home Loan Bank and other borrowings 88,417 93,805
Accounts payable and other liabilities 1,399 1,454
-------- --------
Total liabilities 567,561 553,593
-------- --------
Commitments and contingencies
STOCKHOLDERS' EQUITY
Preferred stock, $0.01 par value, 2,000,000 shares authorized; none issued -- --
Common stock, $0.01 par value, 9,000,000 shares authorized;
4,492,085 issued at March 31, 2003 and December 31, 2002;
3,460,974 outstanding at March 31, 2003 and
3,454,315 outstanding at December 31, 2002 45 45
Additional paid-in capital 29,448 29,281
Retained earnings, substantially restricted 43,948 42,111
Unallocated ESOP shares (403) (460)
Treasury shares designated for compensation plans, at cost (9,803 shares
at March 31, 2003 and 11,769 shares at December 31, 2002) (94) (113)
Treasury stock, at cost (1,031,111 shares at March 31, 2003 and
1,037,770 shares at December 31, 2002) (14,449) (14,513)
Accumulated other comprehensive loss, net of taxes (253) (248)
-------- --------
Total stockholders' equity 58,242 56,103
-------- --------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 625,803 $ 609,696
========= =========
See Notes to Condensed Consolidated Financial Statements
4
MONTEREY BAY BANCORP, INC. AND SUBSIDIARY
CONDENSED CONSOLIDATED STATEMENTS OF INCOME (UNAUDITED)
THREE MONTHS ENDED MARCH 31, 2003 AND MARCH 31, 2002
(Dollars In Thousands, Except Per Share Amounts)
--------------------------------------------------------------------------------
FOR THE THREE MONTHS
ENDED MARCH 31,
------------------------
2003 2002
------- -------
INTEREST AND DIVIDEND INCOME:
Loans receivable $ 8,660 $ 8,314
Mortgage backed securities 216 312
Investment securities and cash equivalents 104 129
------- -------
Total interest and dividend income 8,980 8,755
------- -------
INTEREST EXPENSE:
Deposit accounts 2,133 2,813
Advances from the FHLB and other borrowings 675 592
------- -------
Total interest expense 2,808 3,405
------- -------
NET INTEREST INCOME BEFORE PROVISION
FOR LOAN LOSSES 6,172 5,350
PROVISION FOR LOAN LOSSES 325 325
------- -------
NET INTEREST INCOME AFTER PROVISION
FOR LOAN LOSSES 5,847 5,025
------- -------
NON-INTEREST INCOME:
Customer service charges 394 351
Gain on sale of loans 123 27
Gain on sale of real estate acquired via foreclosure 114 --
Income from bank owned life insurance 113 --
Commissions from sales of noninsured products 28 41
Income from loan servicing 12 14
Gain on sale of mortgage backed securities 1 43
Other income 50 36
------- -------
Total non-interest income 835 512
------- -------
See Notes to Condensed Consolidated Financial Statements
5
MONTEREY BAY BANCORP, INC. AND SUBSIDIARY
CONDENSED CONSOLIDATED STATEMENTS OF INCOME (UNAUDITED) (Continued)
THREE MONTHS ENDED MARCH 31, 2003 AND MARCH 31, 2002
(Dollars In Thousands, Except Per Share Amounts)
--------------------------------------------------------------------------------
FOR THE THREE MONTHS
ENDED MARCH 31,
------------------------
2003 2002
------- -------
NON-INTEREST EXPENSE:
Compensation and employee benefits 2,217 1,905
Occupancy and equipment 390 424
Supplies, postage, telephone, and office expenses 171 168
Amortization of intangible assets 170 170
Data and item processing 157 136
Legal and accounting 126 119
Advertising and promotion 37 81
Deposit insurance premiums 19 51
Other expense 333 412
------- -------
Total non-interest expense 3,620 3,466
------- -------
INCOME BEFORE PROVISION FOR
INCOME TAXES 3,062 2,071
PROVISION FOR INCOME TAXES 1,225 866
------- -------
NET INCOME $ 1,837 $ 1,205
======= =======
EARNINGS PER SHARE:
BASIC EARNINGS PER SHARE $ 0.54 $ 0.36
====== ======
DILUTED EARNINGS PER SHARE $ 0.52 $ 0.35
====== ======
See Notes to Condensed Consolidated Financial Statements
6
MONTEREY BAY BANCORP, INC. AND SUBSIDIARY
CONDENSED CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS' EQUITY
(UNAUDITED)
THREE MONTHS ENDED MARCH 31, 2003
(Dollars And Shares In Thousands)
--------------------------------------------------------------------------------
Treasury
Shares
Desig-
nated Accum-
For ulated
Addi- Unal- Com- Other
Common Stock tional located pen- Compre-
------------ Paid-In Retained ESOP sation Treasury hensive
Shares Amount Capital Earnings Shares Plans Stock Loss Total
------ ------ ------- -------- ------ ----- ----- ---- -----
Balance at January 1, 2003 3,454 $ 45 $ 29,281 $ 42,111 $ (460) $ (113) $(14,513) $ (248) $56,103
Exercise of stock options 7 32 64 96
Amortization of stock compensation 135 57 19 211
Comprehensive income:
Net income 1,837 1,837
Other comprehensive income
(loss):
Change in net
unrealized loss
on securities
available for
sale, net of taxes
of ($3) (4) (4)
Reclassification
adjustment for
gains on
securities available
for sale included
in income,
net of taxes of ($0) (1) (1)
-------
Other comprehensive income
(loss), net (5)
-------
Total comprehensive income 1,832
----- ----- -------- -------- ------ ------ -------- ------ -------
Balance at March 31, 2003 3,461 $ 45 $ 29,448 $ 43,948 $ (403) $ (94) $(14,449) $ (253) $58,242
===== ===== ======== ======== ====== ====== ======== ====== =======
See Notes to Condensed Consolidated Financial Statements
7
MONTEREY BAY BANCORP, INC. AND SUBSIDIARY
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
THREE MONTHS ENDED MARCH 31, 2003 AND MARCH 31, 2002
(Dollars In Thousands)
--------------------------------------------------------------------------------
FOR THE THREE MONTHS
ENDED MARCH 31,
---------------------
2003 2002
------- ------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income $ 1,837 $ 1,205
Adjustments to reconcile net income to net cash provided by operating
activities:
Depreciation and amortization of premises and equipment 182 180
Amortization of intangible assets 170 170
Amortization of purchase premiums, net of accretion of discounts 512 205
Amortization of deferred loan fees and costs, net (269) (26)
Provision for loan losses 325 325
Federal Home Loan Bank stock dividends (47) (46)
ESOP expense 181 144
Compensation expense associated with stock compensation plans 10 15
Director retainer fees paid in stock -- 46
Gain on sale of mortgage backed securities (1) (43)
Gain on sale of loans held for sale (123) (27)
Gain on sale of real estate acquired via foreclosure (114) --
Loss on sale of fixed assets -- 8
Origination of loans held for sale (10,185) (3,497)
Proceeds from sales of loans held for sale 11,378 3,576
(Increase) decrease in accrued interest receivable (228) 23
Appreciation in bank owned life insurance (113) --
Decrease (increase) in other assets 58 (46)
Decrease in accounts payable and other liabilities (55) (52)
Other, net 738 (203)
------- ------
Net cash provided by operating activities 4,256 1,957
------- ------
CASH FLOWS FROM INVESTING ACTIVITIES:
Net increase in loans held for investment (16,787) (3,550)
Purchases of investment securities available for sale -- (4,854)
Proceeds from maturities of investment securities available for sale -- 4,850
Purchases of mortgage backed securities available for sale (15,156) (14,456)
Principal repayments on mortgage backed securities available for sale 11,489 9,231
Proceeds from sales of mortgage backed securities available for sale 513 2,732
Purchases of premises and equipment (25) (60)
------- ------
Net cash used in investing activities (19,966) (6,107)
------- ------
See Notes to Condensed Consolidated Financial Statements
8
MONTEREY BAY BANCORP, INC. AND SUBSIDIARY
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED) (Continued)
THREE MONTHS ENDED MARCH 31, 2003 AND MARCH 31, 2002
(Dollars In Thousands)
--------------------------------------------------------------------------------
FOR THE THREE MONTHS
ENDED MARCH 31,
---------------------
2003 2002
------- -------
CASH FLOWS FROM FINANCING ACTIVITIES:
Net increase in deposits 19,411 3,475
Proceeds (repayments) of Federal Home Loan Bank advances, net (5,250) --
Proceeds (repayments) of other borrowings, net (138) (200)
Purchases of treasury stock -- (81)
Sales of treasury stock for exercise of stock options 68 279
------- -------
Net cash provided by financing activities 14,091 3,473
------- -------
NET DECREASE IN CASH & CASH EQUIVALENTS (1,619) (677)
CASH & CASH EQUIVALENTS AT BEGINNING OF PERIOD 11,447 13,079
------- -------
CASH & CASH EQUIVALENTS AT END OF PERIOD $ 9,828 $12,402
======= =======
SUPPLEMENTAL CASH FLOW DISCLOSURES:
Cash paid during the period for:
Interest on deposits and borrowings $ 2,655 $ 3,196
Income taxes $ 1,250 $ 800
See Notes to Condensed Consolidated Financial Statements
9
MONTEREY BAY BANCORP, INC. AND SUBSIDIARY
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
--------------------------------------------------------------------------------
NOTE 1: Basis Of Presentation
The accompanying condensed consolidated unaudited financial statements
have been prepared in accordance with accounting principles generally accepted
in the United States of America ("GAAP") for interim financial information and
with the instructions to Form 10-Q and Article 10 of Regulation S-X.
Accordingly, they do not include all of the information and footnotes required
by GAAP for annual financial statements. In the opinion of Management, all
necessary adjustments, consisting only of normal recurring adjustments,
necessary for a fair presentation have been included. The results of operations
for the three month period ended March 31, 2003 are not necessarily indicative
of the results that may be expected for the entire fiscal year or any other
interim period.
Monterey Bay Bancorp, Inc. ("MBBC") is incorporated in the State of
Delaware and is the holding company for Monterey Bay Bank ("Bank"). The Bank
maintains a subsidiary, Portola Investment Corporation ("Portola"). These three
companies are referred to herein on a consolidated basis as the "Company". The
Company's headquarters are in Watsonville, California. The Company offers a
broad range of financial services to both consumers and businesses. All
significant inter-company transactions and balances have been eliminated.
Monterey Bay Bancorp, Inc. operates as a single business segment.
Consequently, no segment information is provided in this Form 10-Q.
These unaudited condensed consolidated financial statements and the
information under the heading "Item 2. Management's Discussion And Analysis Of
Financial Condition And Results Of Operations" and the information under the
heading "Item 3. Quantitative And Qualitative Disclosure About Market Risk" have
been prepared with the presumption that users of this interim financial
information have read, or have access to, the most recent audited consolidated
financial statements and notes thereto of Monterey Bay Bancorp, Inc. for the
fiscal year ended December 31, 2002 included in the Company's Annual Report on
Form 10-K for the fiscal year ended December 31, 2002.
The preparation of the condensed consolidated financial statements of
Monterey Bay Bancorp, Inc. and subsidiary requires Management to make estimates
and assumptions that affect the reported amounts of assets and liabilities and
the reported revenues and expenses for the periods covered. These estimates are
based on information available as of the date of the financial statements.
Therefore, actual results could significantly differ from those estimates.
Proposed Merger Of Monterey Bay Bancorp, Inc. With Union Bank of California
On April 8, 2003, Monterey Bay Bancorp (NASDAQ: MBBC) and UnionBanCal
Corp. (NYSE: UB) jointly announced the signing of a definitive agreement and
plan of merger which, if approved by the stockholders of Monterey Bay Bancorp,
Inc. and by applicable regulatory authorities, will result in the purchase of
the Company by UnionBanCal's subsidiary, Union Bank of California. The
transaction is expected to be completed during the third quarter of 2003. The
agreement provides for the MBBC stockholders to receive cash and stock
consideration aggregating $96.5 million, subject to adjustment based upon
various factors including the average closing price of UB common stock during a
specified period of time prior to the closing of the merger.
10
MONTEREY BAY BANCORP, INC. AND SUBSIDIARY
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) (Continued)
--------------------------------------------------------------------------------
NOTE 2. Computation Of Earnings Per Share
All of the Company's net income has been available to common
stockholders during the periods covered in this Form 10-Q.
Basic earnings per share ("EPS") are computed by dividing net income by
the weighted average common shares outstanding for the period. Diluted earnings
per share reflect the potential dilution that could occur if options or other
contracts to issue common stock were exercised and converted into common stock.
There was no difference in the numerator, net income, used in the
calculation of basic earnings per share and diluted earnings per share. The
denominator used in the calculation of basic earnings per share and diluted
earnings per share for the three month periods ended March 31, 2003 and 2002 is
reconciled in the following table. The following table also presents the
calculation of the Company's Basic EPS and Diluted EPS for the periods
indicated.
For The Three Months
Ended March 31,
---------------------------
(In Whole Dollars And Whole Shares)
2003 2002
----------- -----------
Net income $ 1,837,000 $ 1,205,000
=========== ===========
Average shares issued 4,492,085 4,492,085
Less weighted average:
Uncommitted ESOP shares (67,383) (103,320)
Non-vested stock award shares (10,703) (17,075)
Treasury shares (1,033,051) (1,023,303)
----------- -----------
Sub-total (1,111,137) (1,143,698)
----------- -----------
Weighted average BASIC shares outstanding 3,380,948 3,348,387
Add dilutive effect of:
Stock options 141,839 115,534
Stock awards 1,269 1,365
----------- -----------
Sub-total 143,108 116,899
----------- -----------
Weighted average DILUTED shares outstanding 3,524,056 3,465,286
=========== ===========
Earnings per share:
BASIC $ 0.54 $ 0.36
=========== ===========
DILUTED $ 0.52 $ 0.35
=========== ===========
11
MONTEREY BAY BANCORP, INC. AND SUBSIDIARY
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) (Continued)
--------------------------------------------------------------------------------
NOTE 3: Other Comprehensive Income
The Company's only current source of other comprehensive income is
derived from unrealized gains and losses on the portfolios of investment and
mortgage backed securities classified as available for sale.
Reclassification adjustments for realized net gains included in other
comprehensive income for investment and mortgage backed securities classified as
available for sale for the three month periods ended March 31, 2003 and 2002 are
summarized as follows:
Three Months Ended March 31,
-----------------------------
2003 2002
----- -----
(Dollars In Thousands)
Gross reclassification adjustment $ 1 $ 43
Tax expense -- (18)
----- -----
Reclassification adjustment, net of tax $ 1 $ 25
===== =====
A reconciliation of the net unrealized gain or loss on available for
sale securities recognized in other comprehensive income is as follows:
Three Months Ended
March 31,
--------------------
2003 2002
------ ------
(Dollars In Thousands)
Holding loss arising during the period, net of tax $ (4) $ (59)
Reclassification adjustment, net of tax (1) (25)
------ ------
Net unrealized (loss) gain recognized in
other comprehensive income $ (5) $ (84)
======= =======
12
MONTEREY BAY BANCORP, INC. AND SUBSIDIARY
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) (Continued)
--------------------------------------------------------------------------------
NOTE 4: Stock Based Compensation
At March 31, 2003, the Company had two stock option plans and one stock
award plan (see Notes 5 and 6).
