wabc20200930_10q.htm
0000311094 WESTAMERICA BANCORPORATION false --12-31 Q3 2020 16 0 593,701 744,296 0 0 150,000 150,000 26,898 26,898 27,062 27,062 0.41 1.23 0.41 1.22 0 0 0 0 0 0 0 0 0 0 0 0 0 0 0 0 1 0 0 43 0 0 0 0 5 5 5 0 0 0 0 0 0 A bank applying for membership in the Federal Reserve System is required to subscribe to stock in the Federal Reserve Bank (FRB) in its district in a sum equal to six percent of the bank's paid-up capital stock and surplus. One-half of the amount of the bank's subscription shall be paid to the FRB and the remaining half will be subject to call when deemed necessary by the Board of Governors of the Federal Reserve System. There were no transfers in to or out of level 3 during the nine months ended September 30, 2020. 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UNITED STATES SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

 

FORM 10-Q

(Mark One)          

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

For the quarterly period ended September 30, 2020

or

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

 For the transition period from __________ to __________.

 

Commission file number: 001-09383

 

WESTAMERICA BANCORPORATION

(Exact Name of Registrant as Specified in Its Charter)

 

California94-2156203

(State or Other Jurisdiction of

Incorporation or Organization)

(I.R.S. Employer

Identification No.)

 

1108 Fifth Avenue, San Rafael, California 94901

(Address of Principal Executive Offices) (Zip Code)

 

Registrant's Telephone Number, Including Area Code (707) 863-6000

 

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

Title of each class

Trading Symbol(s)

Name of each exchange on which registered

Common Stock, no par value

WABC

The Nasdaq Stock Market, LLC

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.

Yes ☒                                                 No ☐

 

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files).

Yes ☒                                                No ☐

 

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

Large accelerated filer ☒

Accelerated filer ☐

Non-accelerated filer ☐ 

Smaller reporting company

Emerging growth company

 

 

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).

Yes                                                 No ☒

 

Indicate the number of shares outstanding of each of the registrant's classes of common stock, as of the latest practicable date:

Title of Class

Common Stock,

Shares outstanding as of October 29, 2020
No Par Value26,868,988

 



 

 

 

 

TABLE OF CONTENTS

 

 

 

  

Page

Forward Looking Statements

3

PART I - FINANCIAL INFORMATION

 

Item 1

Financial Statements  

4

 

Notes to Unaudited Consolidated Financial Statements

9

Item 2

Management's Discussion and Analysis of Financial Condition and Results of Operations

33

Item 3

Quantitative and Qualitative Disclosures about Market Risk

56

Item 4

Controls and Procedures

56

PART II - OTHER INFORMATION

 

Item 1

Legal Proceedings

56

Item 1A 

Risk Factors

56

Item 2

Unregistered Sales of Equity Securities and Use of Proceeds

58

Item 3

Defaults upon Senior Securities

58

Item 4

Mine Safety Disclosures

58

Item 5

Other Information

58

Item 6

Exhibits

59

Signatures

60

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

-2-

 

FORWARD-LOOKING STATEMENTS

 

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

 

These forward-looking statements are based on Management’s current knowledge and belief and include information concerning the Company’s possible or assumed future financial condition and results of operations. A number of factors, some of which are beyond the Company’s ability to predict or control, could cause future results to differ materially from those contemplated. These factors include but are not limited to (1) the length and severity of difficulties in the global, national and California economies and the effects of government efforts to address those difficulties; (2) liquidity levels in capital markets; (3) fluctuations in asset prices including, but not limited to stocks, bonds, real estate, and commodities; (4) the effect of acquisitions and integration of acquired businesses; (5) economic uncertainty created by riots, terrorist threats and attacks on the United States, the actions taken in response, and the uncertain effect of these events on the local, regional and national economies; (6) changes in the interest rate environment; (7) changes in the regulatory environment; (8) competitive pressure in the banking industry; (9) operational risks including a failure or breach in data processing or security systems or those of third party vendors and other service providers, including as a result of cyber attacks or fraud; (10) volatility of interest rate sensitive loans, deposits and investments; (11) asset/liability management risks and liquidity risks; (12) the effect of natural disasters, including earthquakes, fire, flood, drought, pandemics and other disasters on the Company, including on the uninsured value of the Company’s assets and of loan collateral, the financial condition of debtors and issuers of investment securities, the economic conditions affecting the Company’s market place, and commodities and asset values; (13) changes in the securities markets; and (14) the duration and severity of the COVID-19 pandemic and governmental responses to the pandemic; and (15) the outcome of contingencies, such as legal proceedings. However, the reader should not consider the above-mentioned factors to be a complete set of all potential risks or uncertainties.

