A different kind of bank.
2011 annual report
The Other Guys
sonom a, c a l ifor ni a
“The bank appreciates the subtleties of the
wine business. They’re experts at what they
do—and have helped us tremendously.”
– August Sebastiani, President
Lixit Corporation
na pa, c a l ifor ni a
“Our transition to Bank of Marin has been
seamless. Bank of Marin has taken the time to
truly understand every aspect of our business.”
– Linda Parks, President & Chief Executive Officer
Marin Organic
poin t r ey e s stat ion, c a l ifor ni a
“We moved from a large corporate bank to our
neighborhood Bank of Marin in 2011, and we
couldn’t be happier.”
– Adrienne Baumann, Executive Director
Napa Electric, Inc.
na pa, c a l ifor ni a
“The staff at Bank of Marin is always very
friendly and helpful. We can count on them to
take care of our banking transactions with ease.”
– Tiffany Kuehl, Office Manager
customer s pic t ur ed on cov er (l ef t to r ight):
fir st row: William Fishman, Angel Island Ferry, Sandra Lew; second row: Blakes Landing Farm, August Sebastiani, Napa Electric, Inc.
third row: Highway 12 Vineyards & Winery, Cindy Kozlowski-Hayworth, Lixit Corporation; fourth row: Mark Bley, Marin Organic, Mary Stompe
A Message from the
President & Chairman of the Board
2011 was an excellent year for Bank of Marin. In fact, relative to our peers, it
may have been the best year we’ve had in some years. We have asked ourselves,
“Why?” Why are we different from so many other financial institutions? What
makes us stand out, year after year? We believe it is just doing what we do best
that allows us to continue to perform at a high level. Once again in 2011, we stuck
to banking fundamentals with a disciplined mentality and active management of
credit relationships. We continue to build relationships as the core of our business
model, and we always remember that the communities we serve are central to the
continued success of the Bank.
Our goal as we continue forward is to sharpen our efforts to build an ever more
high-performing community bank. To ensure that all of our employees provide a
consistent high level of service, every day, at every location, we are training all
employees on the essential habits needed to deliver exceptional customer service.
For us, legendary service provided to every customer, by every employee, is a way
of life. Customers feel it and they like it, and that’s our competitive edge.
Our model continues to evolve as we redefine our Community and Commercial
Banking Divisions, now with a total of seventeen offices. The community branch
offices throughout Marin, Sonoma, and Napa are the Bank’s primary delivery
channels. Our Commercial Banking Division now has offices in San Francisco,
Napa and Santa Rosa. Our expected loan growth will come primarily from these
offices, delivering our style of exceptional service to the business community.
We succeed as an organization because we have not strayed from the ideals
established when we opened for business twenty two years ago: discipline,
relationship banking and community commitment, with steady, careful growth
within our core Bay Area market. We will continue to follow this path into the
future. We are confident that our success, and the success of our customers and
the communities that we serve, will follow.
We are, as always, gratified by and thankful for the support of our shareholders, the
loyalty of our customers, and certainly the dedication of our wonderful employees.
Sincerely,
Russell A. Colombo
President and Chief Executive Officer
Joel Sklar, MD
Chairman of the Board
bank of m ar in bancor p 2011 annual r eport
1
Angel Island Ferry Company
tiburon, c a lifor ni a
“Being local is really
important to me.”
Captain Maggie McDonogh is the ebullient fourth generation captain and owner
of San Francisco Bay’s beloved Angel Island ferry.
“Our family has been operating to the island for over a hundred years, well before it
became a state park. In the late fifties when the military was relinquishing the island,
Dad converted an old naval launch and started carrying passengers. He made $7 his
first day,” says Maggie.
“Dad had me on the boats from the moment I was tiny. Everyday there was
something new, that’s what I love about it now. And the people I meet.”
“I’m a small business owner and being local is really important to me. I adore the
people at my bank. They’re always ready to help me with glitches that come up.
They take a personal interest in what’s happening with my business. You don’t get
that kind of service at other banks.”
“Bank of Marin is willing to be flexible. They know what potential needs I might
have. They’re straightforward, honest. That’s why I bank at Bank of Marin, they care
about you. That’s old school banking, when you were taught to trust your bank.”
“We both live and breathe what we do, we take care of the people in the community.
Bank of Marin is totally behind investing not just in their customers but in the
community as a whole, I think that’s really important.”
Captain Maggie McDonogh
Owner and Captain
Angel Island Ferry Company
bank of m ar in bancor p 2011 annual r eport
3
Dome Construction Corporation
south sa n fr a ncisco, c a lifor ni a
“I was looking for a bank
to be a trusted advisor.”
Dome Construction is one of the Bay Area’s most trusted general contractors and
construction management firms with impressive clients including Pixar Animation
Studios, UCSF Medical Center, Genentech, Nordstrom, Stanford University and
Stanford Hospital.
“At Dome, our core purpose is building relationships, providing solutions and
creating value. We’re always willing to do more than it takes to make sure our
clients are happy,” says President and CEO Mark Bley.
“I think our values are very similar to Bank of Marin’s. They’ve been phenomenally
service oriented, which is a breath of fresh air. Instead of constantly putting up
roadblocks, they work with us to find the best solution for success. That allows us
to spend more time on our business.”
“I was looking for a bank to be a trusted advisor. A great example is our SBA bridge
loan for our new headquarters. The SBA process can be quite difficult and Bank of
Marin’s experience has been invaluable in making the process easier.”
“We strongly believe that our customers recognize our ability to complete a project
without any change orders and turn over a facility that is fully functional. There
are huge costs on not having a working facility—for some manufacturers it’s a
million dollars a day—so to us, that delivery & quality is really important. The
Bank understands this level of importance and has been very flexible, allowing us
to deal with the peaks and valleys that occur in our business.”
“They know their stuff.”
Mark Bley
President & Chief Executive Officer
Dome Construction Corporation
bank of m ar in bancor p 2011 annual r eport
5
Kozlowski Farms / Sonoma County Classics
for est v ille, c a lifor ni a
“The people I work with,
that’s what the bank is.”
Kozlowski Farms, one of Sonoma County’s oldest family-owned farms, has grown
into an extensive range of specialty foods and homemade pies from the Russian River
Valley. Known as Sonoma County Classics, they sprang from the recipes of founder
and grandmother Carmen Kozlowski who just received Person of the Year from the
Santa Rosa Chamber of Commerce.
Vice President and granddaughter Carol says, “After Mom received the award she
said, “Dave Brown, my friendly banker pinned my corsage on me!”
Bank of Marin is helping the farm expand. “We went to several banks for financing
but Bank of Marin seemed like an easier fit. Dave came for the site visit, and from
there it worked out really well,” says Cindy.
“It wasn’t a complicated process. They committed immediately, everything was
concise. We’re so busy, I didn’t want any complications.”
“People are happy to see us when we go into the bank. It’s a small bank feeling and
I think that’s what works in this community.”
“The community in Sonoma Country is our backbone. Our customers are our best
critics, our best resource—when they come here they’re coming to our home.”
Her sister Carol adds, “I love the interaction, you get so many wonderful ideas, you
get the feedback, it makes us feel like wow, it’s all worthwhile.”
“It’s like the Bank. Dave and Kim, the people that I work with, that’s what the bank
is… the people that you work with, the people you build relationships with.”
Cindy Kozlowski-Hayworth
President
Kozlowski Farms / Sonoma County Classics
bank of m ar in bancor p 2011 annual r eport
7
Financial Performance
(dollars in thousands, except per share data)
At December 31,
Total assets
Total loans
Total deposits
Total stockholders’ equity
Equity-to-asset ratio
For the Year Ended December 31,
2011
2010
2009
2008
2007
$ 1,393,263
1,031,154
1,202,972
135,551
$ 1,208,150
941,400
1,015,739
121,920
$ 1,121,672
917,748
944,061
109,051
$ 1,049,557
890,544
852,290
125,546
$ 933,901
724,878
834,642
87,774
9.7%
10.1%
9.7%
12.0%
9.4%
Net income
Net income per share (diluted)1
Cash dividend payout ratio on common stock2
$
$
15,564
2.89
22.1%
13,552
2.55
23.6%
$
12,765
2.19
25.8%
$
12,150
2.31
23.9%
$ 12,324
2.31
21.4%
As of December 31,
Total Capital (to risk-weighted assets)
13.13%
13.34%
12.33%
14.08%
12.06%
1 Calculated as dividends on common share divided by basic net income per common share.
2 Restated for all stock dividends and stock splits.
Experienced Leadership
boa r d of dir ector s
Joel Sklar, MD
Chief Medical Officer,
Marin General Hospital;
Chairman, Bank of Marin
and Bank of Marin Bancorp
Russell A. Colombo
President and Chief
Executive Officer,
Bank of Marin and
Bank of Marin Bancorp
Thomas M. Foster
Retired CPA and
Independent Financial
Consultant
Robert Heller
Former Governor, U.S.
Federal Reserve Board and
former President and CEO,
Visa USA
Norma J. Howard
Business Consultant
Stuart D. Lum
President and Chief
Executive Officer,
Edgewood Pacific Inc.
Joseph D. Martino
Retired Banker
William H.
McDevitt, Jr.
President, McDevitt &
McDevitt Construction Corp.
Brian M. Sobel
Principal Consultant, Sobel
Communications of Petaluma
J. Dietrich Stroeh
Partner, CSW/Stuber-Stroeh
Civil Engineering Firm
Jan I. Yanehiro
President, Jan Yanehiro Inc.;
Director, School of Multimedia
Communications, Academy of
Art University, San Francisco
e x ecuti v e officer s
Russell A. Colombo
President and Chief
Executive Officer
Christina J. Cook
Executive Vice President and
Chief Financial Officer
Kevin K. Coonan
Executive Vice President and
Chief Credit Officer
Peter Pelham
Executive Vice President and
Director of Retail Banking
Nancy Rinaldi Boatright
Senior Vice President and
Corporate Secretary
8 bank of m ar in bancor p 2011 annual r eport
Committed to
Your Business and
Our Community
At Bank of Marin, we develop trusting,
personal relationships with our customers,
taking time to understand their needs and
how they operate their businesses. An integral
part of Bank of Marin is our dedication and
support of local communities.
business ba nk ing
Our experienced team of bankers provides creative financial
solutions tailored to any size business, delivered with
responsiveness, respect and trust.
– Commercial Loans & Lines of Credit
– Asset Based Loans
– Construction & Commercial Real Estate Loans
– Cash Management
– ACH Origination & Management
– Remote Deposit & Image Lockbox
– Business Online Banking
– Business Employee Services & Fraud Protection Products
– Business Credit Cards & Merchant Services
communit y commitment
Dedicated to the success and well being of our communities
through charitable contributions, volunteerism, leadership,
and local lending, we are proud to support the communities
where we live and work.
w e a lth m a nagement & trust
pr i vate ba nk ing
Delivering extraordinary attentive service, backed by integrity
and commitment, our dedicated team provides the highest
level of accountability and service. We offer professional
guidance, customized financing, and financial solutions to
manage your most complex banking needs. And we’re always
available, just around the corner.
– Investment Management
– Trust Services
– Retirement Benefit Plans
Corporate Information
tr a nsfer agent a nd r egistr a r
Registrar and Transfer Company
10 Commerce Drive
Cranford, NJ 07016-3506
(800) 368-5948
www.rtco.com
independent auditor s
Moss Adams LLP
Stockton, CA
leg a l counsel
Stuart | Moore
San Luis Obispo, CA
nasdaq sy mbol
BMRC
a nnua l meeting
6:00 p.m., May 15, 2012
10 Avenue of the Flags
San Rafael, CA 94903
per iodic r eports
The Company’s annual report for 2011 on Form 10-K,
which is required to be filed with the SEC, is available to
any shareholder without charge. The report may be obtained
by written request to Corporate Secretary, Bank of Marin
Bancorp, P.O. Box 2039, Novato, CA 94948. It is available
in the Investor Relations section of the Company’s website
at www.bankofmarin.com.
forwa r d-look ing statemen ts
This discussion of financial results includes forward-looking statements within the
meaning of Section 27A of the Securities Act of 1933, as amended, (the “1933 Act”)
and Section 21E of the Securities Exchange Act of 1934, as amended, (the “1934 Act”).
Those sections of the 1933 Act and 1934 Act provide a “safe harbor” for forward-look-
ing statements to encourage companies to provide prospective information about their
financial performance so long as they provide meaningful, cautionary statements iden-
tifying important factors that could cause actual results to differ significantly from
projected results.
Our forward-looking statements may include descriptions of plans or objectives of
Management for future operations, products or services, and forecasts of our revenues,
earnings or other measures of economic performance. Forward looking statements
can be identified by the fact that they do not relate strictly to historical or current
facts. They often include the words “believe,” “expect,” “intend,” “estimate” or words
of similar meaning, or future or conditional verbs such as “will,” “would,” “should,”
“could” or “may.”
Forward-looking statements are based on Management’s current expectations regarding
economic, legislative, and regulatory issues that may impact our earnings in future
periods. A number of factors—many of which are beyond Management’s control—
could cause future results to vary materially from current Management’s expectations.
Such factors include, but are not limited to, general economic conditions, the current
financial turmoil in the United States and abroad, changes in interest rates, deposit
flows, real estate values and competition; changes in accounting principles, policies or
guidelines; changes in legislation or regulation; and other economic, competitive,
governmental, regulatory and technological factors affecting our operations, pricing,
products and services. These and other important factors are detailed in Item 1A Risk
Factors section of this report. Forward-looking statements speak only as of the date
they are made. We do not undertake to update forward-looking statements to reflect
circumstances or events that occur after the date the forward-looking statements are
made or to reflect the occurrence of unanticipated events.
i
m
o
c
.
o
t
t
o
x
e
p
e
v
e
t
s
.
w
w
w
/
i
o
t
t
o
x
e
P
n
e
v
e
t
S
y
b
y
h
p
a
r
g
o
t
o
h
P
novato
368 ignacio boulevard
novato, california 94949
415.884.2265
1450 gr ant avenue
novato, california 94945
415.899.7338
peta lum a
799 bay wood drive
petaluma, california 94954
707.781.2210
8 4th street
petaluma, california 94952
707.781.1810
1371 north mcdowell boulevard
petaluma, california 94954
707.658.4210
sa nta rosa
50 santa rosa avenue
santa rosa, california 95404
707.508.3377
sonom a
136 west napa street
sonoma, california 95476
707.933.3750
na pa
600 tr ancas street
napa, california 94558
707.265.2000
cor por ate he a dqua rter s
504 redwood boulevard
novato, california 94947
415.763.4520
sa n fr a ncisco
345 california street
san fr ancisco, california 94104
415.403.5580
sausa lito
3 harbor drive
sausalito, california 94965
415.289.8710
mill va lley
23 reed boulevard
mill valley, california 94941
415.381.2265
19 sunnyside avenue
mill valley, california 94941
415.380.4665
corte m a der a
504 tamalpais drive
corte mader a, california 94925
415.927.2265
gr eenbr a e
501 sir fr ancis dr ake boulevard
greenbr ae, california 94904
415.785.1565
sa n r a fa el
999 andersen drive
san r afael, california 94901
415.259.0365
1101 fourth street
san r afael, california 94901
415.485.2265
4460 redwood highway
san r afael, california 94903
415.472.2265
w w w.ba nkofm a r in.com
2 0 1 1 a n n u a l r e p o r t
This page intentionally left blank.
UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF
1934
For the fiscal year ended: December 31, 2011
or
OF 1934
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT
For the transition period from __________________ to __________________
Commission File number: 001-33572
Bank of Marin Bancorp
(Exact name of Registrant as specified in its charter)
California
(State or other jurisdiction of incorporation)
20-8859754
(IRS Employer Identification No.)
504 Redwood Blvd., Suite 100, Novato, CA
(Address of principal executive office)
94947
(Zip Code)
(415) 763-4520
(Registrant’s telephone number, including area code)
Securities registered pursuant to Section 12 (b) of the Act:
None
Securities registered pursuant to section 12(g) of the Act:
Common Stock, No Par Value,
and attached Share Purchase Rights
(Title of each class)
NASDAQ Capital Market
Name of each exchange on which registered)
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.
Yes
No
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the
Act.
Yes
No
Note – checking the box above will not relieve any registrant required to file reports pursuant to section 13 or 15(d) of
the Exchange Act from their obligations under these sections.
Indicate by check mark whether the registrant (1) has filed all reports to be filed by Section 13 or 15(d) of the
Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.
Yes
No
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if
any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during
the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).
Yes
No
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained
herein, and will not be contained, to the best of the registrant’s knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this form 10-K or any amendment to this Form 10-K.
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated
filer. See definition of “accelerated filer and large accelerated filer” in Rule 12b-2 of the Exchange Act. (Check One):
Large accelerated filer
Non-accelerated filer
Accelerated filer
Smaller reporting company
Indicate by check mark if the registrant is a shell company, as defined in Rule 12b(2) of the Exchange Act.
Yes
No
As of June 30, 2011, the last business day of the registrant’s most recently completed second fiscal quarter, the
aggregate market value of the voting and non-voting common equity held by non-affiliates, based upon the closing
price per share of the registrant’s common stock as reported by the NASDAQ, was approximately $182 million. For
the purpose of this response, directors and officers of the Registrant are considered the affiliates at that date.
As of February 29, 2012 there were 5,345,732 shares of common stock outstanding.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the registrant’s Proxy Statement for the Annual Meeting of Shareholders to be held on May 15, 2012 are
incorporated by reference into Part III.
PART I
Forward-Looking Statements
TABLE OF CONTENTS
BUSINESS
ITEM 1.
ITEM 1A. RISK FACTORS
ITEM 1B. UNRESOLVED STAFF COMMENTS
ITEM 2.
ITEM 3.
ITEM 4.
PROPERTIES
LEGAL PROCEEDINGS
MINE SAFETY DISCLOSURES
PART II
ITEM 5.
ITEM 6.
ITEM 7.
MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS
AND ISSUER PURCHASES OF EQUITY SECURITIES
SELECTED FINANCIAL DATA
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
Forward-Looking Statements
Executive Summary
Critical Accounting Policies
RESULTS OF OPERATIONS
Net Interest Income
Provision for Loan Losses
Non-interest Income
Non-interest Expense
Provision for Income Taxes
FINANCIAL CONDITION
Investment Securities
Loans
Allowance for Loan Losses
Other Assets
Deposits
Borrowings
Deferred Compensation Obligations
Off Balance Sheet Arrangements
Commitments
Capital Adequacy
Liquidity
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
ITEM 8.
FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Note 1: Summary of Significant Accounting Policies
Note 2: Acquisition
Note 3: Investment Securities
Note 4: Loans and Allowance for Loan Losses
Note 5: Bank Premises and Equipment
Note 6: Bank Owned Life Insurance
Note 7: Deposits
Note 8: Borrowings
1
1
1
9
17
17
18
18
19
19
21
21
21
21
22
26
27
30
31
32
34
34
34
36
38
42
43
43
44
44
44
45
45
46
48
54
54
61
64
67
75
76
76
76
Note 9: Stockholders’ Equity and Stock Option Plans
Note 10: Fair Value of Assets and Liabilities
Note 11: Benefit Plans
Note 12: Income Taxes
Note 13: Commitments and Contingencies
Note 14: Concentrations of Credit Risk
Note 15 : Derivative Financial Instruments and Hedging Activities
Note 16: Regulatory Matters
Note 17: Financial Instruments with Off-Balance Sheet Risk
Note 18: Condensed Bank of Marin Bancorp Parent Only Financial Statements
ITEM 9.
CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
ITEM 9A. CONTROLS AND PROCEDURES
ITEM 9B. OTHER INFORMATION
PART III
ITEM 10. DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE
ITEM 11. EXECUTIVE COMPENSATION
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND
RELATED STOCKHOLDER MATTERS
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR
INDEPENDENCE
ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES
PART IV
ITEM 15. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES
SIGNATURES
EXHIBIT INDEX
77
81
85
86
87
88
88
90
90
90
94
94
95
95
95
95
95
95
95
95
95
98
99
Forward-Looking Statements
PART I
This discussion of financial results includes forward-looking statements within the meaning of Section 27A of the
Securities Act of 1933, as amended, (the “1933 Act”) and Section 21E of the Securities Exchange Act of 1934, as
amended, (the “1934 Act”). Those sections of the 1933 Act and 1934 Act provide a “safe harbor” for forward-looking
statements to encourage companies to provide prospective information about their financial performance so long as
they provide meaningful, cautionary statements identifying important factors that could cause actual results to differ
significantly from projected results.
Our forward-looking statements may include descriptions of plans or objectives of Management for future operations,
products or services, and forecasts of our revenues, earnings or other measures of economic performance. Forward-
looking statements can be identified by the fact that they do not relate strictly to historical or current facts. They often
include the words “believe,” “expect,” “intend,” “estimate” or words of similar meaning, or future or conditional verbs
such as “will,” “would,” “should,” “could” or “may.”
Forward-looking statements are based on Management’s current expectations regarding economic, legislative, and
regulatory issues that may impact our earnings in future periods. A number of factors - many of which are beyond
Management’s control - could cause future results to vary materially from current Management’s expectations. Such
factors include, but are not limited to, estimated fair values related to the assets acquired and liabilities assumed of
the former Charter Oak Bank; general economic conditions, the current financial uncertainty in the United States and
abroad, changes in interest rates, deposit flows, real estate values and competition; changes in accounting principles,
policies or guidelines; changes in legislation or regulation; and other economic, competitive, governmental, regulatory
and technological factors affecting our operations, pricing, products and services. These and other important factors
are detailed in Item 1A Risk Factors section of this report. Forward-looking statements speak only as of the date they
are made. We do not undertake to update forward-looking statements to reflect circumstances or events that occur
after the date the forward-looking statements are made or to reflect the occurrence of unanticipated events.
ITEM 1.
BUSINESS
Bank of Marin (the “Bank”) was incorporated in August 1989, received its charter from the California Superintendent of
Banks (now the California Department of Financial Institutions or “DFI”) and commenced operations in January 1990.
The Bank is an insured bank under the Federal Deposit Insurance Act (“FDIC”). On July 1, 2007 (the “Effective Date”),
a bank holding company reorganization was completed whereby Bank of Marin Bancorp (“Bancorp”) became the
parent holding company for the Bank, the sole and wholly-owned subsidiary of Bancorp. On the Effective Date, each
outstanding share of Bank of Marin common stock was converted into one share of Bank of Marin Bancorp common
stock. Bancorp is listed at NASDAQ and assumed the ticker symbol BMRC, which was formerly used by the Bank.
Prior to the Effective Date, the Bank filed reports and proxy statements with the FDIC pursuant to Sections 12 of the
Securities Exchange Act of 1934 (the “1934 Act”). Upon formation of the holding company, Bancorp became subject
to regulation under the Bank Holding Company Act of 1956, as amended, which subjects Bancorp to Federal Reserve
Board (“FRB”) reporting and examination requirements.
References in this report to “Bancorp” mean Bank of Marin Bancorp, parent holding company for the Bank.
References to “we,” “our,” “us” mean the holding company and the Bank that are consolidated for financial reporting
purposes.
Virtually all of our business is conducted through Bancorp’s sole subsidiary, the Bank, which is headquartered in
Novato, California. As of December 31, 2011, we operated through seventeen offices in San Francisco, Marin, Napa
and Sonoma counties with a strong focus on supporting the local community. Our customer base is made up of
business and personal banking relationships from the communities near the branch office locations. Our business
banking focus is on small to medium-sized businesses, professionals and not-for-profit organizations.
We offer a broad range of commercial and retail deposit and lending programs designed to meet the needs of our
target markets. Our loan products include commercial real estate loans, commercial and industrial loans and lines of
credit, construction financing, consumer loans, and home equity lines of credit. Merchant card services are available
for our customers in retail businesses. Through a third party vendor, we offer a proprietary Visa® credit card product
combined with a rewards program to our customers, as well as a Business Visa® program for business and
professional customers. We also offer cash management sweep to business clients through a third party vendor.
Page - 1
We offer a variety of personal and business checking and savings accounts, and a number of time deposit
alternatives, including time certificates of deposit, Individual Retirement Accounts (“IRAs”), Health Savings Accounts,
and Certificate of Deposit Account Registry Service (“CDARS®”). CDARS® is a network through which we offer full
FDIC insurance coverage in excess of the regulatory maximum by placing deposits in multiple banks participating in
the network. We also offer remote deposit capture, Automated Clearing House services (“ACH”), social security and
pension checks, fraud prevention services including identity theft insurance and image lockbox services. A valet
deposit pick-up service is available to our professional and business clients. Automatic teller machines (“ATM’s”) are
available at each branch location.
Our ATM network is linked to the PLUS, CIRRUS and NYCE networks. In January 2009, we began offering free
access to a network of nation-wide surcharge-free ATM’s called MoneyPass. We also offer our depositors 24-hour
access to their accounts by telephone and through our internet banking products available to personal and business
account holders.
We offer Wealth Management and Trust Services (“WMTS”) which include customized investment portfolio
management, financial planning, trust administration, estate settlement and custody services, and advice of charitable
giving. We also offer 401(k) plan services to small and medium businesses through a third party vendor.
We offer branch-based Private Banking as a natural extension of our services. Our Private Banking includes deposit
services and loans, as well as a full range of banking services.
We do not directly offer international banking services, but do make such services available to our customers through
other financial institutions with whom we have correspondent banking relationships.
We hold no patents, licenses (other than licenses required by the appropriate banking regulatory agencies),
franchises or concessions. The Bank has registered the service marks “The Spirit of Marin”, the words “Bank of
Marin”, the Bank of Marin logo, and the Bank of Marin tagline “Committed to your business and our community” with
the United States Patent & Trademark Office. In addition, Bancorp has registered the service marks for the words
“Bank of Marin Bancorp” and for the Bank of Marin Bancorp logo with the United States Patent & Trademark Office.
All service marks registered by Bancorp or the Bank are registered on the United States Patent & Trademark Office
Principal Register, with the exception of the words “Bank of Marin Bancorp” which is registered on the United States
Patent & Trademark Office Supplemental Register.
Acquisition
As discussed in Note 2 to the Consolidated Financial Statements in Item 8 of this report, in February 2011, we
expanded our community banking footprint to Napa County through an FDIC-assisted acquisition of $107.8 million of
assets and assumption of $107.7 million of liabilities of the former Charter Oak Bank (the “Acquisition”). No capital has
been raised to complete this transaction, as Bancorp has grown capital through the retention of earnings in order to
take advantage of such acquisition opportunities. The acquired operations of the former Charter Oak Bank contributed
approximately $2.0 million to our results of operations for the period February 18 to December 31, 2011.
Market Area
Our primary market area consists of Marin, San Francisco, Napa and Sonoma Counties. Our customer base is
primarily made up of business and personal banking relationships within these market areas.
We attract deposit relationships from individuals, merchants, small to medium-sized businesses, not-for-profit
organizations and professionals who live and/or work in the communities comprising our market areas. As of
December 31, 2011, approximately 74% of our deposits are in Marin and southern Sonoma counties, and
approximately 60% of our deposits are from businesses and 40% are from individuals.
Page - 2
Competition
The banking business in California generally, and in our market area specifically, is highly competitive with respect to
attracting both loan and deposit relationships. The increasingly competitive environment is impacted by changes in
regulation, interest rate environment, technology and product delivery systems, and the consolidation among financial
service providers. The banking industry is seeing extreme competition for quality loans. Larger banks are seeking to
expand lending to small businesses, which are traditionally community bank customers. The Marin County market
area is dominated by two major nation-wide banks, each of which has more branch offices than us in the defined
service area. Additionally, there are several thrifts, credit unions and other independent banks.
As of June 30, 2011, the latest data available shows 90 banking offices with $9.0 billion in total deposits served the
Marin County market. As of that same date, there were approximately 5 thrift offices in Marin with $0.7 billion in total
deposits. We have the largest business core deposit market share, representing 25.4% of business core deposits in
Marin County1. A significant driver of our franchise value is the growth and stability of our checking and savings
deposits, which are a low cost funding source for our loan portfolio. We have also gained overall deposit market share
in our primary market area in 20111. The four financial institutions with the greatest deposit market share in Marin
County are Wells Fargo Bank, Bank of America, Bank of Marin, and Westamerica Bank with deposit market shares of
28.0% and 17.9%, 10.0%, and 8.3%, respectively1.
In the southern Sonoma County area of Petaluma, there are approximately 26 banking and thrift offices with $1.4
billion in total deposits as of June 30, 2011. Compared with our share of 5.0%, the four banking institutions with the
greatest overall market share, Wells Fargo Bank, Bank of America, Bank of the West, and Exchange Bank had
deposit market shares in Petaluma of 28.3%, 15.6%, 10.0%, and 8.9%, respectively1.
We also compete for depositors’ funds with money market mutual funds and with non-bank financial institutions such
as brokerage firms and insurance companies. Among the competitive advantages held by some of these non-bank
financial institutions is their ability to finance extensive advertising campaigns and to allocate investment assets to
regions of California or other states with areas of highest demand and, therefore, often higher yield.
Nation-wide banks have the competitive advantages of national advertising campaigns and technology infrastructure
to achieve economies of scale. Large commercial banks also have substantially greater lending limits and have the
ability to offer certain services which are not offered directly by us.
In order to compete with the numerous, and often larger, financial institutions in our primary market area, we use, to
the fullest extent possible, the flexibility and rapid response capabilities which are accorded by our independent
status. Our competitive advantages also include an emphasis on personalized services, community involvement,
philanthropic giving, local promotional activities and personal contacts. The commitment and dedication of our
organizers, directors, officers and staff have also contributed greatly to our success in competing for business.
Employees
At December 31, 2011, we employed 232 full-time equivalent (“FTE”) staff. The actual number of employees,
including part-time employees, at year-end 2011 included 4 executive officers, 88 other corporate officers and 155
staff. None of our employees are presently represented by a union or covered by a collective bargaining agreement.
We believe that our employee relations are good. We have been recognized as one of the “Best Places to Work in the
San Francisco Bay Area” by the San Francisco Business Times and the “Best Places to Work” by North Bay Business
Journal.
SUPERVISION AND REGULATION
Bank holding companies and banks are extensively regulated under both federal and state law. The following
discussion summarizes certain significant laws, rules and regulations affecting Bancorp and the Bank.
1 Based on the latest available FDIC deposit market share data as of June 30, 2011.
Page - 3
Bank Holding Company Regulation
Upon formation of the bank holding company on July 1, 2007, we became subject to regulation under the Bank
Holding Company Act of 1956, as amended (“BHCA”) which subjects Bancorp to FRB reporting and examination
requirements. Under the FRB’s regulations, a bank holding company is required to serve as a source of financial and
managerial strength to its subsidiary banks.
The BHCA regulates the activities of holding companies including acquisitions, mergers and consolidations and,
together with the Gramm-Leach Bliley Act of 1999, the scope of allowable banking activities. Bancorp is also a bank
holding company within the meaning of the California Financial Code. As such, Bancorp and its subsidiaries are
subject to examination by, and may be required to file reports with, the DFI.
Bank Regulation
Banking regulations are primarily intended to protect depositors’ funds, federal deposit insurance funds and the
banking system as a whole. These regulations affect our lending practices, consumer protections, capital structure,
investment practices and dividend policy.
As a state chartered bank, we are subject to regulation and examination by the DFI. We are also subject to regulation,
supervision and periodic examination by the FDIC. If, as a result of an examination of the Bank, the FDIC or the DFI
should determine that the financial condition, capital resources, asset quality, earnings prospects, management,
liquidity, or other aspects of our operations are unsatisfactory, or that we have violated any law or regulation, various
remedies are available to those regulators including issuing a “cease and desist” order, restricting our growth or
removing officers and directors.
The following discussion summarizes certain significant laws, rules and regulations affecting both Bancorp and the
Bank. The Bank addresses the many state and federal regulations it is subject to through a comprehensive
compliance program that addresses the various risks associated with these issues.
Dividends
The payment of cash dividends by the Bank to Bancorp is subject to restrictions set forth in the California Financial
Code (the “Code”). Prior to any distribution from the Bank to Bancorp, a calculation is made to ensure compliance with
the provisions of the Code and to ensure that the Bank remains within capital guidelines set forth by the DFI and the
FDIC. Management anticipates that there will be sufficient earnings at the Bank level to provide dividends to Bancorp
to meet its funding requirements for 2012. See also Note 9 to the Consolidated Financial Statements, under the
heading “Dividends” in Item 8 of this report.
FDIC Insurance Assessments
Our deposits are insured by the FDIC to the maximum amount permitted by law, which is currently $250,000 per
depositor. The 2010 enacted Dodd-Frank Wall Street Reform and Consumer Protection Act (the “Dodd-Frank Act”)
made the deposit insurance coverage permanent at the $250,000 level retroactive to January 1, 2008. The Dodd-
Frank act also provides depositors at all FDIC-insured institutions with unlimited deposit insurance coverage on
traditional checking accounts that do not pay interest and Interest on Lawyers Trust Accounts beginning December
31, 2010 through the end of 2012.
During 2009 and 2010, we elected to participate in the Temporary Transaction Account Guarantee Program, which
provided full deposit insurance coverage to non-interest bearing transaction accounts (including low-interest
negotiable order of withdrawal accounts and interest on lawyer trust accounts), by paying a 10 basis point surcharge
on the non-interest bearing transaction accounts over $250,000 through December 31, 2009, and a 15 basis point
surcharge through December 31, 2010, when the program ended.
On November 12, 2009, the FDIC finalized a Deposit Insurance Fund restoration plan that required banks to prepay,
on December 30, 2009, their estimated quarterly risk-based assessments for the fourth quarter of 2009 and for all of
2010, 2011 and 2012. Under the plan, banks were assessed through 2010 according to the risk-based premium
schedule adopted in April 2009.