The Company accounts for its stock option and stock award plans under
Statement of Financial Accounting Standards ("SFAS") No. 123, "Accounting For
Stock-Based Compensation". This Statement establishes financial accounting and
reporting standards for stock-based compensation plans. These standards include
the recognition of compensation expense over the vesting period of the fair
value of all stock-based awards on the date of grant. Alternatively, SFAS No 123
also permits entities to continue to apply the provisions of Accounting
Principles Board ("APB") No. 25, "Accounting For Stock Issued To Employees", and
provide pro forma net earnings (loss) and pro forma net earnings (loss) per
share disclosures as if the fair value based method defined in SFAS No. 123 had
been applied.
Stock-based employee compensation for the stock award plan is included
in net income. The Company recognizes compensation expense for time-based stock
awards based upon the fair market value of the common stock on the date of
grant. The Company recognizes compensation expense for performance-based stock
awards based upon the fair market value of the common stock at the earlier of
the reporting date or the performance measurement date.
The Company has elected to continue to apply the provisions of APB No.
25 and related interpretations in accounting for stock options and to continue
to provide the pro forma disclosure requirements of SFAS No. 123, as amended by
SFAS No. 148, "Accounting For Stock-Based Compensation - Transition And
Disclosure", in the table below. Under APB No. 25, compensation cost for stock
options is measured as the excess, if any, of the fair market value of the
Company's common stock at the date of grant over the amount the employee or
director must pay to acquire the stock. Because the Company's stock option plans
provide for the issuance of stock options at a price of no less than the fair
market value at the date of grant, no compensation cost is required to be
recognized for the Company's stock option plans.
13
MONTEREY BAY BANCORP, INC. AND SUBSIDIARY
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) (Continued)
--------------------------------------------------------------------------------
Had compensation costs for the stock options plans been determined
based upon the fair value at the date of grant consistent with SFAS No. 123, net
income and earnings per share would have been reduced to the pro forma amounts
indicated below. The pro forma amounts presented below were calculated utilizing
the Black-Scholes option pricing model, with forfeitures recognized as they
occur, incorporating the assumptions detailed below.
Three Months Ended
(Dollars In Thousands, Except Share Data) March 31,
--------------------
2003 2002
------ ------
Net income:
Before recognized stock compensation expense, net of taxes $ 1,843 $ 1,214
Deduct recognized stock compensation expense, net of taxes (6) (9)
------- -------
As reported $ 1,837 $ 1,205
Deduct compensation expense from amortization of fair
value of all stock options, net of taxes of $22 and $21,
for the three months ending March 31, 2003 and 2002 (33) (29)
------- -------
Pro forma $ 1,804 $ 1,176
======= =======
Basic earnings per share:
As reported $ 0.54 $ 0.36
======= =======
Pro forma $ 0.53 $ 0.35
======= =======
Diluted earnings per share:
As reported $ 0.52 $ 0.35
======= =======
Pro forma $ 0.51 $ 0.34
======= =======
Shares utilized in Basic EPS calculations 3,380,948 3,348,387
Shares utilized in Diluted EPS calculations 3,524,056 3,465,286
Weighted average assumptions utilized in the Black-Scholes option
pricing model for all options granted in each period:
Three Months Ended
March 31,
---------------------
2003 2002
---- ----
Dividend Yield 0.00% 0.00%
Expected stock price volatility 25.00% 25.00%
Average risk-free interest rate 3.54% 4.67%
Expected option lives 8 years 8 years
14
MONTEREY BAY BANCORP, INC. AND SUBSIDIARY
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) (Continued)
--------------------------------------------------------------------------------
NOTE 5: Stock Option Plans
The Company maintains the Amended 1995 Incentive Stock Option Plan and
the 1995 Stock Option Plan For Outside Directors. Under these plans, stock
options typically vest over a five year time period, although other vesting
periods are permitted under the Amended 1995 Incentive Stock Option Plan and
have been utilized by the Company in certain instances. All outstanding stock
options under both of these plans vest upon a change in control of the Company.
The following tables summarize the combined status of these plans:
Stock Stock Average
Options Stock Options Exercise
Stock Stock Cumulatively Options Available Price Of
Options Options Vested And Cumulatively For Future Vested
Date Authorized Outstanding Outstanding Exercised Grants Options
---- ---------- ----------- ----------- --------- ------ -------
December 31, 2002 757,929 369,892 246,610 244,224 143,813 $ 11.04
March 31, 2003 757,929 367,833 252,024 250,883 139,213 $ 11.07
Activity during the three months ended March 31, 2003 included:
Three Months Ended
March 31, 2003
--------------
Granted 6,500
Canceled 1,900
Exercised 6,659
Vested 12,073
The exercise price of individual vested stock options ranged from a low
of $8.19 per share to a high of $17.81 per share as of March 31, 2003.
Under the definitive agreement among Monterey Bay Bancorp, Inc.,
Monterey Bay Bank, UnionBanCal Corporation, and Union Bank of California dated
April 7, 2003, the Company may not issue any additional stock options. In
addition, in the event the merger contemplated by that agreement is completed,
holders of Company stock options that were outstanding at April 7, 2003 will
have the opportunity to exchange their stock options for an amount equal to the
per share merger value minus the exercise price of each option following the
effective time of the merger.
15
MONTEREY BAY BANCORP, INC. AND SUBSIDIARY
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) (Continued)
--------------------------------------------------------------------------------
NOTE 6: Stock Award Plan
The Company maintains the Performance Equity Program ("PEP") for
officers and employees. Awards under the PEP typically vest over a five year
time period, although in certain instances the Company has utilized unallocated
or forfeited PEP shares for immediately vested stock grants in lieu of cash
compensation. Awards under the PEP are both time-based and performance-based.
All outstanding stock awards under the PEP vest in the event of a change in
control of the Company. Compensation expense related to the PEP for the three
months ended March 31, 2003 and 2002 was $10 thousand and $15 thousand. The
following table summarizes the status of this plan:
Stock Stock
Awards Stock Awards
Stock Outstanding Awards Available
Awards And Not Cumulatively For Future
Date Authorized Vested Vested Grants
---- ---------- ------ ------ ------
December 31, 2002 141,677 11,769 129,908 --
March 31, 2003 141,677 9,803 131,874 --
Activity during the three months ended March 31, 2003 included:
Three Months Ended
March 31, 2003
--------------
Granted --
Canceled --
Vested 1,966
16
MONTEREY BAY BANCORP, INC. AND SUBSIDIARY
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) (Continued)
--------------------------------------------------------------------------------
NOTE 7: Commitments & Contingencies
At March 31, 2003, commitments maintained by the Company included firm
commitments to originate $25.8 million in various types of loans and optional
commitments to sell $4.3 million in residential mortgages on a servicing
released basis. The Company maintained no firm commitments to purchase
securities, to assume borrowings, or to sell securities at March 31, 2003.
NOTE 8: Recent Accounting Pronouncements
Effective January 1, 2003, the Company adopted SFAS No. 146,
"Accounting for Costs Associated with Exit or Disposal Activities", which
addresses accounting for restructuring and similar costs. SFAS No. 146
supersedes previous accounting guidance, principally Emerging Issues Task Force
Issue No. 94-3. SFAS No. 146 requires that the liability for costs associated
with an exit or disposal activity be recognized when the liability is incurred.
Under Issue 94-3, a liability for an exit cost was recognized at the date of the
Company's commitment to an exit plan. SFAS No. 146 also establishes that the
liability should initially be measured and recorded at fair value. The adoption
of SFAS No. 146 did not have a material effect on the Company's financial
position, results of operations, or cash flows.
NOTE 9: Reclassifications
Certain amounts in the December 31, 2002 and March 31, 2002 financial
statements have been reclassified to conform to the March 31, 2003 financial
statement presentation.
17
Item 2. Management's Discussion And Analysis Of Financial Condition And Results
Of Operations
Introduction
Discussions of certain matters in this Report on Form 10-Q may
constitute forward-looking statements within the meaning of the Section 27A of
the Securities Act of 1933, as amended, and Section 21E of the Securities and
Exchange Act of 1934, as amended (the "Exchange Act"), and as such, may involve
risks and uncertainties. Forward-looking statements, which are based on certain
assumptions and describe future plans, strategies, and expectations, are
generally identifiable by the use of words or phrases such as "believe", "plan",
"expect", "intend", "anticipate", "estimate", "project", "forecast", "may
increase", "may fluctuate", "may improve" and similar expressions or future or
conditional verbs such as "will", "should", "would", and "could". These
forward-looking statements relate to, among other things, expectations of the
business environment in which Monterey Bay Bancorp, Inc. operates, the pending
regulatory review of the proposed merger with Union Bank of California, the
planned special meeting of stockholders to vote on the proposed merger with
Union Bank of California, opportunities and expectations regarding technologies,
anticipated performance or contributions from employees, projections of future
performance, potential future credit experience, possible changes in laws and
regulations, potential risks and benefits arising from the implementation of the
Company's strategic and tactical plans, perceived opportunities in the market,
and statements regarding the Company's mission and vision. The Company's actual
results, performance, and achievements may differ materially from the results,
performance, and achievements expressed or implied in such forward-looking
statements due to a wide range of factors. These factors include, but are not
limited to, changes in interest rates, general economic conditions, the demand
for the Company's products and services, accounting principles or guidelines,
legislative and regulatory changes, monetary and fiscal policies of the US
Government, US Treasury, and Federal Reserve, real estate markets, competition
in the financial services industry, retaining key personnel, performance of
employees, regulatory actions, stockholder votes, changes in and utilization of
new technologies, consumer and business response to news events or economic
trends, and other risks detailed in the Company's reports filed with the
Securities and Exchange Commission ("SEC") from time to time, including the
Annual Report on Form 10-K for the fiscal year ended December 31, 2002. These
factors should be considered in evaluating the forward-looking statements, and
undue reliance should not be placed on such statements. The Company does not
undertake, and specifically disclaims any obligation, to update any
forward-looking statements to reflect occurrences or unanticipated events or
circumstances after the date of such statements.
Availability Of Information
Reports filed with the Securities and Exchange Commission ("SEC")
including proxy statements and other information can be inspected and copied at
the Public Reference Section of the SEC at 450 Fifth Street, N.W., Washington,
D.C. 20549, at prescribed rates. The SEC maintains an Internet site that
contains reports, proxy, and information statements and other information. The
address of the site is www.sec.gov.
Monterey Bay Bancorp, Inc. makes available free of charge through its
Internet site its Annual Report on Form 10-K, quarterly reports on Form 10-Q,
current reports on Form 8-K, and all amendments to those reports as soon as
reasonably practicable after such material is electronically filed with or
furnished to the SEC. The Internet site address for Monterey Bay Bancorp, Inc.
is www.montereybaybank.com.
Additional corporate information regarding Monterey Bay Bancorp, Inc.
and Monterey Bay Bank is also available at the www.montereybaybank.com Internet
site. This Internet site is not a part of this Quarterly Report on Form 10-Q.
18
General
Monterey Bay Bancorp, Inc. (referred to herein on an unconsolidated
basis as "MBBC" and on a consolidated basis as the "Company") is a unitary
savings and loan holding company incorporated in 1994 under the laws of the
state of Delaware. MBBC currently maintains a single subsidiary company,
Monterey Bay Bank (the "Bank"), a federally chartered savings & loan. MBBC was
organized as the holding company for the Bank in connection with the Bank's
conversion from the mutual to stock form of ownership in 1995.
As announced on April 8, 2003, the Company has executed a definitive
agreement and plan of merger with Union Bank of California and UnionBanCal
Corporation, the holding company for Union Bank of California, to merge the
Company into Union Bank of California subject to the terms of the agreement and
following the receipt of regulatory approvals and the requisite vote by the
Company's stockholders. The Company filed an associated Current Report on Form
8-K on April 7, 2003 with the SEC. This document is available at www.sec.gov.
This document is also available on the Company's Internet site at no charge.
Exhibits to the Form 8-K are a joint press release dated April 8, 2003 regarding
the proposed merger and the definitive agreement and plan of merger executed on
April 7, 2003.
At March 31, 2003, the Company had $625.8 million in total assets,
$539.2 million in net loans receivable, and $477.7 million in total deposits.
The Company is subject to regulation by the Office of Thrift Supervision ("OTS")
and the Federal Deposit Insurance Corporation ("FDIC"). The principal executive
offices of the Company and the Bank are located at 567 Auto Center Drive,
Watsonville, California, 95076, telephone number (831) 768 - 4800, facsimile
number (831) 722 - 6794. The Company may also be contacted via electronic mail
at: INFO@MONTEREYBAYBANK.COM. The Bank is a member of the Federal Home Loan Bank
of San Francisco ("FHLB") and its deposits are insured by the FDIC to the
maximum extent permitted by law.
The Company conducts business from eight full service branch offices in
its primary market area in Central California, one loan production office in Los
Angeles, 11 automated teller machines ("ATM's") including two stand-alone ATM's,
and its administrative facilities in Watsonville, California. The Company's
headquarters building in Watsonville also functions as a limited service branch
office. In addition, the Company is in the process of finalizing a lease for a
full service de novo branch in Pacific Grove, California, within its primary
market area. The Company also supports its customers through bilingual (English
/ Spanish) 24 hour telephone banking, Internet banking, electronic bill payment,
remote deposit capability, courier service, bank by mail, and ATM access through
an array of networks including STAR, CIRRUS, and PLUS. Through its network of
banking offices, the Bank emphasizes personalized service in assisting
individuals, families, community organizations, and businesses in attaining
their financial objectives. The Bank offers a wide complement of lending and
deposit products.
The Bank also supports its customers by functioning as a federal tax
depository, selling and purchasing foreign banknotes, issuing debit cards,
providing domestic and international collection services, and supplying various
forms of electronic funds transfer. Through its wholly owned subsidiary, Portola
Investment Corporation ("Portola"), the Bank provides, on an agency basis,
mortgage, term, universal, and whole life insurance and a large selection of
non-FDIC insured investment products including fixed and variable annuities,
mutual funds, and individual securities.
The Company's revenues are primarily derived from interest on its loan
and mortgage backed securities portfolios, interest and dividends on its
investment securities, and fee income associated with the provision of various
customer services. Interest paid on deposits and borrowings typically
constitutes the Company's largest type of expense. The Company's primary sources
of funds are deposits, principal and interest payments on its asset portfolios,
and various sources of wholesale borrowings including FHLB advances. The
Company's most significant operating expenditures are its staffing expenses and
the costs associated with maintaining its branch network.
