SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
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|For the transition period from||to|
|Commission file number:|
(Exact name of registrant as specified in its charter)
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(Address of principal executive offices) (Zip code)
(Registrant’s telephone number, including area code)
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Securities registered pursuant to Section 12(b) of the Act:
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|Large accelerated filer o||Accelerated filer o|
Emerging growth company
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As of March 17, 2021, the registrant’s no par value Common Stock totaledshares outstanding.
DOCUMENTS INCORPORATED BY REFERENCE
The following documents are incorporated by reference into this Form 10-K: Part III, Items 10 through 14 from Registrant’s definitive proxy statement for the 2021 annual meeting of shareholders.
AMERICAN RIVER BANKSHARES
ANNUAL REPORT ON FORM 10-K
FOR YEAR ENDED DECEMBER 31, 2020
|Item 1A.||Risk Factors||21|
|Item 1B.||Unresolved Staff Comments||33|
|Item 3.||Legal Proceedings||34|
|Item 4.||Mine Safety Disclosures||34|
|Item 5.||Market For Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities||34|
|Item 6.||Selected Financial Data||36|
|Item 7.||Management’s Discussion and Analysis of Financial Condition and Results of Operations||37|
|Item 7A.||Quantitative and Qualitative Disclosures About Market Risk||61|
|Item 8.||Financial Statements and Supplementary Data||62|
|Item 9.||Changes in and Disagreements with Accountants on Accounting and Financial Disclosure||117|
|Item 9A.||Controls and Procedures||117|
|Item 9B.||Other Information||118|
|Item 10.||Directors, Executive Officers and Corporate Governance||118|
|Item 11.||Executive Compensation||118|
|Item 12.||Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters||118|
|Item 13.||Certain Relationships and Related Transactions, and Director Independence||118|
|Item 14.||Principal Accounting Fees and Services||118|
|Item 15.||Exhibits and Financial Statement Schedules||119|
|Item 16.||Form 10-K Summary||122|
|23.1||Consent of Independent Registered Public Accounting Firm||124|
|31.1||Certifications of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002||125|
|31.2||Certifications of the Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002||126|
|32.1||Certifications of Chief Executive Officer and Chief Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002||127|
Cautionary Statements Regarding Forward-Looking Statements
Certain matters discussed or incorporated by reference in this Annual Report on Form 10-K including, but not limited to, matters described in “Item 7 - Management’s Discussion and Analysis of Financial Condition and Results of Operations,” are “forward-looking statements” within the meaning of Section 21E of the Securities Exchange Act of 1934, as amended, Section 27A of the Securities Act of 1933, as amended, and subject to the safe-harbor provisions of the Private Securities Litigation Reform Act of 1995. Such forward-looking statements may contain words related to future projections including, but not limited to, words such as “believe,” “expect,” “anticipate,” “intend,” “may,” “will,” “should,” “could,” “would,” and variations of those words and similar words that are subject to risks, uncertainties and other factors that could cause actual results to differ significantly from those projected. Factors that could cause or contribute to such differences include, but are not limited to, the following:
|·||The adverse effects of the COVID-19 pandemic on the economy, our business, borrowers, customers and employees and the impact of local, state and federal governments in response to the pandemic, including various government stimulus packages;|
|·||current and future legislation and regulation promulgated by the United States Congress and actions taken by governmental agencies that may impact the U.S. financial system;|
|·||the risks presented by economic volatility and recession, which could adversely affect credit quality, collateral values, including real estate collateral, investment values, liquidity and loan originations and loan portfolio delinquency rates;|
|·||variances in the actual versus projected growth in assets and return on assets;|
|·||potential loan losses;|
|·||potential expenses associated with resolving nonperforming assets;|
|·||changes in the interest rate environment including interest rates charged on loans, earned on securities investments and paid on deposits and other borrowed funds;|
|·||the effects of strategic transactions we are a party to;|
|·||inadequate internal controls over financial reporting or disclosure controls and procedures;|
|·||changes in accounting policies and practices and the effects of adopting ASU No. 2016-13, Measurement of Credit Losses on Financial Instruments (“CECL”);|
|·||potential declines in fee and other noninterest income earned associated with economic factors;|
|·||general economic conditions nationally, regionally, and within our operating markets could be less favorable than expected or could have a more direct and pronounced effect on us than expected and adversely affect our ability to continue internal growth at historical rates and maintain the quality of our earning assets;|
|·||changes in the regulatory environment including increased capital and regulatory compliance requirements and government intervention in the U.S. financial system;|
|·||changes in business conditions and inflation;|
|·||changes in securities markets, public debt markets, and other capital markets;|
|·||potential data processing, cybersecurity and other operational systems failures, breach or fraud;|
|·||potential decline in real estate values in our operating markets;|
|·||the effects of uncontrollable events such as terrorism, the threat of terrorism or the impact of military conflicts in connection with the conduct of the war on terrorism by the United States and its allies, natural disasters (including earthquakes and wildfires), pandemic disease and viruses, and disruption of power supplies and communications;|
|·||changes in accounting standards, tax laws or regulations and interpretations of such standards, laws or regulations;|
|·||projected business increases following any future strategic expansion could be lower than expected;|
|·||the goodwill we have recorded in connection with acquisitions could become impaired, which may have an adverse impact on our earnings;|
|·||our ability to comply with any regulatory orders or requirements we may become subject to;|
|·||the effects and costs of litigation, regulatory, and other legal developments;|
|·||the reputation of the financial services industry could experience deterioration, which could adversely affect our ability to access markets for funding and to acquire and retain customers; and|
|·||the efficiencies we may expect to receive from any investments in personnel and infrastructure may not be realized.|
The factors set forth under “Item 1A-Risk Factors” in this report and other cautionary statements and information set forth in this report should be carefully considered and understood as being applicable to all related forward-looking statements contained in this report, when evaluating the business prospects of the Company and its subsidiaries.
Forward-looking statements are not guarantees of performance. By their nature, they involve risks, uncertainties and assumptions. The future results and shareholder values may differ significantly from those expressed in these forward-looking statements. You are cautioned not to put undue reliance on any forward-looking statement. Any such statement speaks only as of the date of this report, and in the case of any documents that may be incorporated by reference, as of the date of those documents. We do not undertake any obligation to update or release any revisions to any forward-looking statements, to report any new information, future event or other circumstances after the date of this report or to reflect the occurrence of unanticipated events, except as required by law. However, your attention is directed to any further disclosures made on related subjects in our subsequent reports filed with the Securities and Exchange Commission (the “SEC”) on Forms 10-K, 10-Q and 8-K.
American River Bankshares (the “Company”) is a bank holding company registered under the Bank Holding Company Act of 1956, as amended. The Company was incorporated under the laws of the State of California in 1995. As a bank holding company, the Company is authorized to engage in the activities permitted under the Bank Holding Company Act of 1956, as amended, and regulations thereunder. Its principal office is located at 3100 Zinfandel Drive, Suite 450, Rancho Cordova, California 95670 and its telephone number is (916) 851-0123.
The Company owns 100% of the issued and outstanding common shares of its banking subsidiary, American River Bank, and American River Financial, a California corporation which has been inactive since its incorporation in 2003.
American River Bank was incorporated and commenced business in Fair Oaks, California, in 1983 and thereafter moved its headquarters to Sacramento, California in 1985. American River Bank operates four full service offices in Sacramento County including the main office located at 1545 River Park Drive, Suite 107, Sacramento and branch offices in Sacramento and Gold River; one full service office in Placer County, located in Roseville; two full service offices in Sonoma County in Healdsburg and Santa Rosa; and three full service offices in Amador County in Jackson, Pioneer, and Ione.
American River Bank’s deposits are insured by the Federal Deposit Insurance Corporation (“FDIC”) up to applicable legal limits.
American River Bank’s primary business is serving the commercial banking needs of small to mid-sized businesses within those counties listed above. American River Bank accepts checking and savings deposits, offers money market deposit accounts and certificates of deposit, makes secured and unsecured commercial, secured real estate, and other installment and term loans and offers other customary banking services. American River Bank also conducts lease financing for most types of business equipment, from computer software to heavy earth-moving equipment. American River Bank owns 100% of two inactive companies, ARBCO and American River Mortgage. ARBCO was formed in 1984 to conduct real estate development and has been inactive since 1995. American River Mortgage has been inactive since its formation in 1994.
During 2020, the Company conducted no significant activities other than holding the shares of its subsidiaries. However, it is authorized, with the prior approval of the Board of Governors of the Federal Reserve System (the “Board of Governors”), the Company’s principal regulator, to engage in a variety of activities which are deemed closely related to the business of banking.
The common stock of the Company is registered under the Securities Exchange Act of 1934, as amended, and is listed and traded on the Nasdaq Global Select Market under the symbol “AMRB.”
At December 31, 2020, the Company had consolidated assets of $869 million, net loans of $472 million, deposits of $744 million and shareholders’ equity of $93 million.
Impact of COVID-19
2020 began with optimism based off the progress made in 2019, but that was stalled when the novel coronavirus pandemic (“COVID-19”) arrived and created a global health crisis that has set off an economic crisis causing significant disruption in the local, national and global economies and financial markets. Continuation and further spread of COVID-19 could cause additional quarantines, shutdowns, reduction in business activity and financial transactions, labor shortages, supply chain interruptions and overall economic and financial market instability. The disruptions in the economy has impaired and may continue to impair the ability of some of our borrowers to make their loan payments, which could result in significant increases in delinquencies, defaults, foreclosures, declining collateral values, and credit losses on our loans. Similarly, because of changing economic and market conditions, we may be required to recognize credit losses on the investment securities we hold as well. COVID-19 may also continue to materially disrupt banking and other financial activity generally and may result in a decline in demand for our products and services, including loans and deposits which could negatively impact our liquidity position and our growth strategy. Any one or more of these developments could have a material adverse effect on our business, operations, consolidated financial condition, and consolidated results of operations.
In response to the anticipated economic effects of COVID-19, the Board of Governors of the Federal Reserve System (the “FRB”) has taken a number of actions that have significantly affected the financial markets in the United States, including actions intended to result in substantial decreases in market interest rates, including reducing the target federal funds range by 150 basis points during the first quarter of 2020 to 0% and announcing further quantitative easing in response to the expected economic downturn caused by COVID-19. We expect that these reductions in interest rates, among other actions of the FRB and the Federal government generally, especially if prolonged, will adversely affect our net interest income, margins and profitability.
In addition to preparing the Company to handle the impact of the economic crisis, protecting the health and wellbeing of our employees and the financial viability of our clients, is now our highest priority. The Company quickly put its pandemic plan into action to adjust to the impact of the health issues from the COVID-19 pandemic on our employees and our clients. We have been working with our clients by assisting them with loan payment deferrals and maintaining service at all of our branch locations, subject to reduced operating hours. We are encouraging the use of our digital and electronic channels and our night depositories, all the while adhering to the ever-evolving State and Federal guidelines. We have been participating in the Small Business Administration’s (“SBA’s”) Paycheck Protection Program (“PPP”) under the Coronavirus Aid, Relief and Economic Security (“CARES”) Act to help provide loans to our business clients to provide them with additional working capital to enable them to retain their employees.
We believe the COVID-19 pandemic has already impacted our local economy when Federal, State and local shelter-in-place recommendations were enacted in our markets in March 2020 causing many businesses to close and workers to be furloughed or become unemployed. Essential purpose entities such as medical professionals, food and agricultural businesses, and transportation and logistical businesses were exempted from the closures; however, unemployment rates increased in our local market area. Prior to the pandemic unemployment rates were at all-time lows. At the end of February 2020, the unemployment rate in Sacramento County was 3.7%, in Sonoma County it was 2.8%, and in Amador County it was 4.4%. By the end of May 2020, these numbers increased to 14.1% in Sacramento County, 12.7%, in Sonoma County, and 15.1% in Amador County. With some businesses allowed to reopen these rates have decreased to 8.5% in Sacramento County, 6.5%, in Sonoma County, and 8.4% in Amador County as of December 31, 2020. While shelter-in-place restrictions were eased in our markets during the second quarter of 2020, and just as many businesses were opening, new restrictions were put in place, essentially eliminating the progress that had been made until later in the third quarter when selected areas had the restrictions eased again. New restrictions went in place throughout the State later in 2020, which were then eased in January 2021.
The Company has taken measures to protect the health and safety of its employees by implementing remote work arrangements to the full extent possible, and by adjusting banking offices hours and operational measures to promote social distancing. The Company will continue to analyze economic conditions in our geographic markets and perform stress testing of our investment and loan portfolios. The Company does not currently have a stock repurchase program in place. Our Board of Directors will evaluate whether or not to implement a program following such time that the economic impact of the COVID-19 has been assessed and minimized. On January 21, 2021, the Company announced a $0.07 per share cash dividend payable on February 17, 2021 to shareholders of record on February 3, 2021. Future cash dividend decisions will consider, among other business considerations, the impact of COVID-19 on the Company’s capital and liquidity levels. Based on the Company’s current capital levels, historical conservative underwriting policies, low loan-to-deposit ratio, concentration and geographical diversification of the loan portfolio, the Company currently expects to be able to manage the economic risks and uncertainties associated with the COVID-19 pandemic with sufficient liquidity and capital levels.
While the Company is not exposed to large oil and gas, airline, or the entertainment industries we have been evaluating the exposure to potentially increased loan losses related to the COVID-19 pandemic and have identified the following industry segments most impacted by the pandemic as of December 31, 2020:
non PPP loans
|(1)||The PPP loans are 100% guaranteed by the SBA. By removing them from the total loans outstanding in this calculation, we believe the table represents a more reflective picture of the risk in the loan portfolio. The percentage of loans outstanding is, therefore, calculated excluding the PPP loans from the total loans.|
|(2)||Of this total, $1,903,000 is to three gas stations with convenience stores; $3,296,000 is to a gas station, convenience store and car wash; $642,000 is to an auto restoration company; $1,484,000 is to a gas station, $965,000 is to a car wash, and $314,000 is to a drive though oil change and car wash facility.|
The Company is closely monitoring the effects of the pandemic on our loan and deposit clients. We are focusing on assessing the risks in our loan portfolio and working with our borrowers to minimize potential loan losses. We have implemented loan programs to allow borrowers to defer loan principal and interest payments. See “Working with Borrowers” for more information on loan deferrals. During 2020, the Company funded 477 PPP loans totaling $80,154,000, of which 352 PPP loans totaling $55,546,000 remained at December 31, 2020.
The Company is a regional bank holding company headquartered in Sacramento County, California. The principal communities served are located in Sacramento, Placer, Yolo, El Dorado, Sonoma, and Amador counties. The Company generates most of its revenue by providing a wide range of products and services to small and middle-market businesses and individuals. The Company’s principal source of revenue comes from interest income. Interest income is derived from interest and fees on loans, interest on investments (principally government securities), and Federal funds sold (funds loaned on a short-term basis to other banks). For the year ended December 31, 2020, these sources comprised 76.2%, 23.8%, and 0.0%, respectively, of the Company’s interest income.
American River Bank’s deposits are not received from a single depositor or group of affiliated depositors, the loss of any one of which would have a materially adverse effect on the business of the Company. A material portion of American River Bank’s deposits are not concentrated within a single industry or group of related industries.
As of December 31, 2020 and December 31, 2019, American River Bank held $29,000,000 in certificates of deposit for the State of California. In connection with these deposits, American River Bank is generally required to pledge securities to secure such deposits, except for the first $250,000 insured by the FDIC.
Based on the most recent information made available by the FDIC through June 30, 2020, American River Bank competes with approximately 30 other banking or savings institutions in Sacramento County, 24 in Placer County, 19 in Sonoma County and 6 in Amador County, in which American River Bank’s market share of FDIC insured deposits was approximately 1.02% in the service areas of Sacramento County, 0.50% in Placer County, 0.62% in Sonoma County, and 15.98% in Amador County.
At American River Bank we strive to maintain a high-performing team and value our employees by encouraging a healthy work-life balance and investing in competitive compensation and benefits. We believe our relationship with our employees is good and that we have created a work environment that attracts and retains outstanding engaged employees by encouraging a collaborative environment centered on professional service and open communication.
Demographics: As of December 31, 2020 we employed 100 full- and part-time employees across our four county footprint in Amador, Placer, Sacramento, and Sonoma Counties. Our employees are not represented by a collective bargaining agreement. During fiscal year 2020 we hired 16 employees. Our voluntary turnover rate in 2020 was 14.6% and has declined for three consecutive years.
We strive toward having a powerful, diverse and inclusive team of employees, knowing that we are better together with our combined insight and experience.