Page - 4
On February 7, 2011, as required by the Dodd-Frank Act, the FDIC approved a rule that changes the FDIC insurance
assessment base from adjusted domestic deposits to a bank’s average consolidated total assets minus average
tangible equity, defined as Tier 1 capital. Since the new base is larger than the current base, the new rule lowers
assessment rates to between 2.5 and 9 basis points on the broader base for banks in the lowest risk category, and 30
to 45 basis points for banks in the highest risk category. The change was effective beginning with the second quarter
of 2011. Since we have a solid core deposit base and do not rely heavily on borrowings and brokered deposits, the
benefit of the lower assessment rate (which has dropped by approximately half for us) significantly outweighed the
effect of a wider assessment base.
Community Reinvestment Act
We are subject to the provisions of the Community Reinvestment Act (“CRA”), under which all banks and thrifts have
a continuing and affirmative obligation, consistent with safe and sound operations, to help meet the credit needs of
their entire communities, including low and moderate income neighborhoods. The act requires a depository
institution’s primary federal regulator, in connection with its examination of the institution, to assess the institution’s
record in meeting the requirements in CRA. The regulatory agency’s assessment of the institution’s record is made
available to the public. The record is taken into consideration when the institution establishes a new branch that
accepts deposits, relocates an office, applies to merge or consolidate, or expands into other activities. Our CRA
performance is evaluated by the FDIC under the intermediate small bank requirements. The FDIC’s last CRA
performance examination was performed on us and completed on May 7, 2009 with a rating of “Satisfactory”.
Anti Money–Laundering Regulations
A series of banking laws and regulations beginning with the Bank Secrecy Act in 1970 require banks to prevent,
detect, and report illicit or illegal financial activities to the federal government to prevent money laundering,
international drug trafficking, and terrorism. Under the Uniting and Strengthening America by Providing Appropriate
Tools Required to Intercept and Obstruct Terrorism Act of 2001, financial institutions are subject to prohibitions
against specified financial transactions and account relationships as well as enhanced due diligence and “know your
customer” standards in their dealings with high risk customers, foreign financial institutions, and foreign individuals
and entities. We have extensive controls in place to comply with these requirements.
Privacy and Data Security
The Gramm-Leach Bliley Act (“GLBA”) of 1999 imposes requirements on financial institutions with respect to
consumer privacy. The GLBA generally prohibits disclosure of consumer information to non-affiliated third parties
unless the consumer has been given the opportunity to object and has not objected to such disclosure. Financial
institutions are further required to disclose their privacy policies to consumers annually. The GLBA also directs federal
regulators, including the FDIC, to prescribe standards for the security of consumer information. We are subject to
such standards, as well as standards for notifying consumers in the event of a security breach. We must disclose our
privacy policy to consumers and permit consumers to “opt out” of having non-public customer information disclosed to
third parties. We are required to have an information security program to safeguard the confidentiality and security of
customer information and to ensure proper disposal of information that is no longer needed. Customers must be
notified when unauthorized disclosure involves sensitive customer information that may be misused.
Consumer Protection Regulations
Our lending activities are subject to a variety of statutes and regulations designed to protect consumers, including the
Fair Credit Reporting Act, Equal Credit Opportunity Act, the Fair Housing Act, and the Truth-in-Lending Act. Our
deposit operations are also subject to laws and regulations that protect consumer rights including Funds Availability,
Truth in Savings, and Electronic Funds Transfers. Additional rules govern check writing ability on certain interest
earning accounts and prescribe procedures for complying with administrative subpoenas of financial records.
Additionally, a provision of the Federal Reserve Regulation E has been changed effective July 1, 2010 that puts
restrictions on institutions assessing overdraft fees on consumer’s accounts relating to debit card usage or other
forms of electronic transfer. As a result, our overdraft fee income has been negatively impacted. See also analysis
captioned “Non interest income” in Item 7 of this report.
Page - 5
Restriction on Transactions between Member Banks and their Affiliates
Transactions between Bancorp and the Bank are quantitatively and qualitatively restricted under Sections 23A and
23B of the Federal Reserve Act and Federal Reserve Regulation W. Section 23A places restrictions on the Bank’s
“covered transactions” with Bancorp, including loans and other extensions of credit, investments in the securities of,
and purchases of assets from Bancorp. Section 23B requires that certain transactions, including all covered
transactions, be on market terms and conditions. Federal Reserve Regulation W combines statutory restrictions on
transactions between the Bank and Bancorp with FRB interpretations in an effort to simplify compliance with Sections
23A and 23B.
Capital Requirements
The FRB and the FDIC have adopted risk-based capital guidelines for bank holding companies and banks. Bancorp’s
ratios exceed the required minimum ratios for capital adequacy purposes and the Bank meets the definition for well
capitalized. Undercapitalized depository institutions may be subject to significant restrictions. Payment of interest and
principal on subordinated debt of the Bank could be restricted or prohibited, with some exceptions, if the Bank were
categorized as “critically undercapitalized” under applicable FDIC regulations. For further information on risk-based
capital, see Note 16 to the Consolidated Financial Statements in Item 8 of this Form 10-K.
The current risk-based capital guidelines which apply to the Bank are based upon the 1988 capital accord of
international Basel Committee referred to as “Basel I.” In January 2009, the Basel Committee proposed to reconsider
regulatory-capital standards, supervisory and risk-management requirements and additional disclosures to further
strengthen the Basel framework in response to recent worldwide economic developments. The proposed changes,
otherwise known as the “Basel III” standards, if adopted, could lead to significantly higher capital requirements, higher
capital charges and more restrictive leverage and liquidity ratios. Federal banking regulators have recently issued
proposed rules relating to the Basel III requirements. In the proposed rule it is anticipated that the Basel III
requirements will be applicable to all U.S. bank holding companies with consolidated assets of $50 billion or more and
any nonbank financial firms that may be designated as systemically important companies. Bancorp is uncertain as to
what eventual effect this will have on a companies such as us, with less than $50 billion in consolidated assets. There
is always the possibility that some of the Basel III requirements may be implemented by bank regulators for banks
with less than $50 billion in consolidated assets as a “best practice.”
Sarbanes-Oxley Act of 2002
We are subject to the requirements of the Sarbanes-Oxley Act of 2002 which implemented legislative reforms
intended to address corporate and accounting improprieties and among other things:
required executive certification of financial presentations;
increased requirements for board audit committees and their members;
●
●
● enhanced disclosure of controls and procedures and internal control over financial reporting;
● enhanced controls over, and reporting of, insider trading; and
●
increased penalties for financial crimes and forfeiture of executive bonuses in certain circumstances.
Emergency Economic Stabilization Act of 2009 (the “EESA”)
In response to the financial crisis affecting the banking system and financial markets and going concern threats of
investment banks and other financial institutions, on October 3, 2008, the EESA was signed into law, which gave the
U.S. Treasury the authority to, among other things, inject $700 billion capital into the market to stabilize the financial
industry. Pursuant to the EESA, the U.S. Treasury also purchased senior preferred shares from the largest nine
financial institutions in the nation and the other financial institutions in a program known as the Treasury Capital
Purchase Program (“TCPP”) that was carved out of the Troubled Asset Relief Program (“TARP”). As a result of our
participation in the TCPP, we were subject to restrictions on executive compensation and limitations on dividends and
stock repurchases from December 5, 2008 to March 31, 2009, the period that the preferred stock issued to the U.S.
Treasury was outstanding. We also issued a warrant to the U.S. Treasury as part of the TCPP to acquire 154,908
shares of our common stock (as adjusted to date). The warrant was auctioned by the U.S. Treasury and purchased by
two institutional investors during November 2011 and remains outstanding. See Note 9 to the Consolidated Financial
Statements in Item 8 of this report for discussion regarding the warrant.
Page - 6
The American Recovery and Reinvestment Act of 2009 (the “Recovery Act”)
The Recovery Act was signed into law on February 17, 2009 in an effort, among other things, to jumpstart the U.S.
economy, prevent job losses, expand educational opportunities, and provide affordable health care and tax relief.
Among the various measures in the Recovery Act, it imposes further restriction on executive compensation and
corporate expenditure limits of recipients of the TCPP funds, while allowing them to repurchase the preferred stock at
liquidation amount without regard to the original TCPP transaction terms. See Note 9 to the Consolidated Financial
Statements in Item 8 of this report for discussion regarding our repurchase of preferred stock issued under the TCPP.
The Dodd-Frank Wall Street Reform and Consumer Protection Act
On July 21, 2010, President Obama signed into law the Dodd-Frank Wall Street Reform and Consumer Protection
Act, a landmark financial reform bill comprised of massive volume of new rules and restrictions that will impact banks
going forward. It includes key provisions aimed at preventing a repeat of the 2008 financial crisis and a new process
for winding down failing, systemically important institutions in a manner as close to a controlled bankruptcy as
possible. The Act includes other key provisions as follows:
(1) The Act establishes a new Financial Stability Oversight Council to monitor systemic financial risks. The FRB is
given extensive new authorities to impose strict controls on large bank holding companies with total consolidated
assets equal to or in excess of $50 billion and systemically significant nonbank financial companies to limit the risk
they might pose for the economy and to other large interconnected companies. The FRB can also take direct control
of troubled financial companies that are considered systemically significant.
The Act restricts the amount of trust preferred securities (“TPS”) that may be considered as Tier 1 Capital. For bank
holding companies below $15 billion in total assets, TPS issued before May 19, 2010 will be grandfathered, so their
status as Tier 1 capital does not change. Beginning January 1, 2013, bank holding companies above $15 billion in
assets will have a three-year phase-in period to fill the capital gap caused by the disallowance of the TPS issued
before May 19, 2010. However going forward, TPS will be disallowed as Tier 1 capital.
(2) The Act creates a new process to liquidate failed financial firms in an orderly manner, including giving the FDIC
broader authority to operate or liquidate a failing financial company.
(3) The Act also establishes a new independent Federal regulatory body for consumer protection within the Federal
Reserve System known as the Bureau of Consumer Financial Protection (the “Bureau”), which will assume
responsibility for most consumer protection laws (except the Community Reinvestment Act). It will also be in charge of
setting appropriate consumer banking fees and caps. The Office of Comptroller of the Currency will continue to have
authority to preempt state banking and consumer protection laws if these laws “prevent or significantly” interfere with
the business of banking.
(4) The Act effects changes in the FDIC assessment as discussed in section “FDIC Insurance Assessments” above.
(5) The Act places certain limitations on investment and other activities by depository institutions, holding companies
and their affiliates, including comprehensive regulation of all over-the-counter derivatives.
(6) The Act states that the FRB is authorized to regulate interchange fees on debit cards and certain general-use
prepaid card transactions paid to issuing banks with assets in excess of $10 billion to ensure that they are
“reasonable and proportional” to the cost of processing individual transactions, and to prohibit debit and general-use
prepaid payment card networks and issuers from requiring transactions to be processed on a single payment network.
The FRB issued its final rule on June 29, 2011.
The impact of the Act on our banking operations is still uncertain due to the massive volume of new rules still subject
to adoption and interpretation.
Page - 7
Available Information
On our internet web site, www.bankofmarin.com, we post the following filings as soon as reasonably practicable after
they are filed with or furnished to the SEC: Annual Report on Form 10-K, Proxy Statement for the Annual Meeting of
Shareholders, quarterly reports on Form 10-Q, current reports on Form 8-K, and any amendments to those reports
filed or furnished pursuant to Section 13(a) or 15(d) of the Securities and Exchange Act of 1934. The text of the Code
of Ethical Conduct for Bancorp and the Bank is also included on the website. All such filings on our website are
available free of charge. This website address is for information only and is not intended to be an active link, or to
incorporate any website information into this document. In addition, copies of our filings are available by requesting
them in writing or by phone from:
Corporate Secretary
Bank of Marin
504 Redwood Blvd., Suite 100
Novato, CA 94947
415-763-4523
Page - 8
ITEM 1A.
RISK FACTORS
An investment in our common stock is subject to risks inherent to our business. The material risks and uncertainties
that Management believes may affect our business are described below. Before making an investment decision,
investors should carefully consider the risks and uncertainties described below, together with all of the other
information included or incorporated by reference in this report. The risks and uncertainties described below are not
the only ones facing our business. Additional risks and uncertainties that Management is not aware of or focused on
or that Management currently deems immaterial may also impair business operations. This report is qualified in its
entirety by these risk factors.
If any of the following risks actually occur, our financial condition and results of operations could be materially and
adversely affected.
Our Earnings are Significantly Influenced by General Business and Economic Conditions
We are operating in an uncertain economic environment. While there are signs of economic conditions improving, the
persistent high unemployment rate, weak business and consumer spending, the U.S. budget deficit and uncertainty in
European economies underline that the economy remains very fragile. Economic recovery is expected to be slow and
long. The housing market is not expected to recover soon amid a bleak job market. Business activity across a wide
range of industries and regions is greatly affected. Local and state governments are in difficulty due to the reduction in
sales taxes resulting from the lack of consumer spending and property taxes resulting from declining property values.
Financial institutions continue to be affected by the contraction of the real estate market, elevated foreclosure rates,
long-term high unemployment and underemployment rates and a stricter regulatory environment. While our market
areas have not experienced the same degree of challenge in unemployment as other areas2, the effects of these
issues have trickled down to households and businesses in our markets. There can be no assurance that the recent
economic improvement is sustainable and credit worthiness of our borrowers will not deteriorate.
Continued declines in real estate values and home sale volumes, financial stress on borrowers, including job losses,
and customers’ inability to pay debt could adversely affect our financial condition and results of operations in the
following aspects:
●
●
●
●
Demand for our products and services may decline
Low cost or non-interest bearing deposits may decrease
Collateral for our loans, especially real estate, may decline further in value
Loan delinquencies, problem assets and foreclosures may increase.
Our deposit growth level has outpaced our loan growth recently, which leads to excess liquidity earning a less
favorable yield. As the economy is still vulnerable, businesses are wary about capital expenditures or expansion of
working capital and consumers are de-leveraging their debts. Hence, we have noticed a low level of loan demand due
to an unfavorable economic climate and intensified competition for creditworthy borrowers, all of which could impact
our ability to generate profitable loans.
Nonperforming Assets Take Significant Time To Resolve And Adversely Affect Our Results Of Operations
And Financial Condition.
Our nonperforming assets have been maintained at a manageable level historically. As discussed in Note 2 to the
Consolidated Financial Statements in Item 8 of this report, we acquired certain assets of the failed Charter Oak Bank
on February 18, 2011. The Acquisition may expose us to credit issues of acquired assets, which may become
nonperforming in the future.
2 Based on the latest available labor market information from Employment Development Department. Preliminary
December 2011 results show that the unemployment rate in Marin County was the lowest in California at 6.5%. The
unemployment rates in Sonoma and Napa County are 8.9% and 9.0%, compared to the state of California at 10.9%.
Page - 9
Nonperforming assets may adversely affect our net income in various ways. Until economic and market conditions
improve, we expect to continue to incur elevated losses relating to nonperforming assets. We do not record interest
income on non-accrual loans, 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 loan to the then
fair value of the collateral, which may result in a loss. While we have tried to reduce our problem assets through
workouts, restructurings and otherwise, decreases in the value of these assets, or the underlying collateral, or in these
borrowers’ performance or financial conditions, 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, which can be detrimental to the
performance of other responsibilities. There can be no assurance that we will not experience further increases in
nonperforming loans in the future.
Purchased Loans from the Acquisition May Lose Value if the Estimated Fair Value is Inaccurate
Our determination regarding the fair value of loans purchased in the Acquisition could be inaccurate, which could
materially and adversely affect our business, financial condition, results of operations and future prospects.
Management makes various assumptions and judgments about the collectability of the acquired loans, including the
creditworthiness of borrowers and the value of the real estate and other assets serving as collateral for the repayment
of secured loans. The timing and amount of future expected cash flows is hence subject to a great degree of
uncertainty. Increases in the amount of future losses in response to different economic conditions or adverse
developments in the acquired loan portfolio may result in increased credit loss provisions and could have a negative
impact on our operating results.
Recently Enacted Legislation and Other Measures Undertaken by the Government May not Help Stabilize the
U.S. Financial System and The Impact of New Financial Reform Legislation is Yet to be Determined
As discussed in Item 1, Section captioned “Supervision and Regulation” above, in 2010, President Obama signed into
law a landmark financial reform bill—the Dodd-Frank Act. The rules under the Dodd-Frank Act may change banking
statutes and the operating environment of Bancorp and the Bank in substantial and unpredictable ways, and could
increase the cost of doing business, decrease our revenues, limit or expand permissible activities or affect the
competitive balance depending upon whether or how regulations are implemented. We may be forced to invest
significant management attention and resources to make any necessary changes related to the Dodd-Frank Act and
any regulations promulgated there under. The ultimate effect of the changes would have on the financial condition or
results of operations of Bancorp or the Bank is uncertain at this time.
The actual impact of the recently enacted legislation and such related measures undertaken to alleviate the
aftermaths of the credit crisis is unknown. The capital and credit markets have experienced volatility and disruption at
an unprecedented level in the past few years. In some cases, the markets have produced downward pressure on
credit availability for certain issuers without regard to those issuers’ underlying financial strength. If the recent years’
disruption and volatility return, there can be no assurance that we will not experience an adverse effect on our ability
to access credit or capital.
In addition to changes resulting from the Dodd-Frank Act, recent rules published by the Basel Committee on Banking
Supervision, could lead to significantly higher capital requirements, higher capital charges and more restrictive
leverage and liquidity ratios. On September 28, 2011, the Basel Committee upheld its view to require an additional
loss absorbency amount ranging from 1% to 2.5% on tier 1 capital for global systemically important banks (“G-SIBs”).
While we are not a G-SIB, general expectations of key stakeholders are that the Basel rules will trickle down and
affect smaller banks like us, and therefore increase our capital requirements, particularly the tier one common equity
ratio, in the future. As a result, it may affect the results of our financial condition or business’ prospects in the future.
Page - 10
The Recent Repeal of Federal Prohibitions on Payment of Interest on Demand Deposits Could Increase Our
Interest Expense
On July 21, 2011, the Dodd-Frank Act lifted the prohibitions on payment of interest on demand deposits. Financial
institutions can start paying interest on demand deposits in an effort to compete for deposits. Although we do not
currently pay interest on business demand deposits and the current low interest rate environment may delay any
significant change in interest rates offered by our main competitors, we may experience increases to our interest
expense and interest rate sensitivity and an overall decrease in the net interest margin if we are to offer interest on
demand deposits to attract or retain customers in the future. As a result, it may affect the results of our financial
condition, or business’ prospects in the future, especially when interest rates begin to rise.
We May Experience Unfavorable Outcomes with Growth
We seek to expand our franchise safely and consistently. A successful growth strategy requires us to manage multiple
aspects of the business simultaneously, such as following adequate loan underwriting standards, balancing loan and
deposit growth without increasing interest rate risk or compressing our net interest margin, maintaining sufficient
capital, and recruiting, training and retaining qualified professionals. We have recently expanded into the Napa and
the greater Sonoma markets, which may have characteristics unfamiliar to us. We may also experience a lag in
profitability associated with the new branch openings.
Our growth strategy also includes merger and acquisition opportunities that either enhance our market presence or
have potential for improved profitability through financial management, economies of scale or expanded services. As
discussed in Note 2 to the Consolidated Financial Statement in Item 8 of this report, we acquired certain assets and
certain liabilities of Napa-based Charter Oak Bank on February 18, 2011 through an FDIC-assisted transaction. While
FDIC-assisted acquisitions provide attractive opportunities in part due to loans purchased at significant discounts,
acquiring other banks or branches involves risks such as exposure to potential asset quality issues of the target
company, potential disruption to our normal business activities and diversion of Management’s time and attention due
to integration and conversion efforts. If we pursue our growth strategy too aggressively and fail to execute integration
properly, we may not be able to achieve expected synergies or other anticipated benefits.
Interchange Reimbursement Fees and Related Practices Have Been Receiving Significant Legal and
Regulatory Scrutiny, and the Resulting Regulations Could Have a Significant Impact on Interchange Fees We
Earn
The Dodd-Frank Act includes provisions that regulate the debit interchange rates and certain other network industry
practices (the “Durbin Amendment”). In addition, the FRB now has the power to regulate network fees to the extent
necessary to prevent evasion of the new rules on interchange rates. The FRB issued a rule to restrict interchange
fees on debit cards to 21 cents per transaction and 5 basis points multiplied by the value of the transaction for
institutions with $10 billion or more in assets. Interchange represents a transfer of value between the financial
institutions participating in payment networks such as Visa and NYCE, in which we participate. In connection with
transactions initiated with cards in a payments system, interchange reimbursement fees are typically paid to issuers,
the financial institutions such as us that issue debit cards to cardholders. They are typically paid by network owners,
the financial institutions that offer network connectivity and payment acceptance services to merchants.
Despite the statutory attempt to separate out smaller banks from the price controls embodied in the Durbin
amendment, the marketplace may drive business to the lowest cost option. Merchants may switch to lower-cost cards
and accounts of larger institutions, applying downward pressure on the fees paid to small institutions to compete. In
January 2010, Visa announced that it will implement a two-tiered pricing system for debit interchange – one for banks
with more than $10 billion in assets, and one for all those under the $10 billion threshold. There is no obligation for
networks, such as Visa, to maintain their multiple-tier pricing structure. Community banks such as us may ultimately
be harmed as a result. We may be forced to charge lower fees to customers, affecting our profitability. Owners of
networks in which we do not participate could elect to charge higher discount rates to merchants, leading merchants
not to accept cards for payment, or to steer Visa cardholders to alternate payment systems, hence reducing our
transaction volumes.
Page - 11
Negative Conditions Affecting Real Estate May Harm Our Business
Concentration of our lending activities in the California real estate sector could negatively impact our results of
operations if the adverse changes in the real estate market in our lending area intensify. Although we do not offer
traditional first mortgages, nor have sub-prime or Alt-A residential loans or significant amount of securities backed by
such loans in the portfolio, we are not immune from the effect of the set-back of the real estate market. Approximately
85% of our loans were secured by real estate at December 31, 2011, of which 61% were secured by commercial real
estate and the remaining 24% by residential real estate. Real estate valuations are impacted by demand, and demand
is driven by factors such as employment; when unemployment rises, demand drops. The unemployment rate has
stayed at an elevated level since 2009. Most of the properties that secure our loans are located within Marin, San
Francisco and Sonoma Counties. While we have seen improvement in real estate sales volume, the selling prices
continue to be at a distressed level3.
Loans secured by commercial real estate
those secured by small office buildings, owner-user
office/warehouses, mixed-use residential/commercial properties and retail properties. In 2011, office vacancy rates in
Marin County have fallen from 25.7% to 23.3%, while industrial vacancy rates have risen from 5.9% to 7.8% and retail
rates have fallen slightly from 5.5% to 5.1%4. In Sonoma County, vacancy rates are generally higher than in Marin
County: the rate of industrial, retail, and office vacancies changed from 13.9%, 8.5%, and 22.3% in 2010 to 13.7%,
6.6%, and 23.3% in 2011, respectively4. There can be no assurance that the companies or properties securing our
loans will generate sufficient cash flows to allow the borrowers to make full and timely loan payments to us.
include
In late 2006, Federal banking regulators issued final guidance regarding commercial real estate lending to address a
concern that rising commercial real estate lending concentrations may expose institutions to unanticipated earnings
and capital volatility in the event of adverse changes in the investor commercial real estate market. This guidance
suggests that institutions that are potentially exposed to significant commercial real estate concentration risk will be
subject to increased regulatory scrutiny. Institutions that have experienced rapid growth in commercial real estate
lending, have notable exposure to a specific type of commercial real estate lending, or are approaching or exceed
certain supervisory criteria that measure an institution’s commercial real estate portfolio against its capital levels, may
be subject to such increased regulatory scrutiny. Although regulators have not notified us of any concern, there is no
assurance that we will not be subject to additional scrutiny in the future.
We are Subject to Interest Rate Risk
Our earnings and cash flows are largely dependent upon our net interest income. Net interest income is the
difference between interest income earned on interest-earning assets, such as loans and securities, and interest
expense paid on interest-bearing liabilities, such as deposits and borrowed funds. Interest rates are sensitive to many
factors outside our control, including general economic conditions and policies of various governmental and regulatory
agencies and, in particular, the FRB, which regulates the supply of money and credit in the United States. Changes in
monetary policy, including changes in interest rates, could influence not only the interest we receive on loans and
securities and interest we pay on deposits and borrowings, but could also affect (i) our ability to originate loans and
obtain deposits, (ii) the fair value of our financial assets and liabilities, and (iii) the average duration of our mortgage-
backed securities portfolio. Our portfolio of securities is subject to interest rate risk and will generally decline in value if
market interest rates increase, and generally increase in value if market interest rates decline. Our mortgage-backed
security portfolio is also subject to prepayment risk in a low interest rate environment.
In response to the recessionary state of the national economy, the gloomy housing market and the volatility of
financial markets, the Federal Open Market Committee of the FRB (“FOMC”) started a series of decreases in Federal
funds target rate with seven decreases in 2008, bringing the target rate to a historically low range of 0% to 0.25%
through December 2011. In their statement after the first FOMC meeting in 2012, they expect the exceptionally low
interest rates to continue through 2014.
3 Home sales were up 5.3% in Marin County and 9.6% in Sonoma County in 2011.
4 Based on the latest available real estate information from Keegan & Coppin Company, Inc.
Page - 12
Interest rate changes can create fluctuations in the net interest margin due to an imbalance in the timing of repricing
or maturity of assets or liabilities. We manage interest rate risk exposure with the goal of minimizing the impact of
interest rate volatility on the net interest margin. Although we believe we have implemented effective asset and liability
management strategies, any substantial, prolonged low interest rate environment could have an adverse effect on our
financial condition and results of operations. See the sections captioned “Net Interest Income” in Management’s
Discussion and Analysis of Financial Condition and Results of Operations in Item 7 and Quantitative and Qualitative
Disclosures about Market Risk in Item 7A of this report for further discussion related to management of interest rate
risk.
In the current environment of historically low interest rates, it is important for us to mitigate exposure to future
increases in interest rates. If interest rates rise by more than 100 basis points, we anticipate that net interest income
will rise assuming no additional deposit rate sensitivity. However, it may still take several upward market rate
movements for variable rate loans at floors to move above their floor rates. Further, a rise in index rates leads to lower
debt service coverage of variable rate loans if the borrower’s operating cash flow doesn’t also rise. This creates a
leveraged paradox of an improving economy (leading to higher interest rates), but lower credit quality as short-term
rates move up faster than the cash flow or income of the borrowers. Higher interest rates may also depress loan
demand, making it more difficult for us to grow loans.
We are Subject to Significant Credit Risk and Loan Losses May Exceed Our Allowance for Loan Losses in the
Future
We maintain an allowance for loan losses, which is a reserve established through a provision for loan losses charged
to expense, that represents Management’s best estimate of probable losses that may be incurred within the existing
portfolio of loans. The level of the allowance reflects Management’s continuing evaluation of industry concentrations,
specific credit risks, loan loss experience, current loan portfolio quality and present economic, political and regulatory
conditions. The determination of the appropriate level of the allowance for loan losses inherently involves a high
degree of subjectivity and requires us to make significant estimates of current credit risks and future trends, all of
which may undergo material changes. Further, we generally rely on appraisals of the collateral or comparable sales
data to determine the level of specific reserve and/or the charge-off amount on certain collateral dependent loans.
Inaccurate assumptions in the appraisals or an inappropriate choice of the valuation techniques may lead to an
inadequate level of specific reserve or charge-offs.
Changes in economic conditions affecting borrowers, new information regarding existing loans and their collateral,
identification of additional problem loans and other factors, may require an increase in our allowance for loan
losses. In addition, bank regulatory agencies periodically review our allowance for loan losses and may require an
increase in the provision for loan losses or the recognition of further loan charge-offs. In addition, if charge-offs in
future periods exceed the allowance for loan losses or the cashflows from the acquired loans do not perform as
expected, we will need to record additional provision for loan losses. Any increases in the allowance for loan losses
will result in an adverse impact on net income and capital.
We Face Intense Competition with Other Financial Institutions to Attract and Retain Banking Customers
We are facing significant competition for customers from other banks and financial institutions located in the markets
we serve. We compete with commercial banks, saving banks, credit unions, non-bank financial services companies
and other financial institutions operating within or near our serving areas. Many of our non-bank competitors are not
subject to the same extensive regulations as we are, thus, they are able to offer greater flexibility in competing for
business. We anticipate intense competition will be continued for the coming year due to the recent consolidation of
many financial institutions and more changes in legislature, regulation and technology. Further, we expect loan
demand to continue to be challenging due to the uncertain economic climate and the intensifying competition for
creditworthy borrowers, both of which could lead to loan rate concession pressure and could impact our ability to
generate profitable loans.
Page - 13
Going forward, we may see tighter competition in the industry as banks seek to take market share in the most
profitable customer segments, particularly the small business segment and the mass-affluent segment, which offers a
rich source of deposits as well as more profitable and less risky customer relationships. Further, with the rebound of
the equity markets, our deposit customers may perceive alternative investment opportunities as providing superior
expected returns. Technology and other changes have made it more convenient for bank customers to transfer funds
into alternative investments or other deposit accounts such as online virtual banks and non-bank service providers.
The current low interest rate environment could increase such transfers of deposits to higher yielding deposits or other
investments. Efforts and initiatives we undertake to retain and increase deposits, including deposit pricing, can
increase our costs. When our customers move money into higher yielding deposits or in favor of alternative
investments, we can lose a relatively inexpensive source of funds, thus increasing our funding costs.
We also compete with nation-wide and regional banks much larger than our size, which may be able to benefit from
economies of scale through their wider branch network, national advertising campaigns and sophisticated technology
infrastructure.
We intend to seek additional deposits by continuing to establish and strengthen our personal relationships with our
existing customers and by offering deposit products that are competitive with those offered by other financial
institutions in our markets. If these efforts are unsuccessful, we may need to fund our asset growth through
borrowings, other non-core funding or public offerings of our common stock which could be leveraged. Increased
debt would further increase our leverage, reduce our borrowing capacity and increase our reliance on non-core funds
and counterparties’ credit availability. A public offering may have a dilutive effect on earnings per share and share
ownership.
Our Ability to Access Markets for Funding and Acquire and Retain Customers Could be Adversely Affected
by the Deterioration of Other Financial Institutions or the Financial Service Industry’s Reputation
Reputation risk is the risk to liquidity, earnings and capital arising from negative publicity regarding the financial
services industry. The financial services industry continues to be featured in negative headlines about their roles in
the past global and national credit crisis and the resulting stabilization legislation enacted by the U.S. federal
government. These reports can be damaging to the industry’s image and potentially erode consumer confidence in
insured financial institutions. Bank failures in California, including in our own markets, have had a negative impact
and additional failures are expected. In addition, our ability to engage in routine funding and other transactions could
be adversely affected by the actions and commercial soundness of other financial institutions. Financial services
institutions are interrelated as a result of trading, clearing, counterparty or other relationships. As a result, defaults by,
or even rumors or questions about, one or more financial services institutions, or the financial services industry
generally, have led to market-wide liquidity problems, losses of depositor, creditor and counterparty confidence and
could lead to losses or defaults by us or by other institutions. We could experience increases in deposits and assets
as a direct or indirect result of other banks’ difficulties or failure, which would increase the capital we need to support
such growth or we could experience severe and unexpected decreases in deposits which could adversely impact our
liquidity and heighten regulatory concern.
Bancorp and the Bank are Subject to Extensive Government Regulation and Supervision
Bancorp and the Bank are subject to extensive federal and state governmental supervision, regulation and control.
Holding company regulations affect the range of activities in which Bancorp is engaged. Banking regulations affect the
Bank’s lending practices, capital structure, investment practices and dividend policy among other controls. Future
legislative changes or interpretations may also alter the structure and competitive relationship among financial
institutions. Legislation is regularly introduced in the U.S Congress and the California Legislature which would impact
our operating environment in perhaps substantial and unpredictable ways. The nature and extent of future legislative
and regulatory changes affecting us is unpredictable at this time.
The historic disruptions in the financial marketplace over the past few years have prompted the Obama administration
to reform the financial market regulation. This reform includes additional regulations over consumer financial products,
bond rating agencies and the creation of a regime for regulating systemic risk across all types of financial service
firms. In light of recent economic conditions as well as regulatory and congressional criticism, further restrictions on
financial service companies may adversely impact our results of operations and financial condition, as well as
increase our compliance risk.
Page - 14
Compliance risk is the current and prospective risk to earnings or capital arising from violations of, or nonconformance
with, laws, rules, regulations, prescribed practices, internal policies, and procedures, or ethical standards set forth by
regulators. Compliance risk also arises in situations where the laws or rules governing certain bank products or
activities of our clients may be ambiguous or untested. This risk exposes Bancorp and the Bank to potential fines,
civil money penalties, payment of damages and the voiding of contracts. Compliance risk can lead to diminished
reputation, reduced franchise value, limited business opportunities, reduced expansion potential and an inability to
enforce contracts.
For further information on supervision and regulation, see the section captioned “Supervision and Regulation” in Item
1 above.
Bancorp Relies on Dividends from the Bank to Pay Cash Dividends to Shareholders
Bancorp is a separate legal entity from its subsidiary, the Bank. Bancorp receives substantially all of its revenue from
the Bank in the form of dividends, which is Bancorp’s principal source of funds to pay cash dividends to Bancorp’s
common shareholders. Various federal and state laws and regulations limit the amount of dividends that the Bank
may pay to Bancorp. In the event that the Bank is unable to pay dividends to Bancorp, Bancorp may not be able to
pay dividends to its shareholders. As a result, it could have an adverse effect on Bancorp’s stock price and investment
value.