19
Critical Accounting Policies And Significant Estimates
The Company's financial statements are prepared in accordance with
accounting principles generally accepted in the United States of America
("GAAP"). The Company's significant accounting policies are presented in Note 1
to the Consolidated Financial Statements contained in the Company's 2002 Annual
Report on Form 10-K. The Company follows accounting policies typical to the
community commercial banking industry and in compliance with various regulations
and guidelines as established by the Financial Accounting Standards Board
("FASB") and the Bank's primary federal regulator, the OTS.
Certain of the accounting policies as well as estimates made by
Management are considered to be important to the portrayal of the Company's
financial condition, since they require Management to make difficult, complex,
or subjective judgments and estimates, some of which may relate to matters that
are inherently uncertain. Management has discussed each of these significant
accounting policies and the related estimates with the Audit Committee of the
Board of Directors.
The Company's most significant management accounting estimate is the
appropriate level for the allowance for loan losses. The Company follows a
methodology for calculating the appropriate level for the allowance for loan
losses. However, various factors, many of which are beyond the control of the
Company, could lead to significant revisions in the amount of allowance for loan
losses in future periods, with a corresponding impact upon the results of
operations. In addition, the calculation of the allowance for loan losses is by
nature inexact, as the allowance represents Management's best estimate of the
loan losses inherent in the Company's credit portfolios at the reporting date.
These loan losses will occur in the future, and as such cannot be determined
with absolute certainty at the reporting date. Please see also "Asset Quality /
Credit Profile - Allowance For Loan Losses".
Other estimates that the Company utilizes in its accounting include the
expected useful lives of depreciable assets, such as buildings, building
improvements, equipment, and furniture. The useful lives of various technology
related hardware and software can be subject to change due to advances in
technology and the general adoption of new standards for technology or
interfaces among computer or telecommunication systems.
The Company utilizes estimates in its accounting for non-qualified
retirement benefits. These estimates are based upon assumptions for mortality
rates and interest rates. Because the scheduled payment of these benefits is
many years into the future and because the benefits are limited to only two
individuals, thereby eliminating statistical averaging for life expectancy,
there is inherent uncertainty regarding the precise future cost of these
benefits.
The Company applies Accounting Principles Board ("APB") Opinion No. 25
and related interpretations in accounting for stock options. Under APB No. 25,
compensation cost for stock options is measured as the excess, if any, of the
fair market value of the Company's stock at the date of grant over the amount
the employee or director must pay to acquire the stock. Because the Company's
stock option plans provide for the issuance of options at a price of no less
than the fair market value at the date of grant, no compensation cost is
required to be recognized for the Plans.
Had compensation costs for the stock option plans been determined based
upon the fair value at the date of grant consistent with SFAS No. 123,
"Accounting For Stock Based Compensation", the Company's net income and earnings
per share would have been reduced. The amount of the reduction for the fiscal
years 2000 through 2002 is disclosed in Note 1 to the Consolidated Financial
Statements contained in the 2002 Annual Report on Form 10-K, based upon the
assumptions listed therein. The amount of the reduction for the three months
ended March 31, 2003 and 2002 is presented in Note 4 to this Quarterly Report on
Form 10-Q, based upon the assumptions listed herein.
GAAP itself may change over time, impacting the reporting of the
Company's financial activity. Although the economic substance of the Company's
transactions would not change, alterations in GAAP could affect the timing or
manner of accounting or reporting.
20
Recent Developments
Recent regulatory, financial industry, and other developments that
could have an impact upon the Company have included the following:
o Congress continues to draft legislation reforming the bankruptcy code, with
the House of Representatives passing on March 19, 2003 the latest iteration
of a bankruptcy reform bill. This legislation, depending upon its final
form, if any, could potentially assist the Bank in collecting certain
credits.
o Congress continues to debate lifting restrictions on the payment of
interest on business checking accounts and easing restrictions on the
number of certain transactions for MMDA accounts at insured depository
institutions. The potential payment of interest on sterile reserves at the
Federal Reserve banks is also being considered. Depending on the nature of
such changes eventually approved, if any, there could be various favorable
and / or unfavorable impacts upon the Company.
o The House of Representatives has held hearings regarding legislation that
could materially alter the way financial institutions clear checks with
each other; in general, permitting greater electronic, versus paper,
interface.
o A possible increase in (e.g. from $100,000 to $130,000 per depositor, or
special limits for retirement accounts) or broadening of (e.g. higher
limits for public agency deposits) federal deposit insurance coverage,
which may be combined with a new formula for FDIC insurance premiums, is
under evaluation at the FDIC and in Congress. Congress also continues to
discuss the potential merger of the Bank Insurance Fund ("BIF") and Savings
Association Insurance Fund ("SAIF") of the FDIC.
o The House of Representatives is considering a regulatory relief bill for
the financial services industry.
o The State of California is facing a significant budget deficit. The
potential imposition of new fees or taxes or higher tax rates by the State
of California could impact the Company's business and earnings. The
possible suspension, curtailment, or elimination of various State programs
could also affect the Company. The Company is unable to predict what, if
any, actions might be taken by the State of California and the possible
impact of those actions upon the Company's consolidated financial condition
or results of operations.
o During the first quarter of 2003, the SEC continued to implement various
new rules as a result of the Sarbanes-Oxley Act of 2002. The primary
impacts upon the Company from the Sarbanes-Oxley Act of 2002 will be
increased reporting requirements and higher professional fees for legal and
accounting services. As a highly regulated savings and loan holding company
and financial institution, MBBC and the Bank were already subject to many
of the types of operating restrictions and financial control requirements
implemented following the passage of the Sarbanes-Oxley Act of 2002.
o Various structural reforms to the FHLB System continue to be debated by
federal regulators, including the Treasury Department, which recently
proposed that the FHLB System should register its stock with the SEC. There
has also been debate about allowing the FHLB System to have asset
securitization authority. The Federal Housing Finance Board is pursuing a
plan to require enhanced disclosure for FHLB System debt offerings. Because
of the wide range of proposals and possible outcomes, the Company cannot
predict what effect, if any, future reforms to the FHLB System might have
upon its financial condition, results of operations, or cash flows.
o MasterCard International recently settled a significant lawsuit with
Wal-Mart Stores, Inc. This lawsuit involved requirements and fees
associated with debit card processing. The terms of the settlement are
currently confidential. The Company's debit cards are issued through
MasterCard. At this time, the Company cannot predict what, if any, impact
the lawsuit settlement may have upon the Company's financial condition,
results of operations, or cash flows.
21
Strategic Plan
The Company's strategic plan envisions transforming the Bank from a 78
year old savings & loan into a community focused commercial bank serving the
financial needs of individuals, families, organizations, and businesses. The
strategic plan incorporates a greater amount of income property, construction,
and business lending funded with a higher percentage of transaction deposit
accounts. The strategic plan also includes improvements in the Company's
efficiency ratio and return on stockholders' equity, and the provision of a
broader array of financial services, including additional fee-based services.
The Company intends to continue pursuing the implementation of its
strategic plan while the proposed merger with Union Bank of California is
pending regulatory and stockholder approval, subject to certain operating
restrictions contained within the agreement and plan of merger.
Overview Of Business Activity
During the first quarter of 2003, the Company continued the
implementation of its strategic plan. The Bank focuses on building longstanding
customer relationships, investing the time and energy to get to know customers
well and understand their financial objectives. Another key aspect of the
transformation strategy is a significant increase in the community involvement
and contributions made by the Bank, its Directors, and its employees. These
efforts are facilitated by the Bank's Director of Community Relations. The
Company seeks to differentiate itself from its competition through various
means, particularly by providing a superior level of customer service.
Key accomplishments during the first quarter of 2003 included:
o record quarterly net income of $1.84 million and diluted earnings per share
of $0.52
o improving the Company's return on average assets to 1.20% and return on
average equity to 12.73%, from 0.90% and 9.37%, respectively, during the
same quarter the prior year
o the attainment of record levels of total assets, loans, deposits, and
stockholders' equity at March 31, 2003
o significant progress in shifting the composition of the loan and deposit
portfolios
o net interest income rose versus the same period during the prior year, due
to both a larger average balance sheet fueled by increased deposits and
loans and due to expanded spreads resulting from the planned change in
balance sheet composition
o a further improvement in the Company's efficiency ratio, to 51.67% for the
three months ended March 31, 2003
o continued maintenance of favorable credit quality, with the Company's
selling it sole piece of real estate acquired via foreclosure at December
31, 2002 at a gain during the first quarter of 2003
o the Bank's visibility and relationships with community leaders and business
associations continued to strengthen, as evidenced by the Bank's recently
receiving the Pajaro Valley Chamber of Commerce Business Excellence Award
22
Changes In Financial Condition From December 31, 2002 To March 31, 2003
Total assets increased $16.1 million (2.6%) from $609.7 million at
December 31, 2002 to a record $625.8 million at March 31, 2003.
Cash & cash equivalents decreased from $11.4 million at December 31,
2002 to $9.8 million at March 31, 2003 due to the use of cash & cash equivalents
to fund expansions in the security and loan portfolios.
Securities
Investment securities available for sale were little changed during the
first three months of 2003, totaling $7.0 million at December 31, 2002 and $7.1
million at March 31, 2003. At both these dates, the Company's investment
security portfolio was identically composed of two floating rate corporate trust
preferred bonds rated "A" and "A-" by Standard & Poors at March 31, 2003. These
corporate trust preferred securities are issued by large US financial
institutions. The slight increase in balance during 2003 resulted from the mark
to market adjustment for available for sale securities and, to a lesser extent,
from amortization of purchase discounts.
Mortgage backed securities available for sale increased from $37.5
million at December 31, 2002 to $40.3 million at March 31, 2003. The Company
purchased Agency issued, AAA rated collateralized mortgage obligations ("CMO's")
and balloon mortgage backed securities during the first quarter of 2003 to serve
as collateral for certain deposits, invest available liquidity, and more
effectively utilize the Company's capital position. All of the Company's CMO's
at March 31, 2003 passed the Federal Financial Institutions Examination Council
("FFIEC") test for volatility. Mortgage backed security purchases during the
first quarter of 2003 were of higher duration than those purchased during the
prior several quarters, as the Company pursued a slight increase in its average
asset duration in conjunction with its interest rate risk management program
(see "Interest Rate Risk Management And Exposure").
Loans
Loans held for sale totaled $475 thousand at March 31, 2003, down from
$1.5 million at December 31, 2002. The Company sells most of its long term,
fixed rate residential mortgage production into the secondary market on a
servicing released basis, and purchases more interest rate sensitive loans as
part of its interest rate risk management program. All loans held for sale at
March 31, 2003 were matched with optional commitments to deliver such loans into
the secondary market.
Loans held for investment, net, increased from $521.9 million at
December 31, 2002 to a record $538.7 million at March 31, 2003. The increase
resulted from a combination of internal loan originations, including activity
from the Los Angeles loan production office, and from purchases of individual
income property loans from correspondent banks. In addition, during the first
quarter of 2003, the Company purchased a $15.5 million pool of high credit
quality, seasoned hybrid residential mortgages secured by first deeds of trust
on California homes in order to better utilize the Company's capital, support
the Bank's Qualified Thrift Lender ("QTL") ratio, and offset historically high
loan payoff volumes stemming from the low interest rate environment. These loans
were also purchased in conjunction with the Company's interest rate risk
management program, as the Company sought to slightly increase its asset
duration during a period of historically high prepayment speeds. The Company
follows its customary underwriting policies in evaluating loan purchases and
participations.
Relatively high loan payoff volumes stemming from the low interest rate
environment restrained the rate of loan portfolio growth during the first
quarter of 2003, with loan payoffs during the quarter exceeding $59 million.
23
Total net loans as a percentage of total assets were 86.2% at March 31,
2003, up slightly from 85.9% at December 31, 2002. The Company has targeted
increasing this ratio to 90.0% as part of its strategy of supporting its
interest margin, fostering economic activity in its local communities, and
effectively utilizing the Bank's capital.
The loan portfolio product mix shifted during the first quarter of 2003
in conformity with the Company's strategic plan. Residential one to four unit
loans declined from 33.1% of gross loans held for investment at December 31,
2002 to 30.3% at March 31, 2003. In contrast, multifamily loans rose from 20.8%
to 23.9% and construction loans increased from 12.3% to 14.1%. This change in
loan mix was facilitated by the business relationship officers the Company hired
over the past eighteen months and by the Los Angeles loan production office,
which concentrates on income property and construction lending.
Additional information regarding loan portfolio composition is
presented in the following table:
(Dollars In Thousands) March 31, December 31,
2003 2002
--------- ---------
Held for investment:
Loans secured by real estate:
Residential one to four unit $ 175,942 $ 187,471
Multifamily five or more units 138,613 118,004
Commercial and industrial 132,197 140,027
Construction 81,684 69,526
Land 23,598 24,801
--------- ---------
Sub-total loans secured by real estate 552,034 539,829
Other loans:
Home equity lines of credit 8,767 8,779
Loans secured by deposits 205 265
Consumer lines of credit, unsecured 157 172
Commercial term loans 6,515 5,231
Commercial lines of credit 12,404 12,777
--------- ---------
Sub-total other loans 28,048 27,224
Sub-total gross loans held for investment 580,082 567,053
(Less) / Plus:
Undisbursed construction loan funds (32,959) (36,683)
Unamortized purchase premiums, net of purchase discounts 1,142 848
Deferred loan fees and costs, net (1,113) (1,127)
Allowance for loan losses (8,436) (8,162)
--------- ---------
Loans receivable held for investment, net $ 538,716 $ 521,929
========= =========
Held for sale:
Residential one to four unit $ 475 $ 1,545
========= =========
24
FHLB Stock
The Company's investment in the capital stock of the FHLB-SF increased
from $4.68 million at December 31, 2002 to $4.73 million at March 31, 2003 due
to stock dividends received.
Premises and Equipment
Premises and equipment, net, decreased from $7.2 million at December
31, 2002 to $7.0 million at March 31, 2003, as periodic depreciation and
amortization exceeded new purchases. The Company does not anticipate significant
premises and equipment purchases during 2003 until investments commence in the
planned de novo branch in Pacific Grove, in the Company's primary market area.
Core Deposit Intangibles
Core deposit intangibles, net, declined from $833 thousand at December
31, 2002 to $663 thousand at March 31, 2003 in conjunction with periodic
amortization. Under OTS regulations, intangible assets, including core deposit
premiums, reduce regulatory capital, resulting in lower regulatory capital
ratios than would otherwise be the case.