 

Forward-looking statements speak only as of the date they are made. The Company undertakes no obligation to update any forward-looking statements in this report to reflect circumstances or events that occur after the date forward looking statements are made, except as may be required by law. The reader is directed to the Company's annual report on Form 10-K for the year ended December 31, 2019 and Part II – Item 1A of this report, for further discussion of factors which could affect the Company's business and cause actual results to differ materially from those expressed in any forward-looking statement made in this report.

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

-3-

 

 

PART I - FINANCIAL INFORMATION

Item 1      Financial Statements

 

WESTAMERICA BANCORPORATION

 

CONSOLIDATED BALANCE SHEETS

 

(Unaudited)

 
         
  

At September 30,

  

At December 31,

 
  

2020

  

2019

 
  

(In thousands)

 

Assets:

        

Cash and due from banks

 $398,964  $373,421 

Debt securities available for sale

  3,983,994   3,078,846 

Debt securities held to maturity, net of allowance for credit losses of $16 at September 30, 2020 and $ - at December 31, 2019 (Fair value of $593,701 at September 30, 2020 and $744,296 at December 31, 2019)

  577,795   738,072 

Loans

  1,310,009   1,126,664 

Allowance for credit losses on loans

  (24,142)  (19,484)

Loans, net of allowance for credit losses on loans

  1,285,867   1,107,180 

Other real estate owned

  43   43 

Premises and equipment, net

  33,437   34,597 

Identifiable intangibles, net

  1,173   1,391 

Goodwill

  121,673   121,673 

Other assets

  160,269   164,332 

Total Assets

 $6,563,215  $5,619,555 
         

Liabilities:

        

Noninterest-bearing deposits

 $2,684,028  $2,240,112 

Interest-bearing deposits

  2,855,162   2,572,509 

Total deposits

  5,539,190   4,812,621 

Short-term borrowed funds

  107,973   30,928 

Other liabilities

  90,476   44,589 

Total Liabilities

  5,737,639   4,888,138 
         

Contingencies (Note 10)

          
         

Shareholders' Equity:

        

Common stock (no par value), authorized - 150,000 shares Issued and outstanding: 26,898 at September 30, 2020 and 27,062 at December 31, 2019

  467,201   465,460 

Deferred compensation

  35   771 

Accumulated other comprehensive income

  103,623   26,051 

Retained earnings

  254,717   239,135 

Total Shareholders' Equity

  825,576   731,417 

Total Liabilities and Shareholders' Equity

 $6,563,215  $5,619,555 

 

See accompanying notes to unaudited consolidated financial statements.

 

-4-

 

 

WESTAMERICA BANCORPORATION

 

CONSOLIDATED STATEMENTS OF INCOME

 

(unaudited)

 
                 
  

For the Three Months

  

For the Nine Months

 
  

Ended September 30,

 
  

2020

  

2019

  

2020

  

2019

 
  

(In thousands, except per share data)

 

Interest and Loan Fee Income:

                

Loans

 $15,291  $14,431  $44,378  $44,050 

Equity securities

  103   92   309   289 

Debt securities available for sale

  22,652   18,736   66,396   54,080 

Debt securities held to maturity

  3,235   4,535   10,759   14,788 

Interest-bearing cash

  84   1,901   1,053   5,597 

Total Interest and Loan Fee Income

  41,365   39,695   122,895   118,804 

Interest Expense:

                

Deposits

  450   447   1,308   1,410 

Short-term borrowed funds

  16   8   34   27 

Other borrowed funds

  -   -   1   - 

Total Interest Expense

  466   455   1,343   1,437 

Net Interest and Loan Fee Income

  40,899   39,240   121,552   117,367 

Provision for Credit Losses

  -   -   4,300   - 

Net Interest and Loan Fee Income After Provision for Credit Losses

  40,899   39,240   117,252   117,367 

Noninterest Income:

                

Service charges on deposit accounts

  3,298   4,510   10,697   13,508 

Merchant processing services

  2,860   2,494   7,495   7,708 

Debit card fees

  1,611   1,641   4,538   4,789 

Trust fees

  756   733   2,247   2,199 

ATM processing fees

  606   725   1,703   2,080 

Other service fees

  454   580   1,380   1,742 

Financial services commissions

  58   75   306   270 

Life insurance gains

  -   -   -   433 

Securities gains

  -   -   71   50 

Other noninterest income

  833   1,051   3,241   2,897 

Total Noninterest Income

  10,476   11,809   31,678   35,676 

Noninterest Expense:

                