Under federal law, capital distributions from the Bank would become prohibited, with limited exceptions, if the Bank
were categorized as “undercapitalized” under applicable FRB or FDIC regulations. In addition, as a California bank,
the Bank is subject to state law restrictions on the payment of dividends. For further information on the distribution
limit from the Bank to Bancorp, see the section captioned “Bank Regulation” in Item 1 above and “Dividends” in Note
9 to the Consolidated Financial Statements in Item 8 below.
The Trading Volume of Bancorp’s Common Stock is Less than That of Other Larger Financial Services
Companies
Our common stock is listed on the NASDAQ’s Capital Market. Our trading volume is less than that of nationwide or
regional financial institutions. A public trading market having the desired characteristics of depth, liquidity and
orderliness depends on the presence of willing buyers and sellers of common stock at any given time. This presence
depends on the individual decisions of investors and general economic and market conditions over which we have no
control. Given the lower trading volume of our common stock, significant trades of our stock in a given time, or the
expectations of these trades, could cause the stock price to be more volatile.
Failure of Correspondent Banks and Counterparties May Affect our Liquidity
In the past few years, the financial services industry in general was materially and adversely affected by the credit
crises. We have witnessed failure of banks in the industry in recent years and the trend is expected to continue. We
rely on our correspondent banks for lines of credit. We also have two correspondent banks as counterparties in our
derivative transactions (see Note 15 to the Consolidated Financial Statements). While we continually monitor the
financial health of our correspondent banks and we have diverse sources of liquidity, should any one of our
correspondent banks become financially impaired, our available credit may decline and/or they may be unable to
honor their commitments.
Unexpected Early Termination of Our Interest Rate Swap Agreements May Impact Our Earnings
We have entered into interest-rate swap agreements, primarily as an asset/liability management strategy, in order to
mitigate the changes in the fair value of specified long-term fixed-rate loans and firm commitments to enter into long-
term fixed-rate loans caused by changes in interest rates. These hedges allow us to offer long-term fixed rate loans
to customers without assuming the interest rate risk of a long-term asset by swapping our fixed-rate interest stream
for a floating-rate interest stream. In the event of default by the borrowers on our hedged loans, we may have to
terminate these designated interest-rate swap agreements early, resulting in severe prepayment penalties charged by
our counterparties. On the other hand, when these interest-rate swap agreements are in an asset position, we are
subject to the credit risk of our counterparties, who may default on the interest-rate swap agreements, leaving us
vulnerable to interest rate movements.
Page - 15
Securities May Lose Value due to Credit Quality of the Issuers
We hold securities issued and/or guaranteed by Federal National Mortgage Association (“FNMA”) and Federal Home
Loan Mortgage Corporation (“FHLMC”). In 2008, the U.S. Government placed both FNMA and FHLMC under
conservatorship. Starting in December 2008, the U.S. Government also began purchasing mortgage-backed
securities (“MBS”) issued by FNMA. Further, in December 2009, the U.S. Treasury also announced unlimited capital
support for FNMA and FHLMC for the next three years. As a result, the MBS issued by FNMA and FHLMC has
experienced an increase in fair value and our available-for-sale security portfolio has benefitted from this government
support. However, the Obama administration released its report to Congress on reforming the housing-finance
market on February 11, 2011. The proposal would wind down FNMA and FHLMC and incrementally shrink the
government’s housing-finance footprint by, among other things, gradually increasing the firms’ guarantee pricing,
reducing their conforming loan limits, and phasing in a 10-percent down-payment requirement. When the U.S.
Government starts selling the MBS securities issued by FNMA and FHLMC, when the government support is phased-
out or completely withdrawn, or if either the FNMA or FHLMC comes under further financial stress or deteriorates in
their credit worthiness, the fair value of our securities issued or guaranteed by these entities could be negatively
affected.
We also invest in obligations of state and political subdivisions, some of which are experiencing financial difficulties in
part due to loss of property tax from falling home values and declines in sales tax revenues from a reduction in retail
activities. The 2009 federal stimulus plan funds flowing out to state governments across the country are running down
and are expected to continue to decline and be fully utilized by 2013. State and political subdivisions are expected to
undergo further financial stress due to the reduced federal funding. While we seek to minimize our exposure by
diversifying geographic location of our portfolio and investing in investment grade securities, there is no guarantee
that the issuers will remain financially sound to be current with their payments on these debentures.
Deterioration of Credit Quality or Insolvency of Insurance Companies May Impede our Ability to Recover
Losses
The recent financial crisis has led certain major insurance companies to the verge of bankruptcy. We have property,
casualty and financial institution risk coverage underwritten by several insurance companies, who may not avoid the
insolvency risk permeating the insurance industry. In addition, some of our investment in obligations of state and
political subdivisions is insured by several insurance companies. While we closely monitor credit ratings of our
insurers and insurers of our municipality securities, and we are poised to make quick changes if needed, we cannot
predict an unexpected inability to honor commitments. We also invest in bank-owned life insurance policies on certain
members of senior management, which may lose value in the event of the carriers’ insolvency. In the event that our
bank-owned life insurance policy carriers’ credit ratings fall below investment grade, we may exchange policies
underwritten by them to another carrier at a cost charged by the original carrier, or we may terminate the policies
which may result in adverse tax consequences.
Our loan portfolio is also primarily secured by properties located in earthquake or fire-prone zones. In the event of a
disaster that causes pervasive damage to the region in which we operate, not only the Bank, but also the loan
collateral may suffer losses not recovered by insurance.
We Rely on Technology and Continually Encounter Technological Change
The financial services industry is continually undergoing rapid technological change with frequent introductions of new
technology-driven products and services. The effective use of technology will enable efficiency and meeting
customer’s changing needs. Our future success depends, in part, upon our ability to address the needs of our
customers by using technology to provide products and services that will satisfy customer demands, as well as to
create additional efficiencies in our operations. Many of our competitors have substantially greater resources to invest
in technological improvements. We may not be able to effectively implement new technology-driven products and
services or be successful in marketing these products and services to retain and compete for customers. Failure to
successfully keep pace with technological change affecting the financial services industry could have a material
adverse impact of the long-term aspect our business and, in turn, our financial condition and results of operations.
Page - 16
We May Experience a Breach in Cyber-security
Our business requires the secure handling of sensitive client information. We also rely heavily on communications and
information systems to conduct our business. Cyber incidents include intentional attacks or unintentional events that
can include gaining unauthorized access to digital systems to disrupt operations, corrupting data, stealing sensitive
information or causing denial-of-service on our Web sites. We store, process and transmit account information in
connection with lending and deposit relationships, including funds transfer and online banking. A breach of cyber-
security systems of the Bank, our vendors or customers, or widely publicized breaches of other financial institutions
could significantly harm our reputation, result in a loss of customer business, subject us to additional regulatory
scrutiny, or expose us to civil litigation and possible financial liability. While we have systems and procedures
designed to prevent security breaches, we cannot be certain that advances in criminal capabilities, physical system or
network break-ins or inappropriate access will not compromise or breach the technology protecting our networks or
proprietary client information.
We Rely on Third-Party Vendors for Important Aspects of Our Operation
We depend on the accuracy and completeness of information provided by certain key vendors, including but not limited to
data processing, payroll processing, technology support, investment security safekeeping and accounting. Our ability to
operate, as well as our financial condition and results of operations, could be negatively affected in the event of an
interruption of an information system, an undetected error, or in the event of a natural disaster whereby certain vendors are
unable to maintain business continuity.
We May Not Be Able To Attract and Retain Key Employees
Our success depends, in large part, on our ability to attract and retain key people. Competition for the best people in most
activities engaged by us can be intense and we may not be able to hire skilled people or retain them. We do not currently
have non-competitive agreements with any of our senior officers. The unexpected loss of services of key personnel could
have a material adverse impact on our business because of the skills, knowledge of our market, years of industry
experience and the difficulty of promptly finding qualified replacement personnel.
Severe Weather, Natural Disasters or Other Climate Change Related Matters Could Significantly Impact Our
Business
Our primary market is located in an earthquake-prone zone in northern California. Other severe weather or disasters, such
as severe rainstorms, wildfire or flood, could interrupt our business operations unexpectedly. Climate-related physical
changes and hazards could also pose credit risks for us. For example, our borrowers may have collateral properties located
in coastal areas at risk to rise in sea level. The properties pledged as collateral on our loan portfolio could also be damaged
by tsunamis, floods, earthquake or wildfires and thereby the recoverability of our loan could be impaired. A number of
factors affect our credit losses, including the extent of damage to the collateral, the extent of damage not covered by
insurance, the extent to which unemployment and other economic conditions caused by the natural disaster adversely affect
the ability of borrowers to repay their loans, and the cost of collection and foreclosure to us. Lastly, there could be
increased insurance premiums and deductibles, or a decrease in the availability of coverage, due to severe weather-related
losses. The ultimate impact on our business of a natural disaster, whether or not caused by climate change, is difficult to
predict.
ITEM 1B.
UNRESOLVED STAFF COMMENTS
None
ITEM 2.
PROPERTIES
We lease our corporate headquarters building, which houses our primary loan production, operations, and administrative
offices, in Novato, California. We also lease other branch or office facilities within our primary market areas in the cities of
Corte Madera, San Rafael, Novato, Sausalito, Mill Valley, Greenbrae, Petaluma, Santa Rosa, Sonoma, Napa and San
Francisco, California. We consider our properties to be suitable and adequate for our needs. For additional information on
properties, see Notes 5 and 13 to the Consolidated Financial Statements included in Item 8 of this Form 10-K.
Page - 17
ITEM 3.
LEGAL PROCEEDINGS
There are no pending, or to Management's knowledge any threatened, material legal proceedings to which we are a party,
or to which any of our properties are subject. There are no material legal proceedings to which any director, any nominee
for election as a director, any executive officer, or any associate of any such director, nominee or officer is a party adverse
to us.
We are responsible for our proportionate share of certain litigation indemnifications provided to Visa U.S.A. by its member
banks in connection with lawsuits related to anti-trust charges and interchange fees. For further details, see Note 13 to the
Consolidated Financial Statements in Item 8 of this Form 10-K.
ITEM 4.
MINE SAFETY DISCLOSURES
Not applicable
Page - 18
PART II
ITEM 5.
MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND
ISSUER PURCHASES OF EQUITY SECURITIES
Bancorp common stock trades on the NASDAQ Capital Market under the symbol BMRC. At February 29, 2012,
5,345,732 shares of Bancorp’s common stock, no par value, were outstanding and held by approximately 1,900
holders of record. The following table sets forth, for the periods indicated, the range of high and low intraday sales
prices of Bancorp’s common stock.
Calendar
Quarter
1st Quarter
2nd Quarter
3rd Quarter
4th Quarter
2011
2010
High
Low
High
Low
$
$
$
$
37.72 $
39.39 $
39.85 $
38.63 $
31.80 $
34.04 $
32.34 $
32.10 $
33.60 $
36.14 $
35.50 $
36.00 $
29.19
30.80
30.08
31.69
The table below shows cash dividends paid to common shareholders on a quarterly basis in the last two fiscal years.
Calendar
Quarter
1st Quarter
2nd Quarter
3rd Quarter
4th Quarter
2011
Per Share
0.16 $
0.16 $
0.16 $
0.17 $
$
$
$
$
Dollars
848,000 $
851,000 $
852,000 $
906,000 $
2010
Per Share
Dollars
0.15 $ 785,000
0.15 $ 787,000
0.15 $ 789,000
0.16 $ 844,000
For additional information regarding our ability to pay dividends, see discussion in Note 9 to the Consolidated
Financial Statement, under the heading “Dividends,” in Item 8 of this report.
There were no purchases made by or on behalf of Bancorp or any “affiliated purchaser” (as defined in Rule 10b-
18(a)(3) under the Securities Exchange Act of 1934), of the Bancorp’s common stock during the fourth quarter of
2011.
On July 2, 2007, Bancorp executed a shareholder rights agreement (“Rights Agreement”) designed to discourage
takeovers that involve abusive tactics or do not provide fair value to shareholders. Refer to Exhibit 4.1 to Registration
Statement on Form 8-A12B filed with the Securities and Exchange Commission on July 2, 2007.
Securities Authorized for Issuance under Equity Compensation Plans
The following table summarizes information as of December 31, 2011, with respect to equity compensation plans. All
plans have been approved by the shareholders.
Equity compensation plans approved by
shareholders
(A)
Shares to be issued
upon exercise of
outstanding options
(B)
Weighted average
exercise price of
outstanding options
(C)
Shares available for future
issuance (Excluding shares
in column A)
299,8061 $
30.71
471,5192
1 Represents shares of common stock issuable upon exercise of outstanding options under the Bank of Marin 1990
Stock Option Plan, the Bank of Marin 1999 Stock Option Plan and the Bank of Marin Bancorp 2007 Equity Plan.
2 Represents shares of common stock available for future grants under the 2007 Equity Plan and the 2010 Director
Stock Plan.
Page - 19
Stock Price Performance Graph
The following graph, provided by Keefe, Bruyette, & Woods, Inc., shows a comparison of cumulative total shareholder
return on our common stock during the five fiscal years ended December 31, 2011 compared to Russell 2000 Stock
index and peer group index of other financial institutions. We have been part of the Russell 2000 index since July
2009. The comparison assumes $100 was invested on December 31, 2006 in our common stock and all of the
dividends were reinvested. The performance graph represents past performance and should not be considered to be
an indication of future performance. Ticker symbol BMRC represents the common stock of Bank of Marin Bancorp
subsequent to its formation July 1, 2007 and represents the common stock of Bank of Marin for periods prior to the
formation of the bank holding company.
BMRC . . . . . . . . . . . . . . . . . . . . . . . . . .
Peer Group1 . . . . . . . . . . . . . . . . . . . .
Russell 2000 . . . . . . . . . . . . . . . . . . . .
2006
100
100
100
2007
81
66
98
2008
67
31
65
2009
90
18
83
2010
97
20
105
2011
104
19
101
1BMRC Peer Group represents public California banks with assets between $500 million to $2 billion as of December
31, 2011: FMCB, FCAL, EXSR, BSRR, PFBC, HTBK, AMBZ, BBNK, RCBC, PMBC, HEOP, PPBI, BOCH, NOVB,
CVCY, CUNB, FNRN, FNBG, UBFO, CWBC, SWBCD, OVLY, AMRB, PBCA, SAEB, FENB, PFCF, PVLY. The peer
group composite index is weighted by market capitalization and reinvests dividends on the ex-date and adjusts for
stock splits, if applicable.
Source: Company Reports, FactSet, and SNL
Page - 20
ITEM 6. SELECTED FINANCIAL DATA
As of For the Year Ended December
31,
(dollars in thousands, except per
share data)
At December 31
Total assets
Total loans
Total deposits
Total stockholders’ equity
Equity-to-asset ratio
2011
2010
2009
2008
2007
2010/2011
% change
$ 1,393,263 $ 1,208,150
941,400
1,015,739
121,920
1,031,154
1,202,972
135,551
$ 1,121,672
917,748
944,061
109,051
$ 1,049,557
890,544
852,290
125,546
$ 933,901
724,878
834,642
87,774
9.7%
10.1%
9.7%
12.0%
9.4%
For year ended December 31
$
Net interest income
Provision for loan losses
Non-interest income
Non-interest expense
Net income
Net income per share (diluted)
Tax-equivalent net interest
margin
Cash dividend payout ratio on
common stock 1
63,819 $
7,050
6,269
38,283
15,564
2.89
$
54,909
5,350
5,521
33,357
13,552
2.55
$
52,567
5,510
5,182
31,696
12,765
2.19
48,359
5,010
5,356
28,677
12,150
2.31
$
42,742
685
5,718
27,673
12,324
2.31
5.13%
4.95%
5.17%
5.41%
5.07%
22.1%
23.6%
25.8%
23.9%
21.4%
1 Calculated as dividends on common share divided by basic net income per common share.
15.3%
9.5%
18.4%
11.2%
-3.6%
16.2%
31.8%
13.5%
14.8%
14.8%
13.3%
3.6%
-6.3%
ITEM 7.
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS
The following discussion of financial condition as of December 31, 2011 and 2010 and results of operations for each
of the years in the three-year period ended December 31, 2011 should be read in conjunction with our consolidated
financial statements and related notes thereto, included in Part II Item 8 of this report. Average balances, including
balances used in calculating certain financial ratios, are generally comprised of average daily balances.
Forward-Looking Statements
The disclosures set forth in this item are qualified by important factors detailed in Part I captioned Forward-Looking
Statements and Item 1A captioned Risk Factors of this report and other cautionary statements set forth elsewhere in
the report.
Executive Summary
We reported record annual earnings of $15.6 million in 2011, an increase of $2.0 million, or 14.8% from $13.6 million
a year ago. 2011 earnings include the impact of the FDIC assisted acquisition of certain assets and the assumption of
certain liabilities of the former Charter Oak Bank on February 18, 2011 partially offset by the $924 thousand pre-
payment penalty on the early pay-off of a $20 million fixed-rate FHLB advance. Diluted earnings per share for the year
ended December 31, 2011 totaled $2.89, up $0.34 from $2.55 in the prior year.
The acquired operations of the former Charter Oak Bank contributed approximately $3.2 million to Bancorp’s pre-tax
2011 income, including, among other things, $2.9 million of accretion on purchased non-credit impaired loans, $2.3
million in loan loss provision, $1.9 million of gains recognized in interest income on pay-offs of purchased credit-
impaired loans (“PCI”) loans, $1.0 million in Acquisition related third party costs, $683 thousand impairment write-off
of the core deposit intangible asset and $146 thousand in pre-tax bargain purchase gain. The income amounts
discussed above exclude allocated overhead and allocated cost of funds. The accretion on purchased non-credit
impaired loans is expected to decline significantly over the next year.
In addition to our entry into the Napa market through the Acquisition, in 2011 we have expanded our community
banking footprint in Sonoma County. In October 2011, the Bank opened a branch in downtown Sonoma and
expanded our Santa Rosa loan production office into a full service branch. We have experienced an increase in non-
interest expenses and may experience a short-term lag in profitability associated with the new branch openings. We
expect that these strategic initiatives will contribute to our profitability in the long term.
Page - 21
We are committed to building strong lending relationships in new and core markets. Total loans reached $1.0 billion at
December 31, 2011, representing an increase of $89.8 million, or 9.5%. The increase reflects the loans in the Napa
market totaling $56.3 million at December 31, 2011, primarily the remaining loans purchased in the Acquisition as well
as growth in the Bank’s commercial real estate, commercial and industrial and home equity portfolios, partially offset
by a decreased emphasis on certain product lines, including construction and other residential lending.
Non-accrual loans totaled $12.0 million, or 1.16% of Bancorp’s loan portfolio at December 31, 2011, compared to
$12.9 million or 1.37% a year ago.
The provision for loan losses totaled $7.1 million and $5.4 million in 2011 and 2010, respectively. The increase in the
provision for loan losses is primarily driven by $2.3 million of loan loss provision related to the acquired loans, where
credit quality has deteriorated since the Acquisition. The allowance for loan losses of $14.6 million totaled 1.42% of
loans at December 31, 2011 compared to $12.4 million or 1.32% at December 31, 2010. The increase in the
allowance for loan losses as a percentage of loans reflects a higher level of impaired loans and the related specific
reserves. Net charge-offs in 2011 totaled $4.8 million compared to $3.6 million in the prior year. The increase in net
loan charge-offs primarily relates to $1.5 million of charge-offs related to the acquired loans.
Our continued focus on responsible community banking fundamentals and our strong customer relationships has led
to higher deposits, a core funding source for our loan portfolio. Total deposits grew $187.2 million, or 18.4%, from a
year ago to $1.2 billion at December 31, 2011. The higher level of deposits reflects growth in most categories, except
CDARS® time deposits, which decreased $20.6 million. Non-interest bearing deposits grew $77.4 million or 27.4% to
$359.6 million and comprised 29.9% of total deposits at December 31, 2011, compared to 27.8% a year ago. The
increase in total deposits includes deposits in the Napa market, primarily assumed in the Acquisition, totaling $57.9
million at December 31, 2011.
The tax-equivalent net interest margin was 5.13% in 2011 compared to 4.95% in 2010. Tax-equivalent net interest
income for 2011 totaled $64.9 million, representing an increase of $9.1 million, or 16.3% compared to 2010. The
increase primarily reflects the acquisition of loans from the former Charter Oak Bank and a reduction in the cost of
deposits, partially offset by the $924 thousand pre-payment penalty on the Federal Home Loan Bank of San
Francisco (“FHLB”) advance in the third quarter of 2011.
In the current environment of historically low interest rates, the largest factors likely to affect our net interest margin in
2012 will be our ability to reduce low-yielding excess liquidity by generating profitable loans to creditworthy borrowers,
as well as our responsiveness to competitive pricing on loans and deposits in our market. The Acquisition, especially
the accretion on acquired non-PCI loans (expected to decline significantly over the next year) and gains on payoffs of
PCI loans, favorably impacted our 2011 net interest margin. We will need to grow loans significantly to maintain the
elevated level of net interest margin. Further, as fixed rate loans mature, we expect loan production to continue to be
challenging due to the uncertain economic climate and the intensifying competition for creditworthy borrowers, both of
which could lead to loan rate concession pressure and could impact our ability to generate profitable loans. Lastly,
approximately 13% of our loans are variable rate loans, whose repricing intervals lag between one to five years after
their applicable rate indices change. The downward repricing on these variable loans will put pressure on our net
interest margin. Refer to Table 10, Loan Portfolio Maturity Distribution and Interest Rate Sensitivity for further
information. It is imperative for us to manage customer and product profitability, especially when the interest rate
environment remains stable.
If interest rates increase, we anticipate that net interest income will rise. The increase in interest income from asset
repricing may be partially offset by deposit rate sensitivity. Additionally, it may take several upward market rate
movements for variable rate loans at floors to move above the floor rates.
Critical Accounting Policies
Critical accounting policies are those that are both most important to the portrayal of our financial condition and results
of operations and require Management’s most difficult, subjective, or complex judgments, often as a result of the need
to make estimates about the effect of matters that are inherently uncertain.
Management has determined the following five accounting policies to be critical: Allowance for Loan Losses, Acquired
Loans, Other-than-temporary Impairment of Investment Securities, Accounting for Income Taxes and Fair Value
Measurements.
Page - 22
Allowance for Loan Losses
Allowance for loan losses is based upon estimates of loan losses and is maintained at a level considered adequate to
provide for probable losses inherent in the outstanding loan portfolio. The allowance is increased by provisions
charged to expense and reduced by charge-offs, net of recoveries. In periodic evaluations of the adequacy of the
allowance balance, Management considers our past loan loss experience by type of credit, known and inherent risks
in the portfolio, adverse situations that may affect the borrower’s ability to repay, the estimated value of any underlying
collateral, current economic conditions and other factors. We formally assess the adequacy of the allowance for loan
losses on a quarterly basis. These assessments include the periodic re-grading of loans based on changes in their
individual credit characteristics including delinquency, seasoning, recent financial performance of the borrower,
economic factors, changes in the interest rate environment, and other factors as warranted. Loans are initially graded
when originated. They are reviewed as they are renewed, when there is a new loan to the same borrower and/or
when identified facts demonstrate heightened risk of default. Confirmation of the quality of our grading process is
obtained by independent reviews conducted by outside consultants specifically hired for this purpose and by periodic
examination by various bank regulatory agencies. Management monitors delinquent loans continuously and identifies
problem loans to be evaluated individually for impairment testing. For loans that are determined impaired, formal
impairment measurement is performed at least quarterly on a loan-by-loan basis.
Our method for assessing the appropriateness of the allowance includes specific allowances for identified problem
loans, an allowance factor for categories of credits, and allowances for changing environmental factors (e.g., portfolio
trends, concentration of credit, growth, economic factors). Allowances for identified problem loans are based on
specific analysis of individual credits. Loss estimation factors for loan categories are based on analysis of local
economic factors applicable to each loan category, including consideration of our historical charge-off history.
Allowances for changing environmental factors are Management’s best estimate of the probable impact these
changes have had on the loan portfolio as a whole.
For our methodology on estimating the allowance for loan losses on acquired loans, refer to the section Acquired
Loans below.
Acquired Loans
Acquired loans are recorded at their estimated fair values at acquisition date in accordance with ASC 805 Business
Combinations, factoring in credit losses expected to be incurred over the life of the loan. Accordingly, an allowance for
loan losses is not carried over or recorded for acquired loans as of the acquisition date.
The process of estimating fair values of the acquired loans, including the estimate of losses that are expected to be
incurred over the estimated remaining lives of the loans at acquisition date and the ongoing updates to Management’s
expectation of future cash flows, requires significant subjective judgments and assumptions, particularly considering
the current economic environment. The economic environment and the lack of market liquidity and transparency are
factors that have influenced, and may continue to affect, these assumptions and estimates.
We estimated the fair value of acquired loans at the acquisition date based on a discounted cash flow methodology
that considered factors including the type of loan and related collateral, risk classification, fixed or variable interest
rate, term of loan and whether or not the loan was amortizing, and current discount rates. Loans were grouped
together according to similar characteristics and were treated in the aggregate when applying various valuation
techniques. The estimate of expected cash flows incorporates our best estimate of current key assumptions, such as
property values, default rates, loss severity and prepayment speeds. The discount rates used for loans were based on
current market rates for new originations of comparable loans, where available, and include adjustments for liquidity
concerns. To the extent comparable market rates are not readily available, a discount rate was derived based on the
assumptions of market participants’ cost of funds, servicing costs and return requirements for comparable risk assets.
In either case, the discount rate does not include a factor for credit losses, as that has been considered in estimating
the cash flows. The initial estimate of cash flows to be collected was derived from assumptions such as default rates,
loss severities and prepayment speeds.
Page - 23
In conjunction with the Acquisition, we purchased certain loans with evidence of credit quality deterioration
subsequent to their origination and for which it was probable, at acquisition, that we would be unable to collect all
contractually required payments. Management has applied significant subjective judgment in determining which loans
are PCI loans. Evidence of credit quality deterioration as of the purchase date may include statistics such as past due
and nonaccrual status, risk grades and recent loan-to-value percentages. Revolving credit agreements (e.g. home
equity lines of credit and revolving commercial loans), where the borrower had revolving privileges at acquisition date,
are not considered PCI loans because the timing and amount of cash flows cannot be reasonably estimated.
The accounting guidance for PCI loans provides that the excess of the cash flows initially expected to be collected
over the fair value of the loans at the acquisition date (i.e., the accretable yield) should be accreted into interest
income at a level rate of return over the remaining term of the loan, provided that the timing and amount of future cash
flows is reasonably estimable. The difference between the contractually required payments and the cash flows
expected to be collected at acquisition, considering the impact of prepayments, is referred to as the nonaccretable
difference and is not recorded.
The initial estimate of cash flows expected to be collected is updated each quarter and requires the continued usage
of key assumptions and estimates similar to the initial estimate of fair value. Given the current economic environment,
we must apply judgment to develop our estimate of cash flows for PCI loans given the impact of real estate value
changes, changing loss severities and prepayment speeds.
For purposes of accounting for the PCI loans purchased in the Acquisition, we elected not to apply the pooling method
but to account for these loans individually. Disposals of loans, which may include sales of loans to third parties,
receipt of payments in full by the borrower, foreclosure of the collateral or troubled debt restructurings, result in
removal of the loan from the PCI loan portfolio at its carrying amount.
If we have probable and significant increases in cash flows expected to be collected on PCI loans, we first reverse
any previously established allowance for loan loss and then increase interest income as a prospective yield
adjustment over the remaining life of the loans. The impact of changes in variable interest rates is recognized
prospectively as adjustments to interest income. All PCI loans that were classified as nonperforming loans prior to
Acquisition were no longer classified as nonperforming because, at Acquisition, we believed that we would fully collect
the new carrying value of these loans. Subsequent to Acquisition, specific allowances are allocated to PCI loans that
have experienced credit deterioration through an increase to the allowance for loan losses. The amount of cash flows
expected to be collected and, accordingly, the adequacy of the allowance for loan losses are particularly sensitive to
changes in loan credit quality. When there is doubt as to the timing and amount of future cash flows to be collected,
PCI are classified as non-accrual loans. It is important to note that judgment is required to classify PCI loans as
performing or non-accrual, and is dependent on having a reasonable expectation about the timing and amount of
cash flows expected to be collected.
For acquired loans not considered PCI loans, we elect to recognize the entire fair value discount accretion based on
the acquired loan’s contractual cash flows using an effective interest rate method for term loans, and on a straight line
basis to interest income for revolving lines, as the timing and amount of cash flows under revolving lines are not
predictable. Subsequent to Acquisition, if the probable and estimable losses for non-PCI loans exceed the amount of
the remaining unaccreted discount, the excess is established as an allowance for loan losses.
For further information regarding our acquired loans, see Note 2 and Note 4 to our Consolidated Financial Statements
in this Form 10-K.
Page - 24
Other-than-temporary Impairment of Investment Securities
At each financial statement date, we assess whether declines in the fair value of held-to-maturity and available-for-
sale securities below their costs are deemed to be other than temporary. We consider, among other things, (i) the
length of time and the extent to which the fair value has been less than cost, (ii) the financial condition and near-term
prospects of the issuer, and (iii) our intent and ability to retain the investment for a period of time sufficient to allow for
any anticipated recovery in fair value. Evidence evaluated includes, but is not limited to, the remaining payment terms
of the instrument and economic factors that are relevant to the collectability of the instrument, such as: current
prepayment speeds, the current financial condition of the issuer(s), industry analyst reports, credit ratings, credit
default rates, interest rate trends and the value of any underlying collateral. Credit-related other-than-temporary
impairment results in a charge to earnings and the corresponding establishment of a new cost basis for the security.
Non-credit-related other-than-temporary impairment results in a charge to other comprehensive income, net of
applicable taxes, and the corresponding establishment of a new cost basis for the security. The other-than-temporary
impairment recognized in other comprehensive income for debt securities classified as held-to-maturity is accreted
from other comprehensive income to the amortized cost of the debt security over the remaining life of the debt
security in a prospective manner on the basis of the amount and timing of future estimated cash flows.
Accounting for Income Taxes
Income taxes reported in the financial statements are computed based on an asset and liability approach. We
recognize the amount of taxes payable or refundable for the current year, and deferred tax assets and liabilities for the
expected future tax consequences that have been recognized in the financial statements. Under this method, deferred
tax assets and liabilities are determined based on the differences between the financial statements and tax basis of
assets and liabilities using enacted tax rates in effect for the year in which the differences are expected to reverse. We
record net deferred tax assets to the extent it is more likely than not that they will be realized. In evaluating our ability
to recover the deferred tax assets, Management considers all available positive and negative evidence, including
scheduled reversals of deferred tax liabilities, projected future taxable income, tax planning strategies and recent
financial operations. In projecting future taxable income, Management develops assumptions including the amount of
future state and federal pretax operating income, the reversal of temporary differences, and the implementation of
feasible and prudent tax planning strategies. These assumptions require significant judgment about the forecasts of
future taxable income and are consistent with the plans and estimates being used to manage the underlying business.
Bancorp files consolidated federal and combined state income tax returns.
We recognize the financial statement effect of a tax position when it is more likely than not, based on the technical
merits, that the position will be sustained upon examination. For tax positions that meet the more-likely-than-not
threshold, we may recognize only the largest amount of tax benefit that is greater than fifty percent likely of being
realized upon ultimate settlement with the taxing authority. Management believes that all of our tax positions taken
meet the more-likely-than-not recognition threshold. To the extent tax authorities disagree with these tax positions, our
effective tax rates could be materially affected in the period of settlement with the taxing authorities.
Fair Value Measurements
We use fair value measurements to record fair value adjustments to certain assets and liabilities and to determine fair
value disclosures. We base our fair values on the price that would be received to sell an asset or paid to transfer a
liability in an orderly transaction between market participants at the measurement date. Securities available for sale,
derivatives, and loans held for sale, if any, are recorded at fair value on a recurring basis. Additionally, from time to
time, we may be required to record certain assets at fair value on a non-recurring basis, such as purchased loans
recorded at acquisition date, certain impaired loans held for investment and securities held to maturity that are other-
than-temporarily impaired. These non-recurring fair value adjustments typically involve write-downs of individual
assets due to application of lower-of-cost or market accounting.
We have established and documented a process for determining fair value. We maximize the use of observable
inputs when developing fair value measurements. Whenever there is no readily available market data, Management
uses its best estimate and assumptions in determining fair value, but these estimates involve inherent uncertainties
and the application of Management’s judgment. As a result, if other assumptions had been used, our recorded
earnings or disclosures could have been materially different from those reflected in these financial statements. For
detailed information on our use of fair value measurements and our related valuation methodologies, see Note 10 to
the Consolidated Financial Statements in Item 8 of this Form 10-K.