Bank Owned Life Insurance
The cash surrender value of the Bank's investment in bank owned life
insurance increased by $113 thousand during the first quarter of 2003,
representing a 5.0% annualized rate of return which is not subject to normal
Federal and State income taxes. The insurance was purchased to fund:
o non-qualified supplemental executive retirement benefits for the Chief
Executive Officer and Chief Financial Officer that were implemented by the
Company in early 2003
o the increasing expense of the tax qualified Employee Stock Ownership Plan,
with associated costs rising due to the higher market price of the
Company's common stock
In addition, the Bank owned life insurance policies provide significant key man
insurance to the Company.
Deposits
Deposits increased from $458.3 million at December 31, 2002 to a record
$477.7 million at March 31, 2003. This increase was primarily due to:
o the Bank's issuance of $10.8 million in brokered certificates of deposit to
assist in funding expansion in the security and loan portfolios
o a $17.2 million rise in money market account balances during the first
quarter of 2003
The brokered certificates of deposit were issued for terms of 12 and 18
months to take advantage of relative value in pricing and in integration with
the Company's interest rate risk management program.
25
The rise in money market deposit balances resulted from a focused sales
calling program that included active participation by the Bank's management
team, certain customers preferring to avoid committing to term certificates of
deposit in the current historically low interest rate environment, and customers
building liquid balances in preparation for the payment of real estate and
income taxes in April. In addition, the Company introduced two new money market
accounts at the beginning of 2003: Investors Money Market and Business Money
Market. Investors Money Market is a highly tiered product targeted to attract
funds from money market mutual funds and brokerage firms. Business Money Market
is a product designed specifically for the Bank's local commercial customers
seeking an attractive return on liquid funds while also enjoying the many
attractive attributes provided by the Bank, including Internet banking, global
ATM access, 24 hour bilingual telephone banking, remote deposit services, and
superior customer service provided by local bankers familiar with their
business. Both new money market products are FDIC insured to the maximum extent
permitted under FDIC regulations.
The Company continues to pursue increases in transaction account
balances as a fundamental component of its strategic plan. Transaction accounts
increased from 46.2% of total deposits at December 31, 2002 to 48.2% of total
deposits at March 31, 2003 despite the issuance of the $10.8 million in brokered
certificates of deposit. This shift in mix contributed to the Company's reducing
its weighted average cost of deposits from 2.05% during the fourth quarter of
2002 to 1.82% during the first quarter of 2003. This 23 basis point reduction in
deposit cost was attained despite the historically low level of interest rates
and therefore the Company's limited ability to decrease interest rates on many
deposit products that are currently priced between zero and one percent.
During 2003, the Company hired a new Director of Retail Banking and
several new branch managers with significant commercial banking experience.
These new employees were recruited to increase the pace of deposit generation,
facilitate the change in mix of the deposit portfolio, and more effectively sell
and service a broader product line, including an expanded roster of products for
local businesses.
The Company's ratio of net loans to deposits was 112.86% at March 31,
2003, declining from 114.21% at December 31, 2003. This ratio is higher than
that normally targeted by the Company. The Company intends to continue actively
managing this ratio by:
o pursuing the opening of a de novo branch in Pacific Grove
o directing a significant percentage of the advertising and promotion budget
to deposit generation
o selling a greater percentage of total residential loan production into the
secondary market
o modifying staff incentive programs to more strongly focus on expanding
deposit relationships
Early in the second quarter of 2003, the Bank received regulatory
approval from the Office of Thrift Supervision, its primary federal regulator,
to open the planned branch in Pacific Grove, and was nearing the completion of
lease negotiations for the site.
Borrowings
Borrowings decreased from $93.8 million at December 31, 2002 to $88.4
million at March 31, 2003. The increase in deposits and the sale of the
foreclosed property provided funding to repay certain short term borrowings. All
of the Company's FHLB advances at March 31, 2003 were fixed rate, fixed term or
overnight borrowings without call or put option features.
26
Stockholders' Equity
Total stockholders' equity increased from $56.1 million at December 31,
2002 to a record $58.2 million at March 31, 2003 due to a combination of net
income, continued amortization of deferred stock compensation, additional
paid-in capital generated from the Employee Stock Ownership Plan and the
Performance Equity Plan, and the exercise of 6,659 vested stock options. These
factors more than offset the impact of the depreciation in the aggregate fair
value of securities classified as available for sale. The Company did not
repurchase any of its common stock during the first quarter of 2003, and will
not repurchase any of its common stock prior to the stockholder vote on the
proposed merger.
The Company accrued its director fee expenses during the first quarter
of 2003, but did not pay its directors due to the occurrence of negotiations in
conjunction with the proposed merger. Since the directors have been paid in the
Company's common stock for several years, the Company did not want to provide
stock to its directors in advance of a potential significant announcement that
would likely influence the stock price. In April 2003, the Board of Directors
formally canceled the payment of director fees in common stock and authorized
cash payments for all 2003 director fees.
The Company did not declare or pay any cash dividends during the first
quarter of 2003. The Company will not declare or pay any cash dividends to
stockholders while the proposed merger is pending.
Tangible book value per share increased from $16.00 at December 31,
2002 to $16.64 at March 31, 2003. The amount of increase in tangible book value
per share during the first quarter of 2003 was positively impacted by the
continued amortization of core deposit intangibles and the generation of
additional paid-in capital resulting from the Employee Stock Ownership Plan and
Performance Equity Plan.
Interest Rate Risk Management And Exposure
The table below presents an overview of the interest rate environment
during the 15 months ended March 31, 2003. The 12 MTA and 11th District Cost Of
Funds Index ("COFI") are by nature lagging indices that trail changes in more
responsive interest rate indices such as those associated with the Treasury or
LIBOR markets.
Index / Rate (1) 12/31/01 3/31/02 6/30/02 9/30/02 12/31/02 3/31/03
---------------- -------- ------- ------- ------- -------- -------
3 month Treasury bill 1.72% 1.78% 1.68% 1.55% 1.19% 1.11%
6 month Treasury bill 1.79% 2.10% 1.74% 1.50% 1.20% 1.11%
2 year Treasury note 3.02% 3.72% 2.81% 1.68% 1.60% 1.48%
5 year Treasury note 4.30% 4.84% 4.03% 2.56% 2.73% 2.71%
10 year Treasury note 5.05% 5.40% 4.80% 3.59% 3.81% 3.80%
Target federal funds 1.75% 1.75% 1.75% 1.75% 1.25% 1.25%
Prime rate 4.75% 4.75% 4.75% 4.75% 4.25% 4.25%
3 month LIBOR 1.88% 2.03% 1.86% 1.79% 1.38% 1.28%
12 month LIBOR 2.44% 3.00% 2.29% 1.73% 1.45% 1.28%
1 Year CMT (2) 2.22% 2.57% 2.20% 1.72% 1.45% 1.24%
12 MTA (2) 3.48% 2.91% 2.55% 2.18% 2.00% 1.75%
COFI (2) 3.07% 2.65% 2.85% 2.76% 2.38% 2.21%
----------------------------------------------------------------
(1) Indices / rates are spot values unless otherwise noted.
(2) These indices / rates are monthly averages.
In an effort to limit the Company's exposure to interest rate changes,
Management monitors and evaluates interest rate risk on a regular basis,
including participation in the OTS Net Portfolio Value Model and associated
regulatory reporting. Management believes that interest rate risk and credit
risk compose the two greatest financial exposures faced by the Company in the
normal course of its business. The Company is not directly exposed to risks
associated with commodity prices or fluctuations in foreign currency values.
27
In recent quarters, the Company has maintained a relatively balanced or
neutral exposure to changes in general market interest rates as measured by
potential prospective changes in net portfolio value, also referred to as market
value of portfolio equity. These potential prospective changes in net portfolio
value are calculated based upon immediate, sustained, and parallel shifts in the
term structure of interest rates, often referred to as the "yield curve". In
other words, these calculations highlight that the fair value of the Company's
assets exhibits approximately the same volatility as does its liabilities.
However, in addition to the overall direction of general market interest rates,
changes in relative rates (i.e. the slope of the term structure of interest
rates) and relative credit spreads also impact net portfolio value and the
Company's profitability.
Various interest rates increased in the first quarter of 2002 when the
capital markets assumed that the Federal Reserve would not continue decreasing
its benchmark interest rates. In addition, concerns about the impact of interest
rates staying at such low levels for an extended period of time began to raise
worries about potential future inflation, leading to a rise in longer term
interest rates. At the end of the first quarter of 2002, many economists were
predicting a relatively strong recovery from the US recession and were
forecasting increases of 100 basis points or more in the target federal funds
rate by the end of the year. In March 2002, the Dow Jones Industrial Average had
recovered the losses that occurred in September 2001, with the Index again
closing over 10,500. By the end of the first quarter, the Treasury curve had
become significantly steeper, with the differential between the target federal
funds rate and the 2 year Treasury Note bond equivalent yield at 197 basis
points. Steep yield curves are generally beneficial for financial institutions,
including the Bank, as greater income is derived from short term maturity
mismatches and as customer demand often shifts toward adjustable mortgages due
to the rate differential between adjustable and fixed rate loans.
Most interest rates reversed course and declined during the final three
quarters of 2002. This trend was amplified in the fourth quarter of 2002, when
the Federal Reserve decreased the target federal funds rate by 50 basis points.
This rate cut was generally in excess of that anticipated by the capital
markets, as the Federal Reserve aggressively sought to reinvigorate economic
growth. Among the factors leading to the reduction in interest rates during the
final three quarters of 2002 were:
o the "crisis of confidence" stemming from the restatement of financial
information by Enron, WorldCom, and other large companies
o the broad decline in equity indices during the second and third quarters of
2002, with certain investors seeking relative safe harbor in US government
and Agency fixed income investments
o companies being slow to rehire despite growth in gross domestic product,
contributing to the term "jobless recovery"
o ongoing international tensions encouraging "flight to quality" investments
by certain capital markets participants
o a steadily rising US unemployment rate during the fourth quarter of 2002,
with the rate peaking at 6.00% for December 2002
o increasing discussion of new rounds of rate cuts by the Federal Reserve in
the latter half of 2002, facilitated by low measured inflation and a lack
of inflationary pressures stemming from higher rates of unemployment and
continuing jobless claims, low capacity utilization at factories, and a
general lack of pricing power reinforced by high levels of global
competition
o significant weakness across certain industries, especially airlines,
technology, and telecommunications companies
Most interest rates declined further during the first quarter of 2003,
in many cases reaching levels not seen in decades. The US-led invasion of Iraq
and concerns over other international issues, including North Korea's nuclear
program, spurred additional "flight to quality" investments by certain capital
markets participants. Continuing jobless claims remained high throughout the
first quarter of 2003, highlighting the difficulty experienced by many laid-off
individuals in finding new work.
28
At various times during the first quarter of 2003, the federal funds
futures market anticipated additional rate cuts by the Federal Reserve. Among
the topics evaluated by capital markets participants was the potential slowing
of the residential mortgage refinance boom, which had significantly increased
consumer disposable income over the past year and often provided liquidity via
"cash-out" loans. If that source of economic stimulus were to diminish, the
Federal Reserve might determine to cut its benchmark interest rates again and
possibly conduct open market transactions to inject liquidity into the economy
and adjust the term structure of interest rates.
The low nominal level of interest rates in effect in 2002 and in the
first quarter of 2003 presented a particular challenge to the Company, as the
rates on its NOW and Savings deposit accounts were already at low levels by the
end of 2001 and could not be decreased to the same extent as declines in many
capital markets interest rates. The Company addressed this issue through its
asset / liability management program, whereby decisions regarding pricing,
promotion, and incentives are integrated with tactical transactions to moderate
the Company's exposure to changes in interest rates.
The Treasury yield curve was significantly flatter at March 31, 2003
than one year earlier, with the differential between the target federal funds
rate and the 2 year Treasury Note bond equivalent yield declining from 197 basis
points at March 31, 2002 to 23 basis points at March 31, 2003. Similarly, the
differential between the bond equivalent yield on five year and three month
Treasury securities decreased from 306 basis points at March 31, 2002 to 160
basis points at March 31, 2003. Thus, in general, the interest rate environment
during the first quarter of 2003 was less favorable to the Company than during
the first quarter of 2002.
Should the Federal Reserve determine to decrease interest rates further
during 2003, Management is uncertain regarding potential impacts. Behaviors by
borrowers, depositors, and the capital markets in extremely low interest rate
environments have not been tested in a modern economy with great ease of funds
mobility and unparalleled information availability through the Internet and
other technological means. During the first quarter of 2003, many money market
mutual funds were paying rates of less than 1.00%, and the fixed rate annuity
market was being adversely impacted by the presence of interest rate floors
established at the state level, with such state regulation generally not
anticipating that interest rates might fall to such low nominal levels. Further
decreases in interest rates could encourage some consumers to adopt new
behaviors and investment strategies, including pursuing investment alternatives
other than federally insured deposit accounts, in search of higher yields.
The divergence of the COFI index during much of 2002, as presented in
the above table, from other capital markets interest rates may have been in part
caused by the payment of deposit rates significantly above market by two very
large thrifts with operations in the 11th Federal Home Loan Bank District - the
largest component of which is California.
The historically low interest rate environment during the first quarter
of 2003 contributed to a significant rise in loan prepayments, which in turn
decreased the average duration of certain asset portfolios, particularly
residential hybrid mortgages. The surge in prepayment speeds also impacted the
security portfolio, with the duration of the Company's CMO's in particular
declining, which unfavorably impacted effective yields due to the Company's
basis in these securities exceeding par. In response to the rise in prepayment
speeds, the Company redirected its security and loan purchases during the first
quarter of 2003 to slightly higher duration assets (e.g. 5 year fixed rate
residential hybrid loans and seven year fixed rate balloon mortgage backed
securities) in order to avoid having the aggregate interest rate risk profile
shift to materially net asset sensitive during a period of soft to declining
interest rates.
The weighted average remaining term of the Company's certificate of
deposit portfolio increased from 228 days at December 31, 2001 to 293 days at
December 31, 2002 to 319 days at March 31, 2003. This shift was due to certain
customers seeking longer term certificates of deposit in order to obtain a given
interest rate and because of the Company's marketing of longer term certificates
of deposit in order to provide an extended window in which to expand customer
relationships. In order to avoid having this trend in the duration of the
certificate of deposit portfolio contribute to a shift towards a significantly
net asset sensitive interest rate risk position, the Company in recent quarters
has utilized relatively short term borrowings versus the longer term borrowings
historically pursued by the Company.
29
Despite the need for an increase in asset duration during the first
quarter of 2003, the Company continued selling the vast majority of its long
term, fixed rate residential mortgage production into the secondary market on a
servicing released basis. Long term, fixed rate assets are relatively more
challenging to match fund, and therefore can expose the Company to interest rate
risk in rising interest rate environments.
The analytical results of the Company's interest rate risk modeling
have been empirically validated over the past several years, as the interest
margin has remained stable or expanded during periods of both rising and falling
general market interest rates. The expansion in interest margin over the past
several years has been significantly impacted by the implementation of the
strategic plan, in addition to being influenced by the interest rate
environment.