As of December 31, 2020:
|·||81% of our workforce was female and 67% of company employees in management roles were female. Our average tenure is 9 years.|
|·||The population of our workforce was as follows:|
|ETHNICITY||% OF TOTAL|
|American Indian or Alaska Native||1||%|
|Black or African American||3||%|
|Hispanic or Latino||5||%|
|·||Headcount by Generation:|
|HEADCOUNT BY GENERATION||# of Employees|
|Baby Boomers (1946-1964)||32|
|Generation X (1965-1980)||33|
|Generation Z (1995-2010)||1|
Compensation & Benefits: As part of our compensation philosophy, we believe that we must offer and maintain market competitive programs for our employees in order to attract and retain talent. In addition, we offer annual incentive opportunities for all employees within our company, a 401k plan with company matching and immediate vesting as well as stock awards, healthcare benefits, health savings and flexible spending accounts, paid time off, volunteer time and an employee assistance program.
Health & Safety: The success of our business is directly connected to the well-being of our people. We offer access to a variety of benefit plans so that employees can customize their benefits to meet their needs and the needs of their families. In response to the COVID-19 pandemic we implemented significant operating environment changes that we determined were in the best interest of our employees as well as the communities in which we operate, and we believe comply with applicable government regulations. This includes having employees work from home, while implementing additional safety measures for employees continuing essential on-site work.
Talent: We use both internal and external resources to recruit skilled and talented workers and encourage employee referrals for open positions. We focus on developing talent from within while supplementing the team with external hires. We intend this approach to create loyalty and commitment within our employees which in turns grows our business; while adding new employees brings new ideas and supports a continuous improvement mindset.
We recognize the social and environmental responsibility that arises from the impact of our activities in the communities we serve. We strive to carry out our banking activities in a responsible manner, placing the financial needs of our clients and economic health of our communities at the core of our focus. Each employee at American River Bank is eligible for 40 hours per year of paid volunteer time. In 2004, our employees were responsible for creating the American River Bank Foundation. The American River Bank Foundation is committed to supporting nonprofit organizations that provide food, shelter and safety for the most vulnerable women and children in the communities we serve. Our employees give their time, treasure, and talent to ensure the continued success of the Foundation. Since its inception, the Foundation has donated over $1.5 million to these worthy nonprofit organizations.
The Company maintains a website where certain information about the Company is posted. Through the website, its Annual Report on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K, and amendments thereto, as well as Section 16 Reports and amendments thereto, are available as soon as reasonably practicable after such material is electronically filed with or furnished to the SEC. These reports are free of charge and can be accessed through the address www.americanriverbank.com by accessing the Investor Relations link, then the Company News link, then the SEC Filings link located at that address. Once you have selected the SEC Filings link you will have the option to access the Section 16 Reports or the reports filed on Forms 10-K, 10-Q and 8-K by the Company by selecting the appropriate link.
General Competitive Factors
In order to compete with the major financial institutions in its primary service areas, American River Bank uses to the fullest extent possible the flexibility which is accorded by their community bank status. This includes an emphasis on specialized services, local promotional activity, and personal contacts by their respective officers, directors and employees. American River Bank also seeks to provide special services and programs for individuals in their primary service area who are employed in the agricultural, professional and business fields, such as loans for equipment, furniture, tools of the trade or expansion of practices or businesses. In the event there are customers whose loan demands exceed their respective lending limits, they seek to arrange for such loans on a participation basis with other financial institutions. Furthermore, American River Bank also assists those customers requiring services not offered by either bank to obtain such services from correspondent banks.
Commercial banks compete with savings and loan associations, credit unions, other financial institutions and other entities for funds. For instance, yields on corporate and government debt securities and other commercial paper affect the ability of commercial banks to attract and hold deposits. Commercial banks also compete for loans with savings and loan associations, credit unions, consumer finance companies, mortgage companies and other lending institutions.
Banking is a business that depends on interest rate differentials. In general, the difference between the interest rate paid by a bank to obtain their deposits and other borrowings and the interest rate received by a bank on loans extended to customers and on securities held in a bank’s portfolio comprise the major portion of a bank’s revenues.
The interest rate differentials of a bank, and therefore their revenues, are affected not only by general economic conditions, both domestic and foreign, but also by the monetary and fiscal policies of the United States as set by statutes and as implemented by federal agencies, particularly the Federal Reserve Board. The Federal Reserve Board can and does implement national monetary policy, such as seeking to curb inflation and combat recession, by its open market operations in United States government securities, adjustments in the amount of interest free reserves that banks and other financial institutions are required to maintain, and adjustments to the discount rates applicable to borrowing by banks from the Federal Reserve Board. These activities influence the growth of bank loans, investments and deposits and also affect interest rates charged on loans and paid on deposits. The nature and timing of any future changes in monetary policies and their impact on American River Bank is not predictable.
At June 30, 2020, based on the most recent “Data Book Summary of Deposits in FDIC Insured Commercial and Savings Banks” report at that date, the competing commercial and savings banks had 164 offices in the cities of Rancho Cordova, Roseville and Sacramento, California, where American River Bank has its five Sacramento area offices, 57 offices in the cities of Healdsburg and Santa Rosa, California, where American River Bank has its two Sonoma County offices, and three offices in the cities of Jackson, Pioneer and Ione, California, where American River Bank has its three Amador County offices. Additionally, American River Bank competes with thrifts and, to a lesser extent, credit unions, finance companies and other financial service providers for deposit and loan customers.
Larger banks may have a competitive advantage because of higher lending limits and major advertising and marketing campaigns. They also perform services, such as trust services, international banking, discount brokerage and insurance services, which American River Bank is neither authorized nor prepared to offer currently. American River Bank has made arrangements with its correspondent banks and with others to provide some of these services for its customers. For borrowers requiring loans in excess of American River Bank’s legal lending limits, American River Bank has offered, and intends to offer in the future, such loans on a participating basis with its correspondent banks and with other community banks, retaining the portion of such loans which is within its lending limits. As of December 31, 2020, American River Bank’s aggregate legal lending limits to a single borrower and such borrower’s related parties were $15,072,000 on an unsecured basis and $25,119,000 on a fully secured basis based on capital and allowable reserves of $100,477,000.
American River Bank’s business is concentrated in its service area, which primarily encompasses Sacramento County, South Western Placer County, Sonoma County, and Amador County. The economy of American River Bank’s service area is dependent upon government, manufacturing, tourism, retail sales, agriculture, population growth and smaller service oriented businesses.
Based upon the most recent “Data Book Summary of Deposits in FDIC Insured Commercial and Savings Banks” report dated June 30, 2020, there were 204 operating commercial and savings bank offices in Sacramento County with total deposits of $42,882,517,000. This was an increase of $5,570,050,000 compared to the June 30, 2019 balances. American River Bank held a total of $437,322,000 in deposits, representing approximately 1.02% of total commercial and savings banks deposits in Sacramento County as of June 30, 2020.
Based upon the most recent “Data Book Summary of Deposits in FDIC Insured Commercial and Savings Banks” report dated June 30, 2020, there were 87 operating commercial and savings bank offices in Placer County with total deposits of $13,420,096,000. This was an increase of $2,463,569,000 compared to the June 30, 2019 balances. American River Bank held a total of $67,225,000 in deposits, representing approximately 0.50% of total commercial and savings banks deposits in Placer County as of June 30, 2020.
Based upon the most recent “Data Book Summary of Deposits in FDIC Insured Commercial and Savings Banks” report dated June 30, 2020, there were 115 operating commercial and savings bank offices in Sonoma County with total deposits of $16,725,684,000. This was an increase of $2,162,927,000 compared to the June 30, 2019 balances. American River Bank held a total of $103,499,000 in deposits, representing approximately 0.62% of total commercial and savings banks deposits in Sonoma County as of June 30, 2020.
Based upon the most recent “Data Book Summary of Deposits in FDIC Insured Commercial and Savings Banks” report dated June 30, 2020, there were 13 operating commercial and savings bank offices in Amador County with total deposits of $836,216,000. This was an increase of $82,581,000 compared to the June 30, 2019 balances. American River Bank held a total of $133,667,000 in deposits, representing approximately 15.98% of total commercial and savings bank deposits in Amador County as of June 30, 2020.
Supervision and Regulation
American River Bankshares is a bank holding company within the meaning of the Bank Holding Company Act of 1956, as amended (the “Bank Holding Company Act”), and is subject to the supervision of, the Board of Governors of the Federal Reserve System. The Company is required to obtain the approval of the Board of Governors before it may acquire all or substantially all of the assets of any bank, or ownership or control of the voting shares of any bank if, after giving effect to such acquisition of shares, the Company would own or control more than 5% of the voting shares of such bank. Any acquisition is also subject to applicable California and other provisions of federal law.
The common stock of the Company is subject to the registration requirements of the Securities Act of 1933, as amended, and the qualification requirements of the California Corporate Securities Law of 1968, as amended. The Company is also subject to the periodic reporting requirements of Section 13 of the Securities Exchange Act of 1934, as amended, which include, but are not limited to, filing annual, quarterly and other current reports with the SEC.
The Company and any of its subsidiaries are deemed to be “affiliates” within the meaning of that term as defined in the Federal Reserve Act. This means, for example, that there are limitations (a) on loans by American River Bank to affiliates, (b) on investments by American River Bank in affiliates’ stock as collateral for loans to any borrower, and (c) other transactions between any bank subsidiary and the Company. The Company and its subsidiaries are also subject to certain restrictions with respect to engaging in the underwriting, public sale and distribution of securities.
American River Bank is licensed by the California Commissioner (the “Commissioner”) of the Department of Financial Protection and Innovation (the “DFPI”), and its deposits are insured by the FDIC up to the applicable legal limits. American River Bankshares and American River Bank are required to file reports with the Board of Governors, the Commissioner, and the FDIC and provide any additional information that the Board of Governors, the Commissioner, and the FDIC may require.
Federal regulations require FDIC insured depository institutions, including state-chartered banks, to meet several minimum capital standards: a common equity Tier 1 capital to risk-based assets ratio, a Tier 1 capital to risk-based assets ratio, a total capital to risk-based assets and a Tier 1 capital to total assets leverage ratio. The existing capital requirements were effective January 1, 2015 and are the result of a final rule implementing regulatory amendments based on recommendations of the Basel Committee on Banking Supervision and certain requirements of the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010 (the “Dodd-Frank Act”). In September 2019, the FDIC finalized a rule that introduces an optional simplified measure of capital adequacy for qualifying community banking organizations (i.e., the community bank leverage ratio (“CBLR”) framework), as required by the Economic Growth, Regulatory Relief and Consumer Protection Act. See “Prompt Corrective Regulatory Action” below for a further discussion on the CBLR.
The capital standards require the maintenance of common equity Tier 1 capital, Tier 1 capital and total capital to risk-weighted assets of at least 4.5%, 6% and 8%, respectively, and a leverage ratio of at least 4% Tier 1 capital. Common equity Tier 1 capital is generally defined as common stockholders’ equity and retained earnings. Tier 1 capital is generally defined as common equity Tier 1 and Additional Tier 1 capital. Additional Tier 1 capital generally includes certain noncumulative perpetual preferred stock and related surplus and minority interests in equity accounts of consolidated subsidiaries. Total capital includes Tier 1 capital (common equity Tier 1 capital plus Additional Tier 1 capital) and Tier 2 capital. Tier 2 capital is comprised of capital instruments and related surplus meeting specified requirements, and may include cumulative preferred stock and long-term perpetual preferred stock, mandatory convertible securities, intermediate preferred stock and subordinated debt. Also included in Tier 2 capital is the allowance for loan losses limited to a maximum of 1.25% of risk-weighted assets and, for institutions that have exercised an opt-out election regarding the treatment of Accumulated Other Comprehensive Income (“AOCI”), up to 45% of net unrealized gains on available-for-sale equity securities with readily determinable fair market values. Institutions that have not exercised the AOCI opt-out have AOCI incorporated into common equity Tier 1 capital (including unrealized gains and losses on available-for-sale-securities). We exercised the opt-out election regarding the treatment of AOCI. Calculation of all types of regulatory capital is subject to deductions and adjustments specified in the regulations.
In determining the amount of risk-weighted assets for purposes of calculating risk-based capital ratios, a bank’s assets, including certain off-balance sheet assets (e.g., recourse obligations, direct credit substitutes, residual interests), are multiplied by a risk weight factor assigned by the regulations based on perceived risks inherent in the type of asset. Higher levels of capital are required for asset categories believed to present greater risk. For example, a risk weight of 0% is assigned to cash and U.S. government securities, a risk weight of 50% is generally assigned to prudently underwritten first lien 1 – 4 family residential mortgages, a risk weight of 100% is assigned to commercial and consumer loans, a risk weight of 150% is assigned to certain past due loans and a risk weight of between 0% to 600% is assigned to permissible equity interests, depending on certain specified factors.
In addition to establishing the minimum regulatory capital requirements, the regulations limit capital distributions and certain discretionary bonus payments to management if the institution does not hold a “capital conservation buffer” consisting of 2.5% of common equity Tier 1 capital to risk-weighted assets above the amount necessary to meet its minimum risk-based capital requirements. While the new capital rules set higher regulatory capital standards, bank regulators may also continue their past policies of expecting banks to maintain additional capital beyond the minimum requirements. The implementation of the capital rules or more stringent requirements to maintain higher levels of capital or to maintain higher levels of liquid assets could adversely impact the Company’s net income and return on equity, restrict the ability to pay dividends or executive bonuses and require the raising of additional capital.
Management believes that American River Bank is in compliance with the minimum capital requirements, including the capital conservation buffer requirement, based upon its capital position at December 31, 2020.
In accordance with the Dodd-Frank Act and long-standing Federal Reserve policy, the Company must act as a source of financial and managerial strength to American River Bank. Under this policy, the Company must commit resources to support the Bank, including at times when the Company may not be in a financial position to provide it. The Company could be required to guarantee the capital plan of American River Bank if it becomes undercapitalized for purposes of banking regulations, as described below. Any capital loans by a bank holding company to its subsidiary bank are subordinate in right of payment to deposits and to certain other indebtedness of such subsidiary bank. The Bank Holding Company Act provides that, in the event of a bank holding company’s bankruptcy, any commitment by the bank holding company to a federal bank regulatory agency to maintain the capital of a bank subsidiary will be assumed by the bankruptcy trustee and entitled to priority of payment.
In December 2017, the Basel Committee published standards that it described as the finalization of the Basel III post-crisis regulatory reforms (the standards are commonly referred to as “Basel IV”). Among other things, these standards revise the Basel Committee’s standardized approach for credit risk (including by recalibrating risk weights and introducing new capital requirements for certain “unconditionally cancellable commitments,” such as unused credit card lines of credit) and provides a new standardized approach for operational risk capital. Under the Basel framework, these standards will generally be effective on January 1, 2023, with an aggregate output floor phasing in through January 1, 2028. Under the current U.S. capital rules, operational risk capital requirements and a capital floor apply only to advanced approaches institutions, and not to the Company and the Bank. The impact of Basel IV on us will depend on the manner in which it is implemented by the federal bank regulators.
Safety and Soundness Standards
Each federal banking agency, including the FDIC, has adopted guidelines establishing general standards relating to internal controls, information and internal audit systems, loan documentation, credit underwriting, interest rate exposure, asset growth, asset quality, earnings, compensation, fees and benefits and information security standards. In general, the guidelines require appropriate systems and practices to identify and manage the risks and exposures specified in the guidelines. The guidelines prohibit excessive compensation as an unsafe and unsound practice and describe compensation as excessive when the amounts paid are unreasonable or disproportionate to the services performed by an executive officer, employee, director, or principal stockholder. The FDIC also has issued guidance on risks banks may face from third party relationships (e.g. relationships under which the third party provides services to the bank). The guidance generally requires the bank to perform adequate due diligence on the third party, appropriately document the relationship, and perform adequate oversight and auditing, in order to the limit the risks to the bank.
Prompt Corrective Regulatory Action
Federal law requires that federal bank regulatory authorities take “prompt corrective action” with respect to institutions that do not meet minimum capital requirements. For these purposes, the statute establishes five capital tiers: well capitalized, adequately capitalized, undercapitalized, significantly undercapitalized and critically undercapitalized.
State banks that have insufficient capital are subject to certain mandatory and discretionary supervisory measures. For example, a bank that is “undercapitalized” (i.e. fails to comply with any regulatory capital requirement) is subject to growth limitations and is required to submit a capital restoration plan; a holding company that controls such a bank is required to guarantee that the bank complies with the restoration plan. A “significantly undercapitalized” bank is subject to additional restrictions. State banks deemed by the FDIC to be “critically undercapitalized” are subject to the appointment of a receiver or conservator.
The final rule that increased regulatory capital standards also adjusted the prompt corrective action tiers as of January 1, 2015 to conform to the new capital standards. The various categories incorporate the common equity Tier 1 capital requirement, an increase in the Tier 1 to risk-based assets requirement and other changes. Under the revised prompt corrective action requirements, insured depository institutions are required to meet the following in order to qualify as “well capitalized:” (1) a common equity Tier 1 risk-based capital ratio of 6.5% (new standard); (2) a Tier 1 risk-based capital ratio of 8% (increased from 6%); (3) a total risk-based capital ratio of 10% (unchanged) and (4) a Tier 1 leverage ratio of 5% (unchanged). The federal banking agencies also may require banks and bank holding companies subject to enforcement actions to maintain capital ratios in excess of the minimum ratios otherwise required to be deemed well-capitalized, in which case institutions may no longer be deemed to be well-capitalized and may therefore be subject to certain restrictions such as taking brokered deposits or limitations on growth.