Page - 25
RESULTS OF OPERATIONS
Overview
Highlights of the financial results are presented in the following table:
(dollars in thousands, except per share data)
For the period:
Net income
Net income per share
Basic
Diluted
Return on average equity
Return on average assets
Common stock dividend payout ratio
Efficiency ratio
At period end:
Book value per common share
Total assets
Total loans
Total deposits
Loan-to-deposit ratio
As of and for the years ended December 31,
2011
2010
2009
$
$
$
$
$
$
$
15,564
2.94
2.89
12.01%
1.16%
22.11%
54.62%
25.40
1,393,263
1,031,154
1,202,972
$
$
$
$
$
$
$
13,552
$
12,765
$
$
2.59
2.55
11.67%
1.14%
23.55%
55.20%
2.21
2.19
11.46%
1.16%
25.79%
54.89%
23.05
1,208,150
941,400
1,015,739
$
20.85
$ 1,121,672
917,748
$
944,061
$
85.72%
92.68%
97.21%
Summary of Quarterly Results of Operations
Table 1 sets forth the quarterly results of operations for 2011 and 2010:
Table 1
Summarized Statement of Income
(dollars in thousands, unaudited)
Interest income
Interest expense
Net interest income
Provision for loan
losses
Net interest income after
provision for loan losses
Non-interest income
Non-interest expense
Income before provision for
income taxes
Provision for income
Dec. 31
2011 Quarters Ended
Sept. 30
$ 16,666 $ 17,225 $
Jun. 30
18,137 $
Mar. 31
17,086 $
Dec. 31
15,364 $
948
15,718
2,005
15,220
1,134
17,003
1,208
15,878
1,305
14,059
2010 Quarters Ended
Sept. 30
15,601 $
1,636
13,965
Jun. 30
15,505 $
1,748
13,757
Mar. 31
14,887
1,759
13,128
2,500
500
3,000
1,050
1,050
1,400
1,350
1,550
13,218
1,524
9,734
14,720
1,565
9,421
14,003
1,581
9,998
14,828
1,599
9,130
13,009
1,360
8,037
12,565
1,307
8,507
12,407
1,505
8,591
11,578
1,349
8,222
5,008
6,864
5,586
7,297
6,332
5,365
5,321
4,705
taxes
Net income
1,625
3,383 $
2,631
4,233 $
2,147
3,439 $
2,788
4,509 $
2,424
3,908 $
2,006
3,359 $
1,983
3,338 $
1,758
2,947
$
Net income available to
common stockholders
Net income per common
share
Basic
Diluted
$
3,383 $
4,233 $
3,439 $
4,509 $
3,908 $
3,359 $
3,338 $
2,947
$
$
0.64 $
0.63 $
0.80 $
0.79 $
0.65 $
0.64 $
0.85 $
0.84 $
0.74 $
0.73 $
0.64 $
0.63 $
0.64 $
0.63 $
0.56
0.56
Page - 26
Net Interest Income
Net interest income is the difference between the interest earned on loans, investments and other interest-earning
assets and the interest expense incurred on deposits and other interest-bearing liabilities. Net interest income is
impacted by changes in general market interest rates and by changes in the amounts and composition of interest-
earning assets and interest-bearing liabilities. Interest rate changes can create fluctuations in the net interest margin
due to an imbalance in the timing of repricing or maturity of assets or liabilities. We manage interest rate risk exposure
with the goal of minimizing the impact of interest rate volatility on net interest margin.
Net interest margin is expressed as net interest income divided by average interest-earning assets. Net interest rate
spread is the difference between the average rate earned on total interest-earning assets and the average rate
incurred on total interest-bearing liabilities. Both of these measures are reported on a taxable-equivalent basis. Net
interest margin is the higher of the two because it reflects interest income earned on assets funded with non-interest-
bearing sources of funds, which include demand deposits and stockholders’ equity.
Table 2, Distribution of Average Statements of Condition and Analysis of Net Interest Income, compares interest
income and average interest-earning assets with interest expense and average interest-bearing liabilities for the three
years ended December 31, 2011, 2010 and 2009. The table also indicates net interest income, net interest margin
and net interest rate spread for each period presented.
Table 2
Distribution of Average Statements of Condition and Analysis of Net Interest Income
2011
Interest
Income/
Expense
Average
Balance
Yield/
Rate
Average
Balance
2010
Interest
Income/
Expense
Yield/
Rate
Average
Balance
2009
Interest
Income/
Expense
Yield/
Rate
$
87,365 $
---
222
---
0.25% $
---
43,028 $
3,049
143
2
0.33% $
0.07
164 $
1,752
1
4
0.60%
0.23
120,118
3,478
2.90
91,869
3,234
17,249
636
3.69
13,675
593
38,204
1,935
5.06
30,893
1,741
984,211
63,914
6.40
929,755
56,542
3.52
4.34
5.64
6.00
70,268
3,304
4.70
7,397
506
6.84
29,221
1,677
5.74
910,456
55,071
5.97
1,247,147
70,185
5.55
1,112,269
62,255
5.52
1,019,258
60,563
5.86
46,673
9,136
34,183
$ 1,337,139
34,383
8,259
31,262
1,186,173
$
46,954
8,140
26,041
$ 1,100,393
(dollars in thousands)
Assets
Interest-bearing due from
banks (1)
Federal funds sold
Investment securities
U.S. Government
agencies (2)
Corporate CMOs and
other (2)
Obligations of state and political
subdivisions (3)
Loans and banker’s
acceptances (1) (3) (4)
Total interest-earning
assets (1)
Cash and non-interest-bearing due
from banks
Bank premises and equipment, net
Interest receivable and other assets,
net
Total assets
Liabilities and Stockholders’ Equity
Interest-bearing transaction
accounts
$
125,316 $
Savings accounts
Money market accounts
CDARS® time accounts
Other time accounts
Overnight borrowings (1)
FHLB fixed-rate borrowings
Subordinated debenture (1)
Total interest-bearing
liabilities
Demand accounts
Interest payable and other liabilities
Stockholders’ equity
69,792
405,726
39,514
151,866
---
49,722
5,000
846,936
347,682
12,983
129,538
151
98
1,286
237
1,314
---
2,062
147
0.12% $
0.14
0.32
0.60
0.87
---
4.15
2.90
5,295
0.63
98,168 $
51,738
390,575
71,432
124,631
2
55,000
5,000
796,546
263,742
9,791
116,094
110
104
2,467
842
1,495
---
1,281
149
0.11% $
0.20
0.63
1.18
1.20
0.29
2.33
2.94
90,159 $
45,944
391,571
51,248
97,924
10,659
53,794
5,000
115
94
3,235
721
1,541
28
1,253
180
0.13%
0.20
0.83
1.41
1.57
0.26
2.33
3.55
6,448
0.81
7,167
0.96
746,299
232,502
9,873
111,359
$ 1,337,139
$
1,186,173
$ 1,100,033
Total liabilities & stockholders’
equity
Tax-equivalent net interest
income/margin (1)
Reported net interest income/
margin
Tax-equivalent net interest rate spread
$ 64,890
5.13%
$
55,807
4.95%
$ 53,396
5.17%
$ 63,819
5.05%
4.92%
$
54,909
4.87%
4.71%
$ 52,567
5.09%
4.90%
Page - 27
(1) Interest income/expense is divided by actual number of days in the period times 360 days to correspond to stated
interest rate terms, where applicable.
(2) Yields on available-for-sale securities are calculated based on amortized cost balances rather than fair value, as
changes in fair value are reflected as a component of stockholders’ equity. Investment security interest is earned on
30/360 day basis monthly.
(3) Yields and interest income on tax-exempt securities and loans are presented on a taxable-equivalent basis using
the Federal statutory rate of 35 percent.
(4) Average balances on loans outstanding include non-performing loans. The amortized portion of net loan
origination fees is included in interest income on loans, representing an adjustment to the yield.
2011 Compared with 2010:
Tax equivalent net interest income totaled $64.9 million and $55.8 million for the years ended December 31, 2011 and
2010, respectively. The $9.1 million or 16.3% increase was due to an increase in volume of interest-earning assets
and the increase in loan yield, offset by the effect of lower yields on investment securities.
The tax-equivalent net interest margin increased to 5.13% in 2011, up eighteen basis points from 2010. The increase
in the tax-equivalent net interest margin primarily reflects the acquisition of loans from the former Charter Oak Bank
and a reduction in the cost of deposits, partially offset by the $924 thousand pre-payment penalty on the FHLB
advance in the third quarter of 2011, as well as lower yields on investment securities and originated loans and a
higher concentration of low yielding due from banks. In 2011, PCI loans paid off early where the payoff amounts
exceeded the recorded investment by $1.9 million which favorably impacted our net interest margin by fifteen basis
points. Accretion on the acquired non-PCI loans of $2.9 million contributed twenty-three basis points to the net interest
margin. The net interest spread increased twenty-one basis points from the same period last year for the same
reasons.
Average interest-earning assets increased $134.9 million, or 12.1%, in 2011 compared to 2010. This included
increases in average interest-earning due from banks of $44.3 million, average investment securities of $39.1 million
and average loan growth of $54.5 million (mainly due to the Acquisition on February 18, 2011).
Market interest rates are in part based on the target Federal funds interest rate (the interest rate banks charge each
other for short-term borrowings) implemented by the FOMC. In December of 2008, the target interest rate was
brought to a historic low with a range of 0% to 0.25% where it remains as of December 31, 2011.
The yield on interest-earning assets increased three basis points in 2011 compared to 2010. The yield on the loan
portfolio, which comprised 78.9% and 83.6% of average earning assets in 2011 and 2010, respectively, increased
forty basis points. The accretion on the acquired non-PCI loans of $2.9 million represents twenty-nine basis points of
the increase and the early payoff on PCI loans where the payoff amounts exceeded the recorded investment by $1.9
million represents nineteen basis points of the increase. This increase is partially offset by the decrease in yields on
investment securities due to lower yields on recently purchased securities in this low interest rate environment and a
higher concentration of low yielding due from banks. In addition, we have experienced downward repricing and rate
concessions on the loan portfolio as well as the addition of new loans at lower current market rates. The current level
of accretion on non-PCI loans is expected to continue to decline.
The average balance of interest-bearing liabilities increased $50.4 million, or 6.3%, in 2011 compared to 2010.
Average deposits grew in most categories, except for CDARS® time deposits, which decreased $31.9 million. The
increase in average deposits was offset by a decrease in average FHLB borrowings of $5.3 million due to the early
pay-off of a $20 million FHLB fixed-rate advance at 2.54% on September 19, 2011.
The rate on interest-bearing liabilities decreased eighteen basis points in 2011 compared to 2010, primarily reflecting
lower offering rates on money market accounts, as well as the downward re-pricing of time deposits as they mature.
In 2011, the rate on other time deposits, CDARS®, and money market accounts decreased thirty-three basis points,
fifty-eight basis points, and thirty-one basis points, respectively. The increase of 1.82% in the rate on FHLB
borrowings is due to the $924 thousand pre-payment penalty on the early pay-off of the $20 million fixed-rate
advance.
Page - 28
2010 Compared with 2009:
Tax equivalent net interest income totaled $55.8 million and $53.4 million for the years ended December 31, 2010 and
2009, respectively. The $2.4 million or 4.5% increase was due to an increase in volume of interest-earning assets,
offset by the effect of lower yields on investment securities.
Average interest-earning assets increased $93.0 million, or 9.1%, in 2010 compared to 2009. This included increases
in average interest-bearing due from banks of $42.9 million, average investment securities of $29.6 million and
average loan growth of $19.3 million. In October 2010, we opened our Santa Rosa loan production office, to position
the Bank for additional loan growth, particularly in commercial and industrial loans.
The tax-equivalent net interest margin decreased to 4.95% in 2010, down twenty-two basis points from 2009. The
decrease in the tax-equivalent net interest margin was primarily due to lower yields on investment securities (as a
result of increased prepayments and lower yields on recent additions) and a shift in the relative composition of
interest-earning assets from higher-yielding loans to lower-yielding interest-bearing due from banks. The excess
liquidity from deposit inflows has not yet been deployed into funding new loans, as the banking industry as a whole
has been experiencing challenges with loan demand and the competition for qualified borrowers intensified. The net
interest spread decreased nineteen basis points from 2009 for the same reasons.
The yield on the loan portfolio, which comprised 83.6% and 89.3% of average earning assets in 2010 and 2009,
respectively, increased three basis points in 2010 compared to 2009. This is mainly due to the shift in the mix of loans
from construction and commercial loans to higher-yielding commercial real estate loans. Interest foregone on non-
accrual loans represented a seven-basis point reduction to the net interest margin in both 2010 and 2009.
The lower yields on investment securities are a result of increased prepayments resulting in accelerated amortization
of premiums, and lower yields on recently purchased securities. The yield on private-label CMOs, agency securities
and municipal bonds decreased 250 basis points, 118 basis points and ten basis points, respectively, in 2010.
The average balance of interest-bearing liabilities increased $50.2 million, or 6.7%, in 2010 compared to 2009. The
increases are pervasive in all categories of deposit accounts except money market accounts, with the most significant
increase in time deposits (including CDARS®), which increased $46.9 million. These increases were partially offset by
a decrease in overnight borrowings of $10.7 million. We have experienced a shift in the relative composition of
interest-bearing deposits in 2010 compared to 2009 as the proportion of higher-costing time accounts has increased,
while the proportion of money market deposit accounts has decreased.
The rate on interest-bearing liabilities decreased fifteen basis points in 2010 compared to 2009, primarily reflecting
lower offering rates on money market accounts, as well as the downward re-pricing of time deposits as they mature.
In 2010, the rate on other time deposits, CDARS®, and money market accounts decreased thirty-seven basis points,
twenty-three basis points, and twenty basis points, respectively. The rate on the subordinated debenture dropped
sixty-one basis points due to a decline in the three-month LIBOR rate, to which the debenture rate is indexed.
Table 3, Analysis of Changes in Net Interest Income, separates the change in net interest income into two
components: 1 Volume – change caused by increases or decreases in the average asset and liability balances
outstanding, and 2 Yield/Rate – changes in average yields on earning assets and average rates for interest-bearing
liabilities.
Page - 29
Table 3
Analysis of Changes in Net Interest Income
The table indicates that in 2011 and 2010, our net interest income was favorably affected by an increase in the
volume of interest-earning assets and increase in loan yields (primarily due to accretion on acquired non-PCI loans
and the impact of gains on early payoffs of loans acquired at a discount), partially offset by declines in yields on
investment securities and market pricing pressures on loan yields. Further, net interest income in both 2011 and 2010
benefitted from lower rates on deposits, especially money market and time accounts.
(in thousands)
Assets
Interest-bearing due from banks
Federal funds sold
Investment securities
U. S. Government agencies
Obligations of state and political
Municipal bonds2
Corporate CMO
Loans and bankers’ acceptances2
Total interest-earning assets
Liabilities
Interest-bearing transaction accounts
Savings accounts
Money market accounts
CDARS® time deposits
Other time accounts
Overnight borrowings
FHLB fixed-rate borrowings
Subordinated debenture
Total interest-bearing liabilities
Tax-equivalent net interest income
$
2011 compared to 2010
Yield/
Rate1
Volume
Total
2010 compared to 2009
Yield/
Rate1
Volume
Total
$
113 $
(2)
(34) $
-
79 $
(2)
142 $
1
- $
(3)
142
(2)
818
(574)
244
760
(830)
(70)
370
132
3,536
4,967
33
25
48
(191)
236
-
(220)
-
(69)
5,036 $
(176)
(89)
3,836
2,963
194
43
7,372
7,930
272
94
1,174
2,443
(185)
(30)
297
(751)
8
(31)
(1,229)
(414)
(417)
-
1,001
(2)
(1,084)
4,047 $
41
(6)
(1,181)
(605)
(181)
-
7813
(2)
(1,153)
9,083 $
9
12
(6)
238
320
(31)
28
-
570
1,873 $
(14)
(2)
(762)
(117)
(366)
3
-
(31)
(1,289)
538 $
87
64
1,471
1,692
(5)
10
(768)
121
(46)
(28)
28
(31)
(719)
2,411
1 The changes for each category of interest income and expense are divided between the portion of change
attributable to the variance in volume and the portion of change attributable to the variance in rate for that category.
The unallocated change in rate or volume variance has been allocated between the rate and volume variances on a
pro rata basis.
2 Yields and interest income on tax-exempt securities and loans are presented on a taxable-equivalent basis using
the Federal statutory rate of 35 percent.
3 Amounts includes a $924 thousand prepayment penalty in 2011 discussed in Note 8 of the consolidated financial
statements.
Provision for Loan Losses
Management assesses the adequacy of the allowance for loan losses on a quarterly basis based on several factors
including growth of the loan portfolio, analysis of probable losses in the portfolio, recent loss experience and the
current economic climate. Actual losses on loans are charged against the allowance, and the allowance is increased
through the provision for loan losses charged to expense. For further discussion, see the section captioned “Critical
Accounting Policies.”
Our provision for loan losses totaled $7.1 million in 2011 compared to $5.4 million in 2010. The increase in the
provision for loan losses is primarily driven by $2.3 million of loan loss provision related to the acquired loans in the
later half of 2011, where credit quality has deteriorated since the Acquisition. The allowance for loan losses of $14.6
million totaled 1.42% of loans at December 31, 2011, compared to 1.32% at December 31, 2010, respectively. Net
charge-offs in 2011 totaled $4.8 million compared to $3.6 million in the prior year. The increase in net charge-offs
primarily relates to $1.5 million of charge-offs related to the acquired loans. See the section captioned “Allowance for
Loan Losses” below for further analysis of the provision for loan losses.
Page - 30
Non-interest Income
The table below details the components of non-interest income.
Table 4
Significant Components of Non-interest Income
Years Ended
December 31,
2011
2010
2009
$ 1,836 $ 1,797 $ 1,782 $
2011 compared to 2010
Amount
Increase
(Decrease)
39
Percent
Increase
(Decrease)
2010 compared to 2009
Amount
Increase
(Decrease)
15
Percent
Increase
(Decrease)
0.8%
2.2% $
1,834
1,521
1,383
313
20.6
138
10.0
752
690
696
62
9.0
(6)
(0.8)
108
845
147
747
2,599
$ 6,269 $ 5,521 $ 5,182 $
98
368
---
855
2,017
120
486
---
907
2,203
(12)
359
147
(160)
396
748
(10.0)
73.9
NM
(17.6)
18.0
13.5% $
22
118
---
52
186
339
22.4
32.1
---
6.1
9.2
6.5%
(in thousands)
Service charges on deposit accounts
Wealth Management and Trust
Services
Other non-interest income
Earnings on Bank-owned life
insurance
Customer banking fees and other
charges
Debit card interchange fees
Pre-tax bargain purchase gain
Other income
Total other non-interest income
Total non-interest income
NM - Not Meaningful
2011 Compared with 2010:
When comparing 2011 to 2010, service charge income on deposit accounts increased due to a higher number of
deposit accounts (mainly from the Acquisition), partially offset by a decrease in overdraft and non-sufficient funds fee
income, primarily due to the new regulatory restriction on overdraft fee assessments (Federal Reserve Regulation E),
which was effective July 1, 2010.
The increase in Wealth Management and Trust Services (“WMTS”) income is due to higher estate settlement fees
and higher rates charged on corporate trust-related services in 2011, as well as an increase in the number of
accounts and customer relationships. This is partially offset by volatility in the equity and bond markets which impacts
the market value of trust assets and the related investment fees. As of December 31, 2011 and 2010, assets under
management totaled approximately $251.4 million and $254.0 million, respectively.
The increase in Bank-owned life insurance (“BOLI”) income in 2011 compared to 2010 is primarily due to additional
income earned on $2.5 million in new policies purchased in late March 2011.
The decrease in customer banking fees and other charges is due to less ATM surcharge and higher remote capture
fee income waived, partially offset by higher credit card referral fees and check order income, relating to an increase
in the number of customer accounts.
The increase in debit card interchange fees is primarily attributable to a steady increase in volume of debit card
usage, as well as new accounts from the Acquisition. In June 2011, the FRB finalized a new regulation to restrict
interchange fees charged for debit card transactions by banks with more than $10 billion in assets. Although we are
exempt under the new rule, market pricing of the interchange fees may drive these revenues down. The effect on
market pricing, if any, may take time to realize. Therefore, we cannot quantify the ultimate impact of this rule on such
interchange fees.
Page - 31
2011 reflects the pre-tax bargain purchase gain of $147 thousand from the Acquisition.
Other income decreased due to lower merchant interchange income, partially offset by increases on the gain on
disposal of repossessed assets, safe deposit box rental income and wire fee income.
2010 Compared with 2009:
When comparing 2010 to 2009, service charge income on deposit accounts remained relatively unchanged.
The increase in WMTS income was due to higher estate settlement and trust-services fees received in 2010, as well
as the increase in assets under management. As of December 31, 2010 and 2009, assets under management totaled
approximately $254.0 million and $252.5 million, respectively.
BOLI income remained relatively unchanged in 2010 compared to 2009.
The increase in customer banking fees and other charges was due to higher credit card referral fees, miscellaneous
card fees, ATM surcharges and check order income, relating to an increase in the number of customer accounts,
partially offset by higher remote capture fee income waived.
The increase in debit card interchange fees was primarily due to higher Visa® debit card fees, attributable to a higher
volume of Visa® debit card usage, as well as a Bank-wide Visa® debit card promotion program.
The increase in other non-interest income was mainly due to an increase in merchant interchange due to a higher
transaction volume from our merchant customers as well as one-time billing adjustments and an increase in the
dividend received on FHLB stock, partially offset by a decrease in miscellaneous income.
Non-interest Expense
Table 5, Significant Components of Non-interest Expense, summarizes the amounts and changes in dollars and
percentages. Our efficiency ratio (the ratio of non-interest expense divided by the sum of non-interest income and net
interest income) totaled 54.62%, 55.20% and 54.89% in 2011, 2010 and 2009, respectively.
Table 5
Significant Components of Non-interest Expense
(dollars in thousands)
Salaries and related benefits
Occupancy and equipment
Depreciation and amortization
FDIC Insurance
Data processing costs
Professional services
Other non-interest expense
Advertising
Director expense
Impairment and amortization of core deposit
intangible
Other expense
Total other non-interest expense
Total non-interest expense
Years Ended
December 31,
2011
2010
$20,211 $ 18,240 $ 17,001 $
4,002 3,576 3,516
1,293 1,344 1,370
1,000 1,506 1,800
2,690 1,916 1,650
2,499 1,917 1,727
2010 compared to 2009
Percent
Increase
(Decrease)
Amount
Increase
2011 compared to 2010
Percent
Increase
2009 (Decrease) (Decrease)
1,971
426
(51)
(506)
774
582
Amount
Increase
(Decrease)
10.8% $ 1,239
60
11.9%
(26)
(3.8%)
(294)
(33.6%)
266
40.4%
190
30.4%
589
493
459
475
528
420
130
18
28.3%
3.8%
(69)
55
---
725
---
4,781 3,924 3,684
6,588 4,858 4,632
$38,283 $ 33,357 $ 31,696 $
725
857
1,730
4,926
---
NM
240
21.8%
35.6%
226
14.8% $ 1,661
7.3%
1.7%
(1.9%)
(16.3%)
16.1%
11.0%
(13.1)%
13.1%
---
6.5%
4.9%
5.2%
Page - 32
2011 Compared with 2010:
The increase in salaries and benefits is primarily due to higher personnel-related costs associated with branch
expansion, as well as annual merit increases. The number of average FTE totaled 226 and 201 in 2011 and 2010,
respectively.
The increases in occupancy and equipment expense are mainly due to an increase in expenses related to branch
expansion, including Napa, Sonoma and a full year of rent for our Santa Rosa branch, partially offset by a full year of
cost savings from the relocation of our Corte Madera branch and leases re-negotiated at lower rates.
Depreciation and amortization expense decreased as 2010 reflected the accelerated amortization of leasehold
improvements of our old Corte Madera branch when it relocated in July 2010.
The decrease in 2011 FDIC insurance expenses compared to 2010 reflects the revision to the FDIC insurance
assessment base. As discussed in the section captioned “FDIC Insurance Assessments” in Item 1 Business above, in
February 2011, as required by the Dodd-Frank Act, the FDIC approved a rule that changes the FDIC insurance
assessment base from adjusted domestic deposits to a bank’s average consolidated total assets minus average
tangible equity, defined as Tier 1 capital. While the new rule expanded the assessment base, it lowered assessment
rate to between 2.5 and 9 basis points on the broader base for banks in the lowest risk category. The change was
effective for the second quarter of 2011. Since we have a solid core deposit base and do not rely heavily on
borrowings and brokered deposits, the benefits of the lower assessment rate significantly outweighed the effect of a
wider assessment base. The decrease in FDIC insurance also reflects the expiration of the FDIC Transaction Account
Guarantee Program (“TAGP”) on December 31, 2010, which provided unlimited insurance coverage on non-interest-
bearing transaction accounts. We paid a 15 basis point surcharge per $100 covered balances in excess of $250
thousand from January to December 2010.
The increase in data processing expense is due to $455 thousand acquisition-related expenses, an annual
contractual rate increase, as well as additional ongoing fees relating to a higher number of accounts.
The increase in professional service expenses in 2011 when compared to 2010 primarily reflects expenses incurred
related to the Acquisition, including investment banking consultants, legal, accounting and valuation services.
Additionally, we incurred more legal fees related to loan workouts in 2011 than in 2010.
Advertising expenses increased, primarily due to the additional expenses related to franchise expansion.
Director fees increased slightly due to the director compensation rate increase.
We recorded a core deposit intangible asset of $725 thousand at Acquisition, of which $683 thousand was written-off
in the fourth quarter of 2011 and $42 thousand was amortized during the year. The write-off was primarily due to
higher than anticipated runoff of the acquired deposits and a significant decline in alternative funding costs since the
Acquisition.
The increase in other non-interest expense from 2010 was primarily due to higher costs associated with an increase
in the volume of debit card usage, write-offs of certain assets from the Acquisition, the implementation of a bank-wide
customer service training program, higher travel expenses and higher telephone expenses.
2010 Compared with 2009:
The increase in salaries and benefits over 2009 was primarily due to higher personnel-related costs associated with
branch expansion, as well as annual merit increases. The number of average FTE totaled 201 and 195 in 2010 and
2009, respectively. In addition, a rise in employee benefit rates contributed to the increase.
The increases in occupancy and equipment expense over 2009 were mainly due to an increase in rent for our
Greenbrae branch in its first full-year of service in 2010, and also the new Santa Rosa loan production office, partially
offset by cost savings from the relocation of our Corte Madera branch.
Page - 33
The decrease in 2010 FDIC insurance was due to the absence of a special assessment totaling $496 thousand in the
second quarter of 2009, partially offset by a higher FDIC assessment rate and higher deposits. Further, we elected to
participate in the FDIC Transaction Account Guarantee Program, which provided unlimited insurance coverage on
non-interest-bearing transaction accounts defined by the FDIC, on which we paid a 10 basis point surcharge per $100
covered balances in excess of $250 thousand through 2009. The 10 basis point surcharge on non-interest-bearing
transaction accounts over $250 thousand increased to 15 basis points from January to December 2010, at which time
the program expired.
The increase in data processing expense was due to process re-engineering costs, an annual contractual rate
increase, as well as the outsourcing of certain trust operations.
The increase in professional service expenses in 2010 when compared to 2009 was mainly due to higher costs
associated with strategic expansion initiatives and investment advisory fees.
Advertising expenses decreased in 2010, primarily due to a decrease in the usage of traditional print advertising
channels as part of the marketing program.
Director fees increased due to the director compensation rate increase, partially offset by fewer directors.
The increase in other non-interest expense from 2009 was primarily due to a higher provision for losses on off-
balance sheet commitments due to a higher commitment amount, operational losses, higher printing and stationery
costs, charitable contributions and staff relation costs.
Provision for Income Taxes
We reported a provision for income taxes of $9.2 million, $8.2 million, and $7.8 million for the years ended December
31, 2011, 2010, and 2009, respectively. The effective tax rates were 37.1%, 37.6%, and 37.9% for those same
periods. These provisions reflect accruals for taxes at the applicable rates for federal income tax and California
franchise tax based upon reported pre-tax income, and adjusted for the effects of all permanent differences between
income for tax and financial reporting purposes (such as earnings on qualified municipal securities, BOLI and certain
tax-exempt loans). Therefore, there are normal fluctuations in the effective rate from period to period based on the
relationship of net permanent differences to income before tax. We have not been subject to an alternative minimum
tax (“AMT”) during these periods.
Bancorp and the Bank have entered into a tax allocation agreement which provides that income taxes shall be
allocated between the parties on a separate entity basis. The intent of this agreement is that each member of the
consolidated group will incur no greater tax liability than it would have incurred on a stand-alone basis.
FINANCIAL CONDITION
Short-term Investment
At December 31, 2011 and 2010, we had $2.0 million and $19.5 million held in money market accounts with our
correspondent banks, respectively, which earned interest at rates between 0.15% to 0.50% during 2011 and 0.35% to
0.55% during 2010.
Investment Securities
We maintain an investment securities portfolio to provide liquidity and to generate earnings on funds that have not
been loaned to customers. Management determines the maturities and the types of securities to be purchased based
on the liquidity level and the desire to attain a reasonable investment yield balanced with risk exposure. Table 6
shows the makeup of the securities portfolio by expected maturity at December 31, 2011 and 2010. Expected
maturities differ from contractual maturities because the issuers of the securities may have the right to call or prepay
obligations with or without call or prepayment penalties. We estimate and update expected maturity dates quarterly
based on current prepayment speeds. Equity securities with a zero cost basis and a fair value of $732 thousand are
excluded from the following table because they do not have a stated maturity.
Page - 34
Table 6
Investment Securities
(dollars in thousands)
Type and Maturity Grouping
Held to maturity
State and municipal
Due within 1 year
Due after 1 but within 5
years
Due after 5 but within 10
years
Due after 10 years
Total
Corporate bonds
Due after 1 but within 5
years
Total
Total held to maturity
Available for sale
MBS/CMOs issued by U.S.
government agencies
Due within 1 year
Due after 1 but within 5
years
Due after 5 but within 10
years
Due after 10 years
Total
Debentures of government
sponsored agencies
Due after 1 but within 5
years
Total
Privately issued CMOs
Due after 1 but within 5
years
Due after 5 but within 10
years
Total
Total available for
sale
Total
December 31, 2011
December 31, 2010
Principal
Amount
Amortized
Cost1
Fair
Value
Weighted
Average
Yield2
Principal
Amount
Amortized
Cost1
Fair
Value
Weighted
Average
Yield2
$
3,428 $
3,343 $
3,367
2.25% $
1,624 $
1,478 $
1,500
5.81%
25,006
24,819
24,931
3.73
5,471
5,304
5,440
4.41
22,574
4,444
55,452
5,000
5,000
60,452
22,145
4,431
54,738
24,240
4,688
57,226
5,000
5,000
59,738
4,959
4,959
62,185
5.37
6.03
4.49
4.00
4.00
4.45
20,905
7,561
35,561
20,589
7,546
34,917
20,784
7,366
35,090
---
---
35,561
---
---
34,917
---
---
35,090
5.11
6.01
5.23
---
---
5.23
6,810
6,710
6,846
5.15
5,946
5,839
5,873
5.16
74,094
73,235
75,009
3.17
72,509
71,899
73,700
3.56
18,227
7,822
106,953
18,169
7,814
105,928
18,901
8,101
108,857
3.55
3.84
3.41
15,518
---
93,973
15,483
---
93,221
15,685
---
95,258
4.10
---
3.75
8,000
8,000
8,000
8,000
8,050
8,050
1.53
1.53
---
---
---
---
---
---
---
---
10,953
10,905
10,770
3.81
15,869
15,849
15,870
4.27
7,518
18,471
7,515
18,420
7,427
18,197
4.66
4.15
---
15,869
---
15,849
---
15,870
133,424
193,876 $
132,348
192,086 $
135,104
197,289
$
3.40
3.73% $
109,842
145,403 $
109,070
111,128
143,987 $ 146,218
---
4.27
3.83
4.17%
1 Book value reflects cost, adjusted for accumulated amortization and accretion.
2 Yields on tax-exempt securities are presented on a tax-equivalent basis and weighted average calculation is based
on amortized cost of securities.
The carrying amount of our investment securities portfolio, consisting primarily of mortgage-backed securities (“MBS”)
issued or sponsored by the U.S. government agencies, state and municipal securities and privately-issued
collateralized mortgage obligations (“CMOs”), increased $48.2 million or 32.9% at December 31, 2011 due to a
conscious effort to utilize our excess liquidity from deposit inflows that has not been deployed to lending. U.S.
government agency MBS or CMO securities, which make up 55.9% and 65.0% of the portfolio at December 31, 2011
and 2010 respectively, increased $13.6 million in 2011. State and municipal securities, which represented 28.1% and
23.8% of the portfolio at December 31, 2011 and 2010 respectively, increased $19.8 million. See discussion in section
captioned “Securities May Lose Value due to Credit Quality of the Issuers” in Item 1A Risk Factors above. We also
purchased $5.0 million of highly-rated corporate bonds in 2011. The weighted average maturity of the portfolio at
December 31, 2011 was approximately four years.
As a member bank of Visa U.S.A., we hold 16,939 shares of Visa Inc. Class B common stock at a zero cost basis.
These shares are restricted from resale until their conversion into Class A (voting) shares upon the termination of Visa
Inc.’s covered litigation escrow account pending the final resolution of the Visa Inc. covered litigation. The fair value of
the Class B common stock we own was $732 thousand as of December 31, 2011 based on the Class A as-converted
rate of 0.4254.
Page - 35
Mortgage-backed securities in the portfolio at December 31, 2011 totaled $125.6 million, which consisted of $27.5
million pass-through securities issued by FNMA and FHLMC, $81.4 million CMOs issued by FNMA, FHLMC, or
Government National Mortgage Association (“GNMA”), and $16.7 million of privately issued CMOs. We generally
invest in mortgage-backed securities with borrowers having strong credit scores and/or collateral compositions
reflecting low loan-to-value ratios. Any investment securities in our portfolio that may be backed by sub-prime or Alt-A
mortgages, which account for approximately 5.8% of our total security portfolio, relate to privately issued CMOs. See
Note 3 to Consolidated Financial Statements and Item 1A, Risk Factors, for more information on investment
securities.