The aforementioned and other tactical and strategic actions were
conducted as part of the Company's interest rate risk management program. At
this time, the Company is targeting a balanced to slightly net liability
sensitive interest rate risk profile. Management has, however, recently
discussed shifting the Company's interest rate risk profile to very slightly net
asset sensitive at some point in the future in preparation for a return to an
increasing interest rate environment. Management believes it unlikely that
interest rates will remain at historically low levels, with negative real
federal funds, for an extended period of time.
The strategic plan of transforming the Bank into a community focused
financial services provider by nature presents a lower interest rate risk
profile than historically experienced by the Bank when the balance sheet was
highly concentrated in residential mortgages (including long term, fixed rate),
which present greater embedded optionality than many other types of loans.
Serving the financial needs of local businesses is by nature asset sensitive, as
primarily variable rate commercial loans are in part funded with demand deposit
balances. Growth in the Company's business banking thus helps offset some of the
interest rate risk (net liability sensitivity) typically present in mortgage
lending.
Liquidity
Liquidity is actively managed to ensure sufficient funds are available
to meet ongoing needs of both the Company and the Bank. Liquidity management
includes projections of future sources and uses of funds to ensure the
availability of sufficient liquid reserves to provide for unanticipated
circumstances. The Company's primary sources of funds are customer deposits,
principal and interest payments on loans and securities, FHLB advances and other
borrowings, and, to a lesser extent, proceeds from sales of loans and
securities. While maturities and scheduled amortization of loans and securities
are predictable sources of funds, deposit flows and prepayments on mortgage
related assets are significantly influenced by general market interest rates,
economic conditions, and competition.
OTS regulations require that the Bank maintain a safe and sound level
of liquidity at all times. Management believes that having a surplus of
available liquidity at all times is prudent and fundamental to effective Bank
management.
At March 31, 2003, the Company had $9.8 million in cash and cash
equivalents, available borrowing capacity in excess of $155.0 million at the
FHLB-SF, $8.0 million in unpledged securities, and a significant volume of
residential mortgages that could be securitized, liquidated, or used in
collateralized borrowings in order to meet future liquidity requirements.
The State of California is the Bank's largest single depositor, with
$28.0 million in certificates of deposit placed in the Bank as of March 31,
2003. Should the State of California not renew these certificates of deposit
upon maturity, replacement funding would likely be more costly. The maturity
dates for the State of California certificates of deposit are staggered to avoid
a concentration of repricing and funding risk. The Bank's second largest
depositor is a $20.0 million brokered CD that matures in May 2003.
MBBC and the Bank have each entered into several Master Repurchase
Agreements to permit securities sold under agreements to repurchase transactions
with a number of counterparties. In addition, at March 31, 2003, the Bank
maintained $39.5 million in unsecured federal funds lines of credit from five
correspondent financial institutions. However, there can be no assurance that
funds from these lines of credit will be available at all times, or that the
lines will be maintained in future periods.
30
During April 2003, the Bank arranged for an $11.0 million increase (to
$26.0 million) in a federal funds line of credit from a correspondent bank and
added term (in addition to overnight) federal fund borrowings as allowable under
this line. The Bank is able to issue wholesale "DTC" certificates of deposit
through five investment banking firms as an additional source of liquidity.
At March 31, 2003, MBBC on a stand alone basis had cash & cash
equivalents of $3.3 million. In addition, MBBC had no outstanding balance on a
$4.0 million committed revolving line of credit. MBBC obtained a $1.0 million
increase in this committed revolving line of credit (i.e. from $3.0 million to
$4.0 million) during the first quarter of 2003. This line of credit is scheduled
to mature at the end of March 2004 and is collateralized by shares of Treasury
stock.
At March 31, 2003, the Bank maintained $25.8 million in commitments to
originate loans and lines of credit. Management anticipates that the Bank will
have sufficient funds available to meet these commitments, not all of which will
necessarily be originated or drawn upon.
Capital Resources And Regulatory Capital Compliance
Federal banking regulatory agencies maintain a system providing for
regulatory sanctions against financial institutions that are not adequately
capitalized. The severity of these sanctions increases to the extent that an
institution's capital falls further below the adequately capitalized thresholds.
OTS Prompt Corrective Action ("PCA") regulations require specific capital ratios
for five separate capital categories as set forth below:
Core Capital Core Capital Total Capital
To Adjusted To To
Total Assets Risk-weighted Risk-weighted
(Leverage Ratio) Assets Assets
---------------- ------ ------
Well capitalized 5% or above 6% or above 10% or above
Adequately capitalized 4% or above 4% or above 8% or above
Undercapitalized Under 4% Under 4% Under 8%
Significantly undercapitalized Under 3% Under 3% Under 6%
Critically undercapitalized Ratio of tangible equity to adjusted total assets of 2% or less
As of March 31, 2003, the most recent notification from the OTS
categorized the Bank as "well capitalized". There are no conditions or events
since that notification that Management believes have changed the Bank's
category. The following table summarizes the capital ratios required for an
institution to be considered "well capitalized" and the Bank's regulatory
capital at March 31, 2003 as compared to such ratios.
Core Capital Core Capital To Total Capital To
To Adjusted Risk-weighted Risk-weighted
(Dollars In Thousands) Total Assets Assets Assets
----------------------- ----------------------- -----------------------
Balance Percent Balance Percent Balance Percent
Bank regulatory capital $ 54,468 8.71% $ 54,468 11.75% $ 60,289 13.00%
Well capitalized requirement 31,271 5.00% 27,816 6.00% 46,360 10.00%
-------- ----- -------- ----- -------- ------
Excess $ 23,197 3.71% $ 26,652 5.75% $ 13,929 3.00%
======== ===== ======== ===== ======== ======
Adjusted assets $625,418 $463,600 $463,600
======== ======== ========
Other OTS capital regulations require the Bank to maintain: (a)
tangible capital of at least 1.5% of adjusted total assets (as defined in the
regulations), (b) core capital of at least 4.0% of adjusted total assets (as
defined in the regulations) (unless the Bank has been assigned the highest
composite rating under the Uniform Financial Institutions Rating System, in
which case 3.00%), and (c) total capital of at least 8.0% of risk-weighted
assets (as defined in the regulations).
31
The following table summarizes these regulatory capital requirements
for the Bank. As indicated in the table, the Bank's capital levels at March 31,
2003 exceeded all three of the currently applicable minimum regulatory capital
requirements.
Percent Of
Adjusted
(Dollars In Thousands) Total
Amount Assets
------ ------
Tangible Capital
Regulatory capital $54,468 8.71%
Minimum required 9,381 1.50%
------- ----
Excess $45,087 7.21%
======= ====
Core Capital
Regulatory capital $54,468 8.71%
Minimum required 25,017 4.00%
------- ----
Excess $29,451 4.71%
======= ====
Percent Of
Risk-
Weighted
Amount Assets
------ ------
Risk-based Capital
Regulatory capital $60,289 13.00%
Minimum required 37,088 8.00%
------- ----
Excess $23,201 5.00%
======= ====
At March 31, 2003, the Bank's regulatory capital levels exceeded the
thresholds required to be classified as a "well capitalized" institution. The
Bank's regulatory capital ratios detailed above do not reflect the additional
capital (and assets) maintained by MBBC. Management believes that, under current
regulations, the Bank will continue to meet its minimum capital requirements.
However, events beyond the control of the Bank, such as changing interest rates
or a downturn in the economy or real estate markets in the areas where the Bank
has most of its loans, could adversely affect future earnings and, consequently,
the ability of the Bank to meet its future minimum regulatory capital
requirements.
32
Asset Quality / Credit Profile
Non-performing Assets
The following table sets forth information regarding non-performing
assets at the dates indicated.
(Dollars In Thousands) March 31, 2003 December 31, 2002
-------------- -----------------
Outstanding Balances Before Valuation Reserves
Non-accrual loans $ 2,578 $ 2,643
Loans 90 or more days delinquent and accruing interest -- --
Restructured loans in compliance with modified terms 342 --
------- -------
Total gross non-performing loans 2,920 2,643
Investment in foreclosed real estate before valuation reserves -- 846
Repossessed consumer assets -- --
------- -------
Total gross non-performing assets $ 2,920 $ 3,489
======= =======
Gross non-accrual loans to total loans 0.47% 0.50%
Gross non-performing loans to total loans 0.53% 0.50%
Gross non-performing assets to total assets 0.47% 0.57%
Allowance for loan losses $ 8,436 $ 8,162
Allowance for loan losses to non-performing loans 288.90% 308.82%
Valuation allowances for foreclosed real estate $ -- $ --
Non-accrual loans at March 31, 2003 are detailed in the following
table:
(Dollars In Thousands) Number Principal Balance
Of Outstanding At
Category Of Loan Loans March 31, 2003
---------------- ----- --------------
Residential mortgage one to four units 1 $ 199
Commercial & industrial real estate 1 2,250
Land 1 129
--- -------
Total 3 $ 2,578
=== =======
Non-accrual loans decreased from $2.64 million at December 31, 2002 to
$2.58 million at March 31, 2003 primarily due to the first quarter 2003
charge-off of a home equity line of credit with a principal balance of $49
thousand. The Company is continuing to pursue collection of this credit, and has
filed formal legal action in this regard.
Non-accrual loans at March 31, 2003 included a $2.25 million commercial
real estate mortgage. This credit is a participation loan where the Bank is not
the lead financial institution. The loan is secured by a first deed of trust on
a hotel / resort located within the Company's primary market area and by a first
deed of trust on a residential lot located in California. The borrowers are
directly personally indebted. The hotel / resort has experienced limited cash
flow, having been adversely impacted by the decline in tourism and travel over
the past two years, which in turn has been unfavorably affected by the slow pace
of national economic growth and by concerns regarding possible terrorist
actions. Recent concerns regarding the SARS virus could further negatively
impact travel and tourism, and therefore unfavorably affect the hospitality
industry.
33
At March 31, 2003, the Company maintained a $520 thousand specific
reserve for this hotel / resort loan, based upon estimated net proceeds
following foreclosure and sale. This specific reserve increased from $462
thousand at December 31, 2002 due to the borrower's failure to pay all real
estate taxes when due. Real estate taxes generate a lien on the property
superior to the lien of the Company. Although the loan was current in its
payments at March 31, 2003, the Company continues to maintain the loan on
non-accrual status due to concern about the future net cash flow of the hotel /
resort, particularly in light of the status of the economy, the tourism
industry, and the outlook for business travel activity. These factors also
create particular volatility in the market value of the hotel / resort.
Non-accrual loans at March 31, 2003 also included:
o a residential mortgage with a principal balance of $199 thousand
o a $129 thousand loan secured by a first deed of trust on residential land
The $199 thousand residential mortgage was fully reinstated during the
first quarter of 2003, but was maintained on non-accrual status at March 31,
2003 because of prior chronic delinquency. The $129 thousand loan secured by
residential land was paid off in full early in the second quarter of 2003.
At December 31, 2002, the Company had one foreclosed property with a
book value of $846 thousand. This property was a custom single family home that
was sold during the first quarter of 2003, with the Company realizing a $114
thousand gain on sale. The Company did not provide financing in conjunction with
the sale of the foreclosed property. The Company owned no real estate acquired
via foreclosure at March 31, 2003.
Non-performing loans at March 31, 2003 included $342 thousand in loans
to a commercial banking customer that were restructured during the first quarter
of 2003. This customer, located in the Company's primary market area, recently
made significant capital investments to support the long term growth of the
business, and in so doing experienced reduced liquidity. In conjunction with the
restructure, the Company obtained additional real estate collateral.
Criticized And Classified Assets
The following table presents information concerning the Company's
criticized ("OAEM") and classified ("substandard" and lower) assets. The
category "OAEM" refers to "Other Assets Especially Mentioned", or those assets
that present indications of potential future credit deterioration.
(Dollars In Thousands) OAEM Substandard Doubtful Loss Total
------- ----------- -------- ----- -------
December 31, 2002 $ 4,899 $ 3,771 $ -- $ 462 $ 9,132
March 31, 2003 $ 4,593 $ 2,874 $ -- $ 520 $ 7,987
Classified assets as a percent of stockholders' equity decreased from
7.55% at December 31, 2002 to 5.83% at March 31, 2003. The decrease in
substandard assets from December 31, 2002 to March 31, 2003 was primarily due to
the sale of the Company's sole property acquired via foreclosure.
34
The amounts classified as "Loss" in the prior table are associated with
the specific reserve for the $2.25 million commercial real estate mortgage
secured by a hotel / resort located in the Company's primary market area, as
described above under "Non-performing Assets". The remainder of this $2.25
million loan is classified as substandard. Substandard assets as of March 31,
2003, as presented in the table above, also include:
o The Company's other non-accrual and non-performing loans as described above
under "Non-performing Assets".
o A total of $322 thousand in commercial loans to a corporation whose sole
stockholder has recently emerged from personal bankruptcy. The borrower has
recently reaffirmed his guarantee of the loans and provided an additional
deed of trust to enhance the Company's collateral position. These loans
were current in their payments as of early May 2003.
o A total of $120 thousand in commercial loans to a corporation in the
Company's primary market area that has recently experienced losses. The
loans were current at March 31, 2003 and in early May 2003. The borrower is
presently seeking alternative financing. The loans are secured by business
assets, including accounts receivable, inventory, and equipment.
Criticized loans at March 31, 2003 included:
o A $1.7 million residential mortgage in the Company's primary market area
where the borrowers have repeatedly failed to make timely payments, but
have also repeatedly reinstated to avoid foreclosure. This loan was current
in its payments as of early May 2003.
o A $1.3 million mortgage, current in its payments at March 31, 2003, secured
by a motel located in the Silicon Valley area of the San Francisco Bay
Area. The motel's cash flow has been unfavorably impacted by the economic
difficulties being experienced in the technology industry and by a
reduction in business travel in general. Despite the difficulties
experienced by the motel, however, the borrowers have consistently made
timely loan payments.
o A total of $256 thousand in commercial loans to a winery located in the
Company's primary market area. The winery has recently continued to
experience financial difficulty, resulting in sporadic late payments. The
loans were delinquent at March 31, 2003 and continued to be delinquent
through early May 2003. Historically, the borrowers have been cooperative.
The loans are well secured by real estate.
o A total of $126 thousand in commercial loans to a business in the Company's
primary market area. The President of a significant customer of this
business, with a relatively large account payable to the Company's
borrower, recently died, resulting in delayed payment and a potential
collection loss. The loans were current in their payments at March 31, 2003
and in early May 2003. The loans are secured by business assets, including
accounts receivable, inventory, and equipment.