Salaries and related benefits

  12,540   12,559   38,458   38,757 

Occupancy and equipment

  5,014   5,199   14,737   15,163 

Outsourced data processing services

  2,338   2,374   7,067   7,110 

Professional fees

  669   645   1,701   1,791 

Courier service

  500   456   1,499   1,349 

Amortization of identifiable intangibles

  72   76   218   465 

Loss contingency

  -   -   -   553 

Other noninterest expense

  3,470   2,724   10,341   9,589 

Total Noninterest Expense

  24,603   24,033   74,021   74,777 

Income Before Income Taxes

  26,772   27,016   74,909   78,266 

Provision for income taxes

  6,721   6,626   18,334   18,605 

Net Income

 $20,051  $20,390  $56,575  $59,661 
                 

Average Common Shares Outstanding

  26,930   26,986   26,977   26,924 

Average Diluted Common Shares Outstanding

  26,946   27,027   26,998   26,976 

Per Common Share Data:

                

Basic earnings

 $0.74  $0.76  $2.10  $2.22 

Diluted earnings

  0.74   0.75   2.10   2.21 

Dividends paid

  0.41   0.41   1.23   1.22 

 

See accompanying notes to unaudited consolidated financial statements.

 

-5-

 

 

 

WESTAMERICA BANCORPORATION

 

CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME

 

(unaudited)

 
                 
  

For the Three Months

  

For the Nine Months

 
  

Ended September 30,

 
  

2020

  

2019

  

2020

  

2019

 
  

(In thousands)

 

Net income

 $20,051  $20,390  $56,575  $59,661 

Other comprehensive income:

                

Changes in unrealized gains on debt securities available for sale

  14,042   10,407   110,200   85,822 

Deferred tax expense

  (4,151)  (3,077)  (32,578)  (25,372)

Reclassification of gains included in net income

  -   -   (71)  - 

Deferred tax expense on gains included in net income

  -   -   21   - 

Changes in net unrealized gains on debt securities available for sale, net of tax

  9,891   7,330   77,572   60,450 

Total comprehensive income

 $29,942  $27,720  $134,147  $120,111 

 

 

See accompanying notes to unaudited consolidated financial statements.

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

-6-

 

 

WESTAMERICA BANCORPORATION

 

CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY

 

(unaudited)

 
                         
              

Accumulated

         
  

Common

          

Other

         
  

Shares

  

Common

  

Deferred

  

Comprehensive

  

Retained

     
  

Outstanding

  

Stock

  

Compensation

  

Income (Loss)

  

Earnings

  

Total

 
  

(In thousands except dividend per share)

 
                         

Balance, June 30, 2020

  26,933  $467,351  $35  $93,732  $246,958  $808,076 

Net income for the period

                  20,051   20,051 

Other comprehensive income

              9,891       9,891 

Stock based compensation

  -   450               450 

Stock awarded to employees

  -   19               19 

Retirement of common stock

  (35)  (619)          (1,249)  (1,868)

Dividends ($0.41 per share)

                  (11,043)  (11,043)

Balance, September 30, 2020

  26,898  $467,201  $35  $103,623  $254,717  $825,576 
                         

Balance, December 31, 2019

  27,062  $465,460  $771  $26,051  $239,135  $731,417 

Adoption of ASU 2016-13

                  52   52 

Adjusted Balance, January 1, 2020

  27,062   465,460   771   26,051   239,187   731,469 

Net income for the period

                  56,575   56,575 

Other comprehensive income

              77,572       77,572 

Exercise of stock options

  53   2,838               2,838 

Restricted stock activity

  10   1,270   (736)          534 

Stock based compensation

  -   1,500               1,500 

Stock awarded to employees

  1   85               85 

Retirement of common stock

  (228)  (3,952)          (7,782)  (11,734)

Dividends ($1.23 per share)

                  (33,263)  (33,263)

Balance, September 30, 2020

  26,898  $467,201  $35  $103,623  $254,717  $825,576 
                         

Balance, June 30, 2019

  26,962  $459,369  $771  $13,124  $220,173  $693,437 

Net income for the period

                  20,390   20,390 

Other comprehensive income

              7,330       7,330 

Exercise of stock options

  52   2,867               2,867 

Stock based compensation

  -   402               402 

Stock awarded to employees

  -   15               15 

Dividends ($0.41 per share)

                  (11,063)  (11,063)

Balance, September 30, 2019

  27,014  $462,653  $771  $20,454  $229,500  $713,378 
                         

Balance, December 31, 2018

  26,730  $448,351  $1,395  $(39,996) $205,841  $615,591 

Cumulative effect of bond premium amortization adjustment, net of tax

               (2,801)  (2,801)

Adjusted Balance, January 1, 2019

  26,730   448,351   1,395   (39,996)  203,040   612,790 

Net income for the period

                  59,661   59,661 

Other comprehensive income

              60,450       60,450 

Shares issued from stock warrant exercise, net of repurchase

  51   -               - 

Exercise of stock options

  222   11,177               11,177 

Restricted stock activity

  18   1,697   (624)          1,073 

Stock based compensation

  -   1,484               1,484 

Stock awarded to employees

  1   80               80 

Retirement of common stock

  (8)  (136)          (352)  (488)

Dividends ($1.22 per share)

                  (32,849)  (32,849)

Balance, September 30, 2019

  27,014  $462,653  $771  $20,454  $229,500  $713,378 

 

See accompanying notes to unaudited consolidated financial statements.