Loans
Table 7
Loans Outstanding by Type at December 31
(dollars in thousands)
Commercial loans
Real estate
Commercial owner-occupied
Commercial investor
Construction
Home equity
Other residential 1
Installment and other consumer loans
Total loans
Allowance for loan losses
Total net loans
$
2011
175,790 $
2010
153,836 $
2009
164,643 $
2008
146,483 $
2007
124,336
174,705
446,425
51,957
98,043
61,502
22,732
1,031,154
(14,639)
$ 1,016,515 $
142,590
383,553
77,619
86,932
69,991
26,879
941,400
(12,392)
929,008 $
146,133
332,752
91,289
83,977
69,369
29,585
917,748
(10,618)
907,130 $
140,977
326,193
121,981
65,076
55,600
34,234
890,544
(9,950)
880,594 $
132,614
257,127
97,153
34,295
44,565
34,788
724,878
(7,575)
717,303
1 Our residential loan portfolio includes no sub-prime loans, nor is it our normal practice to underwrite loans
commonly referred to as “Alt-A mortgages”, the characteristics of which are loans lacking full documentation,
borrowers having low FICO scores or collateral compositions reflecting high loan-to-value ratios. However,
substantially all of our residential loans are indexed to Treasury Constant Maturity Rates and have provisions to reset
five years after their origination dates.
Commercial loans increased $22.0 million in 2011 and decreased $10.8 million in 2010. $14.5 million of the 2011
commercial loan growth represents the remaining balance of loans purchased from the Acquisition. The additional
$7.5 million growth in 2011 was the result of our continued emphasis on commercial and industrial lending. The
decrease in 2010 related to increased pay-downs as borrowers de-leveraged, successful resolution of problem loans,
and reduced demand by qualified borrowers.
Commercial real estate loans increased $95.0 million in 2011 and $47.3 million in 2010. $32.4 million of the 2011
commercial real estate loan growth represents the remaining balances of loans purchased from the Acquisition. The
remaining $62.6 million increase in 2011 reflects several large new relationships in our newer markets, primarily San
Francisco and Santa Rosa. Of the commercial real estate loans at December 31, 2011, 72% are non-owner occupied
and 28% are owner occupied. Our commercial real estate loan portfolio is weighted towards term loans for which the
primary source of repayment is cash flow from net operating income of the real estate property. The following table
summarizes our commercial real estate loan portfolio by the geographic location in which the property is located as of
December 31, 2011 and 2010:
Page - 36
Table 8
Commercial Real Estate Loans Outstanding by Geographic Location
(dollars in thousands)
Marin
Sonoma
San Francisco
Alameda
Contra Costa
Napa
Sacramento
Other
Total
December 31, 2011
December 31, 2010
$
$
Amount
245,107
95,697
102,486
35,886
8,054
46,221
10,446
77,233
621,130
% of
39.5% $
15.4
16.5
5.8
1.3
7.4
1.7
12.4
100.0% $
Amount
235,584
80,563
78,307
36,083
7,855
12,117
11,057
64,577
526,143
% of
44.8%
15.3
14.9
6.8
1.5
2.3
2.1
12.3
100.0%
Construction loans decreased $25.7 million and $13.7 million in 2011 and 2010, respectively, primarily due to a slow-
down in construction activities, the successful completion and sell-through of construction development projects
booked in prior years, as well as a conscious effort to reduce our concentration in construction loans. Table 9 below
shows an analysis of construction loans by type and location.
Table 9
Construction Loans Outstanding by Type and Geographic Location
(dollars in thousands)
Construction loans by type
Single family non-owner-occupied
Single family owner-occupied
Commercial non-owner-occupied
Commercial owner-occupied
Land non-owner-occupied
Land owner-occupied
Tenants-in-common and other
Total
Construction loans by geographic location
Marin
Sonoma
San Francisco
Alameda
Contra Costa
Napa
Riverside
Other
Total
December 31, 2011
December 31, 2010
$
$
$
$
Amount
9,949
351
8,948
818
30,040
1,720
131
51,957
Amount
11,048
4,545
29,281
1,056
265
800
4,925
37
51,957
% of
19.1% $
0.7
17.2
1.6
57.8
3.3
0.3
100.0% $
% of
21.3% $
8.7
56.4
2.0
0.5
1.5
9.5
0.1
100.0% $
Amount
12,453
3,448
7,189
3,386
37,660
2,595
10,888
77,619
Amount
17,710
7,884
44,310
1,748
265
1,002
4,652
48
77,619
% of
16.0%
4.4
9.3
4.4
48.5
3.4
14.0
100.0%
% of
22.8%
10.1
57.1
2.3
0.3
1.3
6.0
0.1
100.0%
Home equity lines of credit increased $11.1 million to $98.0 million in 2011. $10.6 million of the 2011 home equity loan
growth represents the remaining balance of loans purchased from the Acquisition. Other residential real estate loans
decreased $8.5 million in 2011, primarily due to our de-emphasis on tenants-in-common residential lending, while the
balance increased slightly by $622 thousand in 2010.
Approximately 85% and 86% of our outstanding loans are secured by real estate at both December 31, 2011 and
2010. At December 31, 2011, approximately 8% of our commercial real estate loans and 42% of our residential real
estate loans contain an interest-only feature as part of the loan terms. Approximately 79% of the interest-only
commercial real estate loans and 84% of the residential real estate loans are considered to have low credit risk
(graded “Pass”) and are current with their payments. Also see Item 1A, Risk Factors, regarding our loan concentration
risk. As of December 31, 2011, approximately $22.5 million of our loans have interest reserves, the majority of which
are construction loans. When we determine a loan is impaired before the interest reserve has been depleted, the
interest funded by the interest reserve is applied against loan principal. As of December 31, 2011, no construction
loans having interest reserve balances were determined to be impaired.
Page - 37
Variable rate loans at their established interest rate floors or ceilings are included as fixed rate loans in the following
table. Table 10 shows a shift towards fixed rate loans within the portfolio in 2011 when compared to 2010 as variable
rate loans continued to re-price down to their floor rates in a low-interest rate environment. The large majority of the
variable rate loans are tied to independent indices (such as the Wall Street Journal prime rate or a Treasury Constant
Maturity Rate). Most loans with an original term of more than five years have provisions for the fixed rates to reset, or
convert to a variable rate, after one, three or five years.
Table 10 Loan Portfolio Maturity Distribution and Interest Rate Sensitivity
(dollars in thousands)
Due within 1 year
Due after 1 but within 5
years
Due after 5 years
Total
Percentage
Fixed
Rate
$ 126,443
December 31, 2011
Variable
Rate
$ 106,002
$
Total
232,445
December 31, 2010
Percent
22.5% $
Fixed
Rate
134,346
Variable
Rate
118,860
$
Total
$ 253,206
Percent
26.9%
213,560
552,499
$ 892,502
32,650
---
$ 138,652
246,210
552,499
$ 1,031,154
23.9
53.6
100.0% $
86.55%
13.45 %
100.00%
214,467
421,491
770,304
$
81.83%
52,236
---
171,096
266,703
421,491
$ 941,400
18.17%
100.00%
28.3
44.8
100.0%
Allowance for Loan Losses
Credit risk is inherent in the business of lending. As a result, we maintain an allowance for loan losses to absorb
losses inherent in our loan portfolio through a provision for loan losses charged against earnings. All specifically
identifiable and quantifiable losses are charged off against the allowance. The balance of our allowance for loan
losses is Management’s best estimate of the remaining losses inherent in the portfolio. The ultimate adequacy of the
allowance is dependent upon a variety of factors beyond our control, including the real estate market, changes in
interest rates and economic and political environments. Based on the current conditions of the loan portfolio,
Management believes that the $14.6 million allowance for loan losses at December 31, 2011 is adequate to absorb
losses inherent in our loan portfolio. No assurance can be given, however, that adverse economic conditions or other
circumstances will not result in increased losses in the portfolio.
The Components of the Allowance for Loan Losses
As stated previously in “Critical Accounting Policies,” and Note 1 to the Consolidated Financial Statements in this
report, the overall allowance consists of a specific allowance for individually identified impaired loans, an allowance
factor for categories of credits with similar characteristics and trends, and an allowance for changing economic factors
(e.g., portfolio trends, concentration of credit, growth, economic factors, etc.).
The first component, the specific allowance, results from the analysis of identified problem credits and the evaluation
of sources of repayment including collateral, as applicable. Through Management’s ongoing loan grading process and
credit monitoring process, individual loans are identified that have conditions that indicate the borrower may be unable
to pay all amounts due under the contractual terms. These loans are evaluated individually for impairment by
Management and specific allowances for loan losses are established when the fair value of the impaired loan is less
than the recorded investment in the loan. For loans determined to be impaired, the extent of the impairment is
measured based on the present value of expected future cash flows discounted at the loan’s effective interest rate at
origination, based on the loan’s observable market price, or based on the fair value of the collateral, if the loan is
collateral dependent. Generally with problem credits that are collateral-dependent, we obtain appraisals/evaluations of
the collateral at least annually. Impaired loan balances increased from $14.1 million at December 31, 2010 to $20.1
million at December 31, 2011. The increase in impaired loans is primarily the result of newly identified TDR loans
upon the adoption of Accounting Standards Update No. 2011-02, as well as PCI loans that have experienced credit
deterioration post-Acquisition. The specific allowance increased from $1.1 million at December 31, 2010 to $2.9
million at December 31, 2011. The increase in the specific allowance primarily relates to an increased number of
impaired loans and deteriorating collateral values associated with those impaired loans. We are proactive in charging-
off the uncollectible portion of impaired loans. The increase in specific reserves is also a function of higher levels of
commercial, residential real estate, home equity and construction loans awaiting resolution of pending events before a
determination can be made as to whether or not the loan should be charged-off.
Page - 38
The second component, the allowance factor, is an estimate of the probable inherent losses in each loan pool
stratified by major segments or loans with similar characteristics in our loan portfolio. This analysis encompasses our
entire loan portfolio, but excludes any loans that were analyzed individually for specific allowances as discussed
above and excludes acquired loans where the discount has not been fully accreted. This analysis also includes loan
types and economic and business conditions unique to each segment, including the Bank’s own loss history. For
loans graded “Substandard” and not already evaluated for impairment in the first component analysis above, they are
also assigned an allowance factor. Confirmation of the quality of our grading process is obtained by independent
reviews conducted by consultants specifically hired for this purpose and by various bank regulatory agencies. There
are limitations to any credit risk grading process. The number of loans makes it impractical to review every loan at
every reporting date. Therefore, it is possible that in the future some currently performing loans not recently graded
will not be as strong as their last grading and an insufficient portion of the allowance will have been allocated to them.
Grading and loan review often must be done without knowing whether all relevant facts are at hand. Troubled
borrowers may deliberately or inadvertently omit important information from reports or conversations with lending
officers regarding their financial condition and the diminished strength of repayment sources.
The total amount allocated for the second component is determined by applying loss estimation factors to outstanding
loan types. At December 31, 2011 and 2010, the allowance allocated by categories of credits totaled $8.5 million and
$8.3 million, respectively. As disclosed in Note 4 to Consolidated Financial Statements in Item 8 below, loans graded
“Substandard” totaled $63.2 million and $53.2 million as of December 31, 2011 and 2010, respectively. During 2011,
Management evaluated the allowance factors used based on historical loss experience during this economic cycle, as
well as expected loan loss trends inherent in the portfolio. The impact of this evaluation resulted in a net increase to
the second component of $115 thousand.
The third component of the allowance for loan losses is an economic component that is not allocated to specific loans
or groups of loans, but rather is intended to absorb losses caused by portfolio trends, concentration of credit, growth,
and economic trends. This is Management’s best estimate of the probable impact that economic changes may have
on the loan portfolio as a whole. The general valuation allowance, including the economic component and unallocated
allowance, increased from $3.0 million at December 31, 2010 to $3.2 million at December 31, 2011 due to loan
growth. Management proactively evaluates economic and other qualitative loss factors used to determine the
adequacy of the allowance for loan losses. After assessing the economic outlook, Management did not revise the
economic loss factor in 2011 due to limited signs of economic change. Economic recovery has been limited and
continued financial stress has been experienced by borrowers in our markets. The persistently high unemployment
rate and restrained spending by consumers and businesses are expected to prevent rapid economic expansion and
recovery of housing prices.
Table 11 shows the allocation of the allowance by loan type as well as the percentage of total loans in each of the
same loan types.
Page - 39
Table 11 Allocation of Allowance for Loan Losses
December 31,
2011
Allowance
balance
allocation
Loans as
percent
of total
loans
December 31,
2010
December 31,
2009
Allowance
balance
allocation
Loans as
percent
of total
loans
Allowance
balance
allocation
Loans as
percent
of total
loans
December 31,
2008
Allowance
balance
allocation
Loans as
percent
of total
loans
December 31,
2007
Allowance
balance
allocation
Loans as
percent
of total
loans
$
4,334
17.1% $
3,114
16.3% $
2,544
17.9% $
2,306
16.5% $
1,811
17.2%
(dollars in
thousands)
Commercial
loans
Real Estate
1,305
16.9
1,037
15.2
1,006
15.9
978
15.8
799
18.3
3,710
1,505
1,444
940
43.3
5.0
9.5
6.0
4,134
1,694
643
738
40.7
8.3
9.2
7.4
3,000
1,832
586
734
36.3
9.9
9.2
7.6
2,933
2,118
453
588
36.7
13.6
7.3
6.2
1,182
2.2
835
2.9
662
3.2
563
3.9
219
N/A
197
N/A
254
N/A
11
N/A
2,067
1,659
205
426
430
178
35.5
13.4
4.7
6.1
4.8
N/A
Commercial,
owner-
occupied
Commercial,
investor
Construction
Home Equity
Other residential
Installment and
other
consumer
Unallocated
allowance
Total allowance for
loan
losses
Total percent
$
14,639
$
100.00%
12,392
$
100.00%
10,618
$
100.00%
9,950
$
7,575
100.00%
100.00%
The allowance for loan losses as a percentage of loans totaled 1.42% at December 31, 2011, compared to 1.32% at
December 31, 2010. The increase in the allowance for loan losses as a percentage of loans reflects a higher level of
specific reserves on impaired loans across most loan categories, most notably in our commercial and industrial
portfolio, mainly related to the weak economic environment.
Table 12 shows the activity in the allowance for loan losses for each of the years in the five-year period ended
December 31, 2011. Net charge-offs totaled $4.8 million and $3.6 million in 2011 and 2010, respectively. The
increase primarily relates to $1.5 million of charge-offs related to the acquired loans. Our 2011 commercial loan
losses have stemmed primarily from unsecured commercial loans, as well as commercial loans secured by real estate
where the property values have declined. Net charge-offs of construction loans in 2010 and 2009 have stemmed
primarily from the land development and single-family residential construction projects in Oregon and Sonoma
County, California, where property values have been affected more significantly than in our core market of Marin
County. The percentage of net charge-offs to average loans was 0.49% in 2011, compared to 0.38% in 2010,
reflecting the factors discussed above.
Page - 40
Table 12 Allowance for Loan Losses at December 31
(dollars in thousands)
Beginning balance
Cumulative-effect adjustment of election of fair
value accounting on indirect auto portfolios 1
Provision for loan losses
Loans charged off
Commercial
Real Estate
Commercial
Construction
Home equity
Installment and other consumer
Total
Loan loss recoveries
Commercial
Real Estate
Commercial
Construction
Home equity
Installment and other consumer
Total
Net loans charged off
Ending balance
$
Total loans outstanding at end of year, before
2011
2010
2009
$
12,392 $ 10,618 $
9,950 $
2008
7,575 $
2007
8,023
---
7,050
---
5,350
---
5,510
---
5,010
(1,048)
685
(3,306)
(643)
(1,552)
(1,100)
---
(113)
(473)
(554)
(456)
(4,902)
(47)
(2,628)
(150)
(318)
(3,786)
(9)
(3,046)
(96)
(659)
(5,362)
---
(1,508)
---
(72)
(2,680)
57
95
52
95
397
4
9
13
20
16
210
99
(3,576)
(4,803)
14,639 $ 12,392 $ 10,618 $
71
520
(4,842)
24
---
21
45
(2,635)
9,950 $
30
30
(85)
7,575
---
---
---
(115)
(115)
---
---
deducting allowance for loan losses
$ 1,031,154 $ 941,400 $ 917,748 $ 890,544 $ 724,878
Average total loans outstanding during
year
Ratio of allowance for loan losses to total loans
at end of year
$
984,211 $ 929,755 $ 910,456 $ 798,369 $ 703,087
1.42%
1.32%
1.16%
1.12%
1.05%
Net charge-offs to average loans
0.49%
0.38%
0.53%
0.33%
0.01%
Ratio of allowance for loan losses to net charge-
offs
304.8%
346.5%
219.3%
377.6% 8,911.8%
1 In conjunction with the election of accounting for the indirect auto loan portfolio at fair value in 2007, an unrealized
loss of $3.5 million was recorded as a reduction of loans, and the allowance for loan losses was reduced by $1.0
million.
Non-performing assets for each of the past five years are presented below. The increase in impaired loans from 2010
to 2011 is primarily due to newly identified TDR loans upon the adoption of Accounting Standards Update No. 2011-
02, as well as PCI loans that have experienced credit deterioration post-Acquisition. The ratio of allowance for loan
losses to non-accrual loans increased from 95.9% at December 31, 2010 to 122.3% at December 31, 2011. There
were no other real estate owned at the end of the years presented.
Page - 41
Table 13 Non-performing Assets at December 31
(dollars in thousands)
Non-accrual loans:
Commercial
Real Estate
Commercial, owner-occupied
Commercial, investor
Construction
Home equity line of credit
Other residential
Installment and other consumer
Total non-accrual loans
Repossessed personal properties
Total non-performing assets
Accruing restructured loans:
Commercial
Real Estate
Construction
Home Equity
Other residential
Installment and other consumer
Total accruing restructured loans
Accreting impaired PCI loans1:
Commercial real estate
Commercial
Total accreting impaired PCI loans
2011
2010
2009
2008
2007
$
2,955 $
2,486 $
910 $
145 $
---
2,033
741
3,014
766
1,942
519
11,970
25
11,995
2,741
290
279
1,464
1,552
6,326
1,710
139
1,849
632
---
9,297
---
148
362
12,925
135
13,060
---
---
259
---
925
1,184
---
---
---
3,722
---
6,520
100
---
313
11,565
96
11,661
49
---
---
---
566
615
---
---
---
---
---
5,804
288
---
455
6,692
---
6,692
---
---
---
---
119
119
---
---
---
---
---
---
144
---
---
144
---
144
---
---
---
---
---
---
---
---
---
Total impaired loans
20,145
14,109
12,180
6,811 $
144
Allowance for loan losses to non-accrual loans at
period end
122.3%
95.9%
91.8%
148.7%
5260.4%
Non-accrual loans to total loans
1.16%
1.37%
1.26%
0.75%
0.02%
1 The expected cash flows on these PCI loans declined post-Acquisition, yet continue to accrete interest based on
the revised expected cash flows.
Troubled debt restructured loans, whose contractual terms have been restructured in a manner which grants a
concession to a borrower experiencing financial difficulties, totaled $10.7 million and $1.2 million as of December 31,
2011 and 2010, respectively. For more information, refer to Note 4 under “Troubled Debt Restructuring”.
Other Assets
As financial institutions continue to fail, the FDIC Deposit Insurance Fund depletes rapidly. Therefore, in December
2009, the FDIC required banks to prepay their regular insurance premiums for 2010 through 2012. Other assets
included $2.2 million and $3.0 million of prepaid FDIC assessments at December 31, 2011 and 2010, respectively.
Each quarter through 2012, the prepaid insurance asset balance will be reduced by the FDIC insurance expense that
is applicable to that quarter.
BOLI totaled $21.6 million at December 31, 2011, compared to $18.3 million at December 30, 2010, and is recorded
in other assets. Other assets also include net deferred tax assets of $7.0 million and $6.6 million at December 31,
2011 and 2010, respectively. These deferred tax assets consist primarily of tax benefits expected to be realized in
future periods related to temporary differences of allowance for loan losses, depreciation, state tax, stock-based
compensation and deferred compensation. Management believes these assets to be realizable due to our consistent
record of earnings and the expectation that earnings will continue at a level adequate to realize such benefits.
Page - 42
In addition, we held $5.4 million and $5.0 million of FHLB stock recorded at cost in other assets at December 31, 2011
and 2010, respectively. The FHLB paid $12 thousand and $16 thousand in cash dividends in 2011 and 2010,
respectively. On February 22, 2012, FHLB declared a cash dividend for the fourth quarter of 2011 at an annualized
dividend rate of 0.48%. Management does not believe that FHLB stock is other-than-temporarily-impaired as we
expect to be able to redeem the stock at cost.
Deposits
Deposits, which are used to fund our interest earning assets, increased $187.2 million, or 18.4%, in 2011. Failures in
a large number of banks have led to increased customer concern over safety and soundness rather than yield. We
believe that we have successfully attracted new deposits due to our financial soundness, our personalized customer
service, and our focus on relationship-building and cross-selling. The economic downturn also appears to have
impacted the general public’s investment behavior, as evidenced by a national trend of increasing household savings
and movement away from higher-risk equity investments.
The increase in deposits reflects growth in most deposit categories, except for CDARS® time deposits, which
decreased $20.6 million, primarily reflecting the movement by one client of balances from CDARS® to money market
accounts within the Bank. We believe the increase in non-interest bearing deposits is due to customers seeking safety
as all non-interest bearing transaction accounts are fully insured by the FDIC. No individual customer accounted for
more than 5% of deposits.
Table 14 shows the relative composition of our average deposits for the years 2011, 2010 and 2009.
Table 14 Distribution of Average Deposits
(dollars in thousands)
Non-interest bearing
Interest bearing transaction
Savings
Money market
CDARS®
Other Time deposits
Less than $100,000
$100,000 or more
Total other time deposits
Total Average Deposits
Years ended December 31,
2010
2009
Percent
Amount
Percent
2011
Amount
Percent
$ 347,682
125,316
69,792
405,726
39,514
30.5% $
11.0
6.1
35.6
3.5
Amount
263,742
98,168
51,738
390,575
71,432
26.4% $ 232,502
90,159
45,944
391,571
51,248
9.8
5.2
39.0
7.1
46,686
105,180
151,866
36,350
61,574
97,924
$ 1,139,896 100.00% $ 1,000,286 100.00% $ 909,348
43,069
81,562
124,631
4.3
8.2
12.5
4.1
9.2
13.3
25.6%
9.9
5.0
43.1
5.6
4.0
6.8
10.8
100.00%
Table 15 below shows the maturity groupings for time deposits of $100,000 or more, including CDARS® deposits at
December 31, 2011, 2010 and 2009.
Table 15 Maturities of Time Deposits of $100,000 or more at December 31
(in thousands)
Three months or less
Over three months through six months
Over six months through twelve months
Over twelve months
Total
Borrowings
$
December 31,
2010
77,173 $
24,135
35,713
18,699
2009
56,456
19,446
30,458
5,830
$ 151,598 $ 155,720 $ 112,190
2011
66,999 $
23,704
28,913
31,982
We currently have $261.2 million in secured lines of credit with FHLB, $41.2 million with Federal Reserve Bank of San
Francisco (“FRBSF”) and $77.0 million in unsecured lines with correspondent banks to cover any short or long-term
borrowing needs. As of December 31, 2011, we had two FHLB fixed-rate advances outstanding totaling $35 million,
leaving $226.2 million available borrowing capacity with FHLB. The FRBSF and correspondent bank lines were not
utilized at December 31, 2011. For additional information, see Note 8 to the Consolidated Financial Statements in
Item 8 of this Form 10-K.
Page - 43
Deferred Compensation Obligations
We maintain a nonqualified, unfunded deferred compensation plan for certain key management personnel. Under this
plan, participating employees may defer compensation, which will entitle them to receive certain payments upon
retirement, death, or disability. The plan provides for payments for up to fifteen years commencing upon retirement
and reduced benefits upon early retirement, disability, or termination of employment. The participating employee may
elect to receive payments over periods not to exceed fifteen years. At December 31, 2011 and 2010, our aggregate
payment obligations under this plan totaled $2.7 million and $2.8 million, respectively.
We established a Salary Continuation Plan on January 1, 2011. The plan was to provide a percentage of salary
continuation benefits to a select group of executive management upon retirement. At December 31, 2011, our liability
under the Salary Continuation Plans was $114 thousand recorded in interest payable and other liabilities. This Plan is
unfunded and nonqualified for tax purposes and for purposes of Title I of the Employee Retirement Income Security
Act of 1974.
For additional information, see Note 11 to the Consolidated Financial Statements in Item 8 below.
Off Balance Sheet Arrangements
We make commitments to extend credit in the normal course of business to meet the financing needs of our
customers. For additional information, see Note 17 to the Consolidated Financial Statements in Item 8 below.
Commitments
The following is a summary of our contractual commitments as of December 31, 2011.
Table 16 Contractual Commitments at December 31, 2011
(in thousands)
Operating leases
Federal Home Loan Bank borrowings
Subordinated debenture
Total
1-3 years
Payments due by period
<1 year
Total
4-5 years
2,670 $ 5,212 $ 5,315 $ 14,091 $ 27,288
--- 15,000 35,000
5,000
5,000
---
$ 22,670 $ 5,212 $ 5,315 $ 34,091 $ 67,288
$
20,000
---
---
---
>5 years
The contractual amount of loan commitments not reflected on the Consolidated Statement of Condition was $276.8
million and $252.7 million at December 31, 2011 and 2010, respectively.
As permitted or required under California law and to the maximum extent allowable under that law, we have certain
obligations to indemnify our current and former officers and directors for certain events or occurrences while the
officer or director is, or was serving, at our request in such capacity. These indemnification obligations are valid as
long as the director or officer acted in good faith and in a manner the person reasonably believed to be in, or not
opposed to, our best interests, and with respect to any criminal action or proceeding, had no reasonable cause to
believe his or her conduct was unlawful. The maximum potential amount of future payments we could be required to
make under these indemnification obligations is unlimited; however, we have a director and officer insurance policy
that mitigates our exposure and enables us to recover a portion of any future amounts paid. As we believe the
possibility of potential claims to be remote and any amounts under the indemnifications would be covered by the
insurance policy, we have not recorded an indemnification obligation.
Page - 44
Capital Adequacy
As discussed in Note 16 to the Consolidated Financial Statements, the Bank’s capital ratios are above regulatory
guidelines to be considered “well capitalized” and Bancorp’s ratios exceed the required minimum ratios for capital
adequacy purposes. The Bank’s total risk-based capital ratio increased from 12.70% at December 31, 2010 to
12.89% at December 31, 2011, primarily due to the accumulation of net income of the Bank in 2011 of $16.1 million,
partially offset by the effect of growth in total risk-weighted assets driven mainly by the loan portfolio purchased from
the acquisition and increases in investment securities. Bancorp’s total risk-based capital ratio decreased from 13.34%
at December 31, 2010 to 13.13% at December 31, 2011, primarily due to an increase in total risk-weighted assets,
partially offset by the accumulation of net income of Bancorp of $15.6 million in 2011, net of 3.5 million dividends paid
to stockholders.
We expect to maintain strong capital levels. Our potential sources of capital include future earnings and shares issued
upon the exercise of stock options. In addition, the warrant to purchase 154,908 shares of our common stock remains
outstanding. The warrant, if exercised, would provide us with $4.2 million additional Tier 1 capital. We are also
positioned to access capital markets, if necessary, for up to $75 million through a shelf registration filed on Form S-3
in the fourth quarter of 2009.
Liquidity
The goal of liquidity management is to provide adequate funds to meet both loan demand and unexpected deposit
withdrawals. We accomplish this goal by maintaining an appropriate level of liquid assets, and formal lines of credit
with the FHLB, FRB and correspondent banks that enable us to borrow funds as needed. Our Asset/Liability
Management Committee (“ALCO”), which is comprised of certain directors of the Bank, is responsible for establishing
and monitoring our liquidity targets and strategies.
Management regularly adjusts our investments in liquid assets based upon our assessment of expected loan demand,
expected deposit flows, yields available on interest-earning securities and the objectives of our asset/liability
management program. ALCO has also developed a contingency plan should liquidity drop unexpectedly below
internal requirements.
We obtain funds from the repayment and maturity of loans as well as deposit inflows, investment security maturities
and paydowns, Federal funds purchased, FHLB advances, and other borrowings. Our primary uses of funds are the
origination of loans, the purchase of investment securities, withdrawals of deposits, maturity of certificate of deposits,
repayment of borrowings and dividends to stockholders.
We must retain and attract new deposits, which depends upon the variety and effectiveness of our customer account
products, service and convenience, and rates paid to customers, as well as our financial strength. Any long-term
decline in retail deposit funding would adversely impact our liquidity. Management does not anticipate significant
reliance on Federal funds purchased and FHLB advances in the near future, as our core deposit inflow has provided
adequate liquidity to fund our operations. If we were to rely on Federal Funds purchased or FHLB advances in the
future, we expect to have the ability to post adequate collateral for such funding requirements.
As presented in the accompanying consolidated statements of cash flows, the sources of liquidity vary between
periods. Consolidated cash and cash equivalents at December 31, 2011 totaled $129.7 million, an increase of $44.5
million over December 31, 2010. The primary sources of funds during 2011 included a $93.2 million net increase in
deposits, $44.0 million of cash received from the Acquisition, $70.0 million in pay-downs and maturities of investment
securities, and $22.4 million net cash provided by operating activities. The primary uses of funds were $119.5 million
for investment securities purchases, $33.5 million in repayment of FHLB borrowings, and $25.2 million in loan
originations (net of principal collections). The banking industry, as a whole, is experiencing diminished loan demand
from qualified borrowers.
At December 31, 2011, our cash and cash equivalents and unpledged available-for-sale securities maturing within
one year totaled $136.6 million. The remainder of the unpledged available-for-sale securities portfolio of $123.5 million
provides additional liquidity. These liquid assets equaled 18.7% of our assets at December 31, 2011, compared to
15.1% at December 31, 2010, well in excess of our internal liquidity policy. The increased liquidity at December 31,
2011 was primarily due to deposit growth exceeding loan growth and cash received from the Acquisition.
Page - 45
We anticipate that cash and cash equivalents on hand and other sources of funds will provide adequate liquidity for
our operating, investing and financing needs and our regulatory liquidity requirements for the foreseeable future.
Management monitors our liquidity position daily, balancing loan funding/payments with changes in deposit activity
and overnight investments. Our emphasis on local deposits combined with our 9.7% equity to assets ratio, provides a
very stable funding base. In addition to cash and cash equivalents, we have substantial additional borrowing capacity
including unsecured lines of credit totaling $77.0 million with correspondent banks. Further, on March 30, 2009, we
pledged a certain residential loan portfolio that increased our borrowing capacity with the FRBSF, which totaled $41.2
million at December 31, 2011. As of December 31, 2011, there is no debt outstanding to correspondent banks or the
FRBSF. We are also a member of the FHLB and have a line of credit (secured under terms of a blanket collateral
agreement by a pledge of essentially all of our financial assets) in the amount of $261.2 million, of which $226.2
million was available at December 31, 2011. Borrowings under the line are limited to eligible collateral. The interest
rates on overnight borrowings with both correspondent banks and the FHLB are determined daily and generally
approximate the Federal Funds target rate.
Undisbursed loan commitments, which are not reflected on the consolidated statement of condition, totaled $276.8
million at December 31, 2011 at rates ranging from 1.91% to 18.00%. This amount included $155.3 million under
commercial lines of credit (these commitments are contingent upon customers maintaining specific credit standards),
$75.6 million under revolving home equity lines, $23.7 million under undisbursed construction loans, $9.3 million
under personal and other lines of credit, and a remaining $12.9 million under standby letters of credit. These
commitments, to the extent used, are expected to be funded primarily through the repayment of existing loans,
deposit growth and existing balance sheet liquidity. Over the next twelve months, $156.8 million of time deposits will
mature. We expect these funds to be replaced with new time or savings accounts.
Since Bancorp is a holding company and does not conduct regular banking operations, its primary sources of liquidity
are dividends from the Bank. Under the California Financial Code, payment of a dividend from the Bank to Bancorp is
restricted to the lesser of the Bank’s retained earnings or the amount of the Bank’s undistributed net profits from the
previous three fiscal years. The primary uses of funds for Bancorp are stockholder dividends and ordinary operating
expenses. At December 31, 2011, Bancorp held $2.8 million of cash and approximately $2.7 million of the Bank’s
retained earnings is available to be distributed to Bancorp. When combined, these funds are deemed sufficient to
cover Bancorp’s operational needs and cash dividends to shareholders for the next twelve months. Management
anticipates that there will be sufficient earnings at the Bank level to provide dividends to Bancorp to meet its funding
requirements for the foreseeable future.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Our most significant form of market risk is interest rate risk. The risk is inherent in our deposit and lending activities.
Management, together with ALCO, has sought to manage rate sensitivity and maturities of assets and liabilities to
minimize the exposure of our earnings and capital to changes in interest rates. Additionally, interest rate risk exposure
is managed with the goal of minimizing the impact of interest rate volatility on our net interest margin. Interest rate
changes can create fluctuations in the net interest margin due to an imbalance in the timing of repricing or maturity of
assets or liabilities. Interest rate risk exposure is managed with the goal of minimizing the impact of interest rate
volatility on the net interest margin.
Activities in asset and liability management include, but are not limited to, lending, borrowing, accepting deposits and
investing in securities. Interest rate risk is the primary market risk associated with asset and liability management.
Sensitivity of net interest income (“NII”) to interest rate changes results from differences in the maturity or repricing, of
asset and liability portfolios. To mitigate interest rate risk, the structure of our assets and liabilities is managed with the
objective of correlating the movements of interest rates on loans and investments with those of deposits and
borrowings. The asset and liability policy sets limits on the acceptable amount of change to NII in changing interest
rate environments. We use simulation models to forecast NII.