35
Impaired Loans
At March 31, 2003, the Company had total gross impaired loans, before
specific reserves, of $2.9 million, constituting six credits. Specific reserves
on these $2.9 million in impaired loans totaled $520 thousand. This compares to
total gross impaired loans of $2.6 million, with associated specific reserves of
$462 thousand, at December 31, 2002. Interest is accrued on impaired loans on a
monthly basis except for those loans that are 90 or more days delinquent or
those loans which are less than 90 days delinquent but where Management has
identified concerns regarding the collection of the credit. For the three months
ended March 31, 2003, accrued interest on impaired loans was $2 thousand and
interest of $43 thousand was received in cash. The average balance of impaired
loans during the three months ended March 31, 2003 was $2.9 million. If all
non-accrual loans had been performing in accordance with their original loan
terms, the Company would have recorded interest income of $50 thousand during
the three months ended March 31, 2003, instead of interest income actually
recognized, based on cash payments, of $34 thousand.
Allowance For Loan Losses
The allowance for loan losses is established through a provision for
loan losses based on Management's evaluation of the risks inherent in the loan
portfolio, including unused commitments to provide financing. In determining
levels of risk, Management considers a variety of factors, including, but not
limited to, asset classifications, economic trends, industry experience and
trends, geographic concentrations, estimated collateral values, historical loan
loss experience, and the Company's underwriting policies. The allowance for loan
losses is maintained at an amount Management considers adequate to cover losses
in loans receivable that are deemed probable and estimable. While Management
uses the best information available to make these estimates, future adjustments
to allowances may be necessary due to economic, operating, regulatory, and other
conditions that may be beyond the Company's control. In addition, various
regulatory agencies, as an integral part of their examination process,
periodically review the Bank's allowance for loan losses. Such agencies may
require the Bank to recognize additions to the allowance based on judgments
different from those of Management.
The allowance for loan losses is comprised of three primary types of
allowances:
1. Formula Allowance
Formula allowances are based upon loan loss factors that reflect Management's
estimate of the inherent loss in various segments of, or pools within, the loan
portfolio. The loss factor is multiplied by the portfolio segment (e.g.
multifamily permanent mortgages) balance (or credit commitment, as applicable)
to derive the formula allowance amount. The loss factors are updated
periodically by the Company to reflect current information that has an effect on
the amount of loss inherent in each segment. The formula allowance at March 31,
2003 was $7.2 million, compared to $7.0 million at December 31, 2002.
2. Specific Allowance
Specific allowances are established in cases where Management has identified
significant conditions or circumstances related to an individually impaired
credit. In other words, these allowances are specific to the loss inherent in a
particular loan. The amount for a specific allowance is calculated in accordance
with SFAS No. 114, "Accounting By Creditors For Impairment Of A Loan". The
Company had $520 thousand in specific allowance at March 31, 2003, compared to
$462 thousand at December 31, 2002.
36
3. Unallocated Allowance
The Company maintains an unallocated loan loss allowance that is based upon
Management's evaluation of conditions that are not directly measured in the
determination of the formula and specific allowances. The evaluation of inherent
loss with respect to these conditions is subject to a higher degree of
uncertainty because they are not identified with specific problem credits or
historical performance of loan portfolio segments. The conditions evaluated in
connection with the unallocated allowance at March 31, 2003 included the
following, which existed at the balance sheet date:
o general business and economic conditions affecting the Company's key
lending areas
o real estate values in California
o loan volumes and concentrations
o seasoning of the loan portfolio
o status of the current business cycle
o specific industry or market conditions within portfolio segments
The unallocated allowance at March 31, 2003 was $716 thousand, compared to $661
thousand at December 31, 2002.
The following table presents activity in the Company's allowance for
loan losses during the three months ended March 31, 2003 and March 31, 2002:
Three Months Ended March 31,
---------------------------------
2003 2002
------- -------
Allowance For Loan Losses (Dollars In Thousands)
Balance at beginning of year $ 8,162 $ 6,665
Charge-offs:
Home equity lines of credit (49) --
Consumer lines of credit, unsecured (3) (8)
Commercial term loans -- (30)
------- -------
Total charge-offs (52) (38)
Recoveries:
Consumer lines of credit, unsecured -- 4
Commercial term loans 1 --
Commercial lines of credit -- 2
------- -------
Total recoveries 1 6
Provision for loan losses 325 325
------- -------
Balance at March 31 $ 8,436 $ 6,958
======= =======
Annualized ratio of net charge-offs during the period to average
loans receivable, net, outstanding during the period 0.04% 0.03%
37
Additional ratios applicable to the allowance for loan losses include:
March 31, 2003 December 31, 2002
-------------- -----------------
Allowance for loan losses as a percent of non-performing loans 288.90% 308.82%
Allowance for loan losses as a percent of gross loans receivable net of
undisbursed loan funds and unamortized yield
adjustments 1.54% 1.54%
Allowance for loan losses as a percent of classified assets 248.56% 192.82%
The $716 thousand in unallocated allowance at March 31, 2003 reflected
the consideration of the following factors, as well as the more general factors
listed above in conjunction with the definition of the unallocated allowance:
o The adverse effects of a decline in tourism and business travel impacting
the local economies in Santa Cruz and Monterey counties, with a concomitant
impact upon net cash flows for local commercial enterprises and commercial
real estate properties, particularly those associated with the hospitality
industry. Recent reports indicate a national rise in delinquency rates for
loans secured by hotels, with the hospitality industry in general suffering
from higher vacancy rates and / or discounted room rates. This impact could
be in the range of $100 thousand to $300 thousand.
o The adverse impacts of the weak technology and telecommunications
industries upon commercial real estate values. The Company's primary
lending area is near the Silicon Valley area of the San Francisco Bay Area,
which has been impacted by the slump in various telecommunications,
technology, and technology related businesses. The unemployment rate for
Santa Clara County, at the heart of Silicon Valley, was recently reported
to be 8.4%. Recent reports indicate a rise in office vacancy rates and a
decline in rental rates for office space in multiple markets within the
greater San Francisco Bay Area. This impact could be in the range of $100
thousand to $1.2 million.
o Recent reports of selected areas of soft or declining apartment rents in
Northern California resulting from reduced employment, weakness in the
technology and telecommunications industries, and a strong home purchase
market. The soft or declining rents could lead to decreased multifamily
property values. This impact could be in the range of $100 thousand to $900
thousand.
As subsequently discussed (see "Provision For Loan Losses"), the
Company recorded the same level of provisions for loan losses during the first
quarters of 2003 and 2002. The primary factor leading to the provision for loan
losses during the first quarter of 2002 was the need to establish a $754
thousand specific reserve for the hotel / resort loan described above under
"Non-performing Assets". Key factors leading to the provision for loan losses
during the first quarter of 2003 included loan portfolio growth, change in loan
mix, $51 thousand in net charge-offs, and a $58 thousand increase in the
specific reserve for the $2.25 million hotel / resort loan caused by the
borrower's non-payment of real estate taxes.
Management anticipates that should the Company continue its recent
trends and be successful in:
o generating further growth in loans receivable held for investment
o emphasizing the origination, purchase, and participation of income property
real estate loans
o expanding the construction loan portfolio
o continuing expansion of commercial business lending
future provisions will result and the ratio of the allowance for loan losses to
loans outstanding will increase. Experience across the financial services
industry indicates that commercial business, construction, and income property
loans present greater risks than residential real estate loans, and therefore
should be accompanied by suitably higher levels of reserves.
38
Comparison Of Operating Results For The Three Months Ended March 31, 2003 and
March 31, 2002
General
During the first quarter of 2003, the Company reported net income $1.84
million, equivalent to $0.52 diluted earnings per share, compared to net income
of $1.21 million, or $0.35 diluted earnings per share, for the same period in
2002. Net income during the quarter ended December 31, 2002 (the immediately
preceding quarter) was $1.62 million, equivalent to $0.46 diluted earnings per
share. The earnings for the first quarter of 2003 were the highest of any
quarter in the Company's history. Diluted earnings per share have increased for
eight consecutive quarters. The 52.4% increase in net income for the first
quarter of 2003 compared to the same period in 2002 primarily resulted from:
o the continued implementation of the Company's strategic plan to transform
the Bank into a community commercial bank with a focus on relationship
banking and a strong commitment to community involvement
o an $822 thousand rise in net interest income resulting from a combination
of increased spreads and larger average balances of interest earning assets
and liabilities
o a $114 thousand gain on sale of the Company's one foreclosed property held
at December 31, 2002
o increased mortgage banking income
o the first full quarter of income from the Company's recent investment in
bank owned life insurance
Annualized return on average assets increased from 0.90% during the
first quarter of 2002 to 1.20% during the first quarter of 2003. Annualized
return on average stockholders' equity improved from 9.37% during the first
quarter of 2002 to 12.73% during the first quarter of 2003.
Interest Rate Environment
The table and discussion presented above under "Interest Rate Risk
Management And Exposure" furnishes an overview of the interest rate environment
since the end of 2001. Interest rates have generally declined over the past five
quarters, with the exception of an increase at the end of the first quarter of
2002. The slope of the Treasury curve has flattened over the past year (i.e. a
smaller differential between short term and longer term interest rates).
Financial institutions, including the Bank, generally benefit from a positively
sloped term structure of interest rates, whereby higher duration assets may be
funded at a favorable spread with shorter term liabilities, and whereby fixed
rate assets appreciate in market price as they move nearer to maturity. In
addition, steep yield curves often lead to increased customer demand for
adjustable rate mortgages due to the rate differential to long term, fixed rate
mortgages. Thus, as discussed above at greater length under "Interest Rate Risk
Management And Exposure", the interest rate environment was generally less
favorable for the Company during the first quarter of 2003 than during the first
quarter of 2002. In addition, as a result of the interest rate environment over
the past 15 months, yields and rates for most assets and liabilities were
substantially lower in the first quarter of 2003 compared to the same period in
2002.
Net Interest Income
Net interest income increased from $5.4 million during the first
quarter of 2002 to $6.2 million during the first quarter of 2003. This increase
resulted from both expanded spreads and growth in the average balances of
interest earning assets and liabilities. The Company's ratio of net interest
income to average total assets was 4.02% for the first quarter of 2003, up from
3.98% for the same period in 2002. The Company's net interest margin increased
more significantly, rising from 4.19% during the first quarter of 2002 to 4.27%
during the first quarter of 2003. The Company's purchase of $9.0 million in bank
owned life insurance during the fourth quarter of 2002 moderated the improvement
in the ratio of net interest income to average total assets. The increased net
interest income during the first quarter of 2003 in part stemmed from the
continued implementation of the Company's strategic plan.
39
Factors favorably influencing net interest income during the first
quarter of 2003 compared to the same period in 2002 included:
o Average cash equivalents decreased from $5.8 million during the first
quarter of 2002 to $478 thousand during the first quarter of 2003. This was
due to the Bank's generally being in a net daily borrowing position
throughout the first quarter of 2003, primarily in response to its demand
for loans. Because cash equivalents typically represent the Company's
lowest yielding asset alternative, relative decreases in cash equivalents
are favorable for the Company's spreads and net interest income.
o Average transaction account (NOW, savings, and MMDA) deposits as a
percentage of average total assets increased from 31.3% during the first
quarter of 2002 to 31.6% during the same period in 2003. Because
transaction accounts represent relatively low cost funding, this change in
funding mix favorably impacted net interest income.
o Average certificates of deposit ("CD's") as a percentage of average total
assets decreased from 44.7% during the first quarter of 2002 to 40.9%
during the first quarter of 2003. Because CD's constitute relatively higher
cost funding, this change in funding mix favorably impacted net interest
income. The average rate paid on CD's was 113 basis points lower in the
first quarter of 2003 than during the first quarter in 2002, despite an
increase in the weighted average number of days until maturity from 248
days to 319 days. The 113 basis point decline in average rate compared
favorably to the 65 basis point reduction in average rate earned on
interest earning assets, thereby contributing to the expansion in net
interest income from the first quarter of 2002 to the same period in 2003.
o The average rate paid on the Company's FHLB advances was a significant 127
basis points lower in the first quarter of 2003 versus the same period the
prior year. This decrease in funding costs was caused by the maturity of
some higher cost advances and by the Company's utilizing relatively low
cost short term borrowings during the first quarter of 2003 in conjunction
with its interest rate risk management program.
Factors unfavorably impacting net interest income during the first
quarter of 2003 compared to the same period in 2002 included:
o The spread derived from investing the Company's demand deposit balances and
capital was lower in the first quarter of 2003 than the same period in 2002
due to the lower general interest rate environment.
o Average net loans as a percentage of average total assets decreased from
86.1% during the first quarter of 2002 to 85.3% during the same period in
2003. This decline was caused in part by the Company's purchase of $9.0
million in bank owned life insurance during the fourth quarter of 2002.
Because loans constitute the Company's highest yielding type of asset, this
change in asset mix unfavorably affected net interest income.
o Average demand deposits as a percentage of average total assets decreased
from 4.0% during the first quarter of 2002 to 3.8% during the same period
in 2003. In addition, average stockholders' equity as a percentage of
average total assets decreased from 9.6% during the first quarter of 2002
to 9.4% during the same period in 2003. Relative decreases in interest free
funding sources unfavorably impact the Company's spreads.
o The ratio of average interest earning assets to average interest bearing
liabilities decreased slightly from 1.10 during the first quarter of 2002
to 1.09 during the same period in 2003, primarily due to the purchase of
bank owned life insurance. Decreases in this ratio unfavorably impact
average spreads, as this indicates that the Company is earning interest
income on a relatively smaller base of assets versus the quantity of
liabilities upon which it is paying interest.
The Company's ratio of net interest income to average interest earning
assets rose from 4.24% during the fourth quarter of 2002 to 4.27% during the
first quarter of 2003, primarily due to the first quarter of 2003 having two
fewer days than the fourth quarter of 2002. Because a majority of the Company's
interest earning assets accrue interest on a 30 / 360 day basis, while a
majority of the Company's liabilities accrue interest on a 365 / 365 day basis,
the Company benefits during periods of fewer days. Interest earned but
uncollected on non-accrual loans decreased slightly from $18 thousand at
December 31, 2002 to $16 thousand at March 31, 2003.
40
The following table presents the average annualized rate earned upon
each major category of interest earning assets, the average annualized rate paid
for each major category of interest bearing liabilities, and the resulting net
interest spread, net interest margin, and average interest margin on total
assets for the three months ended March 31, 2003 and 2002.