In September 2019, the FDIC finalized a rule that introduces an optional simplified measure of capital adequacy for qualifying community banking organizations (i.e., the community bank leverage ratio (“CBLR”) framework), as required by the Economic Growth, Regulatory Relief and Consumer Protection Act. The CBLR framework is designed to reduce burden by removing the 15 requirements for calculating and reporting risk-based capital ratios for qualifying community banking organizations that opt into the framework. In order to qualify for the CBLR framework, a community banking organization must have a tier 1 leverage ratio of greater than 9 percent, less than $10 billion in total consolidated assets, and limited amounts of off-balance-sheet exposures and trading assets and liabilities. A qualifying community banking organization that opts into the CBLR framework and meets all requirements under the framework will be considered to have met the well-capitalized ratio requirements under the Prompt Corrective Action regulations and will not be required to report or calculate risk-based capital. The CBLR framework was first available for banks to use in their March 31, 2020 Call Report. We adopted the CBLR framework on April 30, 2020. While the Company has elected to adopt the CBLR framework in which it is no longer required to report the risk-based capital ratios, we believe reporting them to our shareholders allows them to compare the ratios of companies of similar size and, therefore, are presented in “Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations Table 11: Capital Ratios.”
The FDIC also finalized a rule that permits non-advanced approaches banking organizations to use the simpler regulatory capital requirements for mortgage-servicing assets, certain deferred tax assets arising from temporary differences, investments in the capital of unconsolidated financial institutions, and minority interest when measuring their tier 1 capital as of January 1, 2020. Banking organizations may use this new measure of tier 1 capital under the CBLR framework. We have determined not to adopt this rule.
Under the Federal Deposit Insurance Corporation Improvement Act of 1991 (“FDICIA”), the federal financial institution agencies have adopted regulations which require institutions to establish and maintain comprehensive written real estate policies which address certain lending considerations, including loan-to-value limits, loan administrative policies, portfolio diversification standards, and documentation, approval and reporting requirements. The FDICIA further generally prohibits an insured state bank from engaging as a principal in any activity that is impermissible for a national bank, absent FDIC determination that the activity would not pose a significant risk to the Bank Insurance Fund, and that the bank is, and will continue to be, within applicable capital standards.
The federal financial institution agencies have established bases for analysis and standards for assessing a financial institution’s capital adequacy in conjunction with the risk-based and Basel III capital guidelines including analysis of interest rate risk, concentrations of credit risk, risk posed by non-traditional activities, and factors affecting overall safety and soundness. The safety and soundness standards for insured financial institutions include analysis of (1) internal controls, information systems and internal audit systems; (2) loan documentation; (3) credit underwriting; (4) interest rate exposure; (5) asset growth; (6) compensation, fees and benefits; and (7) excessive compensation for executive officers, directors or principal shareholders which could lead to material financial loss. If an agency determines that an institution fails to meet any standard, the agency may require the financial institution to submit to the agency an acceptable plan to achieve compliance with the standard. If the agency requires submission of a compliance plan and the institution fails to timely submit an acceptable plan or to implement an accepted plan, the agency must require the institution to correct the deficiency. The agencies may elect to initiate enforcement action in certain cases rather than rely on an existing plan particularly where failure to meet one or more of the standards could threaten the safe and sound operation of the institution.
Community Reinvestment Act (“CRA”) regulations evaluate banks’ lending to low and moderate income individuals and businesses across a four-point scale from “outstanding” to “substantial noncompliance,” and are a factor in regulatory review of applications to merge, establish new branches or form bank holding companies. In addition, any bank rated in “substantial noncompliance” with the CRA regulations may be subject to enforcement proceedings. In its most recent exam for CRA compliance, American River Bank received a “satisfactory” rating.
Limitations on Dividends, Repurchases and Redemptions
The Company’s ability to pay cash dividends is subject to restrictions set forth in the California General Corporation Law. Funds for payment of any cash dividends by the Company would be obtained from its investments as well as dividends and/or management fees from its subsidiaries. The payment of cash dividends and/or management fees by American River Bank is subject to restrictions set forth in the California Financial Code, as well as restrictions established by the FDIC. The Company relies on distributions from American River Bank in the form of cash dividends in order to pay cash dividends to our shareholders. See Item 5. “Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities” for more information regarding cash dividends. We cannot provide any assurance that we will be able to continue paying dividends in the future.
American River Bank is a legal entity that is separate and distinct from its holding company. The Company relies on dividends received from American River Bank for use in the operation of the Company and the ability of the Company to pay dividends to shareholders. Future cash dividends by American River Bank will also depend upon management’s assessment of future capital requirements, contractual restrictions, and other factors. Capital rules may restrict dividends by American River Bank if the additional capital conservation buffer is not achieved.
The ability of American River Bank to declare a cash dividend to the Company is subject to California law, which restricts the amount available for cash dividends to the lesser of a bank’s retained earnings or net income for its last three fiscal years (less any distributions to shareholders made during such period). Where the above test is not met, cash dividends may still be paid, with the prior approval of the Commissioner, in an amount not exceeding the greatest of (1) retained earnings of the bank; (2) the net income of the bank for its last fiscal year; or (3) the net income of the bank for its current fiscal year.
It is an essential principle of safety and soundness that a banking organization’s redemption and repurchases of regulatory capital instruments, including common stock, from investors be consistent with the organization’s current and prospective capital needs. Consultation with the Federal Reserve before redeeming any equity or other capital instrument included in Tier 1 or Tier 2 capital is generally advisable in all circumstances and is required if such redemption could have a material effect on the level or composition of the organization’s capital base. Bank holding companies that are experiencing financial weaknesses, or that are at significant risk of developing financial weaknesses, must consult with the appropriate Federal Reserve supervisory staff before redeeming or repurchasing common stock or other regulatory capital instruments for cash or other valuable consideration. Similarly, any bank holding company considering expansion, whether through acquisitions or through organic growth and new activities, generally also must consult with the appropriate Federal Reserve supervisory staff before redeeming or repurchasing common stock or other regulatory capital instruments for cash or other valuable consideration. In evaluating the appropriateness of a bank holding company’s proposed redemption or repurchase of capital instruments, the Federal Reserve will consider the potential losses that the holding company may suffer from the prospective need to increase reserves and write down assets from continued asset deterioration and the holding company’s ability to raise additional common stock and other Tier 1 capital to replace capital instruments that are redeemed or repurchased. A bank holding company must inform the Federal Reserve of a redemption or repurchase of common stock or perpetual preferred stock for cash or other value resulting in a net reduction of the bank holding company’s outstanding amount of common stock or perpetual preferred stock below the amount of such capital instrument outstanding at the beginning of the quarter in which the redemption or repurchase occurs. In addition, a bank holding company must advise the Federal Reserve sufficiently in advance of such redemptions and repurchases to provide reasonable opportunity for supervisory review and possible objection should the Federal Reserve determine a transaction raises safety and soundness concerns.
Bank holding company that are not well capitalized or well managed, or that are subject to any unresolved supervisory issues, must provide prior notice to the Federal Reserve for any repurchase or redemption of its equity securities for cash or other value that would reduce by 10% or more the holding company’s consolidated net worth aggregated over the preceding 12-month period.
The FDIC is an independent federal agency that insures deposits, up to prescribed statutory limits, of federally insured banks and savings institutions and safeguards the safety and soundness of the banking and savings industries. The FDIC insures our customer deposits through the Deposit Insurance Fund (“DIF”) up to prescribed limits for each depositor. The Dodd-Frank Act revised the FDIC’s DIF management authority by setting requirements for the Designated Reserve Ratio (the DIF balance divided by estimated insured deposits) and redefining the assessment base, which is used to calculate banks’ quarterly assessments. The amount of FDIC assessments paid by each DIF member institution is based on its asset size and relative risk of default as measured by regulatory capital ratios and other supervisory factors. The FDIC may terminate a depository institution’s deposit insurance upon a finding that the institution’s financial condition is unsafe or unsound or that the institution has engaged in unsafe or unsound practices that pose a risk to the DIF or that may prejudice the interest of the bank’s depositors. The termination of deposit insurance for a bank would also result in the revocation of the bank’s charter by the DFPI.
We are generally unable to control the amount of premiums that we are required to pay for FDIC insurance, which can be affected by the cost of bank failures to the FDIC among other factors. The FDIC is an independent federal agency that insures deposits through the DIF up to prescribed statutory limits of federally insured banks and savings institutions and safeguards the safety and soundness of the banking and savings industries. The Dodd-Frank Act revised the FDIC’s DIF management authority by setting requirements for the Designated Reserve Ratio (the “DRR”, calculated as the DIF balance divided by estimated insured deposits) and redefining the assessment base which is used to calculate banks’ quarterly assessments. The amount of FDIC assessments paid by each DIF member institution is based on its asset size and its relative risk of default as measured by regulatory capital ratios and other supervisory factors.
On September 30, 2018, the DRR reached 1.36%. Because the reserve ratio has exceeded 1.35%, two deposit insurance assessment changes occurred under the FDIC regulations: 1) surcharges on large banks (total consolidated assets of $10 billion or more) ended; the last surcharge on large banks was collected on December 28, 2018. and 2) small banks, like American River Bank (total consolidated assets of less than $10 billion) were awarded assessment credits for the portion of their assessments that contributed to the growth in the reserve ratio from 1.15% to 1.35%, to be applied when the reserve ratio is at least 1.38%. As a result of the reserve ratio reaching 1.38%, American River Bank was awarded an assessment credit of $166,000 of which $144,000 was used in 2019 and $22,000 was used in 2020.
The FDIC will, at least semi-annually, update its income and loss projections for the Deposit Insurance Fund and, if necessary, propose rules to further increase assessment rates. Any future increases in FDIC insurance premiums may have a material and adverse effect on our earnings and could have a material adverse effect on the value of, or market for, our common stock.
Impact of Certain Legislation and Regulation
The Coronavirus Aid, Relief, and Economic Security Act. In response to the COVID-19 pandemic, the CARES Act was signed into law on March 27, 2020 to provide national emergency economic relief measures. Many of the CARES Act’s programs are dependent upon the direct involvement of U.S. financial institutions, such as the Company and the Bank, and have been implemented through rules and guidance adopted by federal departments and agencies, including the U.S. Department of Treasury, the Federal Reserve and other federal banking agencies, including those with direct supervisory jurisdiction over the Company and the Bank. Furthermore, as the on-going COVID-19 pandemic evolves, federal regulatory authorities continue to issue additional guidance with respect to the implementation, lifecycle, and eligibility requirements for the various CARES Act programs as well as industry-specific recovery procedures for COVID-19. On December 21, 2020, Congress passed a $900 billion aid package which provides additional funds for the PPP and extends the time of the PPP to March 31, 2021. This legislation also permits second PPP loans to certain entities which are subject to forgiveness subject to meeting certain required criteria. In addition, it is possible that Congress will enact supplementary COVID-19 response legislation, including amendments to the CARES Act or new bills comparable in scope to the CARES Act. The Company continues to assess the impact of the CARES Act and other statues, regulations and supervisory guidance related to the COVID-19 pandemic.
Paycheck Protection Program. The CARES Act amended the SBA’s loan program, in which the Bank participates, to create a guaranteed, unsecured loan program, the PPP, to fund operational costs of eligible businesses, organizations and self-employed persons during COVID-19. In June 2020, the Paycheck Protection Program Flexibility Act was enacted, which among other things, gave borrowers additional time and flexibility to use PPP loan proceeds. The Bank funded 477 PPP loans totaling $80,154,000 under the PPP in the year ended December 31, 2020, of which $24,608,000 had been forgiven or repaid by December 31, 2020.
Troubled Debt Restructuring and Loan Modifications for Affected Borrowers. The CARES Act permits banks to suspend requirements under GAAP for loan modifications to borrowers affected by COVID-19 that would otherwise be characterized as TDRs and suspend any determination related thereto if (i) the loan modification is made between March 1, 2020 and December 31, 2020 or 60 days after the end of the COVID-19 emergency declaration and (ii) the applicable loan was not more than 30 days past due as of December 31, 2019. In December 2020, this timeframe was extended through January 1, 2022, through the Consolidated Appropriations Act. The federal banking agencies also issued guidance to encourage banks to make loan modifications for borrowers affected by COVID-19 and to assure banks that they will not be criticized by examiners for doing so. The Company is applying this guidance to qualifying loan modifications. See Note 7 “Troubled Debt Restructurings and Loan Modifications for Affected Borrowers” to the “Notes to Consolidated Financial Statements,” which is included in Part II, Item 8 “Financial Statements and Supplementary Data” of this Annual Report on Form 10-K for further information about the COVID-19-related loan modifications completed by the Company.
Temporary Community Bank Leverage Ratio Relief. Pursuant to the CARES Act, the federal banking agencies authorities adopted an interim rule, effective until the earlier of the termination of the coronavirus emergency declaration and December 31, 2020, to (i) reduce the minimum Community Bank Leverage Ratio from 9% to 8% percent and (ii) give community banks two-quarter grace period to satisfy such ratio if such ratio falls out of compliance by no more than 1%.
Federal Reserve Programs and Other Recent Initiatives Related to COVID-19
Main Street Lending Program. The CARES Act encouraged the Federal Reserve, in coordination with the Secretary of the Treasury, to establish or implement various programs to help midsize businesses, nonprofits, and municipalities. On April 9, 2020, the Federal Reserve proposed the creation of the Main Street Lending Program (“MSLP”) to implement certain of these recommendations. On June 15, 2020, the Federal Reserve Bank of Boston opened the MSLP for lender registration. The MSLP supports lending to small and medium-sized businesses that were in sound financial condition before the onset of the COVID-19 pandemic. The MSLP operates through five facilities: the Main Street New Loan Facility, the Main Street Priority Loan Facility, the Main Street Expanded Loan Facility, the Nonprofit Organization New Loan Facility, and the Nonprofit Organization Expanded Loan Facility. The Bank has not registered to participate in the Main Street Lending Program but continues to monitor developments related thereto.
Temporary Regulatory Capital Relief related to Impact of CECL. Concurrent with enactment of the CARES Act, federal banking agencies issued an interim final rule that delays the estimated impact on regulatory capital resulting from the adoption of CECL. The interim final rule provides banking organizations that implement CECL before the end of 2020 the option to delay for two years the estimated impact of CECL on regulatory capital relative to regulatory capital determined under the prior incurred loss methodology, followed by a three-year transition period to phase out the aggregate amount of capital benefit provided during the initial two-year delay. The federal banking agencies have since issued a final rule that makes certain technical changes to the interim final rule. The changes in the final rule apply only to those banking organizations that elect the CECL transition relief provided under the rule. The Bank has not yet adopted CECL but continues to monitor developments related thereto.
Gramm-Leach-Bliley Act. In 1999, the Gramm-Leach-Bliley Act (the “GLB Act”) was signed into law. The GLB Act eliminated most of the remaining depression-era “firewalls” between banks, securities firms and insurance companies which were established by The Banking Act of 1933, also known as the Glass-Steagall Act (“Glass-Steagall”). Glass-Steagall sought to insulate banks as depository institutions from the perceived risks of securities dealing and underwriting, and related activities. The GLB Act permitted bank holding companies that could qualify as “financial holding companies” to acquire securities firms or create them as subsidiaries, and securities firms could acquire banks or start banking activities through a financial holding company. Prior to the GLB Act, banks were also (with minor exceptions) prohibited from engaging in insurance activities or affiliating with insurers. The GLB Act removed these restrictions and substantially eliminated the prohibitions under the Bank Holding Company Act on affiliations between banks and insurance companies. Consequently, the common ownership of banks, securities firms and insurance firms was possible, in addition to the conduct of commercial banking, merchant banking, investment management, securities underwriting and insurance within a single financial institution using a “financial holding company” structure authorized by the GLB Act.
A bank holding company could qualify as a financial holding company if (i) its banking subsidiaries are “well capitalized” and “well managed” and (ii) it files with the Board of Governors a certification to such effect and a declaration that it elects to become a financial holding company. The Bank Holding Company Act was amended to permit financial holding companies to engage in activities, and acquire companies engaged in activities, that are financial in nature or incidental to such financial activities. Financial holding companies were also permitted to engage in activities that were complementary to financial activities if the Board of Governors determined that the activity did not pose a substantial risk to the safety or soundness of depository institutions or the financial system in general.
These standards expanded upon the list of activities “closely related to banking” which have defined the permissible activities of bank holding companies under the Bank Holding Company Act. Neither the Company nor American River Bank has determined whether or when to seek to acquire and exercise powers or activities under the GLB Act.