 

-7-

 

 

WESTAMERICA BANCORPORATION

 

CONSOLIDATED STATEMENTS OF CASH FLOWS

 

(unaudited)

 
         
  

For the Nine Months

 
  

Ended September 30,

 
  

2020

  

2019

 
  

(In thousands)

 

Operating Activities:

        

Net income

 $56,575  $59,661 

Adjustments to reconcile net income to net cash provided by operating activities:

        

Depreciation and amortization

  18,482   15,178 

Provision for credit losses

  4,300   - 

Net amortization of deferred loan fees

  (2,803)  (215)

Stock option compensation expense

  1,500   1,484 

Life insurance gains

  -   (433)

Securities gains

  (71)  (50)

Net changes in:

        

Interest income receivable

  (1,982)  323 

Other assets

  (4,397)  (2,073)

Income taxes payable

  (520)  (3,386)

Net deferred tax asset

  325   6,386 

Interest expense payable

  33   19 

Other liabilities

  24,798   (12,233)

Net Cash Provided by Operating Activities

  96,240   64,661 

Investing Activities:

        

Net (disbursements) repayments of loans

  (181,894)  73,026 

Proceeds from life insurance policies

  -   1,273 

Purchases of debt securities available for sale

  (1,612,633)  (732,690)

Proceeds from sale of equity securities

  -   1,797 

Proceeds from sale/maturity/calls of debt securities available for sale

  807,064   502,928 

Proceeds from maturity/calls of debt securities held to maturity

  156,993   184,525 

Purchases of premises and equipment

  (1,682)  (2,495)

Proceeds from sale of foreclosed assets

  -   307 

Net Cash (Used in) Provided by Investing Activities

  (832,152)  28,671 

Financing Activities:

        

Net change in deposits

  726,569   (70,216)

Net change in short-term borrowings

  77,045   (5,601)

Exercise of stock options

  2,838   11,177 

Retirement of common stock

  (11,734)  (488)

Common stock dividends paid

  (33,263)  (32,849)

Net Cash Provided by (Used in) Financing Activities

  761,455   (97,977)

Net Change In Cash and Due from Banks

  25,543   (4,645)

Cash and Due from Banks at Beginning of Period

  373,421   420,284 

Cash and Due from Banks at End of Period

 $398,964  $415,639 
         

Supplemental Cash Flow Disclosures:

        

Supplemental disclosure of non cash activities:

        

Right-of-use assets acquired in exchange for operating lease liabilities

 $6,457  $23,587 

Amount recognized upon initial adoption of ASU 2016-02 included above

  -   15,325 

Securities purchases pending settlement

  -   20,114 

Supplemental disclosure of cash flow activities:

        

Cash paid for amounts included in operating lease liabilities

  4,905   5,123 

Interest paid for the period

  1,310   1,417 

Income tax payments for the period

  18,708   16,021 

 

See accompanying notes to unaudited consolidated financial statements.

 

-8-

 

NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS

 

 

Note 1: Basis of Presentation

 

The accompanying unaudited consolidated financial statements have been prepared in accordance with generally accepted accounting principles in the United States of America for interim financial information and pursuant to the rules and regulations of the Securities and Exchange Commission and follow general practices within the banking industry. The results of operations reflect interim adjustments, all of which are of a normal recurring nature and which, in the opinion of Management, are necessary for a fair presentation of the results for the interim periods presented. The interim results for the three and nine months ended September 30, 2020 are not necessarily indicative of the results expected for the full year. These unaudited consolidated financial statements should be read in conjunction with the audited consolidated financial statements and accompanying notes as well as other information included in the Company's Annual Report on Form 10-K for the year ended December 31, 2019.

 

 

Note 2: Accounting Policies

 

The most significant accounting policies followed by the Company are presented in Note 1 to the audited consolidated financial statements included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2019. These policies, along with the disclosures presented in the other financial statement notes and in this discussion, provide information on how significant assets and liabilities are valued in the financial statements and how those values are determined. Based on the valuation techniques used and the sensitivity of financial statement amounts to the methods, assumptions, and estimates underlying those amounts, it is reasonably possible conditions could change materially affecting results of operations and financial conditions.

 

Application of these principles requires the Company to make certain estimates, assumptions, and judgments that affect the amounts reported in the financial statements and accompanying notes. These estimates, assumptions, and judgments are based on information available as of the date of the financial statements; accordingly, as this information changes, the financial statements could reflect different estimates, assumptions, and judgments. Certain accounting policies inherently have a greater reliance on the use of estimates, assumptions and judgments and as such have a greater possibility of producing results that could be materially different than originally reported. Estimates, assumptions and judgments are necessary when assets and liabilities are required to be recorded at fair value, when a decline in the value of an asset not carried on the financial statements at fair value warrants a writedown or valuation reserve to be established, or when an asset or liability needs to be recorded contingent upon a future event. Carrying assets and liabilities at fair value inherently results in more financial statement volatility. The fair values and the information used to record valuation adjustments for certain assets and liabilities are based either on quoted market prices or are provided by other third-party sources, when available.