Three Months Ended March 31, 2003 Three Months Ended March 31, 2002
---------------------------------------- ----------------------------------------
(Dollars In Thousands) Average Average Average Average
Balance Interest Rate Balance Interest Rate
------- -------- ---- ------- -------- ----
Assets
Interest earning assets:
Cash equivalents (1) $ 478 $ 1 0.84% $ 5,761 $ 25 1.74%
Investment securities 7,070 42 2.38% 7,788 57 2.93%
Mortgage backed securities (2) 41,744 216 2.07% 31,373 312 3.98%
Loans receivable, net (3) 524,143 8,660 6.61% 462,480 8,314 7.19%
FHLB stock 4,680 61 5.21% 3,019 47 6.23%
--------- ----- ---------- -----
Total interest earning assets 578,115 8,980 6.21% 510,421 8,755 6.86%
----- -----
Non-interest earnings assets 36,206 26,952
--------- ---------
Total assets $ 614,321 $ 537,373
========= =========
Liabilities & Equity
Interest bearing liabilities:
NOW accounts $ 42,817 16 0.15% $ 41,682 41 0.39%
Savings accounts 18,498 15 0.32% 19,023 26 0.55%
Money market accounts 132,888 566 1.70% 107,640 593 2.20%
Certificates of deposit 251,081 1,536 2.45% 240,440 2,153 3.58%
--------- ----- ---------- -----
Total interest-bearing deposits 445,284 2,133 1.92% 408,785 2,813 2.75%
FHLB advances 85,519 666 3.12% 53,682 589 4.39%
Other borrowings (4) 428 9 8.41% 213 9 5.63%
--------- ----- ---------- -----
Total interest-bearing liabilities 531,231 2,808 2.11% 462,680 3,405 2.94%
----- -----
Demand deposit accounts 23,441 21,260
Other non-interest bearing
liabilities 1,937 1,988
--------- ---------
Total liabilities 556,609 485,928
Stockholders' equity 57,712 51,445
--------- ---------
Total liabilities & equity $ 614,321 $ 537,373
========= =========
Net interest income $ 6,172 $ 5,350
======= =======
Interest rate spread (5) 4.10% 3.92%
Net interest earning assets 46,884 47,741
Net interest margin (6) 4.27% 4.19%
Net interest income /
Average total assets 4.02% 3.98%
Interest earnings assets /
Interest bearing liabilities 1.09 1.10
Average balances in the above table were calculated using average daily figures.
--------------------------
(1) Includes federal funds sold, money market fund investments, banker's
acceptances, commercial paper, interest earning deposit accounts, and
securities purchased under agreements to resell.
(2) Includes mortgage backed securities and collateralized mortgage
obligations.
(3) In computing the average balance of loans receivable, non-accrual loans and
loans held for sale have been included. Amount is net of deferred loan
fees, premiums and discounts, and undisbursed loan funds. Interest income
on loans includes amortized loan fees and costs, net, of $269,000 and
$26,000 in 2003 and 2002, respectively.
(4) Includes federal funds purchased, securities sold under agreements to
repurchase, and borrowings drawn on MBBC's line of credit.
(5) Interest rate spread represents the difference between the average rate on
interest earning assets and the average rate on interest bearing
liabilities.
(6) Net interest margin equals net interest income before provision for loan
losses divided by average interest earning assets.
41
Rate / Volume Analysis
The most significant impact upon the Company's net interest income
between periods is derived from the interaction of changes in the volumes of and
rates earned or paid on interest-earning assets and interest-bearing
liabilities. The following table utilizes the figures from the preceding table
to present a comparison of interest income and interest expense resulting from
changes in the volumes and the rates on average interest-earning assets and
average interest-bearing liabilities for the periods indicated. Changes in
interest income or interest expense attributable to volume changes are
calculated by multiplying the change in volume by the prior period average
interest rate. The changes in interest income or interest expense attributable
to interest rate changes are calculated by multiplying the change in interest
rate by the prior year period volume. The changes in interest income or interest
expense attributable to the combined impact of changes in volume and changes in
interest rate are calculated by multiplying the change in rate by the change in
volume.
Three Months Ended March 31, 2003
Compared To
Three Months Ended March 31, 2002
----------------------------------------------------------------
Increase (Decrease) Due To Change In
----------------------------------------------
Volume Net
(Dollars In Thousands) Volume Rate / Rate Change
------ ---- ------ ------
Interest-earning assets
Cash equivalents $ (23) $ (13) $ 12 $ (24)
Investment securities (5) (11) 1 (15)
Mortgage backed securities 103 (150) (49) (96)
Loans receivable, net 1,109 (673) (90) 346
FHLB Stock 26 (8) (4) 14
------ ------ ------ ------
Total interest-earning assets 1,210 (855) (130) 225
------ ------ ------ ------
Interest-bearing liabilities
NOW Accounts 1 (25) (1) (25)
Savings accounts (1) (11) 1 (11)
Money market accounts 139 (135) (31) (27)
Certificates of deposit 95 (682) (30) (617)
------ ------ ------ ------
Total interest-bearing deposits 234 (853) (61) (680)
FHLB advances 349 (171) (101) 77
Other borrowings 3 1 2 6
------ ------ ------ ------
Total interest-bearing liabilities 586 (1,023) (160) (597)
------ ------ ------ ------
Increase in net interest income $ 624 $ 168 $ 30 $ 822
====== ====== ====== ======
42
Interest Income
Interest income increased from $8.8 million during the first quarter of
2002 to $9.0 million during the same period in 2003 despite the lower interest
rate environment in 2003 and lower prepayment penalties during the first quarter
of 2003 primarily due to a 13.3% rise in average interest earning assets. In
addition, the average yield on loans during the first quarter of 2003 was just
58 basis points below the figure for the first quarter of 2002, comparing
favorably to an 83 basis point decline in the weighted average cost of interest
bearing deposits. Loan yields during the first quarter of 2003 were supported by
lifetime rate floors on certain loans, accelerated amortization of deferred loan
fees in conjunction with a historically high rate of loan prepayments, and a
shift in mix toward generally higher yielding types of loans.
Interest income on loans increased from $8.3 million during the first
quarter of 2002 to $8.7 million during the same period in 2003. The effect of
lower interest rates was more than offset by the impact of a 13.3% rise in
average net loan balances outstanding. The greater loan volume stemmed from the
Company's strategic plan of increasing the percentage of the balance sheet
comprised of loans through internal originations, loan purchases from
correspondent banks, and loan participations; with the latter primarily sourced
through other California community banks. Management believes stockholder value
is maximized through the extension and effective management of credit.
Interest income on cash equivalents decreased from $25 thousand during
the first quarter of 2002 to $1 thousand for the same period in 2003. This
decline was due to:
o lower average rates resulting from the 50 basis point interest rate cut
implemented by the Federal Reserve in November 2002
o lower average volumes stemming from the Company's redeploying funds from
cash equivalents into loans as a result of the demand for credit and into
securities in order to increase earnings
Interest income on investment securities declined from $57 thousand
during the first quarter of 2002 to $42 thousand during the same period in 2003.
The reduced interest income in part resulted from lower yields on variable rate
corporate trust preferred securities that reprice quarterly based upon 3 month
LIBOR, which was lower in the first quarter of 2003 than during the same period
in 2002. In addition, the Company purchased short term Agency debentures during
the first quarter of 2002 as a vehicle for investing short term excess
liquidity. No such purchases were made during the first quarter of 2003.
Interest income on mortgage backed securities fell from $312 thousand
during the first quarter of 2002 to $216 thousand during the same period in
2003, despite a 33.1% rise in average balance, due to a significant reduction in
average rate. The average rate on mortgage backed securities declined from 3.98%
during the first quarter of 2002 to 2.07% during the first quarter of 2003. The
reduction in average rate stemmed from:
o turnover in the portfolio, as principal repayments on higher yielding
securities were reinvested at lower current market rates
o adjustable rate mortgage backed securities repricing downwards
o the impact of historically high prepayment speeds upon mortgage backed
securities, especially CMO's, owned at a premium to par, as the accelerated
prepayment rates on these securities led to faster amortization of purchase
premiums, which in turn depressed the Company's effective yield
Dividend income on FHLB stock increased from $47 thousand during the
first quarter of 2002 to $61 thousand during the same period in 2003 due to
greater average balances of FHLB stock stemming from the expansion in the Bank's
balance sheet. The average dividend rate on FHLB stock decreased from 6.23%
during the first quarter of 2002 to 5.21% during the first quarter of 2003, or
nearly 400 basis points over the target federal funds rate. The dividend rate
declared on FHLB stock during recent periods has been relatively attractive
versus historical levels, thereby favorably contributing to the Company's
increase in net interest income.
43
Interest Expense
Interest expense decreased from $3.4 million during the first quarter
of 2002 to $2.8 million during the same period in 2003, as the effect of the
lower interest rate environment more than offset the impact of increases in
average interest bearing liabilities.
Interest expense on deposits decreased from $2.8 million during the
first quarter of 2002 to $2.1 million during the same period in 2003. This
decline was due to the effect of a significant decrease in average interest rate
more than offsetting the impact of a rise in average balances. The large
decrease in average rates resulted from the lower interest rate environment and
a shift in the composition of the deposit portfolio. Relatively higher cost
certificates of deposit decreased from 55.9% of average total deposits during
the first quarter of 2002 to 53.6% during the first quarter of 2003 despite the
Company's issuing $30.9 million (par value) in brokered certificates of deposit
commencing after the first quarter of 2002. Relatively lower cost transaction
deposit accounts experienced a complementary increase, with money market
deposits experiencing a significant rise. This change in deposit mix is a
fundamental component of the Company's strategic plan.
At March 31, 2003, the Company's weighted average nominal cost of
deposits was 1.76%, down from 1.94% at December 31, 2002. The Company paid an
average rate of just 0.15% on its NOW deposits and 0.32% on its savings deposits
during the first quarter of 2003, highlighting the limited ability of the
Company to further reduce the cost of this funding should general market
interest rates decline in future periods. At March 31, 2003, $64.6 million in
certificates of deposit with a weighted average nominal rate of 2.24% were
scheduled to mature in the next quarter. This figure included a $20.0 million
brokered CD with an effective rate of 2.75% and $6.0 million in State of
California deposits. At March 31, 2003, the longest term permitted by the State
under its time deposit program was six months.
The Company has worked to more uniformly distribute its certificate of
deposit maturities by month in order to facilitate cash management and avoid
concentrated exposure to capital market events at any one point in time. This
objective has been accomplished through the use of "odd term" certificates of
deposit such as 7, 8, and 19 months, augmented by ongoing sales and periodic
print advertising of longer term certificates of deposit. At March 31, 2003, the
weighted average cost of the certificate of deposit portfolio was 2.36%, down
from 2.63% at December 31, 2002.
During the second quarter of 2003, the Company plans to promote money
market accounts in light of the historically low interest rate environment and
the resulting lack of interest by certain customers in committing funds to fixed
rate certificates of deposit. The Company's money market deposit products are
highly tiered, encouraging greater account balances in order to earn higher
rates of interest. Customer accounts are accessible via bilingual telephone
banking, Internet banking, global ATM networks, mail, and in-branch service.
During the second quarter of 2003, the Company also intends to continue pursuing
compensating balances, typically demand deposit balances, for commercial credit
facilities.
Interest expense on FHLB advances and other borrowings increased from
$592 thousand during the first quarter of 2002 to $675 thousand during the same
period in 2003 due to the effect of lower average rates more than being offset
by a significant increase in average balances. The Company had higher levels of
borrowings outstanding in the first quarter of 2003 than the same period in 2002
due to borrowings being utilized to fund some of the growth in the loan and
security portfolios. The Company's average interest rate on other borrowings was
inflated during 2002 and 2003 as a result of the amortization of loan fees
(discount on a liability) on MBBC's $4.0 million revolving line of credit
combined with a lack of draws (outstanding balances) on the line.
Provision For Loan Losses
The Company recorded a $325 thousand provision for loan losses during
both the first quarter of 2003 and 2002. The Company determines its periodic
provision for loan losses based upon its analysis of loan loss reserve adequacy.
Net charge-offs during the first quarter of 2003 were $51 thousand, versus $32
thousand during the first quarter of 2002. The Company's ratio of loan loss
reserves to total loans was 1.54% at both March 31, 2003 and December 31, 2002,
and was 1.46% at March 31, 2002. The nominal amount of the loan loss reserve
rose from $8.16 million at December 31, 2002 to $8.44 million at March 31, 2003.
44
Factors contributing to the level of the Company's provision for loan
losses during the first quarter of 2003 included:
o a $13.0 million increase in gross loans held for investment during the
quarter
o the continued shift in the Company's loan mix away from its historic
concentration in residential mortgages
o a $58 thousand increase in the specific reserve for a loan secured by a
hotel / resort within the Company's primary market area, as discussed above
under "Non-performing assets"
o the quarter's net charge-offs
o the addition of a large volume of new credits to the loan portfolio
o the origination of relatively larger loans by the Los Angeles loan
production office and by the Company's real estate relationship officers
o the stage of the economic and credit cycles, particularly as they impact
California, which tends to lag national economic trends, has a record
budget deficit, and is facing a number of current issues which reduce the
State's attractiveness to new businesses and business expansion
Commercial & industrial and multifamily real estate loans typically
present greater credit, concentration, and event risks than home mortgages,
thereby requiring proportionately greater reserve levels. Newer loans typically
present more credit exposure than seasoned loans with many years of prompt
payment experience and amortized principal balances. Commercial lines of credit
and term loans to businesses also typically present a greater level of credit
risk than residential mortgages.
Factors moderating the amount of the provision for loan losses during
the first quarter of 2003 included decreases in the aggregate balances of
criticized and classified loans and a shift in income property loan mix towards
multifamily loans. The Company utilizes a lower formula reserve factor for
multifamily loans than for commercial real estate loans secured by offices,
retail space, and other types of commercial property. At March 31, 2003, the
Company had no criticized or classified multifamily loans, and the Company has
not foreclosed on a multifamily loan in many years. No multifamily loans were
delinquent at March 31, 2003.
The Company anticipates that its ratio of loan loss reserves to loans
outstanding will continue to increase in future periods to the extent that the
Company continues to increase total loans while expanding the proportion of the
loan portfolio represented by income property, construction, and commercial
business lending. This change in portfolio mix is anticipated to continue to be
accelerated by the Los Angeles loan production office, which concentrates on
construction and income property lending. The Los Angeles loan production office
presents the Company with the opportunity to better geographically diversify its
real estate loan portfolio, such that the Company becomes less exposed to a
downturn in real estate values, economic weakness, or a natural disaster in any
one local real estate market. The Company does not, however, pursue lending
outside the State of California, but does occasionally make real estate loans
secured by property in other states as an accommodation to existing customers.
Non-interest Income
Non-interest income totaled $835 thousand during the first quarter of
2003, comparing favorably to $512 thousand for the same period in 2002.
Customer service charge income increased from $351 thousand during the
first quarter of 2002 to $394 thousand during the same period in 2003. The rise
primarily resulted from increased charges on deposit accounts and higher debit
card income. The Company has conducted an ongoing debit card education and sales
campaign in recent quarters to foster increased customer utilization of this
convenient and flexible service.