Brokered Deposits. The FDIC limits the ability to accept brokered deposits to those insured depository institutions that are well capitalized. Institutions that are less than well capitalized cannot accept, renew or roll over any brokered deposit unless they have applied for and been granted a waiver by the FDIC. The FDIC has defined the “national rate” for all interest-bearing deposits held by less-than-well-capitalized institutions as “a simple average of rates paid by all insured depository institutions and branches for which data are available” and has stated that its presumption is that this national rate is the prevailing rate in any market. As such, institutions that are less than well capitalized that are permitted to accept, renew or rollover brokered deposits via FDIC waiver generally may not pay an interest rate in excess of the national rate plus 75 basis points on such brokered deposits. As of December 31, 2020, the Bank did not have any brokered deposits.
The FDIC has previously published industry guidance in the form of Frequently Asked Questions with respect to the categorization of deposit liabilities as brokered deposits. The FDIC published a proposed rule to modify the “national rate” definition that would apply to insured depository institutions that are less than well-capitalized in August 2019. In addition, in December 2019 and in connection with the Regulatory Relief Act, the FDIC published proposed revisions to its regulations relating to the brokered deposits restrictions. Specifically, the FDIC proposed to (i) revise the definition of the “facilitation” prong of the “deposit broker” definition; (ii) provide that a wholly-owned operating subsidiary be eligible for the insured depository institution exception to the deposit broker definition under certain circumstances; and (iii) amend the “primary purpose” exception. On December 15, 2020, the FDIC released a final rule, effective April 1, 2021 (with full compliance by January 1, 2022), which may encourage the update of certain bank services. The changes introduced by the final rule include, among other things, (i) adding definitions of “engaged in the business of placing deposits” and “engaged in the business of facilitating the placement of deposits,” (ii) establishing certain designated business exceptions that would automatically meet the “primary purpose” exception from the deposit broker definition (Designated Business Exceptions), and (iii) formalizing an application process for the “primary purpose” exception for parties that do not qualify for the Designated Business Exceptions. The Company does not believe the final rule will have a material effect on operations.
Change in Bank Control. Federal law and regulation set forth the types of transactions that require prior notice under the Change in Bank Control Act (“CIBCA”). Pursuant to CIBCA and Regulation Y, any person (acting directly or indirectly) that seeks to acquire control of a bank or its holding company must provide prior notice to the Federal Reserve. A “person” includes an individual, bank, corporation, partnership, trust, association, joint venture, pool, syndicate, sole proprietorship, unincorporated organization, or any other form of entity. A person acquires “control” of a banking organization whenever the person acquires ownership, control, or the power to vote 25 percent or more of any class of voting securities of the institution. The applicable regulations also provide for certain other “rebuttable” presumptions of control.
In April 2020, the Federal Reserve adopted a final rule to revise its regulations related to determinations of whether a company has the ability to exercise a controlling influence over another company for purposes of the BHCA. The final rule expands and codifies the presumptions for use in such determinations. By codifying the presumptions, the final rule provides greater transparency on the types of relationships that the Federal Reserve generally views as supporting a facts-and-circumstances determination that one company controls another company. The Federal Reserve’s final rule applies to questions of control under the BHCA, but does not extend to CIBCA or applicable provisions of California law.
Patriot Act. The USA Patriot Act (the “Patriot Act”), which includes provisions pertaining to domestic security, surveillance procedures, border protection, and terrorism laws to be administered by the Secretary of the Treasury. Title III of the Patriot Act entitled, “International Money Laundering Abatement and Anti-Terrorist Financing Act of 2001” includes amendments to the Bank Secrecy Act which expand the responsibilities of financial institutions in regard to anti-money laundering activities with particular emphasis upon international money laundering and terrorism financing activities through designated correspondent and private banking accounts.
The Patriot Act contains various provisions that affect the operations of financial institutions by encouraging cooperation among financial institutions, regulatory authorities and law enforcement authorities with respect to individuals, entities and organizations engaged in, or reasonably suspected of engaging in, terrorist acts or money laundering activities. The Company and American River Bank are not currently aware of any account relationships between American River Bank and any foreign bank or other person or entity which would not be in compliance with the Patriot Act.
The effects which the Patriot Act and any amendments to the Patriot Act or additional legislation enacted by Congress may have upon financial institutions is uncertain; however, such legislation could increase compliance costs and thereby potentially may have an adverse effect upon the Company’s results of operations.
Sarbanes-Oxley Act. The Sarbanes-Oxley Act of 2002 (the “Act”) addresses to issues in corporate governance and accountability. Among other matters, key provisions of the Act and rules promulgated by the SEC pursuant to the Act include enhancement of financial disclosures and related certification requirements, rules related to audit committees, auditor independence, ethics requirements, securities trading prohibitions, securities reporting requirements, and securities listing requirements.
The Company’s securities are listed on the Nasdaq Global Select Market. Consequently, in addition to the rules promulgated by the SEC pursuant to the Act, the Company must also comply with the listing standards applicable to Nasdaq listed companies. The Nasdaq listing standards applicable to the Company include standards related to (i) director independence, (ii) executive session meetings of the board, (iii) requirements for audit, nominating and compensation committee charters, membership qualifications and procedures, (iv) shareholder approval of equity compensation arrangements, and (v) code of conduct requirements that comply with the code of ethics under the Act.
The Company has incurred and it is anticipated that it will continue to incur increased costs to comply with the Act and the rules and regulations promulgated pursuant to the Act by the SEC, Nasdaq and other regulatory agencies having jurisdiction over the Company or the issuance and listing of its securities. The Company does not currently anticipate, however, that compliance with the Act and such rules and regulations will have a material adverse effect upon its financial position or results of its operations or its cash flows.
Fair and Accurate Credit Transactions Act. Under the Fair and Accurate Credit Transactions Act financial institutions and other creditors are required to develop and implement a written identity theft prevention program. The program must include reasonable policies and procedures for detecting, preventing, and mitigating identity theft in connection with certain new and existing covered accounts. Covered accounts are defined as (i) an account primarily for personal, family, or household purposes (i.e., consumer accounts), or (ii) any other account for which there is a reasonably foreseeable risk to customers or the safety and soundness of the financial institution or creditor from identity theft. The program must be appropriate to the size and complexity of the financial institution or creditor and the nature and scope of its activities and should be designed to:
|·||identify relevant patterns, practices, and specific forms of activity that are “red flags” of possible identity theft and incorporate those red flags into the program;|
|·||detect the occurrence of red flags incorporated into the program;|
|·||respond appropriately to any red flags that are detected to prevent and mitigate identity theft; and|
|·||ensure that the program is updated periodically to reflect changes in risks to customers or to the safety and soundness of the financial institution or creditor from identity theft.|
Office of Foreign Assets Control Regulation. The United States has imposed economic sanctions that affect transactions with designated foreign countries, foreign nationals and others. These are typically known as the “OFAC” rules based on their administration by the U.S. Department of the Treasury Office of Foreign Assets Control (“OFAC”). The OFAC-administered sanctions targeting countries take many different forms. Generally, however, they contain one or more of the following elements: (i) restrictions on trade with or investment in a sanctioned country, including prohibitions against direct or indirect imports from and exports to a sanctioned country and prohibitions on “U.S. persons” engaging in financial transactions relating to making investments in, or providing investment-related advice or assistance to, a sanctioned country; and (ii) a blocking of assets in which the government or specially designated nationals of the sanctioned country have an interest, by prohibiting transfers of property subject to U.S. jurisdiction (including property in the possession or control of U.S. persons). Blocked assets (e.g., property and bank deposits) cannot be paid out, withdrawn, set off or transferred in any manner without a license from OFAC. American River Bank is responsible for, among other things, blocking accounts of, and transactions with, such targets and countries, prohibiting unlicensed trade and financial transactions with them and reporting blocked transactions after their occurrence. Failure to comply with these sanctions could have serious legal and reputational consequences.
The Dodd-Frank Act. On July 21, 2010, the Dodd-Frank Act was signed into law. The Dodd-Frank Act is intended to restructure the regulation of the financial services sector by, among other things, (i) establishing a framework to identify systemic risks in the financial system implemented by a newly created Financial Stability Oversight Council and other federal banking agencies; (ii) expanding the resolution authority of the federal banking agencies over troubled financial institutions; (iii) authorizing changes to capital and liquidity requirements; (iv) changing deposit insurance assessments; and (v) enhancing regulatory supervision to improve the safety and soundness of the financial services sector. Below is a summary of certain provisions of the Dodd-Frank Act which, directly or indirectly, may affect us.
|·||Consumer Protection. The Dodd-Frank Act created the Consumer Financial Protection Bureau (“CFPB”) within the Federal Reserve System. The CFPB is responsible for establishing and implementing rules and regulations under various federal consumer protection laws governing certain consumer products and services. The CFPB has primary enforcement authority over large financial institutions with assets of $10 Billion or more, while smaller institutions will be subject to the CFPB’s rules and regulations through the enforcement authority of the federal banking agencies. States are permitted to adopt consumer protection laws and regulations that are more stringent than those laws and regulations adopted by the CFPB and state attorneys general are permitted to enforce consumer protection laws and regulations adopted by the CFPB.|
|·||Deposit Insurance. The Dodd-Frank Act permanently increased the deposit insurance limit for insured deposits to $250,000 per depositor. Other deposit insurance changes under the Dodd-Frank Act include (i) amendment of the assessment base used to calculate an insured depository institution’s deposit insurance premiums paid to the DIF by elimination of deposits and substitution of average consolidated total assets less average tangible equity during the assessment period as the revised assessment base; (ii) increasing the minimum designated reserve ratio of the DIF from 1.15 percent to 1.35 percent of the estimated amount of total insured deposits; (iii) eliminating the requirement that the FDIC pay dividends to depository institutions when the reserve ratio exceeds certain thresholds; and (iv) repeal of the prohibition upon the payment of interest on demand deposits to be effective one year after the date of enactment of the Dodd-Frank Act. The FDIC has proposed further changes to the deposit insurance assessments applicable to small insured depository institutions with assets less than $10 Billion and additional DIF recapitalization obligations for insured depository institutions with more than $10 Billion in assets. See the discussion of these changes in “Supervision and Regulation - FDIC Insurance.”|
|·||Transactions with Affiliates. The Dodd-Frank Act enhances the requirements for certain transactions with affiliates under Section 23A and 23B of the Federal Reserve Act, including an expansion of the definition of “covered transactions” and increasing the amount of time for which collateral requirements regarding covered transactions must be maintained.|
|·||Transactions with Insiders. Insider transaction limitations are expanded through the strengthening of loan restrictions to insiders and the expansion of the types of transactions subject to the various limits, including derivative transactions, repurchase agreements, reverse repurchase agreements and securities lending or borrowing transactions. Restrictions are also placed on certain asset sales to and from an insider to an institution, including requirements that such sales be on market terms and, in certain circumstances, approved by the institution’s board of directors.|
|·||Enhanced Lending Limitations. The Dodd-Frank Act strengthens the existing limits on a depository institution’s credit exposure to include credit exposure arising from derivative transactions, repurchase agreements, and securities lending and borrowing transactions.|
|·||Debit Card Interchange Fees. The Dodd-Frank Act requires that the amount of any interchange fee charged by a debit card issuer with respect to a debit card transaction must be reasonable and proportional to the cost incurred by the issuer. The Federal Reserve Board was required to establish standards for reasonable and proportional fees which may take into account the costs of preventing fraud. The restrictions on interchange fees, however, do not apply to banks, like us, that, together with their affiliates, have assets of less than $10 Billion.|
|·||Interstate Branching. The Dodd-Frank Act authorizes national and state banks to establish branch offices in other states to the same extent as a bank chartered by that state would be permitted to branch. Previously, banks could only establish branch offices in other states if the host state expressly permitted out-of-state banks to establish branch offices in that state. Accordingly, banks may be able to enter new markets more freely.|
Compensation Practices. The Dodd-Frank Act provides that the appropriate federal banking regulators must establish standards prohibiting as an unsafe and unsound practice any compensation plan of a bank holding company or other “covered financial institution” that provides an insider or other employee with “excessive compensation” or could lead to a material financial loss to such firm. In June 2016, several federal financial agencies (including the Federal Reserve and FDIC) re-proposed restrictions on incentive-based compensation pursuant to Section 956 of the Dodd-Frank Act for financial institutions with $1 billion or more in total consolidated assets. For institutions with at least $1 billion but less than $50 billion in total consolidated assets, the proposal would impose principles-based restrictions that are broadly consistent with existing interagency guidance on incentive-based compensation. Such institutions would be prohibited from entering into incentive compensation arrangements that encourage inappropriate risks by the institution (i) by providing an executive officer, employee, director, principal shareholder or individuals who are “significant risk takers” with excessive compensation, fees or benefits, or (ii) that could lead to material financial loss to the institution. Depending upon the outcome of the rule making process, the application of this rule to us if we were to cross the $1 billion threshold could require us to revise our compensation strategy, increase our administrative costs and adversely affect our ability to recruit and retain qualified associates.
In June 2010, prior to the enactment of the Dodd-Frank Act, the federal bank regulatory agencies jointly issued the Interagency Guidance on Sound Incentive Compensation Policies (“Guidance”), which requires that financial institutions establish metrics for measuring the risk to the financial institution of such loss from incentive compensation arrangements and implement policies to prohibit inappropriate risk taking that may lead to material financial loss to the institution. Together, the Dodd-Frank Act and the Guidance may impact our compensation policies and arrangements.
Requirements under the Dodd-Frank Act are anticipated to be implemented over an extended period of time, unless the implementation is changed as the result of additional legislation promulgated by Congress or as a result of actions taken by the administration of the President. Therefore, the nature and extent of regulations that will be issued by various regulatory agencies and the impact such regulations will have on the operations of financial institutions such as ours is unclear. Such regulations resulting from the Dodd-Frank Act may impact the profitability of our business activities, require changes to certain of our business practices, impose upon us more stringent capital, liquidity and leverage ratio requirements or otherwise adversely affect our business. These changes may also require us to invest significant management attention and resources to evaluate and make necessary changes in order to comply with new statutory and regulatory requirements.
Cybersecurity and Data Privacy
Federal regulators have issued multiple statements regarding cybersecurity and that financial institutions need to design multiple layers of security controls to establish lines of defense and to ensure that their risk management processes also address the risk posed by compromised customer credentials, including security measures to reliably authenticate customers accessing internet-based services of the financial institution. In addition, a financial institution’s management is expected to maintain sufficient business continuity planning processes to ensure the rapid recovery, resumption and maintenance of the institution’s operations in the event of a cyber-attack. A financial institution is also expected to develop appropriate processes to enable recovery of data and business operations and address rebuilding network capabilities and restoring data if the institution or its critical service providers fall victim to a cyber-attack. If we fail to observe the regulatory guidance, we could be subject to various regulatory sanctions, including financial penalties.
State regulators have also been increasingly active in implementing privacy and cybersecurity standards and regulations. Recently, several states, notably including California where we conduct substantially all our banking business, have adopted laws and/or regulations requiring certain financial institutions to implement cybersecurity programs and providing detailed requirements with respect to these programs, including data encryption requirements. Many such states (including California) have also recently implemented or modified their data breach notification and data privacy requirements, including in California with the adoption of the California Consumer Privacy Act. We expect this trend of state-level activity in those areas to continue, and we continue to monitor relevant legislative and regulatory developments in California where nearly all our customers are located. Failure to comply with the applicable requirements of these laws and failure to protect our customers information could result in enforcement actions and litigation against us, any of which could have a material adverse effect on our business, financial condition or results of operations.
In the ordinary course of business, we rely on electronic communications and information systems to conduct our operations and to store sensitive data. We employ a layered, defensive approach that leverages people, processes and technology to manage and maintain cybersecurity controls. We employ a variety of preventative and detective tools to monitor, block, and provide alerts regarding suspicious activity, as well as to report on any suspected advanced persistent threats. Notwithstanding the strength of our defensive measures, the threat from cyber-attacks is severe, attacks are sophisticated and increasing in volume, and attackers respond rapidly to changes in defensive measures. While to date we have not detected a significant compromise, significant data loss or any material financial losses related to cybersecurity attacks, our systems and those of our customers and third-party service providers are under constant threat and it is possible that we could experience a significant event in the future. Risks and exposures related to cybersecurity attacks are expected to remain high for the foreseeable future due to the rapidly evolving nature and sophistication of these threats, as well as due to the expanding use of Internet banking, mobile banking and other technology-based products and services by us and our customers. See Item 1A. Risk Factors for a further discussion of risks related to cybersecurity.
Future Legislation and Regulation
In addition to legislative changes, the various federal and state financial institution regulatory agencies frequently propose rules and regulations to implement and enforce already existing legislation. It cannot be predicted whether or in what form any such rules or regulations will be enacted or the effect that such regulations may have on American River Bankshares or American River Bank. The Company anticipates that additional regulations would likely increase the Company’s expenses, which may adversely impact the Company’s results of operations, financial condition, future prospects, profitability, and stock price.