From time to time, we enter into certain interest rate swap contracts designated as fair value hedges to mitigate the
changes in the fair value of specified long-term fixed-rate loans and firm commitments to enter into long-term fixed-
rate loans caused by changes in interest rates. See Note 15 to the consolidated financial statements.
Page - 46
Exposure to interest rate risk is reviewed at least quarterly by the ALCO and the Board of Directors. They utilize
interest rate sensitivity simulation models as a tool for achieving these objectives and for developing ways in which to
improve profitability. A simplified statement of condition is prepared on a quarterly basis as a starting point, using as
inputs, actual loans, investments, borrowings and deposits. If potential changes to net equity value and net interest
income resulting from hypothetical interest changes are not within the limits established by the Board of Directors,
Management may adjust the asset and liability mix to bring interest rate risk within approved limits.
To measure the relative magnitude of the repricing for each category of interest earning asset and interest bearing
liability given various changes in market rates, we rely on a sophisticated simulation model. At December 31, 2011,
the model indicated that we had low interest rate risk and we were slightly asset sensitive in a rising interest rate
environment. In 2011, our asset sensitivity increased from the rise in liquidity and variable rate loans. That asset
sensitivity was partially offset by the increase in investment securities and interest bearing transactions, savings and
money market deposit accounts. As shown in Table 17 below, if the market rates rise by more than 200 basis points,
we expect asset sensitivity to increase as our loans with interest rates on floors will start to float again and net interest
income will increase.
In the following simulation of NII under various interest rate scenarios, the simplified statement of condition is
processed against four interest rate change scenarios, in 100 basis point increments. As the Federal funds target rate
at December 31, 2011 was already at its historic low of 0-0.25%, it is unlikely that there will be further reductions in
the target rate. Therefore, a reduction-in-rate scenario is not considered in the following table at December 31, 2011.
Each of these scenarios assumes that the change in interest rates is immediate and interest rates remain at the new
levels.
Table 17 summarizes the effect on NII due to changing interest rates as measured against the flat rate scenario.
Table 17 Effect of Interest Rate Change on Net Interest Income at December 31, 2011
Changes in Interest
Rates (in basis points)
up 400
up 300
up 200
up 100
Estimated change in NII
(as percent of NII)
4.3%
2.7%
1.3%
0.3%
The above table estimates the impact of interest rate changes. The estimated changes are within our policy guidelines
established by ALCO. The results shown reflect a lag in the upward re-pricing of loans due to loans on floors.
As stated previously in the section captioned “Supervision and Regulation” in Item 1 Business of this report, the Dodd-
Frank Act repealed the federal prohibitions on the payment of interest on demand deposits, thereby permitting
depository institutions to pay interest on business transaction and other accounts beginning July 21, 2011. We have
not incurred significant interest expense on business transaction accounts since the legislation took effect in July
2011. If we are to pay interest on certain deposits that are currently non-interest bearing, causing these deposits to
become rate sensitive in the future, we will become less asset sensitive than the model currently indicates.
Interest rate sensitivity is a function of the repricing characteristics of our assets and liabilities. As with any simulation
model or other method of measuring interest rate risk, certain limitations are inherent in the process. For example,
although certain of our assets and liabilities may have similar maturities or repricing time frames, they may react
differently to changes in market interest rates. In addition, the changes in interest rates on certain categories of either
our assets or liabilities may precede or lag changes in market interest rates. Further, the actual rates and timing of
prepayments on loans and investment securities could vary significantly from the assumptions used in the various
scenarios. Lastly, changes in U.S. Treasury rates accompanied by a change in the shape of the yield curve could
produce different results from those presented in the table. Accordingly, the results presented should not be relied
upon as indicative of actual results in the event of changing market interest rates.
Page - 47
ITEM 8.
FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
Report of Independent Registered Public Accounting Firm
The Board of Directors and Stockholders
Bank of Marin Bancorp
We have audited the accompanying consolidated statements of condition of Bank of Marin Bancorp and subsidiary (the
“Company”) as of December 31, 2011 and 2010, and the related consolidated statements of income, changes in
stockholders’ equity, and cash flows for each of the three years in the period ended December 31, 2011. We also have
audited the Company’s internal control over financial reporting as of December 31, 2011, based on criteria established in
Internal Control - Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway
Commission. The Company’s management is responsible for these consolidated financial statements, for maintaining
effective internal control over financial reporting, and for its assessment of the effectiveness of internal control over financial
reporting, included in the accompanying Management’s Report on Internal Control over Financial Reporting and Compliance
with Applicable Laws and Regulations. Our responsibility is to express an opinion on these consolidated financial
statements and an opinion on the Company’s internal control over financial reporting based on our audits.
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United
States). Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the
consolidated financial statements are free of material misstatement and whether effective internal control over financial
reporting was maintained in all material respects. Our audits of the consolidated financial statements included examining, on
a test basis, evidence supporting the amounts and disclosures in the consolidated financial statements, assessing the
accounting principles used and significant estimates made by management, and evaluating the overall consolidated
financial statement presentation. Our audit of internal control over financial reporting included obtaining an understanding of
internal control over financial reporting, assessing the risk that a material weakness exists, and testing and evaluating the
design and operating effectiveness of internal control based on the assessed risk. Our audits also included performing such
other procedures as we considered necessary in the circumstances. We believe that our audits provide a reasonable basis
for our opinions.
A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the
reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally
accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures
that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and
dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to
permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts
and expenditures of the company are being made only in accordance with authorizations of management and directors of
the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition,
use, or disposition of the company’s assets that could have a material effect on the financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also,
projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate
because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the
consolidated financial position of Bank of Marin Bancorp and subsidiary as of December 31, 2011 and 2010, and the
consolidated results of their operations and their cash flows each of the three years in the period ended December 31, 2011,
in conformity with generally accepted accounting principles in the United States of America. Also in our opinion, Bank of
Marin Bancorp maintained, in all material respects, effective internal control over financial reporting as of December 31,
2011, based on criteria established in Internal Control - Integrated Framework issued by the Committee of Sponsoring
Organizations of the Treadway Commission.
/s/ Moss Adams LLP
Stockton, California
March 12, 2012
Page - 48
504 Redwood Blvd, Suite 100
Novato, CA 94947
March 12, 2012
To the Stockholders:
Management’s Report on Internal Control over Financial Reporting and Compliance with Applicable Laws and
Regulations
Management of the Bank of Marin Bancorp and its subsidiary (“Bancorp”) is responsible for preparing the Bancorp’s
annual consolidated financial statements in accordance with generally accepted accounting principles. Management
is also responsible for establishing and maintaining internal control over financial reporting, including controls over the
preparation of regulatory financial statements, and for complying with the designated safety and soundness laws and
regulations pertaining to insider loans and dividend restrictions. Bancorp’s internal control contains monitoring
mechanisms, and actions are taken to correct deficiencies identified.
There are inherent limitations in the effectiveness of any internal control, including the possibility of human error and
the circumvention or overriding of controls. Accordingly, even effective internal control can provide only reasonable
assurance with respect to financial statement preparation. Further, because of changes in conditions, the
effectiveness of internal control may vary over time.
Management has assessed Bancorp’s internal control over financial reporting encompassing both financial
statements prepared in accordance with generally accepted accounting principles and those prepared for regulatory
reporting purposes as of December 31, 2011. The assessment was based on criteria for effective internal control over
financial reporting described in Internal Control – Integrated Framework issued by the Committee of Sponsoring
Organizations of the Treadway Commission. Based on this assessment, Management believes that, as of December
31, 2011, Bancorp maintained effective internal control over financial reporting encompassing both financial
statements prepared in accordance with generally accepted accounting principles and those prepared for regulatory
reporting purposes in all material respects. Management also believes that Bancorp complied with the designated
safety and soundness laws and regulations pertaining to insider loans and dividend restrictions during 2011.
Management’s assessment of the effectiveness of Bancorp’s internal control over financial reporting as of December
31, 2011 has been audited by Moss Adams LLP, an independent registered public accounting firm, which expresses
an unqualified opinion as stated in their report which appears on the previous page.
/s/ Russell A. Colombo
Russell A. Colombo, President and Chief Executive Officer
/s/ Christina J. Cook
Christina J. Cook, EVP and Chief Financial Officer
Page - 49
CONSOLIDATED STATEMENTS OF CONDITION
at December 31, 2011 and 2010
(in thousands, except share data)
December 31, 2011
December 31, 2010
Assets
Cash and due from banks
Short-term investments
Cash and cash equivalents
Investment securities
Held to maturity, at amortized cost
Available for sale (at fair value, amortized cost $132,348 and
$109,070 at December 31, 2011 and 2010, respectively)
Total investment securities
Loans, net of allowance for loan losses of $14,639 and $12,392 at
December 31, 2011 and 2010, respectively
Bank premises and equipment, net
Interest receivable and other assets
Total assets
Liabilities and Stockholders’ Equity
Liabilities
Deposits
Non-interest bearing
Interest bearing
Transaction accounts
Savings accounts
Money market accounts
CDARS® time accounts
Other time accounts
Total deposits
Federal Home Loan Bank borrowings
Subordinated debenture
Interest payable and other liabilities
$
$
$
$
127,732
2,011
129,743
59,738
135,104
194,842
1,016,515
9,498
42,665
65,724
19,508
85,232
34,917
111,736
146,653
929,008
8,419
38,838
1,393,263
$
1,208,150
359,591
$
282,195
134,673
75,617
434,461
46,630
152,000
1,202,972
35,000
5,000
14,740
105,177
56,760
371,352
67,261
132,994
1,015,739
55,000
5,000
10,491
Total liabilities
1,257,712
1,086,230
Stockholders’ Equity
Preferred stock, no par value
Authorized - 5,000,000 shares; none issued
Common stock, no par value
Authorized - 15,000,000 shares
Issued and outstanding - 5,336,927 shares and 5,290,082 shares at
December 31, 2011 and 2010, respectively
Retained earnings
Accumulated other comprehensive income, net
Total stockholders’ equity
---
---
56,854
77,098
1,599
55,383
64,991
1,546
135,551
121,920
Total liabilities and stockholders’ equity
$
1,393,263
$
1,208,150
The accompanying notes are an integral part of these consolidated financial statements.
Page - 50
CONSOLIDATED STATEMENTS OF INCOME
for the fiscal years ended December 31, 2011, 2010 and 2009
(in thousands, except per share data)
December 31, 2011
December 31, 2010
December 31, 2009
Years ended
$
63,479 $
56,239 $
Interest income
Interest and fees on loans
Interest on investment securities
Securities of U.S. Government agencies
Obligations of state and political subdivisions
Corporate debt securities and other
Interest on Federal funds sold and short-term investments
Total interest income
Interest expense
Interest on interest bearing transaction accounts
Interest on savings accounts
Interest on money market accounts
Interest on CDARS® time accounts
Interest on other time accounts
Interest on borrowed funds
Total interest expense
Net interest income
Provision for loan losses
Net interest income after provision for loan
losses
Non-interest income
Service charges on deposit accounts
Wealth Management and Trust Services
Other income
Total non-interest income
Non-interest expense
Salaries and related benefits
Occupancy and equipment
Depreciation and amortization
FDIC insurance
Data processing
Professional services
Other expense
Total non-interest expense
Income before provision for income taxes
Provision for income taxes
Net income
Preferred stock dividends and accretion
Net income available to common stockholders
Net income per common share:
Basic
Diluted
Weighted average shares used to compute net
income per common share:
Basic
Diluted
$
$
$
$
3,478
1,299
636
222
69,114
151
98
1,286
237
1,314
2,209
5,295
63,819
7,050
56,769
1,836
1,834
2,599
6,269
20,211
4,002
1,293
1,000
2,690
2,499
6,588
38,283
24,755
3,234
1,146
593
145
61,357
110
104
2,467
842
1,495
1,430
6,448
54,909
5,350
49,559
1,797
1,521
2,203
5,521
18,240
3,576
1,344
1,506
1,916
1,917
4,858
33,357
21,723
9,191
15,564
$
---
15,564 $
2.94 $
2.89 $
8,171
13,552 $
--- $
13,552 $
2.59 $
2.55 $
5,302
5,384
5,238
5,314
Dividends declared per common share
$
0.65 $
0.61 $
The accompanying notes are an integral part of these consolidated financial statements.
54,816
3,304
1,103
506
5
59,734
115
94
3,235
721
1,541
1,461
7,167
52,567
5,510
47,057
1,782
1,383
2,017
5,182
17,001
3,516
1,370
1,800
1,650
1,727
4,632
31,696
20,543
7,778
12,765
(1,299)
11,466
2.21
2.19
5,182
5,242
0.57
Page - 51
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS’ EQUITY
for the fiscal years ended December 31, 2011, 2010 and 2009
(dollars in thousands)
Stock
Shares
Amount
Earnings
Preferred
Common Stock
Retained
Accumulated
Other
Comprehensive
Income,
Net of Taxes
Total
27,055
5,146,798
51,965
46,138
388
125,546
---
---
---
12,765
---
12,765
Balance at December 31, 2008
Comprehensive Income:
Net income
Other comprehensive income
Net change in unrealized gain on available for sale
securities (net of tax effect of $168)
Comprehensive income
Accretion of preferred stock
Repurchase of preferred stock
Stock options exercised
Excess tax benefit - stock-based compensation
Stock issued under employee stock purchase plan
Restricted stock granted
Stock-based compensation - stock options
Stock-based compensation - restricted stock
Cash dividends paid on common stock
Dividends on preferred stock
Stock issued in payment of director fees
Balance at December 31, 2009
Net income
Other comprehensive income
Net change in unrealized gain on available for sale
securities (net of tax effect of $672)
Comprehensive income
Stock options exercised
Excess tax benefit - stock-based compensation
Stock issued under employee stock purchase plan
Restricted stock granted
Restricted stock forfeited / cancelled
Stock-based compensation - stock options
Stock-based compensation - restricted stock
Cash dividends paid on common stock
Stock issued in payment of director fees
Balance at December 31, 2010
Net income
Other comprehensive income
Net change in unrealized gain on available for sale
securities (net of tax effect of $37)
Comprehensive income
Stock options exercised
Excess tax benefit - stock-based compensation
Stock issued under employee stock purchase plan
Restricted stock granted
Restricted stock forfeited / cancelled
Stock-based compensation - stock options
Stock-based compensation - restricted stock
Cash dividends paid on common stock
Stock issued in payment of director fees
Balance at December 31, 2011
---
---
945
(28,000)
---
---
---
---
---
---
---
---
---
---
---
---
---
---
---
---
---
---
---
---
---
---
---
---
---
---
---
---
---
---
---
---
---
---
---
---
---
---
---
---
61,175
---
894
11,575
---
---
---
---
9,087
---
---
---
---
873
291
24
---
330
73
---
---
233
5,229,529 $ 53,789 $
---
---
---
---
49,940
---
563
6,150
(2,320)
---
---
---
6,220
---
---
895
132
17
---
---
241
109
---
200
5,290,082 $ 55,383 $
---
12,765
(945 )
---
---
---
---
---
---
---
(2,960 )
(354 )
---
54,644 $
13,552
---
13,552
---
---
---
---
---
---
---
(3,205 )
---
64,991 $
---
---
15,564
---
---
34,913
---
982
5,675
(315)
---
---
---
5,590
---
---
741
120
33
---
---
234
143
---
200
5,336,927 $ 56,854 $
---
15,564
---
---
---
---
---
---
---
(3,457 )
---
77,098 $
The accompanying notes are an integral part of these consolidated financial statements.
230
230
---
---
---
---
---
---
---
---
---
---
---
230
12,995
---
(28,000)
873
291
24
---
330
73
(2,960)
(354)
233
618 $ 109,051
13,552
---
928
928
---
---
---
---
---
---
---
---
---
928
14,480
895
132
17
---
---
241
109
(3,205)
200
1,546 $ 121,920
---
15,564
53
53
---
---
---
---
---
---
---
---
---
53
15,617
741
120
33
---
---
234
143
(3,457)
200
1,599 $ 135,551
Page - 52
BANK OF MARIN BANCORP
CONSOLIDATED STATEMENTS OF CASH FLOWS
for the fiscal years ended December 31, 2011, 2010 and 2009
(in thousands)
Cash Flows from Operating Activities:
Net income
Adjustments to reconcile net income to net cash provided by operating activities:
Provision for loan losses
Compensation expense--common stock for director fees
Stock-based compensation expense
Excess tax benefits from exercised stock options
Amortization and impairment write-off of core deposit intangible
Amortization of investment security premiums, net of accretion of discounts
Accretion on acquired loans
Decrease in deferred loan origination fees, net1
Loss on sale of investment securities
Depreciation and amortization
Bargain purchase gain on acquisition, net of tax
Loss on disposal of premise and equipment
Earnings on bank owned life insurance policies1
(Gain) loss on sale of repossessed assets
Net change in operating assets and liabilities:
Interest receivable
Interest payable
Deferred rent and other rent-related expenses
Other assets1
Other liabilities
Net cash provided by operating activities
Cash Flows from Investing Activities:
Proceeds from sale of premises and equipment
Purchase of securities held to maturity
Purchase of securities available for sale
Proceeds from sale of securities
Proceeds from paydowns/maturity of:
Securities held to maturity
Securities available for sale
Loans originated and principal collected, net1
Purchase of bank owned life insurance policies
Purchase of premises and equipment
Proceeds from sale of repossessed assets
Cash receipt from acquisition
Redemption of Federal Home Loan Bank stock
Net cash used in investing activities
Cash Flows from Financing Activities:
Net increase in deposits
Proceeds from stock options exercised
Repayment of Federal Home Loan Bank borrowings
Preferred stock repurchased
Cash dividends paid on common stock
Cash dividends paid on preferred stock
Stock issued under employee stock purchase plan
Excess tax benefits from exercised stock options
Net cash provided by financing activities
Net increase in cash and cash equivalents
Cash and cash equivalents at beginning of period
Cash and cash equivalents at end of period
Supplemental disclosure of cash flow information:
Cash paid for interest
Cash paid for income taxes
Supplemental disclosure of non-cash investing and financing activities:
Loans transferred to repossessed assets
Stock issued in payment of director fees
Accretion of preferred stock
Acquisition:
Fair value of assets acquired
Fair value of liabilities assumed
Year ended December 31,
2011
2010
2009
$
15,564
$
13,552
$
12,765
7,050
200
377
(99)
725
1,385
(4,275)
(1,200)
---
1,293
(85)
117
(752)
(10)
(431)
(33)
236
1,051
1,268
22,381
18
(26,804)
(92,686)
---
1,755
68,251
(25,182)
(2,500)
(2,472)
421
44,042
219
(34,938)
93,152
741
(33,500)
---
(3,457)
---
33
99
57,068
44,511
85,232
129,743
5,328
9,159
301
200
---
107,763
107,678
$
$
$
$
$
5,350
200
350
(102 )
---
1,194
---
(119 )
---
1,344
---
3
(690 )
15
131
97
253
713
1,138
23,429
---
(5,464 )
(50,517 )
---
790
37,158
(26,804 )
---
(1,723 )
216
---
---
(46,344 )
71,678
895
---
---
(3,205 )
---
17
102
69,487
46,572
38,660
85,232
7,246
7,610
270
200
---
---
---
$
$
$
$
$
$
5,510
210
403
(157)
---
337
---
(172)
4
1,370
---
---
(696)
29
(257)
57
260
(6,507)
675
13,831
---
(8,706)
(57,814)
5,343
320
36,209
(33,984)
---
(1,121)
42
---
---
(59,711)
91,771
873
(1,800)
(28,000)
(2,960)
(451)
24
157
59,614
13,734
24,926
38,660
7,110
8,571
168
233
945
---
---
$
$
$
$
$
$
$
1 Amounts for prior periods have been reclassified to conform to current financial statement presentation.
The accompanying notes are an integral part of these consolidated financial statements.
Page - 53
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Introductory Explanation
References in this report to “Bancorp” mean the Bank of Marin Bancorp as the parent holding company for Bank of
Marin, the wholly-owned subsidiary (the “Bank”). References to “we,” “our,” “us” mean the holding company and the
Bank that are consolidated for financial reporting purposes.
Note 1: Summary of Significant Accounting Policies
Basis of Presentation: The consolidated financial statements include the accounts of Bank of Marin Bancorp
(“Bancorp”), a bank holding company, and its sole and wholly-owned bank subsidiary, Bank of Marin (the “Bank”, a
California state-chartered commercial bank). All material intercompany transactions have been eliminated. In the
opinion of Management, the consolidated financial statements contain all adjustments necessary to present fairly the
financial position, results of operations, changes in stockholders’ equity and cash flows. All adjustments are of a
normal, recurring nature. We have evaluated subsequent events through the date of filing with the Securities and
Exchange Commission (“SEC”) and have determined that there are no subsequent events that require additional
recognition or disclosure.
Nature of Operations: Bancorp, headquartered in Novato, CA, conducts business primarily through its wholly-owned
subsidiary, the Bank, which provides a wide range of financial services to customers, who are predominantly
professionals, small and middle-market businesses, and individuals who work and/or reside in Marin, Napa, San
Francisco and Sonoma counties. Besides the headquarter office in Novato, CA, the Bank operates ten branches in
Marin County, one in Napa County, one in San Francisco and five in Sonoma County. Our accounting and reporting
policies conform to generally accepted accounting principles and general practice within the banking industry. A
summary of our significant policies follows.
Cash and Cash Equivalents include cash, due from banks, Federal funds sold and other short-term investments with
maturity less than three months at the time of origination.
Investment Securities are classified as “held to maturity,” “trading securities” or “available for sale.” Investments
classified as held to maturity are those that we have the ability and intent to hold until maturity and are reported at
cost, adjusted for the amortization or accretion of premiums or discounts. Investments held for resale in anticipation of
short-term market movements are classified as trading securities and are reported at fair value, with unrealized gains
and losses included in earnings. Investments that are neither held to maturity nor trading are classified as available for
sale and are reported at fair value. Unrealized gains and losses, net of related tax, are reported as a separate
component of comprehensive income and included in stockholders’ equity until realized. For discussion of our
methodology in determining fair value, see Note 10.
At each financial statement date, Management assesses whether declines in the fair value of held-to-maturity and
available-for-sale securities below their costs are deemed to be other-than-temporary. Management considers, among
other things, (i) the length of time and the extent to which the fair value has been less than cost, (ii) the financial
condition and near-term prospects of the issuer, and (iii) our intent and ability to retain the investment for a period of
time sufficient to allow for any anticipated recovery in fair value. Evidence evaluated includes, but is not limited to, the
remaining payment terms of the instrument and economic factors that are relevant to the collectability of the
instrument, such as: current prepayment speeds, the current financial condition of the issuer(s), industry analyst
reports, credit ratings, credit default rates, interest rate trends and the value of any underlying collateral.
Page - 54
For each security in an unrealized loss position, we assess whether we intend to sell the security, or it is more likely
than not that we will be required to sell the security before recovery of its amortized cost basis less any current-period
credit losses. For debt securities that are considered other-than-temporarily impaired, are not intended for sale and
will not be required to be sold prior to recovery of our amortized cost basis, we separate the amount of the impairment
into the amount that is credit related (credit loss component) and the amount due to all other factors. The credit loss
component is recognized in earnings and is calculated as the difference between the security’s amortized cost basis
and the present value of its expected future cash flows. The remaining difference between the security’s fair value and
the present value of future expected cash flows is deemed to be due to factors that are not credit related and is
recognized in other comprehensive income, net of applicable taxes. The other-than-temporary impairment recognized
in other comprehensive income for debt securities classified as held-to-maturity is accreted from other comprehensive
income to the amortized cost of the debt security over the remaining life of the debt security in a prospective manner
on the basis of the amount and timing of future estimated cash flows.
Premiums and discounts are amortized or accreted over the life of the related security as an adjustment to yield using
the effective interest method. Dividend and interest income are recognized when earned. Realized gains and losses
for securities are included in earnings and are derived using the specific identification method for determining the cost
of securities sold.
Originated Loans are reported at the principal amount outstanding net of deferred fees, charge-offs and the allowance
for loan losses (“ALLL”). Interest income is accrued daily using the simple interest method. Loans are placed on non-
accrual status when Management believes that there is doubt as to the collection of principal or interest, generally
when they become contractually past due by ninety days or more with respect to principal or interest, except for loans
that are well-secured and in the process of collection. When loans are placed on non-accrual status, any accrued but
uncollected interest is reversed from current-period interest income and interest income is recorded only after the loan
is brought current or after all principal and past due interest has been collected. For loans whose contractual terms
have been restructured in a manner which grants a concession to a borrower experiencing financial difficulties
(“troubled debt restructuring”), they are returned to accrual status when there has been a sustained period of
repayment performance (generally, six consecutive monthly payments) according to the modified terms and there is
reasonable assurance of repayment and of performance.
Loan origination fees and commitment fees, offset by certain direct loan origination costs, are deferred and amortized
as yield adjustments over the contractual lives of the related loans.
Loan Charge-Off Policy: For all types of loans except overdraft accounts, we generally fully or partially charge down to
its net realizable value for a non-collateral-dependent loan, or the fair value of collateral securing the loan for a
collateral-dependent loan when: (1) it is deemed uncollectable; (2) the loan has been classified as a loss by either our
internal loan review process or external examiners; or (3) the loan is 180 days past due unless both well secured and
in the process of collection. For an overdraft account, we generally charge it off when it is more than 90 days
delinquent.
Allowance for Loan Losses is based upon estimates of loan losses and is maintained at a level considered adequate
to provide for probable losses inherent in the loan portfolio. The allowance is increased by provisions for loan losses
charged against earnings and reduced by charge-offs, net of recoveries.
In periodic evaluations of the adequacy of the allowance balance, Management considers current economic
conditions, known and inherent risks in the portfolio, adverse situations that may affect the borrower’s ability to repay,
the estimated value of any underlying collateral, our past loan loss experience and other factors. The ALLL is based
on estimates and ultimate losses may vary from current estimates. Our Asset/Liability Management Committee
(“ALCO”) reviews the adequacy of the ALLL at least quarterly, to include consideration of the relative risks in the
portfolio and current economic conditions. The allowance is adjusted based on that review if, in the judgment of the
ALCO and Management, changes are warranted.
The overall allowance consists of specific allowances for individually identified impaired loans, an allowance factor for
pools of credits and allowances for changing environmental factors (e.g., portfolio trends, concentration of credit,
growth, economic factors, etc.).
Page - 55
The first component, the specific allowance, results from the analysis of identified problem credits and the evaluation
of sources of repayment including collateral, as applicable. Through Management’s ongoing loan grading and credit
monitoring process, individual loans are identified that have conditions that indicate the borrower may be unable to
pay all amounts due under the contractual terms. These loans are evaluated for impairment individually by
Management. Management considers a loan to be impaired when it is probable we will be unable to collect all
amounts due according to the contractual terms of the loan agreement. When the fair value of the impaired loan is
less than the recorded investment in the loan, the difference is recorded as the impairment through the establishment
of the specific allowance. For loans determined to be impaired, the extent of the impairment is measured based on the
present value of expected future cash flows discounted at the loan’s effective interest rate at origination, based on the
loan’s observable market price, or based on the fair value of the collateral, if the loan is collateral dependent.
Generally with problem credits that are collateral-dependent, we obtain appraisals of the collateral at least annually.
We may obtain appraisals more frequently if we believe the collateral value is subject to market volatility, if a specific
event has occurred to the collateral, or if we believe foreclosure is imminent.
The second component is an estimate of the probable inherent losses in each loan pool stratified by major segments
of loans with similar characteristics in our loan portfolio. This analysis encompasses our entire loan portfolio and
excludes acquired loans where the discount has not been fully accreted. Loans are segmented into the following
pools: commercial real estate, construction, commercial, and consumer loans. Management also sub-segments these
segments into classes based on the associated risks within those segments. Commercial real estate loans are divided
into the following two classes: owner-occupied and non-owner-occupied. Consumer loans are divided into three
classes: residential real estate, home equity and other consumer loans. The total amount allocated for the second
component is determined by applying loss multipliers to outstanding loans in each loan pool. Loss multipliers for loan
pools are based on analysis of local economic factors, current loan portfolio quality, historical loss experience and
trends applicable to each loan pool. Local economic factors considered include state and local unemployment rates,
occupancy rates and sales statistics as external criteria for loan loss estimation. In addition, additional loss factors are
applied to substandard loans based on the increased risk of loss inherent in those credits.
The third component of the ALLL is an economic component, which is Management’s best estimate of the probable
impact that economic changes may have on the loan portfolio as a whole. It is not allocated to specific loans or groups
of loans, but rather is intended to absorb losses caused by portfolio trends, concentration of credit, growth, and
economic trends.
Acquired Loans are recorded at their estimated fair values at acquisition date, factoring in credit losses expected to be
incurred over the life of the loan. Accordingly, an allowance for loan losses is not carried over or recorded for acquired
loans as of the acquisition date.
Purchased credit-impaired (“PCI”) loans are those acquired with evidence of credit quality deterioration subsequent to
their origination and for which it was probable, at acquisition, that we would be unable to collect all contractually
required payments. Management has applied significant judgment in determining which loans are PCI loans.
Evidence of credit quality deterioration as of the purchase date may include statistics such as past due and
nonaccrual status, risk grades and recent loan-to-value percentages. Revolving credit agreements (e.g. home equity
lines of credit and revolving commercial loans), if at the acquisition date the borrower had revolving privileges, are not
considered PCI loans as cash flows cannot be reasonably estimated.
The excess of the cash flows of PCI loans initially expected to be collected over the fair value of the loans at the
acquisition date (i.e., the accretable yield) is accreted into interest income using the effective yield method, provided
that the timing and amount of future cash flows is reasonably estimable. The difference between the contractually
required payments and the cash flows expected to be collected at acquisition, considering the impact of prepayments,
is referred to as the nonaccretable difference and is not recorded. The estimate of cash flows expected to be collected
is updated quarterly and requires the continued usage of key assumptions and estimates similar to the initial estimate
of fair value. For discussion of the initial assumptions used in determining the fair value of the acquired loans, see
Note 2.
For purposes of accounting for the PCI loans purchased in the FDIC1-assisted acquisition of certain assets and the
assumption of certain liabilities of the former Charter Oak Bank on February 18, 2011 (the “Acquisition”), we elected to
account for these loans individually. Resolution of loans, which may include sales of loans to third parties, receipt of
payments in full by the borrower and foreclosure of the collateral, result in removal of the loans from the PCI loan
portfolio at its carrying amount, and any gains and losses as a result of resolutions are included in interest income.
Page - 56
Subsequent to the Acquisition, if we have probable decreases in cash flows expected to be collected (other than due
to decreases in interest rate indices), we charge the provision for loan losses and specific allowances are allocated to
PCI loans that have experienced credit deterioration. If we have probable and significant increases in cash flows
expected to be collected on PCI loans, we first reverse any previously established specific allowances and then
increase interest income as a prospective yield adjustment over the remaining life of the loans. Changes in cash flows
due to changes in interest rate indices for variable rate loans and prepayment assumptions are recorded in interest
income via prospective yield adjustment. At Acquisition, PCI loans with future cash flows that could be reasonably
estimated were not classified as nonperforming because we believed that we would fully collect the new carrying
value of these loans. When there is doubt as to the timing and amount of future cash flows to be collected, PCIs are
classified as non-accrual loans. It is important to note that judgment is required to classify PCI loans as performing or
non-accrual, and is dependent on having a reasonable expectation about the timing and amount of cash flows
expected to be collected.
For acquired loans not considered credit-impaired, the difference between the contractual amounts due (unpaid
principal amount) and the fair value is accreted to interest income over the lives of the loans. We elect to recognize
the entire fair value discount based on the acquired loan’s contractual cash flows using an effective interest rate
method for term loans, and a straight line method for revolving lines, as the timing and amount of cash flows under
revolving lines are not predictable. The accretion is recognized through the net interest margin. Subsequent to the
Acquisition, if the probable and estimable losses for non-PCI loans exceed the amount of the remaining unaccreted
discount, the excess is established as an ALLL.
For further information regarding our acquired loans, see Note 2 and Note 4.
Transfers of Financial Assets: We have entered into certain participation agreements with other organizations. We
account for these transfers of financial assets as sales when control over the transferred financial assets has been
surrendered. Control over transferred assets is deemed to be surrendered when (1) the assets have been isolated
from us, (2) the transferee has the right to pledge or exchange the assets (or beneficial interests) it received, free of
conditions that constrain it from taking advantage of that right, and (3) we do not maintain effective control over the
transferred financial assets or third-party beneficial interests related to those transferred assets. No gain or loss has
been recognized by us on the sale of these participation interests through December 31, 2011.
Premises and Equipment consist of leasehold improvements, furniture, fixtures and equipment and are stated at cost,
less accumulated depreciation and amortization, which are calculated on a straight-line basis over the estimated
useful life of the property or the term of the lease (if less). Furniture and fixtures are depreciated over eight years and
equipment is generally depreciated over three to twenty years. Leasehold improvements are amortized over the
lesser of their estimated useful lives or the terms of the leases. When assets are sold or otherwise disposed of, the
cost and related accumulated depreciation or amortization are removed from the accounts and any resulting gain or
loss is recognized in income for the period. The cost of maintenance and repairs is charged to expense as incurred.
Employee Stock Ownership Plan (“ESOP”): We recognize compensation cost of the ESOP contribution when funds
become committed for the purchase of Bancorp’s common shares into the ESOP in the year in which the employees
render service entitling them to the contribution. If we contribute stock, the compensation cost is the fair value of the
shares when they are committed to be released, i.e. when the number of shares becomes known. During 2011 and
2010, the Bank only made cash contributions to the ESOP without leveraging.