45
Gains on the sale of loans were $123 thousand during the first quarter
of 2003, up from $27 thousand during the first quarter of 2002. Mortgage banking
income during the first quarter of 2003 benefited from the historically low
interest rate environment and a high general level of mortgage refinance
activity. Beginning in 2003, the Company commenced offering a greater variety of
residential mortgages under an expanded relationship with a secondary market
conduit. This expansion was pursued in light of the Company's desire to continue
reducing the percentage of total loans held for investment comprised of
residential mortgages while at the same time continuing to meet the home
financing needs of its local communities. The Company anticipates continued
favorable results from its mortgage banking operations during the second quarter
of 2003 based upon its pipeline at March 31, 2003 and the continued availability
of fifteen and thirty year fixed rate residential loans at rates below 6.00%.
Income from bank owned life insurance was $113 thousand during the
first quarter of 2003, following the Bank's initial investment in December 2002.
Commissions from the sale of non-FDIC insured investment products were
$28 thousand during the first quarter of 2003, down from $41 thousand during the
first quarter of 2002. The capital markets environment, particularly the weak
equity markets, and the Company's continuing vacancies for licensed investment
sales representatives constrained this source of income.
Loan servicing income totaled $12 thousand during the three months
ended March 31, 2003, down from $14 thousand during the same period in 2002. The
Company continues to sell the vast majority of its long term, fixed rate
residential loan production into the secondary market on a servicing released
basis, and purchases more interest rate sensitive loans as part of its interest
rate risk management program. As a result, the portfolio of loans serviced for
others continues to decline as loans are paid off. At March 31, 2003, the
Company serviced $31.4 million in various types of loans for other investors,
down from $35.3 million at December 31, 2002 and $37.3 million at March 31,
2002. The Company maintained loan servicing assets of $31 thousand at March 31,
2003, and is thus limited in its exposure of loan servicing income to the
accelerated loan prepayment speeds now occurring as a result of the low interest
rate environment and high volume of residential mortgage refinance activity.
Gain on sale of mortgage backed securities declined from $43 thousand
during the first quarter of 2002 to $1 thousand during the first quarter of
2003. The Company sold one $494 thousand par value Agency CMO during the first
quarter of 2003, compared to one $2.7 million par value private label CMO during
the first quarter of 2002. The sale in first quarter of 2003 was associated with
the Bank's management of its collateral for certain deposits, while the sale in
the first quarter of 2002 was in conjunction with the Company's interest rate
risk management program. Although the market value of many of the Company's
mortgage backed securities exceeded historic carrying cost during the first
quarter of 2003, the Company retained the securities as a means of generating
net interest income.
Other income rose from $36 thousand during the first quarter of 2002 to
$50 thousand during the same period in 2003. Various factors contributed to this
increase, including:
o higher reconveyance fees resulting from the historically high rate of loan
prepayments
o letter of credit fees from trade finance transactions following that
product's introduction in the second half of 2002
o the Company's recording an $8 thousand loss on the disposition of fixed
assets during the first quarter of 2002
The Company's strategic plan incorporates non-interest income
representing a greater percentage of total revenue. The Company intends to
pursue increased non-interest income in the second quarter of 2003 through
further increases in the portfolio of deposit transaction accounts, the
continued sale of consumer Internet banking with electronic bill payment, and
the continued marketing of debit cards. However, no assurance can be provided
regarding the amount of or trends in the Company's future levels and composition
of non-interest income.
46
Non-interest Expense
Non-interest expense rose from $3.5 million in the first quarter of
2002 to $3.6 million in the first quarter of 2003 primarily due to increased
compensation and employee benefit costs. Compensation and employee benefits
costs were higher due to:
o one-time costs totaling $152 thousand associated with the adoption of
certain non-qualified benefits for the Chief Executive Officer and the
Chief Financial Officer
o recurring costs of $30 thousand associated with the accrual of
non-qualified retirement benefits obligations that were created during the
first quarter of 2003
o higher costs for the Bank's Employee Stock Ownership Plan due to the
greater average market price of the Company's common stock; associated
expenses were $181 thousand for the first quarter of 2003 compared to $144
thousand for the first quarter of 2002
o greater base salary costs associated with staff additions and changes in
support of the Company's strategic plan, particularly in the Company's
income property lending and retail banking functions
o increased expenses for worker's compensation insurance, which is a general
problem faced by businesses in the State of California
The Bank's Board of Directors approved special bonuses of $40 thousand
for the Chief Executive Officer during the first quarters of both 2002 and 2003.
These bonuses were in recognition of the Chief Executive Officer's contributions
to the Bank's significant progress in implementing the strategic plan and to
encourage the Chief Executive Officer to continue business development in the
Bank's primary market area.
Deposit insurance premiums decreased from $51 thousand during the first
quarter of 2002 to $19 thousand during the same period in 2003, despite the
expansion in the Company's deposit portfolio. The decline resulted from an
adjustment in the Company's insurance premium rate effective July 1, 2002.
Advertising and promotion costs totaled $37 thousand during the first
quarter of 2003, down from $81 thousand during the same period in the prior
year. Advertising expenses during the first quarter of 2003 were concentrated in
print advertising for consumer deposits. Advertising expenses were higher in the
first quarter of 2002 in conjunction with a radio campaign that focused upon
communicating the Bank's expanded product line.
In conjunction with the Company's strategic plan and as an alternative
to print and broadcast media, the Company's employees and Directors continued to
enhance the Bank's visibility during 2003 by their extensive participation in a
significant number of community events and organizations. As just one example,
the Company fielded seven four-person teams to raise money for a community
organization committed to helping disadvantaged children in Santa Cruz County.
In the second quarter of 2003, the Company plans to extensively participate in
the Human Race Walkathon in both Santa Cruz and Monterey Counties, raising funds
for local charities.
Other non-interest expense decreased from $412 thousand during the
first quarter of 2002 to $333 thousand during the first quarter of 2003. Over
the past year, the Company has implemented a number of expense control and
efficiency initiatives that moderated various operating costs. In addition,
costs were lower in the first quarter of 2003 than during the first quarter of
2002 for consulting, recruiting, and temporary labor expenses.
The Company's efficiency ratio improved from 59.13% during the first
quarter of 2002 to 51.67% during the first quarter of 2003. The improvement in
this ratio primarily stemmed from the expansion in the Company's net interest
margin, efficiency improvements implemented, and by the historically strong
level of non-interest income generated during the first quarter of 2003.
47
Income Taxes
The Company's provision for income taxes increased from $866 thousand
for the first quarter of 2002 to $1.2 million during the first quarter of 2003
primarily due to the rise in pre-tax income. The Company's effective book tax
rate during the first quarter of 2003 was 40.0%, compared to 41.8% during the
same period the prior year. The Company's effective book tax rate is expected to
continue to be moderated in 2003 by the dividends earned on bank owned life
insurance. These dividends are not subject to normal Federal and State income
tax.
Item 3. Quantitative And Qualitative Disclosures About Market Risk
For a current discussion of the nature of market risk exposures, see
"Item 2. Management's Discussion And Analysis Of Financial Condition And Results
Of Operations - Interest Rate Risk Management And Exposure". Readers should also
refer to the quantitative and qualitative disclosures (consisting primarily of
interest rate risk) in the Company's Annual Report on Form 10-K for the fiscal
year ended December 31, 2002. There has been no significant change in these
disclosures since the filing of that document.
Item 4. Controls And Procedures
(a) The Company maintains disclosure controls and procedures that are designed
to ensure that information required to be disclosed in the Company's
reports in compliance with the Securities Exchange Act of 1934, as amended
("Exchange Act"), is recorded, processed, summarized, and reported within
the time periods specified in the Securities and Exchange Commission's
("SEC") rules and forms, and that such information is accumulated and
communicated to the Company's Management, including its Chief Executive
Officer and Chief Financial Officer, as appropriate, to allow timely
decisions regarding required disclosure based closely on the definition of
"disclosure controls and procedures" in Rule 13a-14(c) promulgated under
the Exchange Act. Within 90 days prior to the date of this report, the
Company carried out an evaluation, under the supervision and with the
participation of the Company's Management, including the Company's Chief
Executive Officer and the Company's Chief Financial Officer, of the
effectiveness of the design and operation of the Company's disclosure
controls and procedures. Based on the foregoing, the Company's Chief
Executive Officer and Chief Financial Officer concluded that the Company's
disclosure controls and procedures were effective.
(b) There have been no significant changes in the Company's internal controls
or in other factors that could significantly affect the internal controls
subsequent to the date of the evaluation referenced in paragraph (a) above.
PART II - OTHER INFORMATION
Item 1. Legal Proceedings
From time to time, the Company is party to claims and legal proceedings
in the ordinary course of business. Management believes that the
ultimate aggregate liability represented thereby, if any, will not have
a material adverse effect on the Company's consolidated financial
position or results of operations.
Item 2. Changes In Securities
None.
Item 3. Defaults Upon Senior Securities
Not applicable.
46
Item 4. Submission Of Matters To A Vote Of Security Holders
On April 11, 2003, the Company issued its 2003 Proxy Statement. Matters
submitted to a vote of security holders via that Proxy Statement
included:
1.) The proposed election of four individuals as Directors of the
Company:
Proposed Term
Individual To Expire
--------------------------------- -------------------
McKenzie Moss 2004
Rita Alves 2006
Josiah T. Austin 2006
Diane Simpkins Bordoni 2006
2.) The proposed ratification of the appointment of Deloitte &
Touche LLP as the independent auditors of the Company for the
fiscal year ending December 31, 2003.
The Company's Annual Meeting of Stockholders is scheduled for Thursday,
May 22, 2003 at 9:00 AM Pacific Time at the Watsonville Woman's Club,
12 Brennan Street, Watsonville, CA. 95076.
Item 5. Other Information
None.
Item 6. Exhibits And Reports On Form 8-K
A. Exhibits
10.28 Employment Agreement With C. Edward Holden Effective
May 1, 2003
10.29 Employment Agreement With Mark R. Andino Effective
May 1, 2003
99.1 Chief Executive Officer Certification Pursuant To 18
U.S.C. Section 1350
99.2 Chief Financial Officer Certification Pursuant To 18
U.S.C. Section 1350
B. Reports On Form 8-K
The Company has recently filed the following Current Reports
on Form 8-K:
1. Form 8-K dated January 29, 2003. This Current Report
reported the Company's financial and operating
results for the fourth quarter and the fiscal year
2002, the date for the 2003 Annual Meeting of
Stockholders, and the Record Date for voting at the
2003 Annual Meeting of Stockholders.
2. Form 8-K dated April 7, 2003. This Current Report
reported that the Company and the Bank had executed a
merger agreement with UnionBanCal Corporation and
Union Bank of California, N. A. whereby the Company
and the Bank will be merged into Union Bank of
California subject to the terms of the agreement and
following the receipt of regulatory approvals and an
affirmative vote by the Company's stockholders.
3. Form 8-K dated April 24, 2003. This Current Report
reported the Company's financial and operating
results for the first quarter of fiscal year 2003.
49
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act Of 1934,
the Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
MONTEREY BAY BANCORP, INC.
(Registrant)
Date: May 12, 2003 By: /s/ C. Edward Holden
--------------------
C. Edward Holden
Chief Executive Officer
President
Vice Chairman Of The Board Of Directors
Date: May 12, 2003 By: /s/ Mark R. Andino
------------------
Mark R. Andino
Chief Financial Officer
Treasurer
(Principal Financial & Accounting Officer)
50
Certification of the Principal Executive Officer
(Section 302 of the Sarbanes-Oxley Act of 2002)
For The Quarter Ended March 31, 2003
I, C. Edward Holden, Chief Executive Officer and President, certify that:
1. I have reviewed this quarterly report on Form 10-Q of Monterey Bay Bancorp,
Inc. (the "Registrant");
2. Based on my knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to
make the statements made, in light of the circumstances under which such
statements were made, not misleading with respect to the period covered by
this quarterly report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all
material respects the financial condition, results of operations and cash
flows of the registrant as of, and for, the periods presented in this
quarterly report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined
in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
a) designed such disclosure controls and procedures to ensure
that material information relating to the registrant,
including its consolidated subsidiaries, is made known to us
by others within those entities, particularly during the
period in which this quarterly report is being prepared;
b) evaluated the effectiveness of the registrant's disclosure
controls and procedures as of a date within 90 days prior to
the filing date of this quarterly report (the "Evaluation
Date"); and
c) presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based
on our evaluation as of the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based on
our most recent evaluation, to the registrant's auditors and the audit
committee of the registrant's board of directors (or persons performing the
equivalent function):
a) all significant deficiencies in the design or operation of
internal controls which could adversely affect the
registrant's ability to record, process, summarize and report
financial data and have identified for the registrant's
auditors and any material weakness in internal controls; and
b) any fraud, whether or not material, that involves management
or other employees who have a significant role in the
registrant's internal controls; and
6. The registrant's other certifying officers and I have indicated in this
quarterly report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal
controls subsequent to the date of our most recent evaluation, including
any corrective actions with regard to significant deficiencies and material
weaknesses.
Date: May 12, 2003
By: /s/ C. Edward Holden
--------------------
C. Edward Holden
Chief Executive Officer
President
Vice Chairman
51
Certification of the Principal Financial Officer
(Section 302 of the Sarbanes-Oxley Act of 2002)
For The Quarter Ended March 31, 2003
I, Mark R. Andino, Chief Financial Officer and Treasurer, certify that:
1. I have reviewed this quarterly report on Form 10-Q of Monterey Bay Bancorp,
Inc. (the "Registrant");
2. Based on my knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to
make the statements made, in light of the circumstances under which such
statements were made, not misleading with respect to the period covered by
this quarterly report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all
material respects the financial condition, results of operations and cash
flows of the registrant as of, and for, the periods presented in this
quarterly report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined
in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
a. designed such disclosure controls and procedures to ensure
that material information relating to the registrant,
including its consolidated subsidiaries, is made known to us
by others within those entities, particularly during the
period in which this quarterly report is being prepared;
b. evaluated the effectiveness of the registrant's disclosure
controls and procedures as of a date within 90 days prior to
the filing date of this quarterly report (the "Evaluation
Date"); and
c. presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based
on our evaluation as of the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based on
our most recent evaluation, to the registrant's auditors and the audit
committee of the registrant's board of directors (or persons performing the
equivalent function):
a. all significant deficiencies in the design or operation of
internal controls which could adversely affect the
registrant's ability to record, process, summarize and report
financial data and have identified for the registrant's
auditors and any material weakness in internal controls; and
b. any fraud, whether or not material, that involves management
or other employees who have a significant role in the
registrant's internal controls; and
6. The registrant's other certifying officers and I have indicated in this
quarterly report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal
controls subsequent to the date of our most recent evaluation, including
any corrective actions with regard to significant deficiencies and material
weaknesses.
Date: May 12, 2003
By: /s/ Mark R. Andino
------------------
Mark R. Andino
Chief Financial Officer
Treasurer
52