Item 1A. Risk Factors.
The Company and its subsidiary, American River Bank, conduct business in an environment that includes certain risks described below any of which could have a material adverse effect on the Company’s business, results of operations, financial condition, future prospects and stock price. You are also referred to the matters described under the heading “Cautionary Statements Regarding Forward-Looking Statements,” in Part I, Item 1 and Part II, Item 7 of this report on Form 10-K for additional information regarding factors that may affect the Company’s business.
Our risk factors can be broadly summarized by the following categories:
|·||Regulatory and Litigation Risks|
|·||Market and Industry Risks|
|·||Security Ownership Risks|
|·||The COVID-19 Pandemic.|
The COVID-19 pandemic has significantly impacted the State of California and our business. We have already experienced an adverse impact on our business as result of the pandemic. The ultimate impact of the COVID-19 pandemic on our business and financial results will depend on future developments, which are highly uncertain and cannot be predicted, including the scope and duration of the pandemic and actions taken by governmental authorities in response to the pandemic.
The COVID-19 pandemic has negatively impacted the global economy, disrupted global supply chains, lowered equity market valuations, created significant volatility and disruption in financial markets, and increased unemployment levels. We, and many of our clients, have been adversely affected by the COVID-19 pandemic. In addition, the pandemic has resulted in temporary closures of many businesses and the institution of social distancing and sheltering-in-place requirements in many states and communities. Our operations, like those of other financial institutions, are significantly influenced by economic conditions in California, including the strength of the real estate market and construction industry. As a result, the demand for our products and services has been, and may continue to be, adversely impacted.
Furthermore, the pandemic could influence the recognition of credit losses in our loan portfolios and increase our allowance for credit losses, particularly as businesses remain closed and as more customers are expected to draw on their lines of credit or seek additional loans to help finance their businesses. For year ended December 31, 2020, we added $1,520,000 to our allowance for loan losses by way of a charge to the provision for loan losses, primarily as a result of the COVID-19 pandemic. Similarly, because of changing economic and market conditions affecting issuers, we may be required to recognize other-than-temporary impairments in future periods on the securities we hold as well as reductions in other comprehensive income. Our business operations may also be disrupted if significant portions of our workforce are unable to work effectively, including because of illness, quarantines, government actions, or other restrictions in connection with the pandemic, and we have already temporarily reduced hours at our branches and staff are working remotely. In response to the pandemic, we have implemented loan programs to allow borrowers to defer loan principal and interest payments and are participating in the Paycheck Protection Program under the CARES Act to help provide loans to our business clients to provide them with additional working capital to enable them to retain their employees. The extent to which the COVID-19 pandemic continues to negatively impact our business, results of operations, and financial condition, as well as our regulatory capital and liquidity ratios, will depend on future developments, which are highly uncertain and cannot be predicted, including the scope and duration of the pandemic and actions taken by governmental authorities and other third parties in response to the pandemic.
|·||Deterioration of economic conditions could adversely affect our business.|
Our business and operations, which primarily consist of lending money to customers in the form of loans, borrowing money from customers in the form of deposits and investing in securities, are sensitive to general business and economic conditions in the United States and in Northern California, in particular. If the U.S. or California economy weakens, our growth and profitability from our lending, deposit and investment operations could be constrained or impeded. Uncertainty about the federal fiscal policymaking process, the medium and long-term fiscal outlook of the federal government, and future tax rates is always a concern for businesses, consumers and investors in the United States. In addition, economic conditions in foreign countries, including uncertainty over the stability of the euro currency, could affect the stability of global financial markets, which could hinder U.S. economic growth and affect our business and the businesses of our customers.
The Company’s operating market has begun to show demand for credit products as the continued low rate environment and expectations for economic expansion have increased refinancing as well as new loan activity. However, deterioration in economic conditions locally, regionally or nationally could result in an economic downturn in Northern California with the following consequences, any of which could adversely affect our business:
|·||loan delinquencies and defaults may increase;|
|·||problem assets and foreclosures may increase;|
|·||demand for loans and other products and services may decline;|
|·||low cost or noninterest bearing deposits may decrease;|
|·||collateral for loans may decline in value, in turn reducing clients’ borrowing power, and reducing the value of assets and collateral as sources of repayment of existing loans;|
|·||foreclosed assets may not be able to be sold;|
|·||volatile securities market conditions could adversely affect valuations of investment portfolio assets; and|
|·||reputational risk may increase due to public sentiment regarding the banking industry.|
|·||Nonperforming assets take significant time to resolve and adversely affect our results of operations and financial condition.|
At December 31, 2020, we had no nonperforming loans. At December 31, 2020, our nonperforming assets (which include foreclosed real estate and other repossessed assets) to total assets had decreased to 0.09%. While these nonperforming loans and nonperforming assets have decreased since 2008, there is no guarantee that these levels will continue into the future, which could adversely affect our results of operations, financial condition and stock price.
Nonperforming assets adversely affect our net income in various ways. We generally do not record interest income on nonperforming loans or other real estate owned, thereby adversely affecting our income and increasing our loan administration costs. When we take collateral in foreclosures and similar proceedings, we are required to mark the related asset to the then fair market value of the collateral, which may ultimately result in a loss. An increase in the level of nonperforming assets increases our risk profile and may impact the capital levels our regulators believe are appropriate in light of the ensuing risk profile, which could result in a request to reduce our level of nonperforming assets and/or raise additional capital. When we reduce problem assets through loan sales, workouts, restructurings and otherwise, decreases in the value of the underlying collateral, or in these borrowers’ performance or financial condition, whether or not due to economic and market conditions beyond our control, could adversely affect our business, results of operations and financial condition. In addition, the resolution of nonperforming assets requires significant commitments of time from management and our directors, which can be detrimental to the performance of their other responsibilities. We may experience increases in nonperforming assets and the disposition of such nonperforming assets may adversely affect our profitability.
|·||Our allowance for loan losses may not be adequate to cover actual losses.|
Like all financial institutions, the Bank maintains an allowance for loan losses to provide for loan defaults and nonperformance, but its allowance for loan losses may not be adequate to cover actual loan losses. In addition, future provisions for loan losses could materially and adversely affect the Bank’s and therefore our Company’s operating results. The adequacy of the Bank’s allowance for loan losses is based on prior experience, as well as an evaluation of the risks in the current portfolio. The amount of realizable future losses is susceptible to changes in economic, operating and other conditions, including changes in the local and general California real estate market and operating environment, as well as interest rates, employment levels and other economic factors that may be beyond our control, and these losses may exceed current estimates.
Federal regulatory agencies, as an integral part of the examination process, review the Bank’s allowance for loan losses, as well as management’s policies and procedures for determining the adequacy of the allowance for loan losses. We believe that our allowance for loan losses policies are effective and that our allowance for loan losses is adequate to cover current probable incurred losses. However, the Bank may have to further increase the allowance for loan losses as a result of the effects of deterioration of economic conditions nationally and in the operating markets in which the Bank conducts business and/or as a result of changes in regulation or accounting methodologies.
|·||Our focus on lending to small to mid-sized community-based businesses may increase our credit risk.|
As of December 31, 2020, our largest outstanding commercial business loan and largest outstanding commercial real estate loan amounted to $4.4 million and $8.0 million, respectively. At such date, our commercial real estate loans amounted to $251.3 million, or 59.2% of our total non PPP loan portfolio, and our commercial business loans amounted to $39.0 million, or 9.2% of our total non PPP loan portfolio. Commercial real estate and commercial business loans generally are considered riskier than single-family residential loans because they have larger balances to a single borrower or group of related borrowers. Commercial real estate and commercial business loans involve risks because the borrowers’ ability to repay the loans typically depends primarily on the successful operation of the businesses or the properties securing the loans. Most of the Bank’s commercial real estate and commercial business loans are made to small business or middle market customers who may have a heightened vulnerability to economic conditions. Moreover, a portion of these loans have been made by us in recent years and the borrowers may not have experienced a complete business or economic cycle. Furthermore, the deterioration of our borrowers’ businesses may hinder their ability to repay their loans with us, which could adversely affect our results of operations.
|·||Our operations are dependent upon key personnel.|
Our future prospects are and will remain highly dependent on our directors, executive officers and other key personnel. From time to time, we have experienced changes in the membership of our board of directors and changes among the personnel serving as our executive officers. Our success will, to some extent, depend on the continued service of our directors and executive officers, in addition to our ability to continue to attract and retain experienced banking professionals to serve us and the Bank as directors, executive officers and in other key positions. The unexpected loss of the services of any of these individuals could have a detrimental effect on our business and future operations.
|·||Technology implementation problems or computer system failures could adversely affect us.|
Our future growth prospects will be highly dependent on the ability of the Bank to implement changes in technology that affect the delivery of banking services such as the increased demand for computer access to bank accounts and the availability to perform banking transactions electronically. The Bank’s ability to compete will depend upon its ability to continue to adapt technology on a timely and cost-effective basis to meet such demands. In addition, our business and operations and those of the Bank could be susceptible to adverse effects from computer failures, communication and energy disruption, and activities such as fraud of unethical individuals with the technological ability to cause disruptions or failures of the Bank’s data processing system.
|·||Cybersecurity or datasecurity breaches and failures or other technological difficulties could adversely affect us.|
We cannot be certain that the continued implementation of safeguards will eliminate the risk of vulnerability to technological difficulties or failures or ensure the absence of a breach of information security, including as a result of cybersecurity breach. The FDIC cited cybersecurity as a critical challenge facing the financial services industry and stated that the frequency and sophistication of cyber-attacks are increasing. If our information security is compromised or other technology difficulties or failures occur at the Bank or with one of our vendors, information may be lost or misappropriated, services and operations may be interrupted and the Bank could be exposed to claims from its customers as a result. In addition, we could become subject to governmental enforcement actions and litigation (including private party litigation) in the event we experience a data privacy breach or we fail to comply with federal and state data privacy requirements (including the California Consumer Privacy Act) relating to information on our customers and others with whom we do business, the results of which could have a material adverse effect on our business, financial condition, reputation and results of operations.
|·||Our controls over financial reporting and related governance procedures may fail or be circumvented.|
Management regularly reviews and updates our internal control over financial reporting, disclosure controls and procedures, and corporate governance policies and procedures. We maintain controls and procedures to mitigate risks such as processing system failures or errors and customer or employee fraud, and we maintain insurance coverage for certain of these risks. Any system of controls and procedures, however well designed and operated, is based in part on certain assumptions and provides only reasonable, not absolute, certainty that the objectives of the system will be met. Events could occur which are not prevented or detected by our internal controls, are not insured against, or are in excess of our insurance limits. Any failure or circumvention of our controls and procedures, or failure to comply with regulations related to controls and procedures, could have a material adverse effect on our business.
|·||If our enterprise risk management framework is not effective at mitigating risk and loss to us, we could suffer unexpected losses and our results of operations could be materially adversely affected.|
Our enterprise risk management framework seeks to achieve an appropriate balance between risk and return, which is critical to optimizing shareholder value. We have established processes and procedures intended to identify, measure, monitor, report and analyze the types of risk to which we are subject, including credit, liquidity, operational, regulatory compliance and reputational. However, as with any risk management framework, there are inherent limitations to our risk management strategies as there may exist, or develop in the future, risks that we have not appropriately anticipated or identified. If our risk management framework proves ineffective, we could suffer unexpected losses and our business and results of operations could be materially adversely affected.
|·||Our modest size makes it more difficult for us to compete.|
Our modest size makes it more difficult to compete with other financial institutions which are generally larger and can more easily afford to invest in the marketing and technologies needed to attract and retain customers. Because our principal source of income is the net interest income we earn on our loans and investments after deducting interest paid on deposits and other sources of funds, our ability to generate the revenues needed to cover our expenses and finance such investments is limited by the size of our loan and investment portfolios. Accordingly, we are not always able to offer new products and services as quickly as our competitors. As a smaller institution, we are also disproportionately affected by the continually increasing costs of compliance with new banking and other regulations.
|·||We face risks related to our operational, technological and organizational infrastructure.|
Our ability to grow and compete is dependent on our ability to build or acquire the necessary operational and technological infrastructure and to manage the cost of that infrastructure as we expand. Similar to other corporations, operational risk can manifest itself in many ways, such as errors related to failed or inadequate processes, faulty or disabled computer systems, fraud by employees or outside persons and exposure to external events. We are dependent on our operational infrastructure to help manage these risks. In addition, we are heavily dependent on the strength and capability of our technology systems which we use both to interface with our customers and to manage our internal financial records and other systems. Our ability to develop and deliver new products that meet the needs of our existing customers and attract new ones depends on the functionality of our technology systems. Additionally, our ability to run our business in compliance with applicable laws and regulations is dependent on these infrastructures.
We monitor our operational and technological capabilities and make modifications and improvements when we believe it will be cost effective to do so. In some instances, we may build and maintain these capabilities ourselves. Specifically, we provide our own core systems processing and essential web hosting. We also outsource some of these functions to third parties. If we experience difficulties, fail to comply with banking regulations or keep up with increasingly sophisticated technologies, our operations could be interrupted. If an interruption were to continue for a significant period of time, our business, financial condition and results of operations could be adversely affected, perhaps materially. Even if we are able to replace them, it may be at a higher cost to us, which could materially adversely affect our business, financial condition and results of operations.
|·||We are dependent upon relationships with various third parties with respect to the operations of American River Bank, and our relationships with such third parties, some of which are material to us, could adversely affect our business.|
The Bank has entered into numerous arrangements with third parties with respect to the operations of its business. Upon the expiration of the then-current term, any such agreements may not be renewed by the third party or may be renewed on terms less favorable to the Bank. In some cases, such agreements may permit the third party to unilaterally prescribe certain business practices and procedures with respect to the Bank. To the extent any agreement with a service provider is terminated, we may not be able to secure alternate service providers, and, even if we do, the terms with alternate providers may not be as favorable as those currently in place. In addition, were we to lose any of our significant third-party providers, it could cause a material disruption in our ability to service our customers, which also could have an adverse material impact on us. Moreover, significant disruptions in our ability to provide services could negatively affect the perception of our business, which could result in a loss of confidence and other adverse effects on our business. In addition, if any of our counterparties is unable to or otherwise does not fulfill (or does not timely fulfill) its obligations to us for any reason (including, but not limited to, bankruptcy, computer or other technological interruptions or failures, personnel loss, negative regulatory actions, or acts of God) or engages in fraud or other misconduct during the course of such relationship, we may need to seek alternative third party service providers, or discontinue certain products or programs in their entirety. We may experience situations where we could be held directly or indirectly responsible, or were otherwise subject to liability, for the inability of our third party service providers to perform services for our customers on a timely basis or at all or for actions of third parties undertaken on behalf of the Bank or otherwise in connection with the Bank’s arrangement with such third parties. Any such responsibility or liability in the future may have a material adverse effect on our business, including the operations of the Bank and its divisions, and financial results.
|·||Adherence to our internal policies and procedures by our employees is critical to our performance and how we are perceived by our regulators.|
Our internal policies and procedures are a critical component of our corporate governance and, in some cases, compliance with applicable regulations. We adopt internal policies and procedures to guide management and employees regarding the operation and conduct of our business. Any deviation or non-adherence to these internal policies and procedures, whether intentional or unintentional, could have a material adverse effect on our management, operations or financial condition.
|·||Existing insurance policies may not adequately protect us and our subsidiaries.|
Fidelity, business interruption, cybersecurity, and property insurance policies are in place with respect to our operations. Should any event triggering such policies occur, however, it is possible that our policies would not fully reimburse us for the losses we could sustain due to deductible limits, policy limits, coverage limits, or other factors. We generally renew our insurance policies on an annual basis. If the cost of coverage becomes too high, we may need to reduce our policy limits, increase the deductibles or agree to certain exclusions from our coverage in order to reduce the premiums to an acceptable amount.
|·||We must keep pace with technological change to remain competitive and introduce new products and services.|
Financial products and services have become increasingly technologically driven. Our ability to meet the needs of our customers competitively and introduce new products in a cost-efficient manner is dependent on the ability to keep pace with technological advances, to invest in new technology as it becomes available, and to obtain and maintain related essential personnel. Many of our competitors have already implemented critical technologies and have greater resources to invest in technology than we do and may be better equipped to market new technologically driven products and services. In addition, we may not have the same ability to rapidly respond to technological innovations as our competitors do. Furthermore, the introduction of new technologies and products by financial technology companies and “fintech” platforms may adversely affect our ability to obtain new customers and successfully grow our business. The ability to keep pace with technological change is important, and the failure to do so, due to cost, proficiency or otherwise, could have a material adverse impact on our business and therefore on our financial condition and results of operations.
|·||Our reputation and financial condition may be harmed by system failures, computer viruses and other technological interruptions to our operations.|
We rely heavily upon information systems and other operating technologies to efficiently operate and manage our business, including to process transactions through the Internet. Were there to be a failure or a significant impairment in the operation of any of such systems, we may need to develop alternative processes, including to comply with customer safeguard protocols, during which time revenues and profitability may be lower, and there can be no assurance that we could develop or find such an alternative on terms acceptable to us or at all. Any such disruption in the information systems and other operating technologies utilized by the Bank including due to infiltration by hackers or other intruders, could also result in negative publicity and have a material adverse effect on our financial condition and results of operations.
|·||We may incur losses due to fraudulent and negligent acts, as well as errors, by third parties or our employees.|
We may incur losses due to fraudulent or negligent acts, misconduct or errors on the part of third parties with which we do business, our employees and individuals and entities unaffiliated with us, including unauthorized wire and automated clearinghouse transactions, the theft of customer data, customer fraud concerning the value of any relevant collateral, identity theft, the counterfeiting of cards and “skimming” (whereby a skimmer reads a debit card’s encoded mag stripe and a camera records the PIN that is entered by a customer). Additionally, our employees could hide unauthorized activities from us, engage in improper or unauthorized activities on behalf of our customers, or improperly use confidential information. There can be no assurances that the Bank’s program to monitor fraud and other activities will be able to detect all instances of such conduct or that, even if such conduct is detected, we, the Bank, our customers or the third parties with which we do business, including the ATM networks in which the Bank participates, will not be the victims of such activities. Even a single significant instance of fraud, misconduct or other error could result in reputational damage to us, which could reduce the use and acceptance of our cards and other products and services, cause retail distributors or their customers to cease doing business with us or them, or could lead to greater regulation that would increase our compliance costs. Such activities could also result in the imposition of regulatory sanctions, including significant monetary fines, and civil claims which could adversely affect our business, operating results and financial condition.
|·||Future acquisitions and expansion activities may disrupt our business and adversely affect our operating results.|
We periodically evaluate potential acquisitions and expansion opportunities. To the extent that we grow through acquisitions, we cannot ensure that we will be able to adequately or profitably manage this growth. Acquiring other banks, branches or other assets, as well as other expansion activities, involves various risks including the risks of incorrectly assessing the credit quality of acquired assets, encountering greater than expected costs of incorporating acquired banks or branches into the Bank, executing cost savings measures, and being unable to profitably deploy funds in an acquisition.