 

Certain amounts in prior periods have been reclassified to conform to the current presentation.

 

Recently Adopted Accounting Standards

 

In the nine months ended September 30, 2020, the Company adopted the following new accounting guidance:

 

FASB ASU 2016-13, Financial Instruments – Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments, was issued on June 16, 2016. The ASU significantly changed estimates for credit losses related to financial assets measured at amortized cost and certain other contracts. For estimating credit losses, the FASB replaced the incurred loss model with the current expected credit loss (CECL) model, which accelerated recognition of credit losses. Additionally, credit losses relating to debt securities available-for-sale are recorded through an allowance for credit losses under the new standard. The Company is also required to provide additional disclosures related to the financial assets within the scope of the new standard.

 

The Company adopted the ASU provisions on a modified retrospective basis on January 1, 2020. Management evaluated available data, defined portfolio segments of loans with similar attributes, and selected loss estimate models for each identified loan portfolio segment. Management measured historical loss rates for each portfolio segment. Management also segmented debt securities held to maturity, selected methods to estimate losses for each segment, and measured a loss estimate. Agency mortgage-backed securities were assigned no credit loss allowance due to the perceived backing of government sponsored entities. Municipal securities were evaluated for risk of default based on credit rating and remaining term to maturity using Moody’s risk of default factors; Moody’s loss upon default factors were applied to the assumed defaulted principal amounts to estimate the amount for credit loss allowance. The adjustment to the allowance for credit losses was recorded through an offsetting after-tax adjustment to shareholders’ equity. The implementing entry increased allowance for credit losses by $2,017 thousand, reduced allowance for credit losses for unfunded credit commitments by $2,107 thousand and increased retained earnings by $52 thousand.

 

- 9-

 

The following table summarizes the impact of adoption of ASU 2016-13.

 

  

January 1, 2020

 
  

Balance,

  

Impact of

  

As reported

 
  

prior to adoption

  

adoption of

  

under

 
  

of ASU 2016-13

  

ASU 2016-13

  

ASU 2016-13

 
  

(In thousands)

 

Assets:

            

Allowance for credit losses on loans:

            

Commercial

 $4,959  $3,385  $8,344 

Commercial real estate

  4,064   618   4,682 

Construction

  109   (31)  78 

Residential real estate

  206   (132)  74 

Consumer and other installment loans

  6,445   1,878   8,323 

Unallocated

  3,701   (3,701)  - 

Allowance for credit losses on loans:

 $19,484  $2,017  $21,501 
             

Allowance for credit losses on debt securities held to maturity

  -   16   16 
             

Liabilities

            

Allowance for credit losses for unfunded commitments

  2,160   (2,107)  53 

 

Debt Securities. Debt securities consist of the U.S. Treasury, securities of government sponsored entities, states, counties, municipalities, corporations, agency and non-agency mortgage-backed securities, and collateralized loan obligations. Securities transactions are recorded on a trade date basis. The Company classifies its debt securities in one of three categories: trading, available for sale or held to maturity. Trading securities are bought and held principally for the purpose of selling them in the near term. Trading securities are recorded at fair value with unrealized gains and losses included in net income. Held to maturity debt securities are those securities which the Company has the ability and intent to hold until maturity. Held to maturity debt securities are recorded at cost, adjusted for the amortization of premiums or accretion of discounts. Securities not included in trading or held to maturity are classified as available for sale debt securities. Available for sale debt securities are recorded at fair value. Unrealized gains and losses, net of the related tax effect, on available for sale debt securities are included in accumulated other comprehensive income. Accrued interest is recorded within other assets and reversed against interest income if it is not received.

 

The Company utilizes third-party sources to value its investment securities; securities individually valued using quoted prices in active markets are classified as Level 1 assets in the fair value hierarchy, and securities valued using quoted prices in active markets for similar securities (commonly referred to as “matrix” pricing) are classified as Level 2 assets in the fair value hierarchy. The Company validates the reliability of third-party provided values by comparing individual security pricing for securities between more than one third-party source. When third-party information is not available, valuation adjustments are estimated in good faith by Management and classified as Level 3 in the fair value hierarchy.

 

The Company follows the guidance issued by the Board of Governors of the Federal Reserve System, “Investing in Securities without Reliance on Nationally Recognized Statistical Rating Agencies” (SR 12-15) and other regulatory guidance when performing investment security pre-purchase analysis or evaluating investment securities for credit loss. Credit ratings issued by recognized rating agencies are considered in the Company’s analysis only as a guide to the historical default rate associated with similarly-rated bonds.