Income Taxes reported in the consolidated financial statements are computed based on an asset and liability
approach. We recognize the amount of taxes payable or refundable for the current year, and deferred tax assets and
liabilities for the future tax consequences that have been recognized in the financial statement or tax returns. The
measurement of tax assets and liabilities is based on the provisions of enacted tax laws. Bancorp files consolidated
federal and combined state income tax returns.
1 Federal Deposit Insurance Corporation
Page - 57
Earnings per share (“EPS”) are based upon the weighted average number of common shares outstanding during
each year. The following table shows: (1) weighted average basic shares, (2) potential common shares related to
stock options, non-vested restricted stock, and stock warrant, and (3) weighted average diluted shares. Net income
available to common stockholders is calculated as net income reduced by dividends accumulated on preferred stock
and amortization of discounts on the preferred stock. Basic EPS are calculated by dividing net income available to
common stockholders by the weighted average number of common shares outstanding during each period, excluding
unvested restricted stock awards. Diluted EPS are calculated using the weighted average diluted shares. The number
of potential common shares included in annual diluted EPS is a year-to-date weighted average of the number of
potential common shares included in each quarterly diluted EPS computation under the treasury stock method. We
have two forms of outstanding common stock: common stock and unvested restricted stock awards. Holders of
restricted stock awards receive non-forfeitable dividends at the same rate as common stockholders and they both
share equally in undistributed earnings.
(in thousands, except per share data)
Weighted average basic shares outstanding
Add: Potential common shares related to stock options
Potential common shares related to non-vested restricted
stock
Potential common shares related to warrant
Weighted average diluted shares outstanding
Net income
Preferred stock dividends and accretion
Net income available to common stockholders
Basic EPS
Diluted EPS
2011
5,302
41
4
37
5,384
2010
5,238
46
4
26
5,314
2009
5,182
47
2
11
5,242
$ 15,564
---
$ 15,564
$ 13,552
---
$ 13,552
$ 12,765
(1,299)
$ 11,466
$
$
2.94
2.89
$
$
2.59
2.55
$
$
2.21
2.19
Weighted average anti-dilutive shares not included in the
calculation of diluted EPS-Stock options
70
151
156
Share-Based Compensation: All share-based payments granted subsequent to January 1, 2006, including stock
options and restricted stock, are recognized as stock-based compensation expense in the statements of income
based on the grant-date fair value of the award with a corresponding increase in common stock. The grant-date fair
value of the award is amortized over the requisite service period, which is generally the vesting period. The stock-
based compensation expense also includes share-based awards granted prior to, but not yet vested as of January 1,
2006, the date we adopted grant-date fair value accounting for share-based payments.
We determine fair value at grant date using the Black-Scholes pricing model that takes into account the stock price at
the grant date, the exercise price, the expected life of the option, the volatility of the underlying stock, the expected
dividend yield and the risk-free interest rate over the expected life of the option. The Black-Scholes option valuation
model requires the input of highly subjective assumptions, including the expected life of the stock-based award and
stock price volatility. The assumptions used represent Management’s best estimates based on historical information,
but these estimates involve inherent uncertainties and the application of Management’s judgment. As a result, if other
assumptions had been used, the recorded stock-based compensation expense could have been materially different
from that recorded in its financial statements. In addition, we are required to estimate the expected forfeiture rates. If
our actual forfeiture rate is materially different from the estimate, the share-based compensation expense could be
materially different.
Page - 58
Derivative Financial Instruments and Hedging Activities:
Fair Value Hedges: All of our interest rate swap contracts are designated and qualified as fair value hedges. We apply
shortcut hedge accounting for one of our interest rate swap contracts, as it is structured to mirror all of the provisions
of the hedged loan agreement. This interest rate swap is carried on the consolidated statements of condition at its fair
value in other assets (when the fair value is positive) or in other liabilities (when the fair value is negative). The
change in the fair value of the interest rate swap is recorded in other non-interest income. As a result of interest rate
fluctuations, the hedged fixed-rate loan also gains or loses market value. The unrealized gain or loss resulting from
the change in market value of the hedged-loan is recorded as an adjustment to the hedged loan and offset in other
non-interest income. Under shortcut hedge accounting treatment, the change in fair value of the interest rate swap is
deemed perfectly offset by the change in fair value of the hedged loan, resulting in zero impact to net income.
Six of our interest rate swap contracts are accounted for using non-shortcut hedge accounting treatment. The interest
rate swaps are closely aligned to the terms of the designated fixed-rate loans. The hedging relationships are tested for
effectiveness on a quarterly basis. The interest rate swaps are carried on the consolidated statements of condition at
their fair value in other assets (when the fair value is positive) or in other liabilities (when the fair value is negative).
The changes in the fair value of the interest rate swaps are recorded in interest income. The unrealized gains or
losses due to changes in fair value of the hedged fixed-rate loans are recorded as an adjustment to the hedged loans
and offset in interest income. For derivative instruments executed with the same counterparty under a master netting
arrangement, we do not offset fair value amounts of interest rate swaps in liability position with the ones in asset
position. For further detail, see Note 15.
Advertising Costs are expensed as incurred. For the years ended December 31, 2011, 2010, and 2009, advertising
costs totaled $589 thousand, $459 thousand, and $528 thousand, respectively.
Comprehensive Income for Bancorp includes net income reported on the statements of income and changes in the
fair value of investment securities available for sale, net of related taxes, reported as a component of stockholders’
equity.
Segment Information: Our two operating segments include the traditional community banking activities provided
through our branch network and our Wealth Management and Trust Services (“WMTS”). The activities of these two
segments are monitored and reported by Management as separate operating segments. The accounting policies of
the segments are the same as those described in this note. We evaluate segment performance based on total
segment revenue and do not allocate expenses between the segments. WMTS revenues were $1.8 million, $1.5
million and $1.4 million in 2011, 2010 and 2009, respectively, which are included in non-interest income in the
statements of income. Non-interest expenses applicable to WMTS totaled $1.3 million, $1.3 million and $1.2 million in
2011, 2010 and 2009, respectively. The revenues of the community banking segment are reflected in all other income
lines in the statements of income.
Use of Estimates: The preparation of financial statements in conformity with accounting principles generally accepted in the
United States of America requires Management to make estimates and assumptions that affect the reported amounts of
assets and liabilities and disclosure of contingent amounts of revenues and expenses during the reporting period. Actual
results could differ from those estimates. Significant accounting estimates reflected in the consolidated financial statements
include ALLL, other-than-temporary impairment of investment securities, estimated cash flows on PCI loans, accounting for
income taxes and fair value measurements as discussed in the Notes herein.
Recently Issued Accounting Standards
In December 2011, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) No.
2011-11 Balance Sheet (Topic 210) Disclosures about Offsetting Assets and Liabilities. The ASU enhances disclosures in
order to improve the comparability of offsetting (netting) assets and liabilities reported in accordance with U.S. generally
accepted accounting principles (“GAAP”) and International Financial Reporting Standards (“IFRS”) by requiring entities to
disclose both gross information and net information about both instruments and transactions eligible for offset in the
statements of condition and instruments and transactions subject to an agreement similar to a master netting arrangement.
This scope would include derivatives, sale and repurchase agreements and reverse sale and repurchase agreements, and
securities borrowing and securities lending arrangements. This ASU is effective for annual periods beginning on or after
January 1, 2013, and interim periods within those annual periods. We do not expect this ASU to have a significant impact on
our financial condition or results of operations.
Page - 59
In June 2011, the FASB issued ASU No. 2011-05 Comprehensive Income (Topic 220) Presentation of Comprehensive
Income. The ASU improves the comparability, consistency, and transparency of financial reporting and increases the
prominence of items reported in other comprehensive income. The amendments to Topic 220, Comprehensive Income,
require entities to present the total of comprehensive income, the components of net income, and the components of other
comprehensive income either in a single continuous statement of comprehensive income or in two separate but consecutive
statements. Entities are no longer permitted to present components of other comprehensive income as part of the statement
of changes in stockholders’ equity. Any adjustments for items that are reclassified from other comprehensive income to net
income are to be presented on the face of the entities’ financial statement regardless of the method of presentation for
comprehensive income. The amendments do not change items to be reported in comprehensive income or when an item of
other comprehensive income must be reclassified to net income, nor do the amendments change the option to present the
components of other comprehensive income either net of related tax effects or before related tax effects. In December 2011,
the FASB issued ASU No. 2011-12 Comprehensive Income (Topic 220) Deferral of the Effective Date for Amendments to
the Presentation of Reclassifications of Items Out of Accumulated Other Comprehensive Income in Accounting Standards
which supersedes certain pending paragraphs in ASU No. 2011-05 that pertain to how, when, and where reclassification
adjustments are presented. This ASU is effective for fiscal years, and interim periods beginning on or after December 15,
2011. The specific requirement to present items that are reclassified from other comprehensive income to net income
alongside their respective components of net income and other comprehensive income is deferred until the FASB re-
deliberates. We do not expect this ASU to have an impact on our financial condition or results of operations as it affects
presentation only.
In May 2011, the FASB issued ASU No. 2011-04 Fair Value Measurement (Topic 820) Amendments to Achieve Common
Fair Value Measurement and Disclosure Requirements in U.S. GAAP and IFRSs. The ASU improves the comparability of
fair value measurements presented and disclosed in accordance with U.S. GAAP and IFRS by changing the wording used
to describe many of the requirements in U.S GAAP for measuring fair value and disclosure of information. The amendments
to this ASU provide explanations on how to measure fair value but do not require any additional fair value measurements
and do not establish valuation standards or affect valuation practices outside of financial reporting. The amendments clarify
existing fair value measurements and disclosure requirements to include application of the highest and best use and
valuation premises concepts; measuring fair value of an instrument classified in a reporting entity’s shareholders’ equity;
and disclosure requirements regarding quantitative information about unobservable inputs categorized within Level 3 of the
fair value hierarchy. In addition, clarification is provided for measuring the fair value of financial instruments that are
managed in a portfolio and the application of premiums and discounts in a fair value measurement. For public entities, ASU
2011-04 is effective during interim and annual periods beginning after December 15, 2011. We do not expect this ASU to
have a significant impact on our financial condition or results of operations.
In April 2011, the FASB issued ASU No. 2011-02, Receivables (Topic 310): A Creditor’s Determination of Whether a
Restructuring Is a Troubled Debt Restructuring. The ASU clarifies which loan modifications constitute troubled debt
restructurings. It is intended to assist creditors in determining whether a modification of the terms of a receivable
meets the criteria to be considered a troubled debt restructuring (“TDR”), both for purposes of recording an
impairment loss and for disclosure of a TDR. In evaluating whether a restructuring constitutes a TDR, a creditor must
separately conclude that both of the following exist: (a) the restructuring constitutes a concession; and (b) the debtor
is experiencing financial difficulties. The amendments to ASU Topic 310, Receivables, clarify the guidance on a
creditor’s evaluation of whether it has granted a concession and whether a debtor is experiencing financial difficulties.
ASU No. 2011-02 is effective for interim and annual periods beginning on or after June 15, 2011, and applies
retrospectively to restructurings occurring on or after the beginning of the fiscal year of adoption. We have adopted
this ASU in the third quarter of 2011 and provided the applicable disclosure in Note 4 herein.
In December 2010, the FASB issued ASU No. 2010-29, Business Combinations (Topic 805): Disclosure of
Supplementary Pro Forma Information for Business Combinations to address diversity in practice about the
interpretation of the pro forma revenue and earnings disclosure requirements for business combinations. This ASU is
effective prospectively for business combinations for which the acquisition date is on or after the beginning of the first
annual reporting period beginning January 1, 2011. It requires a public entity to disclose pro forma revenue and
earnings of the combined entity for the current reporting period as though the acquisition date for all business
combinations that occurred during the year had been as of the beginning of the annual reporting period. If
comparative financial statements are presented, the pro forma revenue and earnings of the combined entity for the
comparable prior reporting period should be reported as though the acquisition date for all business combinations that
occurred during the current year had been as of the beginning of the comparable prior annual reporting period. The
amendments also expand the supplemental pro forma disclosures to include a description of the nature and amount
of material, nonrecurring pro forma adjustments directly attributable to the business combination included in the
reported pro forma revenue and earnings. Refer to Note 2 for further information.
Page - 60
Note 2: Acquisition
On February 18, 2011, we entered into a modified whole-bank purchase and assumption agreement without loss
share (the “P&A Agreement”) with the Federal Deposit Insurance Corporation (the “FDIC”), the receiver of Charter
Oak Bank of Napa, California, to purchase certain assets and assume certain liabilities of the former Charter Oak
Bank to enhance our market presence. The purchase price reflected an asset discount of $19.8 million and no deposit
premium.
The P&A Agreement only covers designated assets and liabilities of Charter Oak Bank. Common stock of Charter
Oak Bank, certain assets and certain liabilities, such as claims against any officer, director, employee, accountant,
attorney, or any other person employed by the former Charter Oak Bank, were not purchased or assumed by us. In
addition, loans of the former Charter Oak Bank at their book values totaling approximately $24.4 million as of the
acquisition date were retained by the FDIC. The excluded loans mainly represent loans delinquent more than sixty
days or more as of the bid valuation date (October 18, 2010) and certain types of land and construction loans.
The assets acquired and liabilities assumed, both tangible and intangible, were recorded at their fair values as of
acquisition date in accordance with ASC 805, Business Combinations. These fair value estimates are subject to
change for up to one year after the acquisition date as additional information relative to acquisition date fair values
becomes available. In addition, the tax treatment of FDIC-assisted acquisitions is complex and subject to
interpretations that may result in future adjustments of deferred taxes as of the acquisition date.
In FDIC-assisted transactions, only certain assets and liabilities are transferred to the acquirer and, depending on the
nature and amount of the acquirer’s bid, the FDIC may be required to make a cash payment to the acquirer or the
acquirer may be required to make payment to the FDIC. We received cash totaling $32.6 million from the FDIC upon
initial settlement of the transaction and recorded a receivable from the FDIC of $196 thousand, for consideration of
the net liabilities assumed (i.e., the net difference between the liabilities assumed and the assets acquired). The $196
thousand receivable was settled in August 2011.
The following table presents the net liabilities assumed from Charter Oak and the estimated fair value adjustments,
which resulted in a bargain purchase gain as of the acquisition date as the loans were purchased at a discount:
(in thousands)
Book value of net liabilities assumed from Charter Oak Bank
Cash received from the FDIC upon initial settlement
Receivable from the FDIC
Fair value adjustments:
Loans
Core deposit intangible asset
Vehicles and equipment
Deferred tax liabilities
Deposits
Advances from the Federal Home Loan Bank
Total purchase accounting adjustments
$
Acquisition Date
(February 18, 2011)
(15,750)
32,588
196
(17,406)
725
16
(62)
(220)
(2)
(16,949)
Bargain purchase gain, net of tax
$
85
The bargain purchase gain represents the excess of the estimated fair value of the assets acquired over the
estimated fair value of the liabilities assumed. We did not immediately acquire the banking facilities, including
outstanding lease agreements, furniture, fixtures and equipment, as part of the P&A Agreement as of the acquisition
date. We have since acquired all data processing equipment and the Napa branch fixed assets totaling $206
thousand, and renegotiated a new lease with the landlord. The smaller St. Helena branch acquired from Charter Oak
Bank was closed effective April 29, 2011.
Page - 61
The following table reflects the estimated fair values of the assets acquired and liabilities assumed related to the
Acquisition, including cash received and receivable from the FDIC on the acquisition date:
(in thousands)
Assets:
Cash and due from banks
Interest bearing deposits in banks
Federal funds sold
Total cash and cash equivalents
Loans
Core deposit intangible
Other assets (including the receivable from the FDIC)
Total assets acquired
Liabilities:
Deposits:
Noninterest bearing
Interest bearing
Total deposits
Advances from the Federal Home Loan Bank
Deferred tax liabilities
Other liabilities
Total liabilities assumed
Acquisition Date
(February 18, 2011)
$
34,144
5,663
4,235
44,042
61,765
725
1,231
107,763
27,874
65,987
93,861
13,502
62
253
107,678
Bargain purchase gain, net of tax (included in other non-interest income)
$
85
The following is a description of the methods used to determine the fair values of significant assets and liabilities at
acquisition date presented above.
Loans
The fair values for acquired loans were developed based upon the present values of the expected cash flows utilizing
market-derived discount rates. Expected cash flows for each acquired loan were projected based on contractual cash
flows adjusted for expected prepayment, expected default (i.e. probability of default and loss severity), and principal
recovery.
Prepayment rates were applied to the principal outstanding of purchased non-credit impaired loans based on the
following assumptions depending on type of loan:
• For commercial and agriculture loans, a ten percent constant prepayment rate (“CPR”) was assumed based
on research data associated with these loan types;
• A one percent CPR was assumed for commercial real estate, construction and land loans as research data
indicated limited prepayment activity over the life of these loans;
• For single family residential loans, a twenty percent CPR was used, based on research data associated with
these loan types;
• For home equity lines of credit, a CPR of fifteen percent was assumed based on the refinance likelihood and
other research; and,
• For other consumer loans, a CPR of one and a half percent was used based on capital markets research data
for consumer unsecured credit.
Prepayment assumptions were not factored into the calculation of expected cash flows on PCI loans. For more
information, refer to Note 4 under “Purchased Credit-Impaired Loans”.
Page - 62
Loans with similar characteristics were grouped together and were treated in the aggregate when applying the
discount rate on the expected cash flows. Aggregation factors considered include the type of loan and related
collateral, risk classification, fixed or variable interest rate, term of loan and whether or not the loan was amortizing.
The discount rates used for the similar groups of loans are based on current market rates for new originations of
comparable loans, where available, and include adjustments for credit and liquidity factors. To the extent comparable
market rates are not readily available, a discount rate was derived based on the assumptions of a market participant’s
cost of funds, servicing costs, and return requirements for comparable risk assets.
Deposits
The fair values used for the transaction, savings and money market deposits are equal to the amounts payable on
demand at the reporting date. The fair values for time deposits were estimated using a discounted cash flow
calculation that applies interest rates offered by market participants as of the acquisition date on time deposits with
similar maturity terms as the discount rates. We recorded a core deposit intangible asset of $725 thousand at
Acquisition, of which $683 thousand was written-off in the fourth quarter of 2011 and $42 thousand was amortized
over the year. This write-off was primarily due to greater than anticipated runoff of the acquired deposits and a
significant decline in alternative funding costs since the Acquisition. For income tax purposes, we continue to amortize
the core deposit intangible asset over fifteen years.
Advances from the Federal Home Loan Bank
The advances from the Federal Home Loan Bank San Francisco (“FHLB”) were recorded at their estimated fair value,
which was based on quoted prices supplied by the FHLB. Subsequent to the acquisition date, all of these advances
were repaid in full in the first quarter of 2011.
Pro Forma Results of Operations
The contribution of the acquired operations of the former Charter Oak Bank to our results of operations for the period
February 18 to December 31, 2011 is as follows: revenue of $9.1 million, expenses of $5.8 million (including a
provision for loan losses of $2.3 million), resulting in income after income taxes of $2.0 million. These amounts include
the bargain purchase gain, Acquisition-related third-party costs, accretion of the discount on the acquired loans, gains
on payoff of PCI loans, amortization of the fair value mark on time deposits and the core deposit intangible
amortization and write-off. Charter Oak Bank’s results of operations prior to the acquisition date are not included in
our operating results for 2011. The contribution discussed above excludes allocated overhead and allocated cost of
funds.
We acquired only certain assets and assumed certain liabilities from the former Charter Oak Bank. A significant
portion of the former Charter Oak Bank’s operations, including certain delinquent loans, its St. Helena facilities and its
central operations and administrative functions were not retained by us. Therefore, disclosure of supplemental pro
forma financial information, especially prior period comparison is deemed neither practical nor meaningful given the
troubled nature of Charter Oak Bank prior to the date of Acquisition. Additionally, the acquired operation was not
considered significant, as defined by the Securities and Exchange Commission.
Acquisition-related expenses were recognized as incurred and continued until all systems had been converted and
operational functions became fully integrated. We incurred third-party acquisition-related expenses in the following
line items in the consolidated statements of income for the year ended December 31, 2011 as follows:
Acquisiton-related Expenses
(in thousands)
Professional services
Data processing
Other
Total
Year Ended
December 31, 2011
457
455
88
1,000
$
$
Page - 63
Note 3: Investment Securities
Our investment securities portfolio at December 31, 2011 and 2010 consists primarily of U.S. government agency
securities, including mortgage-backed securities (“MBS”) and collateralized mortgage obligations (“CMOs”) issued or
guaranteed by FNMA, FHLMC, or GNMA. Our portfolio also includes obligations of state and political subdivisions,
corporate bonds, debentures issued by government-sponsored agencies such as FNMA and FHLMC, as well as
privately issued CMOs and Visa stock, as reflected in the table below:
December 31, 2011
December 31, 2010
Amortized
Cost
Fair
Value
Gross
Unrealized
(Losses)
Gains
Amortized
Cost
Fair
Value
Gains
Gross
Unrealized
(Losses)
$
54,738 $
5,000
59,738
57,226 $
4,959
62,185
2,688 $
---
2,688
(200) $
(41)
(241)
34,917 $
35,090 $
---
34,917
---
35,090
666 $
---
666
(493)
---
(493)
(in thousands)
Held to maturity
Obligations of state and political
subdivisions
Corporate bonds
Total held to maturity
Available for sale
Securities of U. S. government
agencies:
MBS pass-through securities
issued by FNMA and FHLMC
CMOs issued by FNMA
CMOs issued by FHLMC
CMOs issued by GNMA
Debentures of government
sponsored agencies
Privately issued CMOs
Visa stock
Total available for sale
26,360
10,775
18,853
49,940
27,486
11,099
19,386
50,886
8,000
18,420
---
132,348
8,050
18,197
---
135,104
1,126
324
533
946
50
116
---
3,095
---
---
---
---
---
(339)
---
(339)
16,119
12,770
19,725
44,607
16,424
13,236
20,177
45,421
419
466
452
884
---
15,849
---
109,070
---
15,870
608
111,736
---
185
608
3,014
(114)
---
---
(70)
---
(164)
---
(348)
Total investment securities
$
192,086 $
197,289 $
5,783 $
(580) $
143,987 $
146,826 $
3,680 $
(841)
As a member bank of Visa U.S.A., we hold 16,939 shares of Visa Inc. Class B common stock at a zero cost basis.
These shares are restricted from resale until their conversion into Class A (voting) shares upon the termination of Visa
Inc.’s covered litigation escrow account. The conversion rate will be determined upon the final resolution of the Visa
Inc. covered litigation described in Note 13. The stock was re-classified from available-for-sale securities to other
assets in March 2011 where it is accounted for on a cost basis. As the stock is still currently restricted from resale
based on information received from Visa Inc, the unrealized gain on the stock, net of tax, at December 31, 2010 was
reversed from other comprehensive income. The fair value of the Class B common stock we own was $732 thousand
and $608 thousand at December 31, 2011 and December 31, 2010, respectively, based on the Class A as-converted
rate of 0.4254 and 0.5102, respectively.
Page - 64
The amortized cost and fair value of investment debt securities by contractual maturity at December 31, 2011 are
shown below. Expected maturities will differ from contractual maturities because the issuers of the securities may
have the right to call or prepay obligations with or without call or prepayment penalties.
(in thousands)
Within one year
After one but within five years
After five years through ten years
After ten years
Total
December 31, 2011
Held to Maturity
Available for Sale
Amortized Cost
Fair Value
Amortized Cost
Fair Value
$
$
3,343 $
22,940
22,145
11,310
59,738 $
3,367
23,133 $
24,240
11,445
62,185 $
---
11,439 $
11,334
109,575
132,348 $
---
11,616
11,507
111,981
135,104
There were no sales of available-for-sale or held-to-maturity securities in 2011 or 2010. During 2009, four held-to-
maturity securities issued by the same issuer with a combined carrying value of $1.1 million, and another held-to-
maturity security with a carrying value of $335 thousand were sold due to evidence of significant deterioration of
creditworthiness. The proceeds from the sales totaled $1.4 million and the transactions resulted in net losses of $9
thousand recorded against 2009 earnings. In 2009, we also sold one available-for-sale security with a carrying value
of $3.9 million. The proceeds from the sale totaled $3.9 million and the sale resulted in a gain of $5 thousand
recognized in earnings.
Investment securities carried at $53.6 million and $44.4 million at December 31, 2011 and 2010, respectively, were
pledged with the State of California: $52.9 million and $42.3 million to secure public deposits in compliance with the
Local Agency Security Program at December 31, 2011 and 2010, respectively, and $707 thousand and $667
thousand to provide collateral for trust deposits at December 31, 2011 and 2010, respectively. In addition, investment
securities carried at $1.1 million and $1.4 million were pledged to collateralize an internal WMTS checking account at
December 31, 2011 and 2010, respectively. At December 30, 2011 and 2010, $4.8 million and $3.7 million of
securities, respectively, were pledged to collateralize interest rate swaps as discussed in Note 15. At December 31,
2011 and 2010, investment securities carried at zero and $1.3 million, respectively, were pledged with the Federal
Reserve Bank of San Francisco (“FRBSF”) to secure our Treasury, Tax and Loan account.
Other-Than-Temporarily Impaired Debt Securities
We do not have the intent to sell the securities that are temporarily impaired, and it is more likely than not that we will
not have to sell those securities before recovery of the cost basis. Additionally, we have evaluated the credit ratings of
our investment securities and their issuers and/or insurers, if applicable. Based on our evaluation, Management has
determined that no investment security in our investment portfolio is other-than-temporarily impaired.
Page - 65
Seventeen and twenty-nine investment securities were in unrealized loss positions at December 31, 2011 and 2010,
respectively. They are summarized and classified according to the duration of the loss period as follows:
< 12 continuous months
Unrealized loss
Fair value
> 12 continuous months
Unrealized loss
Fair value
Total Securities in a loss position
Unrealized loss
Fair value
December 31, 2011
(In thousands)
Held-to-maturity
Obligations of state &
political subdivisions
Corporate bonds
Total held to maturity
Available for sale
Privately issued CMOs
Total available for sale
Total temporarily impaired
$ 17,607 $
4,959
22,566
(174) $ 1,775 $
(41)
(215)
---
1,775
(26) $
---
(26)
19,382 $
4,959
24,341
8,173
8,173
(205)
(205)
3,757
3,757
(134)
(134)
11,930
11,930
(200)
(41)
(241)
(339)
(339)
(580)
securities
$ 30,739 $
(420) $ 5,532 $
(160) $
36,271 $
December 31, 2010
(In thousands)
Held-to-maturity
Obligations of state &
political subdivisions
Available for sale
Securities of U. S.
< 12 continuous months
Unrealized loss
Fair value
> 12 continuous months
Unrealized loss
Fair value
Total Securities in a loss position
Unrealized loss
Fair value
$ 11,622 $
(250) $ 1,687 $
(243) $
13,309 $
(493)
Government Agencies
Privately issued CMOs
Total available for sale
Total temporarily impaired
12,888
7,070
19,958
(184)
(164)
(348)
---
---
---
---
---
---
12,888
7,070
19,958
securities
$ 31,580 $
(598) $ 1,687 $
(243) $
33,267 $
(184)
(164)
(348)
(841)
Obligations of U.S. states and political subdivisions in our portfolio are all investment grade without delinquency
history. Only one of them was in a loss position for more than twelve continuous months as of December 31, 2011.
This debenture was issued by a local subdivision with payments collected through special property tax assessments
in an affluent community and has very low lien-to-value ratio. This security is expected to perform based on past
payment history and will continue to be monitored as part of our ongoing impairment analysis. Four state and
municipal securities were in a temporary loss position for less than twelve months. These securities were all rated
above A-/A1 by Standard & Poor’s/Moody. As a result, we concluded that these securities were not other-than-
temporarily impaired at December 31, 2011.
The one corporate bond in a temporary loss position was newly issued and purchased in December 2011. Both
Moody’s and S&P ratings indicate this security is high quality with very low credit risk. We believe the temporary
decline in its fair market value is primarily driven by fluctuation in interest rates and it is probable that we will be able
to collect all amounts due according to the contractual terms and no other-than-temporary impairment exists.
The unrealized losses associated with privately issued CMOs and an asset-based security is primarily driven by
changes in interest rates and not due to the credit quality of the securities. These securities are privately issued by
financial institutions with no guarantee from government sponsored agencies. They are collateralized by residential
mortgages or home equity loans and may be prepaid at par prior to maturity. Most of these securities were AAA rated
by at least one major rating agency. We estimate loss projections for each security by assessing loans collateralizing
the security and determining expected default rates and loss severities. Based upon our assessment of expected
credit losses of each security given the performance of the underlying collateral and credit enhancements where
applicable, we concluded that these securities were not other-than-temporarily impaired at December 30, 2011.
Page - 66
Securities Carried at Cost
As a member of the FHLB, we are required to maintain a minimum investment in the FHLB capital stock determined
by the Board of Directors of the FHLB. The minimum investment requirements can also increase in the event we need
to increase our borrowing capacity with the FHLB. Shares cannot be purchased or sold except between the FHLB and
its members at its $100 per share par value. We held $5.4 million and $5.0 million of FHLB stock recorded at cost in
other assets at December 31, 2011 and 2010, respectively. On February 22, 2012, FHLB declared a cash dividend for
the fourth quarter of 2011 at an annualized dividend rate of 0.48%. Management does not believe that the FHLB stock
is other-than-temporarily-impaired, as we expect to be able to redeem this stock at cost.
Note 4: Loans and Allowance for Loan Losses
The majority of our loan activity is with customers located in California, primarily in the counties of Marin, Napa, San
Francisco and Sonoma. More than half of our loans are for commercial real estate, 79% of which are secured by real
estate located in Marin, Napa, Sonoma and San Francisco counties, California. Approximately 85% and 86% of total
loans were secured by real estate at December 31, 2011 and 2010, respectively.
Outstanding loans by class and payment aging at December 31, 2011 and 2010 are as follows:
Credit Quality of Loans
(dollars in thousands)
December 31, 2011
30-59 days past due . . . . . .
60-89 days past due . . . . . .
Greater than 90 days past
due (non-accrual) 2 . . . . .
Total past due . . . . . . . . .
Current . . . . . . . . . . . . . . .
Total loans 3 . . . . . . . . . . . . .
Non-accrual loans to total loans .
December 31, 2010
30-59 days past due . . . . . .
60-89 days past due . . . . . .
Greater than 90 days past
due (non-accrual) 2 . . . . .
Total past due . . . . . . . . .
Current . . . . . . . . . . . . . . .
Total loans 3 . . . . . . . . . . . . .
Non-accrual loans to total loans .
$
$
$
$
Loan Aging Analysis by Class As of December 31, 2011 and 2010
Commercial
real estate,
owner-
occupied
Commercial
real estate,
investor
Commercial
Construction
Home
equity
Other
residential 1
Installment
and other
consumer
Total
7,209
173
$
371
139
$
576
-
6,060
-
$
$
-
-
$
195
-
$
-
-
$
7
34
2,955
3,465
172,325
175,790
$
2,033
2,609
172,096
174,705
$
741
6,801
439,624
446,425
$
3,014
3,014
48,943
51,957
766
961
97,082
$ 98,043
$
1,942
1,942
59,560
61,502
$
519
560
22,172
22,732
11,970
19,352
1,011,802
$ 1,031,154
1.7%
1.2%
0.2%
5.8%
0.8%
3.2%
2.3%
1.2%
$
20
-
$
-
-
$
-
-
$
-
-
$
25
-
$
-
-
$
307
-
352
-
2,486
2,506
151,330
153,836
$
632
632
141,958
142,590
$
-
-
383,553
383,553
$
9,297
9,297
68,322
77,619
-
25
86,907
$ 86,932
$
148
148
69,843
69,991
$
362
669
26,210
26,879
$
12,925
13,277
928,123
941,400
1.6%
0.4%
-
12.0%
-
0.2%
1.3%
1.4%
1 Our residential loan portfolio includes no sub-prime loans, nor is it our normal practice to underwrite loans
commonly referred to as “Alt-A mortgages”, the characteristics of which are loans lacking full documentation,
borrowers having low FICO scores or higher loan-to-value ratios.
2 December 31, 2011 amounts include $2.5 million PCI loans that have stopped accreting interest and exclude
accreting PCI loans of $3.4 million, as their accretable yield interest recognition is independent from the underlying
contractual loan delinquency status. There were no loans past due more than 90 days still accruing interest at
December 30, 2011 or at December 31, 2010.
3 Amounts were net of deferred loan fees of $1.6 million and $2.8 million at December 31, 2011 and December 31,
2010, respectively.
Page - 67
Our commercial loans are generally made to established small to mid-sized businesses to provide financing for their
working capital needs or acquisition of fixed assets. Management examines historical, current and projected cash
flows to determine the ability of the borrower to repay their obligations as agreed. Commercial loans are primarily
made based on the identified cash flows of the borrower and secondarily on the underlying collateral. The cash flows
of borrowers, however, may not occur as expected and the collateral securing these loans may fluctuate in value.
Most commercial and industrial loans are secured by the assets being financed or other business assets such as
accounts receivable or inventory and incorporate a personal guarantee; however, some short-term loans may be
made on an unsecured basis. In the case of loans secured by accounts receivable, the availability of funds for the
repayment of these loans may be substantially dependent on the ability of the borrower to collect amounts due from
its customers. We target stable local businesses with strong guarantors that have proven to be more resilient in
periods of economic stress. Typically, the strong guarantors provide an additional source of repayment for our credit
extensions.
Commercial real estate loans are subject to underwriting standards and processes similar to commercial loans
discussed above. We underwrite these loans primarily as cash flow loans and secondarily as loans secured by real
estate. Repayment of commercial real estate loans is largely dependent on the successful operation of the property
securing the loan, or the business conducted on the property securing the loan. Underwriting for these loans must
meet a minimum debt coverage ratio of 1.20:1.00, and we also require a conservative loan-to-value of 65% or less.