REGULATORY AND LITIGATION RISKS
|·||We may take title to real estate that exposes us to the risk of environmental liabilities.|
Our loan portfolio may include loans secured by real estate which could be subject to environmental liabilities. In the event that we foreclose upon and take title to such real estate, we may be held liable to a governmental entity or to third parties for property damage, personal injury, investigation and clean-up costs incurred by these parties in connection with environmental contamination, or we may be required to investigate or clean-up hazardous or toxic substances, or chemical releases at a property. The costs associated with investigation or remediation activities could be substantial. In addition, if we are the owner or former owner of a contaminated site, we may be subject to common law claims by third parties based on damages and costs resulting from environmental contamination emanating from the property. If we become subject to significant environmental liabilities, our business, financial condition, results of operations and cash flows could be materially adversely affected.
|·||We are subject to extensive governmental regulation, which could adversely affect our business.|
Our operations are subject to extensive regulation by federal, state and local governmental authorities and are subject to various laws and judicial and administrative decisions imposing requirements and restrictions on part or all of our operations. Because our business is highly regulated, the laws, rules and regulations applicable to us are subject to regular modification and change.
The Dodd-Frank Act, among other things, imposed new capital requirements on bank holding companies; changed the base for FDIC insurance assessments to a bank’s average consolidated total assets minus average tangible equity, rather than upon its deposit base; permanently raised the current standard deposit insurance limit to $250,000; and expanded the FDIC’s authority to raise insurance premiums. The Dodd-Frank Act also established the Consumer Financial Protection Bureau as an independent entity within the Federal Reserve Board (FRB), which has broad rulemaking, supervisory and enforcement authority over consumer financial products and services, including deposit products, residential mortgages, home-equity loans and credit cards and contains provisions on mortgage-related matters, such as steering incentives, determinations as to a borrower’s ability to repay and prepayment penalties. Although the applicability of certain elements of the Dodd-Frank Act is limited to institutions with more than $10 billion in assets, there can be no guarantee that such applicability will not be extended in the future or that regulators or other third parties will not seek to impose such requirements on institutions with less than $10 billion in assets, such as the Company. Compliance with the Dodd-Frank Act and its implementing regulations has and will continue to result in additional operating and compliance costs that could have a material adverse effect on our business, financial condition, results of operations and growth prospects. Failure to comply with the Dodd-Frank Act and any other federal, state and local governmental regulation could also result in financial penalties and regulatory enforcement actions which could limit or restrict our ability to conduct our operations, require us to raise capital, increase our compliance costs and expose us to reputational risk.
In addition, new proposals for legislation continue to be introduced in the U.S. Congress and in California that could further substantially increase regulation of the bank and non-bank financial services industries and impose restrictions on the operations and general ability of firms within the industry to conduct business consistent with historical practices. Federal regulatory agencies also frequently adopt changes to their regulations or change the manner in which existing regulations are applied. Certain aspects of current or proposed regulatory or legislative changes to laws applicable to the financial industry, if enacted or adopted, may impact the profitability of our business activities, require more oversight or change certain of our business practices, including the ability to offer products, obtain financing, attract deposits, make loans and achieve satisfactory interest spreads and could expose us to additional costs, including increased compliance costs. These changes also may require us to invest significant management attention and resources to make any necessary changes to operations to comply and could have a material adverse effect on our business, financial condition and results of operations.
|·||Governmental fiscal and monetary policies may affect our business and are beyond our control.|
The business of banking is affected significantly by the fiscal and monetary policies of the federal government and its agencies. Such policies are beyond our control. We are particularly affected by the policies established by the Federal Reserve Board in relation to the supply of money and credit in the United States. The instruments of monetary policy available to the Federal Reserve Board can be used in varying degrees and combinations to directly affect the availability of bank loans and deposits, as well as the interest rates charged on loans and paid on deposits, and this can and does have a material adverse effect on our business. Any deterioration of economic conditions could result in further intervention and legislation beyond our control. Such deterioration could also limit our access to capital or sources of liquidity in amounts and at times necessary to conduct operations in compliance with applicable regulatory requirements.
|·||The effects of legislation in response to credit conditions may adversely affect us.|
Legislation that has or may be passed at the federal level and/or by the State of California in response to conditions affecting credit markets could cause us to experience higher credit losses if such legislation reduces the amount that the Bank’s borrowers are otherwise contractually required to pay under existing loan contracts. Such legislation could also result in the imposition of limitations upon the Bank’s ability to foreclose on property or other collateral or make foreclosure less economically feasible. Such events could result in increased loan losses and require a material increase in the allowance for loan losses.
|·||The effects of changes to FDIC insurance coverage limits and assessments are uncertain and increased premiums may adversely affect us.|
FDIC insurance premium assessments are uncertain and increased premium assessments may adversely affect our earnings. The FDIC charges insured financial institutions premiums to maintain the Deposit Insurance Fund (the “DIF”). Bank failures increased significantly during the economic downturn causing the FDIC to take control of failed institutions and guarantee payment from the DIF up to the insured limit for deposits held at such failed institutions. Any deterioration of economic conditions may cause losses which require premium increases to replenish the DIF.
|·||Changes in accounting standards could materially impact our financial statements.|
From time to time, the Financial Accounting Standards Board (“FASB”) or the SEC may change the financial accounting and reporting standards that govern the preparation of our financial statements. Such changes may result in us being subject to new or changing accounting and reporting standards. In addition, the bodies that interpret the accounting standards (such as banking regulators, outside auditors or management) may change their interpretations or positions on how these standards should be applied. These changes may be beyond our control, can be hard to predict, and can materially impact how we record and report our financial condition and results of operations. In some cases, we could be required to apply a new or revised standard retrospectively, or apply an existing standard differently, also retrospectively, in each case resulting in our needing to revise or restate prior period financial statements.
|·||We face a risk of noncompliance and enforcement action with the Bank Secrecy Act and other anti-money laundering statutes and regulations.|
The Bank Secrecy Act, the Patriot Act and other laws and regulations require financial institutions, among other duties, to institute and maintain an effective anti-money laundering program and to file timely reports such as suspicious activity reports and currency transaction reports. We are required to comply with these and other anti-money laundering requirements. The federal banking agencies and Financial Crimes Enforcement Network are authorized to impose significant civil money penalties for violations of those requirements and have recently engaged in coordinated enforcement efforts against banks and other financial services providers with the U.S. Department of Justice, Drug Enforcement Administration and Internal Revenue Service. If our policies, procedures and systems are deemed deficient, we would be subject to liability, including fines and regulatory actions, which may include restrictions on our ability to pay dividends and the necessity to obtain regulatory approvals to proceed with certain aspects of our business plan.
Failure to maintain and implement adequate programs to combat money laundering and terrorist financing could also have serious reputational consequences for us. Any of these results could have a material adverse effect on our business, financial condition, results of operations and growth prospects.
|·||We are subject to the CRA and fair lending laws, and failure to comply with these laws could lead to material penalties.|
The CRA, the Equal Credit Opportunity Act, the Fair Housing Act and other fair lending laws and regulations impose nondiscriminatory lending requirements on financial institutions. The Consumer Financial Protection Bureau, the United States Department of Justice and other federal agencies are responsible for enforcing these laws and regulations. A successful challenge to an institution’s performance under the CRA or fair lending laws and regulations could result in a wide variety of sanctions, including the required payment of damages and civil money penalties, injunctive relief, imposition of restrictions on mergers and acquisitions activity and restrictions on expansion activity. Private parties may also have the ability to challenge an institution’s performance under fair lending laws in private class action litigation.
|·||Federal regulators periodically examine our business, and we may be required to remediate adverse examination findings.|
The FDIC and DFPI periodically examine our business, including our compliance with laws and regulations. If, as a result of an examination, a federal banking agency were to determine that our financial condition, capital resources, asset quality, earnings prospects, management, interest rate risk and liquidity or other aspects of any of our operations had become unsatisfactory, or that we were in violation of any law or regulation, it may take a number of different remedial actions as it deems appropriate. These actions include the power to enjoin “unsafe or unsound” practices, to require affirmative action to correct any conditions resulting from any violation or practice, to issue an administrative order that can be judicially enforced, to direct an increase in our capital, to restrict our growth, to assess civil monetary penalties against our officers or directors, to remove officers and directors and, if it is concluded that such conditions cannot be corrected or there is an imminent risk of loss to depositors, to terminate our deposit insurance and place us into receivership or conservatorship. If we become subject to any regulatory actions, including memorandums of understanding or cease and desist orders, it could have a material adverse effect on our business, results of operations, financial condition and growth prospects.
|·||As a result of the Dodd-Frank Act and recent rulemaking, we are subject to more stringent capital requirements.|
In July 2013, the U.S. federal banking authorities approved new regulatory capital rules implementing the Basel III regulatory capital reforms effecting certain changes required by the Dodd-Frank Act. The failure to meet applicable regulatory capital requirements could result in one or more of our regulators placing limitations or conditions on our activities, including our growth initiatives, or restricting the commencement of new activities, and could materially adversely affect customer and investor confidence, our costs of funds and FDIC insurance costs, our ability to pay dividends on our common stock, our ability to make acquisitions, and our business, results of operations and financial conditions, generally.
|·||The FASB has recently issued an accounting standard update that will result in a significant change in how we provide for credit losses and may have a material impact on our financial condition or results of operations.|
In June 2016, the FASB issued an accounting standard update, “Financial Instruments-Credit Losses (Topic 326), Measurement of Credit Losses on Financial Instruments,” which replaces the current “incurred loss” model for recognizing credit losses with an “expected loss” model referred to as the Current Expected Credit Loss (“CECL”) model. Under the CECL model, we will be required to present certain financial assets carried at amortized cost, such as loans held for investment and held-to-maturity debt securities, at the net amount expected to be collected. The measurement of expected credit losses is to be based on information about past events, including historical experience, current conditions, and reasonable and supportable forecasts that affect the collectability of the reported amount. This measurement will take place at the time the financial asset is first added to the balance sheet and periodically thereafter. This differs significantly from the “incurred loss” model required under GAAP, which delays recognition until it is probable a loss has been incurred. Accordingly, we expect that the adoption of the CECL model will materially affect how we determine our allowance for loan losses and could require us to significantly increase our allowance. Moreover, the CECL model may create more volatility in the level of our allowance for loan losses. If we are required to materially increase our level of allowance for loan losses for any reason, such increase could adversely affect our business, financial condition and results of operations.
The new CECL standard will become effective for us for the fiscal year beginning January 1, 2023 and for interim periods thereafter. We are currently evaluating the impact the CECL model will have on our accounting, but we expect to recognize a one-time cumulative-effect adjustment to our allowance for loan losses as of the beginning of the first reporting period in which the new standard is effective, consistent with regulatory expectations set forth in interagency guidance issued at the end of 2016. The one-time cumulative effect adjustment to allowance for loan losses will be offset by a charge to retained earnings and therefore reduce equity capital. We have not yet determined the magnitude of any such one-time cumulative adjustment or of the overall impact of the new standard on our financial condition or results of operations.
|·||Anti-takeover provisions in our articles of incorporation and bylaws and California law could make a third party acquisition of us difficult.|
Our articles of incorporation and bylaws contain provisions that could make it more difficult for a third party to acquire us (even if doing so would be beneficial to our shareholders) and for holders of our common stock to receive any related takeover premium for their common stock, including advance notice procedures for shareholder proposals and the authorization of 10,000,000 shares of blank-check preferred stock. We are also subject to certain provisions of California law and federal law that would delay, deter or prevent a change in control of the Company. These provisions could limit the price that investors might be willing to pay in the future for shares of our common stock.
MARKET AND INDUSTRY RISKS
|·||Tightening of credit markets and liquidity risk could adversely affect our business, financial condition and results of operations.|
A tightening of the credit markets or any inability to obtain adequate funds for asset growth at an acceptable cost could adversely affect our asset growth and liquidity position and, therefore, our earnings capability. In addition to core deposit growth, maturity of investment securities and loan payments, we also rely on alternative funding sources including unsecured borrowing lines with correspondent banks, secured borrowing lines with the Federal Home Loan Bank of San Francisco and the Federal Reserve Bank of San Francisco, and public time certificates of deposits. Our ability to access these sources could be impaired by deterioration in our financial condition as well as factors that are not specific to us, such as a disruption in the financial markets or negative views and expectations for the financial services industry or serious dislocation in the general credit markets. In the event such a disruption should occur, our ability to access these sources could be adversely affected, both as to price and availability, which would limit or potentially raise the cost of the funds available to us.
|·||We have a concentration risk in real estate related loans.|
At December 31, 2020, $350.8 million, or 82.6% of our total non PPP loan portfolio, consisted of real estate related loans. Of that amount, $251.3 million, or 71.6%, consisted of commercial real estate, $18.4 million, or 5.3% consisted of commercial and residential construction loans (including land acquisition and development loans) and $81.1 million, or 23.1%, consisted of residential mortgages and residential multi-family real estate. The majority of our real property collateral is located in our operating markets in Northern California. If there is a substantial decline in commercial and residential real estate values in our primary operating markets as a result of any deterioration in economic conditions or other events including natural disasters such as earthquakes, droughts, floods, fires, and similar adverse weather occurrences. Such a decline in values could have an adverse impact on us by limiting repayment of defaulted loans through sale of commercial and residential real estate collateral and by a likely increase in the number of defaulted loans to the extent that the financial condition of our borrowers is adversely affected by such a decline in values.
Our business is subject to interest rate risk, and variations in interest rates may negatively affect our financial performance.
Changes in the interest rate environment may reduce our net interest income. It is expected that we will continue to realize income from the differential or “margin” between the interest earned on loans, securities and other interest-earning assets, and interest paid on deposits, borrowings and other interest-bearing liabilities. Net interest margins are affected by the difference between the maturities and repricing characteristics of interest-earning assets and interest-bearing liabilities. In addition, loan volume and yields are affected by market interest rates on loans, and rising interest rates generally are associated with a lower volume of loan originations. We may be unable to minimize our interest rate risk. In addition, an increase in the general level of interest rates may adversely affect the ability of certain borrowers to pay the interest on and principal of their obligations. Accordingly, changes in levels of market interest rates could materially and adversely affect our net interest margin, asset quality, and loan origination volume.
The Bank faces strong competition from banks, financial service companies and other companies that offer banking services, which could adversely affect our business.