 

To the extent that debt securities in the held-to-maturity portfolio share common risk characteristics, estimated expected credit losses are calculated in a manner like that used for loans held for investment. That is, for pools of such securities with common risk characteristics, the historical lifetime probability of default and severity of loss in the event of default is derived or obtained from external sources and adjusted for the expected effects of reasonable and supportable forecasts over the expected lives of the securities on those historical credit losses. Expected credit loss on each security in the held-to-maturity portfolio that do not share common risk characteristics with any of the pools of debt securities is individually evaluated and a reserve for credit losses is established at the difference between the discounted value of the expected future cash flows, based on the original effective interest rate, and the recorded amortized cost basis of the security. For certain classes of debt securities, the bank considers the history of credit losses, current conditions and reasonable and supportable forecasts, which may indicate that the expectation that nonpayment of the amortized cost basis is or continues to be zero. Therefore, for those securities, the bank does not record expected credit losses.

 

- 10-

 

AFS debt securities in unrealized loss positions are evaluated for credit related loss at least quarterly. For AFS debt securities, a decline in fair value due to credit loss results in recording an allowance for credit losses to the extent the fair value is less than the amortized cost basis. Declines in fair value that have not been recorded through an allowance for credit losses, such as declines due to changes in market interest rates, are recorded through other comprehensive income, net of applicable taxes. Although these evaluations involve significant judgment, an unrealized loss in the fair value of a debt security is generally considered to not be related to credit when the fair value of the security is below the carrying value primarily due to changes in risk-free interest rates, there has not been significant deterioration in the financial condition of the issuer, and the Company does not intend to sell nor does it believe it will be required to sell the security before the recovery of its cost basis.

 

If the Company intends to sell a debt security or more likely than not will be required to sell the security before recovery of its amortized cost basis, the debt security is written down to its fair value and the write down is charged against the allowance for credit losses with any incremental loss reported in earnings.

 

Purchase premiums are amortized to the earliest call date and purchase discounts are amortized to maturity as an adjustment to yield using the effective interest method. Unamortized premiums, unaccreted discounts, and early payment premiums are recognized as a component of gain or loss on sale upon disposition of the related security. Interest and dividend income are recognized when earned. Realized gains and losses from the sale of available for sale securities are included in earnings using the specific identification method.

 

Nonmarketable Equity Securities. Nonmarketable equity securities include securities that are not publicly traded, such as Visa Class B common stock, and securities acquired to meet regulatory requirements, such as Federal Reserve Bank stock, which are restricted. These restricted securities are accounted for under the cost method and are included in other assets. The Company reviews those assets accounted for under the cost method at least quarterly. The Company’s review typically includes an analysis of the facts and circumstances of each investment, the expectations for the investment’s cash flows and capital needs, the viability of its business model and any exit strategy. When the review indicates that impairment exists the asset value is reduced to fair value. The Company recognizes the estimated loss in noninterest income.

 

Loans. Loans are stated at the principal amount outstanding, net of unearned discount and unamortized deferred fees and costs. Interest is accrued daily on the outstanding principal balances and included in other assets. Loans which are more than 90 days delinquent with respect to interest or principal, unless they are well secured and in the process of collection, and other loans on which full recovery of principal or interest is in doubt, are placed on nonaccrual status. Interest previously accrued on loans placed on nonaccrual status is charged against interest income. In addition, some loans secured by real estate and commercial loans to borrowers experiencing financial difficulties are placed on nonaccrual status even though the borrowers continue to repay the loans as scheduled. When the ability to fully collect nonaccrual loan principal is in doubt, payments received are applied against the principal balance of the loans on a cost-recovery method until such time as full collection of the remaining recorded balance is expected. Any additional interest payments received after that time are recorded as interest income on a cash basis. Nonaccrual loans are reinstated to accrual status when none of the loan’s principal and interest is past due and improvements in credit quality eliminate doubt as to the full collectability of both principal and interest, or the loan otherwise becomes well secured and in the process of collection. Certain consumer loans or auto receivables are charged off against the allowance for credit losses when they become 120 days past due.

 

A troubled debt restructuring (“TDR”) occurs when the Company, for reasons related to a borrower’s financial difficulties, grants a concession to the borrower it would not otherwise consider. The Company follows its general nonaccrual policy for TDRs. Performing TDRs are reinstated to accrual status when improvements in credit quality eliminate the doubt as to full collectability of both principal and interest. Under the Coronavirus Aid, Relief, and Economic Security Act (the “CARES Act”), banks may elect to deem that loan modifications do not result in TDRs if they are (1) related to the novel coronavirus disease; (2) executed on a loan that was not more than 30 days past due as of December 31, 2019; and (3) executed between March 1, 2020, and the earlier of (A) 60 days after the date of termination of the National Emergency or (B) December 31, 2020.