Increased competition in our market areas may result in reduced loans and deposits or the rates charged or paid on these instruments and adversely affect our net interest margin. Ultimately, we may not be able to compete successfully against current and future competitors. Many competitors offer similar banking services compared to those that are offered by the Bank. These competitors include national and super-regional banks, finance companies, investment banking and brokerage firms, credit unions, fintech companies, government-assisted farm credit programs, other community banks and technology-oriented financial institutions offering online services. In particular, the Bank’s competitors include several major financial companies whose greater resources may afford them a marketplace advantage by enabling them to maintain numerous banking locations and mount extensive promotional and advertising campaigns. Additionally, banks and other financial institutions with larger capitalization and financial intermediaries not subject to bank regulatory restrictions have larger lending limits than we do and are thereby better able to serve the credit needs of larger customers. Areas of competition include interest rates for loans and deposits, efforts to obtain loans and deposits, as well as the range and quality of products and services provided, including new technology-driven products and services. Technological innovation continues to contribute to greater competition in domestic and international financial services markets as technological advances, such as Internet-based banking services that cross traditional geographic bounds, enable more companies to provide financial services. If the Bank is unable to attract and retain banking customers, we may be unable to maintain our historical levels of loans and deposits or our net interest margin, which would have a material adverse effect on our business and financial condition.
|·||We may not be successful in raising additional capital needed in the future.|
If additional equity or debt capital is needed in the future as a result of losses, our business strategy (including any acquisitions we may make) or regulatory requirements, our efforts to raise such additional capital may be unsuccessful or common shares sold in the future may be sold at prices or on terms that are not equal to or better than the current market price. The inability to raise additional capital when needed or at prices and terms acceptable to us could adversely affect our ability to implement our business strategy or meet regulatory requirements.
|·||In the future we may be required to recognize impairment with respect to investment securities, including the FHLB stock we hold.|
Our securities portfolio currently includes securities with unrecognized losses. We may continue to observe declines in the fair market value of these securities. We evaluate the securities portfolio for any other than temporary impairment each reporting period, as required by generally accepted accounting principles, and as of December 31, 2020, we did not recognize any securities as other than temporarily impaired. Future evaluations of the securities portfolio may require us to recognize an impairment charge with respect to these and other holdings. In addition, as a condition to membership in the Federal Home Loan Bank of San Francisco (the “FHLB”), we are required to purchase and hold a certain amount of FHLB stock. Our stock purchase requirement is based, in part, upon the outstanding principal balance of advances from the FHLB. At December 31, 2020, we held stock in the FHLB totaling $4.2 million. The FHLB stock held by us is carried at cost and is subject to recoverability testing under applicable accounting standards. The FHLB currently distributes cash dividends on its shares, however, past dividend paying practices are not a guarantee of future dividends. To date, we have not recognized any impairment charges related to our FHLB stock holdings. Any future negative changes to the financial condition of the FHLB may require us to recognize an impairment charge with respect to such holdings.
|·||If the goodwill we have recorded in connection with our acquisition of Bank of Amador or any future acquisitions we could make becomes impaired, it could have an adverse impact on our earnings and capital.|
At December 31, 2020, we had approximately $16.3 million of goodwill on our balance sheet attributable to our merger with Bank of Amador in December 2004. In accordance with accounting principles generally accepted in the United States of America, our goodwill is not amortized but rather evaluated for impairment on an annual basis or more frequently if events or circumstances indicate that a potential impairment exists. Such evaluation is based on a variety of factors, including the quoted price of our common stock, market prices of the common stock of other banking organizations, common stock trading multiples, discounted cash flows, and data from comparable acquisitions. Future evaluations of goodwill may result in findings of impairment and write-downs, which could have a material adverse effect on our financial condition and results of operations.
|·||The effects of terrorism and other events beyond our control, including natural disasters and pandemic disease or viruses, may adversely affect our customers and our results of operations.|
The terrorist actions on September 11, 2001 and thereafter, as well as the military conflicts in the Middle East, have had significant adverse effects upon the United States economy. Whether terrorist activities in the future and the actions of the United States and its allies in combating terrorism on a worldwide basis will adversely impact us and the extent of such impact is uncertain. Similar events beyond our control including, but not limited to, financial and economic instability and governmental actions in response, natural disasters such as earthquakes, droughts, floods, fires, and similar adverse weather occurrences, disruption of power and energy supplies and communications equipment such as telephones, cellular phones, computers, and other forms of electronic equipment or media, and widespread, adverse public health occurrences including pandemic disease or viruses, may adversely affect our future results of operations by, among other things, disrupting the conduct of our operations and those of our customers, which could result in a reduction in the demand for loans and other products and services offered by the Bank, increase nonperforming loans and the amounts reserved for loan losses, or cause significant declines in our level of deposits.
SECURITY OWNERSHIP RISKS
|·||We may raise additional capital, which could have a dilutive effect on the existing holders of our common stock and adversely affect the market price of our common stock.|
Our articles of incorporation, as amended, provide the authority to issue without further shareholder approval, 20,000,000 shares of common stock, no par value per share, of which 5,937,529 shares were issued and outstanding at December 31, 2020. In addition, employees and directors of the Company had outstanding options to purchase 29,958 shares of common stock and 250,000 shares of common stock remained available for awards under our equity incentive plans.
We are not restricted from issuing additional shares of common stock or securities that are convertible into or exchangeable for, or that represent the right to receive, common stock. We frequently evaluate opportunities to access the capital markets taking into account our regulatory capital ratios, financial condition and other relevant considerations, and subject to market conditions, we may take further capital actions. Such actions could include, among other things, the issuance of additional shares of common stock in public or private transactions in order to further increase our capital levels above the requirements for a well-capitalized institution established by the federal bank regulatory agencies as well as other regulatory targets or in connection with any acquisitions we may make.
The issuance of any additional shares of common stock or securities convertible into or exchangeable for common stock or that represent the right to receive common stock, or the exercise of such securities including, without limitation, securities issued upon exercise of outstanding equity awards under our 2020 or 2010 Equity Incentive Plans (or any future equity incentive plans we may adopt), could be substantially dilutive to shareholders of our common stock. Holders of our shares of common stock have no preemptive rights that entitle holders to purchase their pro rata share of any offering of shares of any class or series and, therefore, such sales or offerings could result in increased dilution to our shareholders. The market price of our common stock could decline as a result of sales of shares of our common stock or the perception that such sales could occur.
|·||Our common stock is subordinate to our existing and future indebtedness and preferred stock.|
Shares of our common stock are equity interests and do not constitute indebtedness. As such, our common stock ranks junior to all our customer deposits and indebtedness, whether now existing or hereafter incurred, and other non-equity claims on us, with respect to assets available to satisfy claims. Additionally, holders of common stock are subject to the prior liquidation rights of the holders of any debt we may issue in the future and may be subject to the prior dividend and liquidation rights of any series of preferred stock we may issue in the future.
|·||The price of our common stock may fluctuate significantly, and this may make it difficult for shareholders to resell shares of common stock they own at times or at prices they find attractive.|
The stock market and, in particular, the market for financial institution stocks, has experienced significant volatility. In some cases, the markets have produced downward pressure on stock prices for certain issuers without regard to those issuers’ underlying financial strength. As a result, the trading volume in our common stock may fluctuate more than usual and cause significant price variations to occur. This may make it difficult for shareholders to resell shares of common stock they own at times or at prices they find attractive. The low trading volume in our common shares on the NASDAQ Global Select Market means that our shares may have less liquidity than other publicly traded companies. We cannot ensure that the volume of trading in our common shares will be maintained or will increase in the future.
The trading price of the shares of our common stock will depend on many factors, which may change from time to time and which may be beyond our control, including, without limitation, our financial condition, performance, creditworthiness and prospects, future sales or offerings of our equity or equity related securities, and other factors identified above in the forward-looking statement discussion in Part I, Item 1 of this Annual Report on Form 10-K under the heading “Cautionary Statements Regarding Forward-Looking Statements” and below. These broad market fluctuations have adversely affected and may continue to adversely affect the market price of our common stock. Among the factors that could affect our stock price are:
|·||actual or anticipated quarterly fluctuations in our operating results and financial condition;|
|·||changes in financial estimates or publication of research reports and recommendations by financial analysts or actions taken by rating agencies with respect to our common stock or those of other financial institutions;|
|·||failure to meet analysts’ revenue or earnings estimates;|
|·||speculation in the press or investment community generally or relating to our reputation, our market area, our competitors or the financial services industry in general;|
|·||strategic actions by us or our competitors, such as acquisitions, restructurings, dispositions or financings;|
|·||actions by our current shareholders, including sales of common stock by existing shareholders and/or directors and executive officers;|
|·||fluctuations in the stock price and operating results of our competitors;|
|·||future sales of our equity, equity-related or debt securities;|
|·||changes in the frequency or amount of dividends or share repurchases;|
|·||proposed or adopted regulatory changes or developments;|
|·||anticipated or pending investigations, proceedings, or litigation that involves or affects us;|
|·||trading activities in our common stock, including short-selling;|
|·||domestic and international economic factors unrelated to our performance; and|
|·||general U.S. and international market conditions and, in particular, developments related to market conditions for the financial services industry.|
A significant decline in our stock price could result in substantial losses for our shareholders.
|·||We may be unable or choose not to pay cash dividends in the foreseeable future.|
Our ability to pay dividends on our common stock depends on a variety of factors. The Company relies on distributions from the Bank in the form of cash dividends in order to pay cash dividends to our shareholders. Cash dividends may or may not be paid in the future since they are subject to regulatory restrictions and to evaluation by our Board of Directors of financial factors including, but not limited to, our earnings, financial condition and capital requirements.
Item 1B. Unresolved Staff Comments.
The Company and American River Bank lease nine and own two of their respective premises. The leases expire on various dates through 2031 and generally contain renewal option periods for periods ranging from three to five years. For additional information relating to lease rental expense and commitments as of December 31, 2020, see Note 12 to the Consolidated Financial Statements under “Part II, Item 8. Financial Statements and Supplementary Data.”
|Item 3.||Legal Proceedings.|
There are no material legal proceedings adverse to the Company and its subsidiaries to which any director, officer, affiliate of the Company, or 5% shareholder of the Company or its subsidiaries, or any associate of any such director, officer, affiliate or 5% shareholder of the Company or its subsidiaries are a party, and none of the above persons has a material interest adverse to the Company or its subsidiaries.
From time to time, the Company and/or its subsidiaries may be a party to claims and legal proceedings arising in the ordinary course of business. The Company’s management is not aware of any pending legal proceedings to which either it or its subsidiaries may be a party or has recently been a party, which will have a material adverse effect on the financial condition or results of operations of the Company or its subsidiaries.
|Item 4.||Mine Safety Disclosures.|
|Item 5.||Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities.|
The Company’s common stock began trading on the NASDAQ National Stock Market (“Nasdaq”) under the symbol “AMRB” on October 26, 2000. Effective July 3, 2006, the Company’s common stock became listed and traded on the Nasdaq Global Select Market. The closing price for the Company’s common stock on March 16, 2021 was $14.78.
As of March 9, 2021, there were approximately 2,471 shareholders of record of the Company’s common stock.
During 2019, the Company paid four cash dividends in the aggregate amount of $0.24 per common share and during 2020 the Company paid four cash dividends in the aggregate amount of $0.28 per common share. The Company relies on distributions from the Bank in the form of cash dividends in order to pay cash dividends to our shareholders. We cannot provide any assurance as to whether any dividends will continue to be paid in the future since they are subject to regulatory and statutory restrictions and the evaluation by the Company’s Board of Directors of financial factors including, but not limited to earnings, financial condition and capital requirements of the Company and its subsidiaries.
As a California corporation, the Company’s ability to pay cash dividends is subject to restrictions set forth in the California General Corporation Law (the “Corporation Law”). The Corporation Law provides that neither a corporation nor any of its subsidiaries shall make a distribution to the corporation’s shareholders unless the board of directors has determined in good faith either of the following: (1) the amount of retained earnings of the corporation immediately prior to the distribution equals or exceeds the sum of (A) the amount of the proposed distribution plus (B) the preferential dividends arrears amount; or (2) immediately after the distribution, the value of the corporation’s assets would equal or exceed the sum of its total liabilities plus the preferential rights amount. The good faith determination of the board of directors may be based upon (1) financial statements prepared on the basis of reasonable accounting practices and principles, (2) a fair valuation, or (3) any other method reasonable under the circumstances; provided, that a distribution may not be made if the corporation or subsidiary making the distribution is, or is likely to be, unable to meet its liabilities (except those whose payment is otherwise adequately provided for) as they mature.
The Board of Governors generally prohibits a bank holding company from declaring or paying a cash dividend which would impose undue pressure on the capital of subsidiary banks or would be funded only through borrowing or other arrangements that might adversely affect a bank holding company’s financial position. The Board of Governors’ policy is that a bank holding company should not continue its existing rate of cash dividends on its common stock unless its net income available to shareholder for the past four quarters, net of dividends previously paid during that period, is sufficient to fully fund the dividend, and its prospective rate of earnings retention appears consistent with its capital needs and overall current and prospective financial condition.
The payment of cash dividends by American River Bank is subject to restrictions set forth in the California Financial Code (the “Financial Code”). The Financial Code provides that a bank may not make a cash distribution to its shareholders in excess of the lesser of (a) the bank’s retained earnings; or (b) the bank’s net income for its last three fiscal years, less the amount of any distributions made by the bank or by any majority-owned subsidiary of the bank to the shareholders of the bank during such period. However, a bank may, with the approval of the Commissioner, make a distribution to its shareholders in an amount not exceeding the greater of (a) its retained earnings; (b) its net income for its last fiscal year; or (c) its net income for its current fiscal year. In the event that the Commissioner determines that the shareholders’ equity of a bank is inadequate or that the making of a distribution by the bank would be unsafe or unsound, the Commissioner may order the bank to refrain from making a proposed distribution.
The FDIC may also restrict the payment of dividends by a subsidiary bank if such payment would be deemed unsafe or unsound or if after the payment of such dividends, the bank would be included in one of the “undercapitalized” categories for capital adequacy purposes pursuant to the FDIC Improvement Act of 1991.
During 2020 and 2019, the Company did not have a stock repurchase program and no shares were repurchased.
|Item 6.||Selected Financial Data.|
FINANCIAL SUMMARY-The following table presents certain consolidated financial information concerning the business of the Company and its subsidiaries. This information should be read in conjunction with the Consolidated Financial Statements, the notes thereto, and Management’s Discussion and Analysis included in this report.
As of and for the Years Ended December 31,
(In thousands, except per share amounts and ratios)
|Net interest income||$||26,318||$||23,209||$||20,646||$||19,353||$||20,243|
|Provision for loan losses||1,520||660||175||450||(1,344||)|
|Income before income taxes||9,611||7,391||6,474||6,450||9,796|
|Income tax expense||2,556||1,891||1,574||3,252||3,392|
|Earnings per share – basic||$||1.20||$||0.94||$||0.83||$||0.50||$||0.95|
|Earnings per share – diluted||$||1.20||$||0.94||$||0.83||$||0.50||$||0.94|
|Cash dividends per share (1)||$||0.28||$||0.24||$||0.20||$||0.20||$||0.00|
|Book value per share||$||15.68||$||14.06||$||12.75||$||12.54||$||12.59|
|Tangible book value per share||$||12.93||$||11.29||$||9.97||$||9.88||$||10.14|
|Balance Sheet Data:|
|Return on average equity||7.94||%||6.92||%||6.77||%||3.91||%||7.60||%|
|Return on average tangible equity||9.73||%||8.71||%||8.74||%||4.88||%||9.43||%|
|Return on average assets||0.86||%||0.78||%||0.72||%||0.49||%||1.00||%|
|Efficiency ratio (2)||59.54||%||67.09||%||69.35||%||65.84||%||60.81||%|
|Net interest margin (2)||3.52||%||3.60||%||3.41||%||3.39||%||3.62||%|
|Net loans to deposits||63.41||%||65.11||%||53.92||%||55.52||%||59.49||%|
|Net charge-offs (recoveries) to average loans||0.01||%||(0.02||)%||0.08||%||0.25||%||(0.39||)%|
|Nonperforming loans to total loans (3)||0.00||%||0.00||%||0.01||%||0.60||%||0.01||%|
|Allowance for loan losses to total loans||1.39||%||1.29||%||1.36||%||1.43||%||1.47||%|
|Average equity to average assets||10.83||%||11.30||%||10.62||%||12.53||%||13.20||%|
|Dividend payout ratio (1)||23||%||26||%||24||%||40||%||0||%|
|Leverage capital ratio||8.29||%||9.16||%||8.94||%||9.45||%||10.50||%|
|Tier 1 risk-based capital ratio||14.96||%||14.77||%||16.11||%||18.08||%||19.02||%|
|Total risk-based capital ratio||16.21||%||15.94||%||17.29||%||19.34||%||20.27||%|
|(1)||On January 25, 2017, the Company reinstated the payment of quarterly cash dividends.|
|(2)||Fully taxable equivalent.|
|(3)||Nonperforming loans consist of loans past due 90 days or more and still accruing and nonaccrual loans.|
|Item 7.||Management’s Discussion and Analysis of Financial Condition and Results of Operations.|
This discussion should be read in conjunction with “Item 1. Business-Cautionary Statements Regarding Forward-Looking Statements,” “Item 1A. Risk Factors,” and “Item 8. Financial Statements and Supplementary Data” of this report.