 

Allowance for Credit Losses. The Company extends loans to commercial and consumer customers primarily in Northern and Central California. These lending activities expose the Company to the risk borrowers will default, causing loan losses. The Company’s lending activities are exposed to various qualitative risks. All loan segments are exposed to risks inherent in the economy and market conditions. Significant risk characteristics related to the commercial loan segment include the borrowers’ business performance and financial condition, and the value of collateral for secured loans. Significant risk characteristics related to the commercial real estate segment include the borrowers’ business performance and the value of properties collateralizing the loans. Significant risk characteristics related to the construction loan segment include the borrowers’ performance in successfully developing the real estate into the intended purpose and the value of the property collateralizing the loans. Significant risk characteristics related to the residential real estate segment include the borrowers’ financial wherewithal to service the mortgages and the value of the property collateralizing the loans. Significant risk characteristics related to the consumer loan segment include the financial condition of the borrowers and the value of collateral securing the loans.

 

- 11-

 

The preparation of these financial statements requires Management to estimate the amount of expected losses over the expected contractual life of our existing loan portfolio and establish an allowance for credit losses. Loan agreements generally include a maturity date, and the Company considers the contractual life of a loan agreement to extend from the date of origination to the contractual maturity date. In estimating credit losses, Management must exercise significant judgment in evaluating information deemed relevant. The amount of ultimate losses on the loan portfolio can vary from the estimated amounts. Management follows a systematic methodology to estimate loss potential in an effort to reduce the differences between estimated and actual losses.

 

The allowance for credit losses is established through provisions for credit losses charged to income. Losses on loans are charged to the allowance for credit losses when all or a portion of the recorded amount of a loan is deemed to be uncollectible. Recoveries of loans previously charged off are credited to the allowance when realized. The Company’s allowance for credit losses is maintained at a level considered adequate to provide for expected losses based on historical loss rates adjusted for current and expected conditions over a forecast period. These include conditions unique to individual borrowers, as well as overall credit loss experience, the amount of past due, nonperforming and classified loans, recommendations of regulatory authorities, prevailing economic conditions, or credit protection agreements and other factors.

 

Loans that share common risk characteristics are segregated into pools based on common characteristics, which is primarily determined by loan, borrower, or collateral type. Historical loss rates are determined for each pool. For consumer installment loans, primarily secured by automobiles, historical loss rates are determined using a vintage methodology, which tracks losses based on period of origination. For commercial, construction, and commercial real estate, historical loss rates are determined using an open pool methodology where losses are tracked over time for all loans included in the pool at the historical measurement date. Historical loss rates are adjusted for factors that are not reflected in the historical loss rates that are attributable to national or local economic or industry trends which have occurred but have not yet been recognized in past loan charge-off history, estimated losses based on management’s reasonable and supportable expectation of economic trends over a forecast horizon of up to two years, and other factors that impact credit loss expectations that are not reflected in the historical loss rates. Other factors include, but are not limited to, the effectiveness of the Company’s loan review system, adequacy of lending Management and staff, loan policies and procedures, problem loan trends, and concentrations of credit. At the end of the two-year forecast period loss rates revert immediately to the historical loss rates. The results of this analysis are applied to the amortized cost of the loans included within each pool.

 

Loans that do not share risk characteristics with other loans in the pools are evaluated individually. A loan is considered ‘collateral-dependent’ when the borrower is experiencing financial difficulty and repayment is expected to be provided substantially through the operation or sale of the collateral. A credit loss reserve for collateral-dependent loans is established at the difference between the amortized cost basis in the loan and the fair value of the underlying collateral adjusted for costs to sell. For other individually evaluated loans that are not collateral dependent, a credit loss reserve is established at the difference between the amortized cost basis in the loan and the present value of expected future cash flows discounted at the loan’s effective interest rate. The impact of an expected TDR modification is included in the allowance for credit losses when management determines a TDR modification is likely.

 

Accrued interest is recorded in other assets and is excluded from the estimation of expected credit loss. Accrued interest is reversed through interest income when amounts are determined to be uncollectible, which generally occurs when the underlying receivable is placed on nonaccrual status or charged off.

 

Liability for Off-Balance Sheet Credit Exposures. Off-balance sheet credit exposures relate to letters of credit and unfunded loan commitments for commercial, construction and consumer loans. The Company maintains a separate allowance for credit losses from off-balance-sheet credit exposures, which is included within other liabilities on the consolidated statements of financial condition. Increases or reductions to the Company’s allowance for credit losses from off-balance sheet credit exposures are recorded in other expenses. Management estimates the amount of expected losses by estimating expected usage exposures that are not unconditionally cancellable by the Company and applying the loss factors used in the allowance for credit loss methodology to estimate the liability for credit losses related to unfunded commitments. No credit loss estimate is reported for off-balance-sheet credit exposures that are unconditionally cancellable by the Company or for undrawn amounts under such arrangements that may be drawn prior to the cancellation of the arrangement.