Use of Non-GAAP Financial Measures
This Annual Report on Form 10-K (“Form 10K”) contains certain non-GAAP (Generally Accepted Accounting Principles) financial measures in addition to results presented in accordance with GAAP. These measures include tangible book value and taxable equivalent basis used in the computation of the net interest margin and efficiency ratio. Management has presented these non-GAAP financial measures in this Form 10K because it believes that they provide useful and comparative information to assess trends in the Company’s financial position reflected in the results and facilitate comparison of our performance with the performance of our peers.
Tangible Equity (non-GAAP financial measures)
Tangible common stockholders’ equity (tangible book value) excludes goodwill and other intangible assets. The Company believes the exclusion of goodwill and other intangible assets to create “tangible equity” facilitates the comparison of results for ongoing business operations. The Company’s management internally assesses its performance based, in part, on these non-GAAP financial measures. The following table sets forth a reconciliation of total shareholders’ equity to tangible shareholder’s equity for the periods presented.
Reconciliation to Tangible Common Shareholders’ Equity:
|(dollars in thousands)|
|Total shareholders’ equity||$||93,095||$||82,909||$||74,721|
|Other intangible assets (goodwill)||(16,321||)||(16,321||)||(16,321||)|
|Tangible common shareholders’ equity||$||76,774||$||66,588||$||58,400|
Net Interest Margin and Efficiency Ratio (non-GAAP financial measures)
In accordance with industry standards, certain designated net interest income amounts are presented on a taxable equivalent basis, including the calculation of net interest margin and the efficiency ratio. The Company believes the presentation of net interest margin on a taxable equivalent basis using a 21% effective tax rate allows comparability of net interest margin with industry peers by eliminating the effect of the differences in portfolios attributable to the proportion represented by both taxable and tax-exempt loans and investments. The efficiency ratio is a measure of a banking company’s overhead as a percentage of its revenue. The Company derives this ratio by dividing total noninterest expense by the sum of the taxable equivalent net interest income and the total noninterest income.
Reconciliation of Annualized Net Interest Margin, Fully Tax Equivalent (non-GAAP)
|(dollars in thousands)||December 31,|
|Net interest income (GAAP)||$||26,318||$||23,209||$||20,646|
|Tax equivalent adjustment||226||214||207|
|Net interest income - tax equivalent adjusted (non-GAAP)||$||26,544||$||23,423||$||20,853|
|Average earning assets||$||754,705||$||650,627||$||611,696|
|Net interest margin (GAAP)||3.49||%||3.57||%||3.38||%|
|Net interest margin (non-GAAP)||3.52||%||3.60||%||3.41||%|
Reconciliation of Non-GAAP Measure – Efficiency Ratio
|(dollars in thousands)||December 31,|
|Net interest income (GAAP)||$||26,318||$||23,209||$||20,646|
|Tax equivalent adjustment||226||214||207|
|Net interest income – tax-equivalent adjusted (non-GAAP)||$||26,544||$||23,423||$||20,853|
|Total noninterest expense||16,713||16,846||15,510|
|Efficiency ratio, fully tax-equivalent (non-GAAP)||59.54||%||67.09||%||69.35||%|
Critical Accounting Policies
The Company’s financial statements are prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”). The financial information contained within our statements is, to a significant extent, financial information that is based on measures of the financial effects of transactions and events that have already occurred. We use historical loss data and the economic environment as factors, among others, in determining the inherent loss that may be present in our loan portfolio. Actual losses could differ significantly from the factors that we use. In addition, GAAP itself may change from one previously acceptable method to another method. Although the economics of our transactions would be the same, the timing of events that would impact our transactions could change.
Allowance for Loan Losses
The allowance for loan losses is an estimate of probable credit losses inherent in the Company’s credit portfolio that have been incurred as of the balance-sheet date. The allowance is based on two basic principles of accounting: (1) “Accounting for Contingencies,” which requires that losses be accrued when it is probable that a loss has occurred at the balance sheet date and such loss can be reasonably estimated; and (2) the “Receivables” topic, which requires that losses be accrued on impaired loans based on the differences between the value of collateral, present value of future cash flows or values that are observable in the secondary market and the loan balance.
The allowance for loan losses is determined based upon estimates that can and do change when the actual risk, loss events, or changes in other factors, occur. The analysis of the allowance uses a historical loss view as an indicator of future losses and as a result could differ from the actual losses incurred in the future. Although management believes the allowance to be adequate, ultimate losses may vary from its estimates. At least quarterly, the Board of Directors reviews the adequacy of the allowance, including consideration of the relative risks in the portfolio, current economic conditions and other factors. If the Board of Directors and management determine that changes are warranted based on those reviews, the allowance is adjusted. For further information regarding our allowance for loan losses, see “Allowance for Loan Losses Activity.”
The Company recorded net income in 2020 of $7,055,000, an increase of $1,555,000 (28.3%) from $5,500,000 in 2019. Diluted earnings per share were $1.20 for 2020 and $0.94 for 2019. For 2020, the Company realized a return on average equity of 7.94% and a return on average assets of 0.86%, compared to 6.92% and 0.78%, respectively, in 2019.
Net income for 2019 increased $600,000 (12.2%) from $4,900,000 in 2018. Diluted earnings per share for 2018 were $0.83. For 2018, the Company realized a return on average equity of 6.77% and return on average assets of 0.72%. Table One below provides a summary of the components of net income for the years indicated (dollars in thousands):
Table One: Components of Net Income
|Net interest income*||26,544||23,423||20,853|
|Provision for loan losses||(1,520||)||(660||)||(175||)|
|Provision for income taxes||(2,556||)||(1,891||)||(1,574||)|
|Tax equivalent adjustment||(226||)||(214||)||(207||)|
|Average total assets||$||820,587||$||703,205||$||681,630|
|Net income as a percentage of average total assets||0.86||%||0.78||%||0.72||%|
* Fully taxable equivalent basis (FTE)
During 2020, total assets of the Company increased $148,638,000 (20.6%) from $720,353,000 at December 31, 2019 to $868,991,000 at December 31, 2020. At December 31, 2020, loans totaled $480,278,000, an increase of $80,617,000 (20.2%) from the ending balance of $399,661,000 at December 31, 2019. Deposits increased $139,340,000 or 23.0% from $604,837,000 at December 31, 2019 to $744,177,000 at December 31, 2020. Shareholders’ equity increased $10,186,000 or 12.3% from $82,909,000 at December 31, 2019 to $93,095,000 at December 31, 2020. The Company ended 2020 with a leverage capital ratio of 8.3% and a total risk-based capital ratio of 16.2% compared to a leverage capital ratio of 9.2% and a total risk-based capital ratio of 15.9% at the end of 2019.
Results of Operations
Net Interest Income and Net Interest Margin
Net interest income represents the excess of interest and fees earned on interest earning assets (loans, securities, Federal funds sold and interest-bearing deposits in other banks) over the interest paid on deposits and borrowed funds. Net interest margin is net interest income expressed as a percentage of average earning assets.
The Company’s fully taxable equivalent net interest margin was 3.52% in 2020, 3.60% in 2019, and 3.41% in 2018. The fully taxable equivalent net interest income increased $3,121,000 (13.3%), from $23,423,000 in 2019 to $26,544,000 in 2020. The fully taxable equivalent net interest income increased $2,570,000 (12.3%), from $20,853,000 in 2018 to $23,423,000 in 2019.
The fully taxable equivalent interest income component increased $2,242,000 (8.7%) from $25,884,000 in 2019 to $28,126,000 in 2020. The increase in the fully taxable equivalent interest income for 2020 compared to the same period in 2019 is comprised of two components - rate (down $2,312,000) and volume (up $4,554,000). The primary driver in this rate decrease was a decrease in the yields on loans which decreased from 4.95% in 2019 to 4.80% in 2020, on the investment portfolio which decreased from 2.81% in 2019 to 2.46% in 2020, and a decrease in the yields on interest-bearing balances in banks which decreased from 2.04% in 2019 to 0.22% in 2020. The decreased yield in 2020 compared to 2019 was due to the overall lower interest rate environment. The decreased yield earned on loans, investments and interest-bearing balances in banks was the reason the yield on earning assets decreased from 3.98% in 2019 to 3.73% in 2020. The volume increase of $4,554,000 was primarily from an increase in loans ($4,346,000) and interest-bearing deposits in banks ($627,000), partially offset by a decrease in investment and Federal fund balances ($419,000). Average loans balances increased $87,699,000, (or 24.4%), from $359,329,000 during 2019 to $447,028,000 during 2020; the average interest-bearing deposits in banks increased $30,641,000, (or 311.7%), from $9,829,000 during 2019 to $40,470,000 during 2020; and average investment and Federal fund balances decreased $14,262,000, (or 5.1%), from $281,469,000 during 2019 to $267,207,000 during 2020. Of the $87,699,000 increase in loans, $45,846,000 was related to PPP. These PPP loans added $502,000 in interest income for the year and the net fee income for the year related to these PPP loans was $1,269,000.
The fully taxable equivalent interest income component increased $3,435,000 (15.3%) from $22,449,000 in 2018 to $25,884,000 in 2019. The increase in the fully taxable equivalent interest income for 2019 compared to the same period in 2018 is comprised of two components - rate (up $1,335,000) and volume (up $2,100,000). The primary driver in this rate increase was an increase in the yield on loans which saw an increase from 4.72% in 2018 to 4.95% in 2019 and an increase in the yield on investments, which saw an increase from 2.66% in 2018 to 2.81% in 2019. The increased yield in 2019 compared to 2018 was due to the overall higher interest rate environment. The yield on earning assets increased from 3.67% during 2018 to 3.98% during 2019. The volume increase of $2,100,000 was primarily from an increase in loans ($2,394,000) and interest-bearing deposits in banks ($153,000), partially offset by a decrease in investment balances ($103,000) and Federal funds ($345,000). Average loan balances increased $50,964,000, (or 16.5%), from $308,365,000 during 2018 to $359,329,000 during 2019, average interest-bearing deposits in banks increased $168,000, (or 509.1%), from $33,000 during 2018 to $201,000 during 2019 average investment balances decreased $1,602,000, (or 0.6%), from $282,898,000 during 2018 to $281,296,000 in 2019, and average Federal funds decreased $18,515,000, (or 99.1%), from $18,688,000 during 2018 to $173,000 in 2019.
Interest expense was $879,000 (or 35.7%) lower in 2020 compared to 2019, decreasing from $2,461,000 to $1,582,000. The $879,000 decrease in interest expense during 2020 compared to 2019 was due to lower rates (down $832,000) and lower volume (down $47,000). The decrease in interest expense can be attributed to a decrease in rates paid on deposit and borrowing balances during a lower interest rate environment. Rates paid on interest bearing liabilities decreased 27 basis points from 0.63% to 0.36% for 2019 compared to 2020. Of the $832,000 decrease in interest expense related to rates, $564,000 is related to lower rates paid on time deposit balances. Some of these time deposits are indexed to the three-or six-month treasury rates which have decreased over the past twelve months. Net interest expense on time deposits decreased by $839,000, or 56.4%, from $1,487,000 in 2019 to $648,000 in 2020 while the average time deposit balances decreased by $15,856,000, or 18.5%, from $85,723,000 in 2019 to $69,867,000 in 2020. Of the decrease in expense from time deposits of $839,000, $564,000 was related to rate and $275,000 was related to volume. Partially offsetting the decrease in time deposit expense due to rates and volume was an increase in interest checking and money market balances which increased $50,955,000 (24.0%) from $212,499,000 in 2019 to $263,454,000 in 2020 and in other borrowings which increased $4,325,000 (23.5%) from $18,430,000 in 2019 to $22,755,000 in 2020.
Interest expense was $865,000 (or 54.2%) higher in 2019 compared to 2018, increasing from $1,596,000 to $2,461,000. The $865,000 increase in interest expense during 2019 compared to 2018 was due to higher rates (up $745,000) and higher volume (up $120,000). The increase in interest expense can be attributed to an increase in rates paid on deposit and borrowing balances during a higher interest rate environment. Rates paid on interest bearing liabilities increased 22 basis points from 0.41% to 0.63% for 2018 compared to 2019. The largest increase due to rates occurred in interest checking and money market accounts and in the time deposits. The rate paid on interest checking and money market accounts increased from 0.14% during 2018 to 0.34% during 2019 and accounted for $300,000 of the $745,000 increase attributed to rates. The rate paid on time deposit accounts increased from 1.86% during 2018 to 2.89% during 2019 and accounted for $342,000 of the $745,000 increase attributed to rates. The volume increase of $120,000 was attributed to an increase in average time deposit balances which increased from $79,422,000 during 2018 to $85,723,000 during 2019 and accounted for $84,000 of the $120,000 increase and an increase in average other borrowings which increased from $15,533,000 during 2018 to $18,430,000 during 2019 and accounted for $44,000 of the $120,000 increase.
Table Two, Analysis of Net Interest Margin on Earning Assets, and Table Three, Analysis of Volume and Rate Changes on Net Interest Income and Expenses, are provided to enable the reader to understand the components and past trends of the Company’s interest income and expenses. Table Two provides an analysis of net interest margin on earning assets setting forth average assets, liabilities and shareholders’ equity; interest income earned and interest expense paid and average rates earned and paid; and the net interest margin on earning assets. Table Three sets forth a summary of the changes in interest income and interest expense from changes in average asset and liability balances (volume), computed on a daily average basis, and changes in average interest rates.
|Table Two: Analysis of Net Interest Margin on Earning Assets|
|Year Ended December 31,||2020||2019||2018|
Equivalent Basis) |
(dollars in thousands)
|Taxable investment Securities||261,826||6,401||2.44||%||271,779||7,589||2.79||%||264,247||6,901||2.61||%|
|Tax-exempt investment securities(2)||5,381||175||3.25||%||9,517||313||3.29||%||18,651||611||3.28||%|
|Federal funds sold||—||—||—||173||5||2.89||%||18,688||348||1.86||%|
|Interest bearing deposits in other banks||40,470||88||0.22||%||9,829||201||2.04||%||1,745||33||1.89||%|
|Total earning assets||754,705||28,126||3.73||%||650,627||25,884||3.98||%||611,696||22,449||3.67||%|
|Cash & due from banks||29,902||16,440||34,535|
|Allowance for loan losses||(5,980||)||(4,740||)||(4,423||)|
|Total average assets||$||820,587||$||703,205||$||681,630|
|Liabilities & Shareholders’ Equity:|
|Interest bearing liabilities:|
|NOW & MMDA||$||263,454||598||0.23||%||$||212,499||563||0.26||%||$||219,742||272||0.12||%|
|Total interest bearing liabilities||437,040||1,582||0.36||%||390,956||2,461||0.63||%||386,439||1,596||0.41||%|
|Total average liabilities and shareholders’ equity||$||820,587||$||703,205||$||681,630|
interest income & |
|(1)||Loan interest includes loan fees of $1,578,000, $257,000 and $533,000 in 2020, 2019 and 2018, respectively. Includes $1,269,000 in net fees from PPP loans in 2020.|
|(2)||Includes taxable-equivalent adjustments that primarily relate to income on certain loans and securities that is exempt from federal income taxes. The effective federal statutory tax rate was 21% in 2020, 2019 and 2018.|
|(3)||Net interest margin is computed by dividing net interest income by total average earning assets.|
|Table Three: Analysis of Volume and Rate Changes on Net Interest Income and Expenses|
|Year ended December 31, 2020 over 2019 (dollars in thousands)|
|Increase (decrease) in interest income and expense due to change in:|
|Interest-earning assets:||Volume||Rate (4)||Net Change|
|Taxable net loans (1)(2)||$||4,205||$||(717||)||$||3,488|
|Tax-exempt net loans (3)||141||57||198|
|Taxable investment securities||(278||)||(910||)||(1,188||)|
|Tax-exempt investment securities (3)||(136||)||(2||)||(138||)|
|Federal funds sold||(5||)||—||(5||)|
|Interest-bearing deposits in other banks||627||(740||)||(113||)|
|Total interest on earning assets||4,554||(2,312||)||2,242|
|Interest checking and money market||135||(100||)||35|
|Total interest on interest-bearing liabilities||(47||)||(832||)||(879||)|
Year Ended December 31, 2019 over 2018 (dollars in thousands)
Increase (decrease) in interest income and expense
due to change in:
|Interest-earning assets:||Volume||Rate (4)||Net Change|
|Taxable net loans (1)(2)||$||2,114||$||796||$||2,910|
|Tax-exempt net loans (3)||280||30||310|
|Taxable investment securities||197|