 

- 12-

 

FASB ASU 2018-13, Fair Value Measurements (Topic 820): Disclosure Framework - Changes to the Disclosure Requirements for Fair Value Measurement, was issued August 2018. The ASU is part of the disclosure framework project, where the primary focus is to improve the effectiveness of disclosures in the financial statements. The ASU removes, modifies and adds disclosure requirements related to Fair Value Measurements.

 

The provisions of the ASU were effective January 1, 2020 with the option to early adopt any removed or modified disclosures upon issuance of the ASU. The Company early adopted the provisions to remove and/or modify relevant disclosures in the “Fair Value Measurements” note to the unaudited consolidated financial statements. The requirement to include additional disclosures was adopted by the Company January 1, 2020. The additional disclosures did not affect the financial results upon adoption.

 

Recently Issued Accounting Standards

 

FASB ASU 2019-12, Income Taxes (Topic 740): Simplifying the Accounting for Income Taxes, was issued December 2019. The ASU is intended to simplify various aspects related to accounting for income taxes, eliminates certain exceptions to the general principles in ASC Topic 740 related to intra-period tax allocation, simplifies when companies recognize deferred taxes in an interim period, and clarifies certain aspects of the current guidance to promote consistent application. This guidance effective for public entities for fiscal years beginning after December 15, 2020, and for interim period within those fiscal years, with early adoption permitted. This guidance is applicable to the Company’s fiscal year beginning January 1, 2021. The Company is currently evaluating the potential effects of this guidance on its consolidated financial statements.

 

FASB ASU 2020-04, Reference Rate Reform (Topic 848): Simplifying the Accounting for Income Taxes, was issued March 2020. The ASU provides optional expedients and exceptions for applying GAAP to loan and lease agreements, derivative contracts, and other transactions affected by the anticipated transition away from LIBOR toward new interest rate benchmarks. For transactions that are modified because of reference rate reform and that meet certain scope guidance (i) modifications of loan agreements should be accounted for by prospectively adjusting the effective interest rate and the modification will be considered "minor" so that any existing unamortized origination fees/costs would carry forward and continue to be amortized and (ii) modifications of lease agreements should be accounted for as a continuation of the existing agreement with no reassessments of the lease classification and the discount rate or remeasurements of lease payments that otherwise would be required for modifications not accounted for as separate contracts. ASU 2020-04 also provides numerous optional expedients for derivative accounting. ASU 2020-04 is effective March 12, 2020 through December 31, 2022. An entity may elect to apply ASU 2020-04 for contract modifications as of January 1, 2020, or prospectively from a date within an interim period that includes or is subsequent to March 12, 2020, up to the date that the financial statements are available to be issued. Once elected for a Topic or an Industry Subtopic within the Codification, the amendments in this ASU must be applied prospectively for all eligible contract modifications for that Topic or Industry Subtopic. The Company is currently evaluating the impacts of this ASU and has not yet determined whether LIBOR transition and this ASU will have material effects on our business operations and consolidated financial statements.

 

 

 

 

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- 13-


 
 

Note 3: Investment Securities

 

The Company’s marketable equity securities were sold in the third quarter 2019. During the nine months ended September 30, 2019, the Company recognized gross unrealized holding gains of $50 thousand in earnings. The Company had no marketable equity securities at September 30, 2020 and December 31, 2019.

 

During the quarter and nine months ended September 30, 2020, the Company provided no provision for credit loss on debt securities held to maturity. An analysis of the amortized cost and fair value by major categories of debt securities available for sale, which are carried at fair value with net unrealized gains (losses) reported on an after-tax basis as a component of cumulative other comprehensive income, and debt securities held to maturity, which are carried at amortized cost, before allowance for credit losses of $16 thousand, follows:

 

  

At September 30, 2020

 
      

Gross

  

Gross

     
  

Amortized

  

Unrealized

  

Unrealized

  

Fair

 
  

Cost

  

Gains

  

Losses

  

Value

 
  

(In thousands)

 

Debt securities available for sale

                

Agency residential mortgage-backed securities ("MBS")

 $720,123  $25,174  $-  $745,297 

Agency commercial MBS

  3,601   -   (16)  3,585 

Securities of U.S. Government entities

  163   -   -   163 

Obligations of states and political subdivisions

  121,951   5,223   (2)  127,172 

Corporate securities

  2,098,444   114,582   (199)  2,212,827 

Commercial paper

  224,862   29   (75)  224,816 

Collateralized loan obligations

  667,735   3,053   (654)  670,134 

Total debt securities available for sale

  3,836,879   148,061   (946)  3,983,994 

Debt securities held to maturity

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