Furthermore, substantially all of our loans are guaranteed by the owners of the properties. Commercial real estate
loans may be more adversely affected by conditions in the real estate markets or in the general economy. In the event
of a vacancy, strong guarantors have historically carried the loans until a replacement tenant can be found. The
owner’s substantial equity investment provides a strong economic incentive to continue to support the commercial real
estate projects. As such, we experience nominal delinquencies in this portfolio.
Construction loans are generally made to developers and builders to finance land acquisition as well as the
subsequent construction. These loans are underwritten after evaluation of the borrower’s financial strength,
reputation, prior track record and obtaining independent appraisal reviews. The construction industry can be severely
impacted by several major factors, including: 1) the inherent volatility of real estate markets; 2) vulnerability to weather
delays, labor, or material shortages and price hikes; and, 3) generally thin margins and tight cash flow. Estimates of
construction costs and value associated with the complete project may be inaccurate. Repayment of construction
loans is largely dependent on the success of the ultimate project.
Consumer loans primarily consist of home equity lines of credit and loans, other residential (tenancy-in-common, or
“TIC”) loans and other personal loans. We originate consumer loans utilizing credit score information, debt-to-income
ratio and loan-to-value ratio analysis. To monitor and manage consumer loan risk, policies and procedures are
developed and modified, as needed. This activity, coupled with relatively small loan amounts that are spread across
many individual borrowers, minimizes risk. Additionally, trend and outlook reports are reviewed by Management on a
regular basis. Underwriting standards for home equity loans include, but are not limited to, a maximum loan-to-value
percentage of 75% of loans that are $1,250,000 or less (and even more conservatively for homes with values in
excess of this amount), collection remedies, the number of such loans a borrower can have at one time and
documentation requirements. Our underwriting of the other residential loans, mostly secured by TIC units in San
Francisco, has been cautious compared to traditional residential mortgages due to the unique ownership structure
and the interest-only feature of these loans. However, these borrowers tend to have more equity in their properties,
which mitigates risk. Personal loans are nearly evenly split between mobile home loans and floating home loans along
with a small number of direct auto loans and installment loans. Personal unsecured loans are offered to consumers
with additional underwriting procedures in place, including net worth, and borrowers’ verified liquid assets analysis. In
general, personal loans usually have a higher degree of risk than other types of loans.
We use a risk rating system as a tool used to evaluate asset quality, and to identify and monitor credit risk in individual
loans, and ultimately in the portfolio. Definitions of risk grades of “Special Mention” or worse are consistent with those
used by the regulators. Our internally assigned grades are as follows:
Page - 68
Pass – Loans to borrowers of acceptable or better credit quality. Borrowers in this category demonstrate
fundamentally sound financial positions, repayment capacity, credit history and management expertise. Loans in this
category must have an identifiable and stable source of repayment and meet the Bank’s policy regarding debt service
coverage ratios. These borrowers are capable of sustaining normal economic, market or operational setbacks without
significant financial impacts. Financial ratios and trends are acceptable. Negative external industry factors are
generally not present. The loan may be secured, unsecured or supported by non-real estate collateral for which the
value is more difficult to determine and/or marketability is more uncertain. This category also includes “Watch” loans,
where the primary source of repayment has been delayed. “Watch” is intended to be a transitional grade, with either
an upgrade or downgrade within a reasonable period.
Special Mention - Potential weaknesses that deserve close attention. If left uncorrected, those potential weaknesses
may result in deterioration of the payment prospects for the asset. Special Mention assets do not present sufficient
risk to warrant adverse classification.
Substandard - Inadequately protected by either the current sound worth and paying capacity of the obligor or the
collateral pledged, if any. A Substandard asset has a well-defined weakness or weaknesses that jeopardize the
liquidation of the debt. Substandard assets are characterized by the distinct possibility that we will sustain some loss if
such weaknesses or deficiencies are not corrected. Loss potential, while inherent in the aggregate substandard
amount, does not necessarily exist in the individual assets classified Substandard. Well-defined weaknesses include
adverse trends or developments of the borrower’s financial condition, managerial weaknesses and/or significant
collateral deficiencies.
Doubtful - Critical weaknesses that make collection or liquidation in full improbable. There may be specific pending
events that work to strengthen the asset, however, the amount or timing of the loss may not be determinable. Pending
events generally occur within one year of the asset being classified as Doubtful. Examples include: merger,
acquisition, or liquidation; capital injection; guarantee; perfecting liens on additional collateral; and refinancing. Such
loans are placed on non-accrual status and usually are collateral-dependant.
We regularly review our credits for accuracy of risk grades whenever new financial information is received. Borrowers
are required to submit financial information at regular intervals:
• Generally, commercial borrowers with lines of credit are required to submit financial information regularly
with reporting intervals ranging from monthly to annually depending on credit size, risk and complexity.
Investor commercial real estate borrowers with loans greater than $750 thousand are required to submit
rent rolls or property income statements at least annually.
•
• Construction loans are monitored monthly, and assessed on an ongoing basis.
• Home equity and other consumer loans are assessed based on delinquency.
• Loans graded “Watch” or more severe, regardless of loan type, are assessed no less than quarterly.
The following table represents our analysis of loans by internally assigned grades as of December 31, 2011 and 2010:
Credit Quality Indicators As of December 31, 2011 and 2010
(in thousands)
Commercial
Commercial
real estate,
owner-
occupied
Commercial
real estate,
investor Construction
Home
equity
Other
residential
Installment
and other
consumer
Purchased
credit-
impaired
Total
Credit Risk Profile by Internally Assigned Grade:
December 31, 2011
Pass
Special Mention
Substandard
Doubtful
Total loans
December 31, 2010
Pass
Special mention
Substandard
Doubtful
Total loans
$
$
$
$
148,806 $
7,874
17,897
98
174,675 $
146,449 $
18,434
6,609
-
171,492 $
433,307 $
4,877
6,617
-
444,801 $
-
19,492
193
32,272 $ 93,188 $
838
3,677
339
51,957 $ 98,042 $
54,711 $
2,010
4,420
361
61,502 $
21,648 $
-
895
189
22,732 $
1,541 $
529
3,563
320
931,922
34,562
63,170
1,500
5,953 $ 1,031,154
120,428 $
17,009
16,169
230
153,836 $
135,443 $
454
6,693
-
142,590 $
369,976 $
330
13,247
-
383,553 $
57,779 $ 84,830 $
447
10,253
1,655
9,587
-
-
77,619 $ 86,932 $
64,570 $
-
5,421
-
69,991 $
26,280 $
-
427
172
26,879 $
- $
-
-
-
- $
859,306
28,493
53,199
402
941,400
Page - 69
Troubled Debt Restructuring
Our loan portfolio includes certain loans that have been modified in a Troubled Debt Restructuring (“TDR”), where
economic concessions have been granted to borrowers experiencing financial difficulties. These concessions may
result from our loss mitigation activities and could include reductions in the interest rate, payment extensions,
forgiveness of principal, forbearance or other actions. TDRs on nonaccrual status at the time of restructure may be
returned to accruing status after considering the borrower’s sustained repayment performance for a reasonable
period, generally six months.
When a loan is modified, management evaluates any possible impairment based on the present value of expected
future cash flows, discounted at the contractual interest rate of the original loan agreement, except when the sole
(remaining) source of repayment for the loan is the operation or liquidation of the collateral. In these cases
management uses the current fair value of the collateral, less selling costs, instead of discounted cash flows. If
management determines that the value of the modified loan is less than the recorded investment in the loan (net of
previous charge-offs and unamortized premium or discount), impairment is recognized through a specific allowance or
a charge-off of the loan.
As a result of adopting the amendments in ASU No. 2011-02 discussed in Note 1, Management reassessed all loan
modifications that occurred on or after January 1, 2011 for potential identification as TDRs. Management has
identified TDRs for which the related allowance for loan losses had previously been measured under the general
allowance for loan losses methodology. Upon identifying those receivables as TDRs, they are newly considered as
impaired under the guidance in ASC Section 310-10-35. The amendments in ASU No. 2011-02 require prospective
application of the impairment guidance in ASC Section 310-10-35 for those receivables newly identified as impaired.
At the end of the first interim period of adoption (September 30, 2011), the recorded investment in receivables for
which the allowance for loan losses had been previously measured under a general allowance for loan losses
methodology and now considered impaired was $3.1 million, and the related specific allowance, based on a current
evaluation of loss, was $11 thousand.
The table below, by loan class, presents the following information for all TDRs during 2011: number of contracts
modified, the recorded investment in the loans prior to modification, and the recorded investment in the loans after the
loans were restructured. Modifications generally involved reductions in the interest rate, payment extensions or
forbearances, or a combination of any of the above. As of December 31, 2010, there were $1.2 million of TDR loans
(mostly installment and other consumer loans) which were performing. There were three TDRs in 2010 and 2011 with
loan balances of $1.0 million that subsequently defaulted within twelve months of restructuring and were charged-off
during 2011. The table below excludes fully charged-off TDR loans:
(dollars in thousands)
Troubled Debt Restructurings
Commercial
Commercial real estate, owner-occupied
Construction
Home equity
Other residential
Installment and other consumer
Total
Number of
Contracts
Modified
Pre-
Modification
Outstanding
Recorded
Investment
Post-
Modification
Outstanding
Recorded
Investment
Post-
Modification
Outstanding
Recorded
Investment at
December 31,
20111
27 $
2
2
3
3
13
50 $
5,854
1,366
817
478
1,467
1,607
11,589
$
$
5,940
1,403
817
469
1,467
1,605
11,701
$
$
4,969
1,403
800
467
1,464
1,552
10,655
1 Includes $6.3 million of TDR loans that were accruing interest as of December 31, 2011.
Page - 70
Impaired Loan Balances and Their Related Allowance by Major Classes of Loans
The table below summarizes information on impaired loans and their related allowance:
(in thousands)
December 31, 2011
Recorded investment in impaired loans:
With no specific allowance recorded
With a specific allowance recorded
Total recorded investment in impaired
Commercial
real estate,
owner-
occupied
Commercial
Commercial
real estate,
investor Construction
Home
equity
Other
residential
Installment
and other
consumer
Total
$
2,866 $
2,969
2,195 $
1,018
648 $
623
2,395 $
909
591 $
454
1,464 $
1,942
1,022 $ 11,181
8,964
1,049
loans
$
5,835 $
3,213 $
1,271 $
3,304 $ 1,045 $
3,406 $
2,071 $ 20,145
Unpaid principal balance of impaired loans:
With no specific allowance recorded
With a specific allowance recorded
Total unpaid principal balance of the impaired loans $
$
4,730 $
4,598
9,328 $
5,140 $
1,862
7,002 $
648 $
825
5,007 $ 1,077 $
1,095
544
1,464 $
1,942
1,064 $ 19,130
11,915
1,049
1,473 $
6,102 $ 1,621 $
3,406 $
2,113 $ 31,045
Specific allowance
$
1,285 $
169 $
163 $
194 $
262 $
408 $
465 $
2,946
Average recorded investment in impaired loans during
the year
4,695
1,873
595
3,505
813
1,612
1,844
14,937
Interest income recognized on impaired loans during
the year
December 31, 2010
Recorded investment in impaired loans:
With no specific allowance recorded
With a specific allowance recorded
Total recorded investment in impaired
102
---
38
---
14
72
26
252
$
959 $
1,526
633 $
--- $
--- $
---
8,742 $
555
--- $
259
--- $
148
73 $ 10,407
3,702
1,214
loans
$
2,485 $
633 $
--- $
9,297 $
259 $
148 $
1,287 $ 14,109
Unpaid principal balance of impaired loans:
With no specific allowance recorded
With a specific allowance recorded
Total unpaid principal balance of the impaired loans $
$
959 $
2,570
3,529 $
689 $
---
689 $
Specific allowance
$
667 $
--- $
--- $
---
--- $
--- $
11,485 $
555
--- $
259
12,040 $
259 $
--- $
148
148 $
115 $ 13,248
4,746
1,214
1,329 $ 17,994
3 $
25 $
93 $
290 $
1,078
Average recorded investment in impaired loans during
the year
1,326
3,086
---
6,326
191
39
1,212
12,180
Interest income recognized on impaired loans during
the year
85
22
---
336
8
5
66
522
The average recorded investment in impaired loans was $8.3 million in 2009. We recognized interest income of $407
thousand on these impaired loans for cash payments received during the year ended 2009. Substantially all interest
income on impaired loans was recognized on the cash basis.
The gross interest income that would have been recorded had non-accrual loans been current totaled $821 thousand,
$756 thousand and $728 thousand in the years ended December 31, 2011, 2010 and 2009, respectively. PCI loans
are excluded from the foregone interest data above as their accretable yield interest recognition is independent from
the underlying contractual loan delinquency status. See page 71, “Purchased Credit-Impaired Loans” for further
discussion.
Management monitors delinquent loans continuously and identifies problem loans, generally loans graded
substandard or worse, to be evaluated individually for impairment testing. Generally, we charge off our estimated
losses related to specifically-identified impaired loans when it is deemed uncollectible. The cumulative charged-off
portion of impaired loans outstanding at December 31, 2011 totaled approximately $5.8 million. At December 31,
2011, there were no significant commitments to extend credit on impaired loans, including loans to borrowers whose
terms have been modified in troubled debt restructurings.
The following table discloses loans by major portfolio categories and the specific allowance for loan losses
disaggregated by impairment evaluation method as of December 31, 2011 and 2010, as well as activity in the
allowance for loan losses for the years ended December 31, 2011 and 2010:
Page - 71
Allowance for Loan Losses and Recorded Investment in Loans as of and for the year ended December 31,
2011
(dollars in thousands)
Commercial
Commercial
real estate,
owner-
occupied
Commercial
real estate,
investor Construction
Home
equity
Other
residential
Installment
and other
consumer
Unallocated
Total
Allowance for loan
losses:
Beginning balance
Provision (reversal)
Charge-offs
Recoveries
Ending balance
$
$
3,114 $
4,469
(3,306)
57
4,334 $
1,037 $
377
(113)
4
1,305 $
4,134 $
(424)
---
---
3,710 $
1,694 $
275
(473)
9
1,505 $
643 $
1,342
(554)
13
1,444 $
738 $
202
---
---
940 $
835 $
787
(456 )
16
1,182 $
197 $
22
---
---
219 $
12,392
7,050
(4,902)
99
14,639
Ending ALLL related to
loans collectively
evaluated for impairment $
Ending ALLL related to
loans individually
evaluated for impairment $
3,049 $
1,136 $
3,547 $
1,311 $
1,182 $
532 $
717 $
219 $
11,693
957 $
--- $
91 $
194 $
262 $
408 $
465 $
--- $
2,377
Ending ALLL related to
purchased credit-
impaired loans
$
328 $
169 $
72 $
--- $
--- $
--- $
--- $
--- $
569
Loans outstanding:
Collectively evaluated for
impairment
Individually
evaluated for
impairment 1
Purchased credit-
impaired
Total
$
169,564 $
171,492 $
444,060 $
48,653 $ 96,998 $
58,095 $
20,661
--- $ 1,009,523
5,110
---
741
3,304
1,045
3,407
2,071
---
15,678
1,116
175,790 $
3,213
174,705 $
1,624
446,425 $
$
---
---
51,957 $ 98,043 $
---
61,502 $
---
22,732 $
5,953
---
--- $ 1,031,154
Ratio of allowance for loan
losses to total loans at
year end
Allowance for loan losses to
non-accrual loans at year
end
2.47%
0.75%
0.83%
2.90%
1.47%
1.53%
5.20 %
---
1.42%
147%
64%
501%
50%
189%
48%
228 %
---
122%
1 Total excludes $4.5 million PCI loans that have experienced credit deterioration post-acquisition, which are included
in the “Purchased credit-impaired” amount in the next line below.
Page - 72
Allowance for Loan Losses and Recorded Investment in Loans as of and for the year
ended December 31, 2010
(dollars in thousands)
Commercial
Commercial
real estate,
owner-
occupied
Commercial
real estate,
investor
Construction
Home
equity
Other
residential
Installment
and other
consumer
Unallocated
Total
Allowance for loan losses:
Beginning balance
$
Provision (reversal)
Charge-offs
Recoveries
Ending balance
$
Ending ALLL balance related
to loans collectively
evaluated for impairment $
Ending ALLL balance related
to loans individually
evaluated for impairment $
Loans outstanding:
Collectively evaluated for
2,544 $
1,118
(643)
95
3,114 $
1,006 $
78
(47 )
---
1,037 $
3,000 $
1,134
---
---
4,134 $
1,832 $
2,395
(2,628)
95
1,694 $
586 $
207
(150)
---
643 $
734 $
4
---
---
738 $
662 $
471
(318 )
20
835 $
254 $
(57)
---
---
197 $
10,618
5,350
(3,786)
210
12,392
2,447 $
1,037 $
4,134 $
1,691 $
618 $
645 $
545 $
197 $
11,314
667 $
--- $
--- $
3 $
25 $
93 $
290 $
--- $
1,078
impairment
$
151,351 $
141,957 $
383,553 $
68,322 $ 86,673 $
69,843 $
25,592
--- $ 927,291
Individually evaluated for
impairment
Total
Ratio of allowance for loan
losses to total loans at
end of year
Allowance for loan losses to
non-accrual loans at year
end
2,485
153,836 $
633
142,590 $
$
---
9,297
259
383,553 $
77,619 $ 86,932 $
148
69,991 $
1,287
26,879 $
14,109
---
--- $ 941,400
2.02%
0.73 %
1.08%
2.18%
0.74%
1.05%
3.11 %
---
1.32%
125%
164 %
NA
18%
NA
499%
231 %
---
96%
Activity in the allowance for loan losses for the year ended December 31, 2009 follows:
(dollars in thousands)
Allowance for loan losses:
Beginning balance
Provision
Charge-offs
Recoveries
Ending balance
2009
$
9,950
5,510
(5,362)
520
$ 10,618
Total loans outstanding at end of year, before deducting allowance for loan losses
$ 917,748
Ratio of allowance for loan losses to total loans at year end
Allowance for loan losses to non-accrual loans at year end
Non-accrual loans to total loans at year end
1.16%
91.81%
1.26%
Page - 73
Purchased Credit-Impaired Loans
The following table presents the fair value of loans pursuant to accounting standards for purchased credit-impaired
loans and other purchased loans as of the acquisition date:
(dollars in thousands)
Contractually required payments including interest
Less: nonaccretable difference
Cash flows expected to be collected (undiscounted)
Accretable yield
Fair value of purchased loans
February 18, 2011
Purchased
credit-
impaired
loans
24,316
(13,044)
11,272
(1,902)
9,370
$
$
Other
purchased
loans
69,702
---
69,702
(17,307)
52,395
$
$
Total
94,018
(13,044)
80,974
(19,209)
61,765
$
$
1 $5.8 million of the $17.3 million represents the difference between the contractual principal amounts due and the fair
value. This discount is to be accreted to interest income over the remaining lives of the loans. The remaining $11.5
million is the contractual interest to be earned over the life of the loans.
For the PCI loans, the accretable yield initially represents the excess of the cash flows expected to be collected at
acquisition over the fair value of the loans at the acquisition date, and is accreted into interest income over the
estimated remaining life of the purchased credit-impaired loans using the effective yield method, provided that the
timing and amount of future cash flows is reasonably estimable. The accretable yield is affected by:
(1) Changes in interest rate indices for variable rate loans – Expected future cash flows are based on the variable
rates in effect at the time of the regular evaluations of cash flows expected to be collected;
(2) Changes in prepayment assumptions – Prepayments affect the estimated life of the loans which may change the
amount of interest income, and possibly principal, expected to be collected;
(3) Changes in the expected principal and interest payments over the estimated life – Updates to expected cash flows
are driven by the credit outlook and actions taken with borrowers. Changes in expected future cash flows from loan
modifications are included in the regular evaluations of cash flows expected to be collected.
When the timing and/or amounts of expected cash flows on such loans are not reasonably estimable, no interest is
accreted and the loan is reported as a nonperforming loan; otherwise, if the timing and amounts of expected cash
flows for purchased credit-impaired loans are reasonably estimable, then interest is accreted and the loans are
reported as performing loans. The initial estimated cash flows expected to be collected are updated each quarter
based on current assumptions regarding default rates, loss severities, and other factors that are reflective of current
market conditions. Probable decreases in expected cash flows after acquisition result in the recognition of impairment,
which would be recorded as a specific allowance for loan losses or a charge-off to the allowance. Probable and
significant increases in expected cash flows would first reverse any related allowance for loan losses and any
remaining increases would be recognized prospectively as interest income over the estimated remaining lives of the
loans. The impact of changes in variable interest rates is recognized prospectively as adjustments to interest income.
The non-accretable difference represents the difference between the undiscounted contractual cash flows and the
undiscounted expected cash flows, and also reflects the estimated credit losses in the acquired loan portfolio at the
acquisition date and can fluctuate due to changes in expected cash flows during the life of the PCI loans.
The following table reflects the outstanding balance and related carrying value of PCI loans as of the acquisition date
(February 18, 2011) and December 31, 2011:
(in thousands)
PCI Loans
Commercial
Commercial real estate
Total purchased credit-impaired loans
February 18, 2011
Unpaid
principal
balance
$ 10,860
10,139
$ 20,999
Carrying
value
3,706
5,664
9,370
$
$
December 31,2011
Unpaid
principal
balance
$ 3,168
9,466
$ 12,634
Carrying
value
$ 1,116
4,837
$ 5,953
Page - 74
The activities in the accretable yield, or income expected to be earned, for PCI loans were as follows:
Accretable Yield
(in thousands)
Balance at beginning of period
Additions
Removals 1
Accretion
Reclassifications from/(to) nonaccretable difference 2
Balance at end of period
Year ended
December 31, 2011
---
1,902
(1,019)
(1,418)
5,940
5,405
$
$
1 Represents the accretable difference that is relieved when a loan exits the PCI population due to payoff, full charge-
off, or transfer to repossessed assets, etc.
2 Primarily relates to improvements in expected credit performance and changes in expected timing of cash flows.
Pledged Loans
Our FHLB line of credit is secured under terms of a blanket collateral agreement by a pledge of certain qualifying
loans with unpaid principal balance of $547.6 million at December 31, 2011. Our FHLB line of credit totaled $261.2
million and $219.2 million at December 31, 2011 and 2010, respectively. In addition, we pledge a certain residential
loan portfolio with an unpaid balance of $46.2 million at December 31, 2011 to secure our borrowing capacity with the
FRB, which totaled $41.2 million and $40.2 million at December 31, 2011 and 2010, respectively. Also see Note 8
below.
Related Party Loans
The Bank has, and expects to have in the future, banking transactions in the ordinary course of its business with
directors, officers, principal stockholders and their associates. These transactions, including loans, are granted on
substantially the same terms, including interest rates and collateral on loans, as those prevailing at the same time for
comparable transactions with persons not related to us. Likewise, these transactions do not involve more than the
normal risk of collectability or present other unfavorable features.
An analysis of net loans to related parties for each of the three years ended December 31, 2011, 2010 and 2009 is as
follows:
(in thousands)
Balance at beginning of year
Additions
Advances
Repayments
Reclassified as unrelated-party loan
Balance at end of year
2011
6,997
1,690
43
(1,864)
---
6,866
$
$
$
$
2010
7,401
95
(499)
---
6,997
$
$
2009
7,421
331
(274)
(77)
7,401
The undisbursed commitment to related parties was $910 thousand as of December 31, 2011.
Note 5: Bank Premises and Equipment
A summary of Bank premises and equipment at December 31 follows:
(in thousands)
Leasehold improvements
Furniture and equipment
Subtotal
Accumulated depreciation and amortization
Bank premises and equipment, net
2011
11,719
9,591
21,310
(11,812)
9,498
$
$
2010
11,052
9,025
20,077
(11,658)
8,419
$
$
The amount of depreciation and amortization was $1.3 million, $1.3 million and $1.4 million for the years ended
December 31, 2011, 2010 and 2009, respectively.
Page - 75
We contracted with a construction company managed and owned by a member of the Board of Directors of the Bank
and Bancorp for the construction of leasehold improvements to two branch offices. During 2010 and 2009, we paid
$752 thousand and $420 thousand, respectively, for these improvements.
Note 6: Bank Owned Life Insurance
We have purchased ninety life insurance policies on the lives of certain officers designated by the Board of Directors
to finance employee benefit programs as of December 31, 2011. Death benefits provided under the specific terms of
these programs are estimated to be $49.1 million at December 31, 2011 and the benefits to employees’ beneficiaries
are limited to the employee’s active service period. The investment in the Bank owned life insurance (“BOLI”) policies
are reported in interest receivable and other assets at their cash surrender value of $21.6 million and $18.3 million at
December 31, 2011 and 2010, respectively. The cash surrender value includes both the original premiums we paid in
the life insurance policies and the accumulated accretion of policy income since inception of the policies. Income of
$752 thousand, $690 thousand and $696 thousand was recognized on the life insurance policies in 2011, 2010 and
2009, respectively, and is reported in other non-interest income. The income is net of mortality costs recognized,
which totaled $132 thousand, $113 thousand and $102 thousand for the years ended December 31, 2011, 2010 and
2009, respectively. We regularly monitor the credit ratings of our four insurance carriers to ensure that they are in
compliance with our policy.
Note 7: Deposits
Total time deposits were $198.6 million and $200.3 million at December 31, 2011 and 2010, respectively. Of these
amounts, $151.6 million and $155.7 million represented time deposits of $100,000 or more at December 31, 2011 and
2010, respectively. Interest on time deposits was $1.6 million, $2.3 million and $2.3 million in 2011, 2010 and 2009,
respectively. Scheduled maturities of these deposits at December 31, 2011 are presented as follows:
(in thousands)
Scheduled maturities of
time deposits
2012
2013
2014
2015
2016
Thereafter
Total
$ 156,828
$ 6,288
$ 5,541
$ 7,039
$ 22,934
---
$ 198,630
We offer the CDARS® deposit product, short for Certificate of Deposit Account Registry Service. Through CDARS®,
we may accept deposits in excess of the Federal Deposit Insurance Corporation (“FDIC”) insured maximum from a
depositor and place the deposits through a network to other member banks in increments of less than the FDIC
insured maximum to provide the depositor full FDIC insurance coverage. When we receive an equal dollar amount of
deposits from other member banks in exchange for the deposits we place into the network, we record these as
CDARS® deposits. At December 31, 2011 and 2010, CDARS® deposits totaled $46.6 million and $67.3 million,
respectively.
As of December 31, 2011, $52.9 million in securities held to maturity and no securities available for sale were pledged
as collateral for our local agency deposits.
The aggregate amount of deposit overdrafts that have been reclassified as loan balances were $255 thousand and
$184 thousand at December 31, 2011 and 2010, respectively. Collectability of these overdrafts is subject to the same
credit review process as the other loans.
The Bank accepts deposits from shareholders, directors and employees in the normal course of business, and the
terms are comparable to those with non-affiliated parties. The total deposits from directors and their businesses, and
executive officers were $7.3 million and $7.0 million at December 31, 2011 and 2010, respectively.
Note 8: Borrowings
Federal Funds Purchased– We had unsecured lines of credit totaling $77.0 million with correspondent banks for
overnight borrowings at December 31, 2011 and 2010. In general, interest rates on these lines approximate the
Federal funds target rate. At December 31, 2011 and 2010, we had no borrowings outstanding under these credit
facilities.
Federal Home Loan Bank Borrowings – As of December 31, 2011 and 2010, we had lines of credit with the FHLB
totaling $261.2 million and $219.2 million, respectively, based on eligible collateral of certain loans. At December 31,
2011 and 2010, we had no overnight borrowings with the FHLB.
Page - 76
On February 5, 2008, we entered into a ten-year borrowing agreement under the same FHLB line of credit for $15.0
million at a fixed rate of 2.07%. Interest-only payments are required every three months until maturity. Although the
entire principal is due on February 5, 2018, the FHLB has the unconditional right to accelerate the due date on
February 5, 2012 and every three months thereafter (the “put dates”). If the FHLB exercises its right to accelerate the
due date, the FHLB will offer replacement funding at the current market rate, subject to certain conditions. We must
comply with the put date, but are not required to accept replacement funding.
On December 16, 2008, we entered into a five-year borrowing agreement under the FHLB line of credit for $20.0
million at a fixed rate of 2.54%. On September 19, 2011, we prepaid the $20.0 million borrowing to reduce our excess
liquidity that resulted from strong deposit growth. The prepayment penalty of $924 thousand was recorded as interest
expense on the consolidated statement of income.
On January 23, 2009, we entered into a three-year borrowing agreement under the FHLB line of credit for $20.0
million at a fixed rate of 2.29%. Interest-only payments are required every month until maturity on January 23, 2012.
At December 31, 2011, $226.2 million remained available for borrowing from the FHLB. The FHLB overnight
borrowing and the FHLB line of credit are secured by a certain loan portfolio under a blanket lien.
Federal Reserve Line of Credit – We also have a line of credit with the FRBSF secured by a certain residential loan
portfolio. At December 31, 2011 and 2010, we had borrowing capacity under this line totaling $41.2 million and $40.2
million, respectively, and had no outstanding borrowings with the FRBSF.
Subordinated Debt – On September 17, 2004 we issued a fifteen-year, $5.0 million subordinated debenture through a
pooled trust preferred program, which matures on June 17, 2019. We have the right to redeem the debenture, in
whole or in part, at the redemption price at principal amounts in multiples of $1.0 million on any interest payment date.
The interest rate on the debenture changes quarterly and is paid quarterly at the three-month LIBOR plus 2.48%. The
rate at December 31, 2011 was 3.04%. The debenture is subordinated to the claims of depositors and our other
creditors.
Borrowings at December 31, 2011 and 2010 are summarized as follows:
(in thousands)
FHLB fixed-rate borrowings
Subordinated debenture
Carrying
Value
35,000
5,000
2011
Average
Balance
49,722
5,000
Average
Rate
4.15%1
2.90%
Carrying
Value
55,000
5,000
2010
Average
Balance
55,000
5,000
Average
Rate
2.33%
2.94%
1 Amount includes the impact of the $924 thousand prepayment penalty in 2011 discussed above.
The maximum amount outstanding at any month end for overnight borrowings was zero in both 2011 and 2010.
Note 9: Stockholders’ Equity and Stock Option Plans
Preferred Stock
In response to stress in the credit markets and to protect and recapitalize the U.S. financial system, on October 3,
2008, the Emergency Economic Stabilization Act of 2009 (“EESA”) was signed into law. EESA includes provisions of
the United States Department of the Treasury Capital Purchase Program (the “TCPP”), which was intended to
stabilize and inject liquidity into the financial industry. On December 5, 2008 Bancorp issued to the U.S. Treasury
28,000 shares of senior preferred stock with a zero par value and a $1,000 per share liquidation preference, along
with a warrant to purchase 154,242 shares of common stock at a per share exercise price of $27.23, in exchange for
aggregate consideration of $28 million. The attached warrant was immediately exercisable and expires ten years after
the issuance date.
Page - 77
The proceeds of $28 million were allocated between the preferred stock and the warrant with $27.0 million allocated
to preferred stock and $961 thousand allocated to the warrant, based on their relative fair values at the time of
issuance. The fair value of the preferred stock was estimated using discounted cash flows with a discount rate of 9%,
representing the preferred stock dividend rate. The fair value of the warrant was estimated using the Black-Scholes
option pricing model with the following assumptions: 1) risk-free interest rate of 2.67% (the Treasury ten-year yield
rate as of warrant issuance date); 2) estimated life of ten years (contractual term of the warrant); 3) volatility of 29%
(historical volatility based on our stock price over the past ten years preceding the warrant issuance date); and 4)
dividend yield of 2.59% (expected annual dividend divided by stock price as of warrant issuance date). The difference
between the liquidation amount of the preferred stock and its initial carrying amount was to be accreted over the five-
year period preceding the 9% perpetual dividend, using effective yield method.
Under the American Recovery and Reinvestment Act of 2009, which allows participants in the TCPP to withdraw from
the program, we repurchased all 28,000 shares of outstanding preferred stock from the U.S. Treasury on March 31,
2009 for $28 million plus accrued but unpaid dividends of $179 thousand. At the time of repurchase, we also
accelerated the remaining accretion of the preferred stock totaling $945 thousand through retained earnings, reducing
our net income available to common stockholders. The warrant was subsequently auctioned to two institutional
investors in November 2011 and remains outstanding. It is adjusted for cash dividend increases to represent a right to
purchase 154,908 shares of common stock at $27.11 per share as of December 31, 2011 in accordance with Section
13(c) of the Form of Warrant to Purchase Common Stock.
Common Stock
As of December 31, 2011, Bancorp was authorized to issue fifteen million shares of common stock with no par value.
Share-Based Awards
On May 11, 2010, our shareholders approved the 2010 Director Stock Plan to pay director fees in shares of Bancorp
common stock up to 150,000 shares. In 2011 and 2010, our directors were awarded a total of 5,590 and 3,190
common shares, respectively from the 2010 Director Stock Plan in addition to their cash compensation.
On May 8, 2007, the 2007 Equity Plan was approved by the Bank shareholders. The 2007 Equity Plan was
subsequently adopted by Bancorp as part of the holding company formation. All new share-based awards from the
approval date forward are granted through the 2007 Equity Plan.
The 2007 Equity Plan provides financial incentives for selected employees, advisors and non-employee directors.
Terms of the plan provide for the issuance of up to 500,000 shares of common stock for these employees, advisors
and non-employee directors. As of December 31, 2011, there were 330,299 shares available for future grants under
the 2007 Equity Plan. The Compensation Committee of the Board of Directors has the discretion to determine which
employees, advisors and non-employee directors will receive an award, the timing of awards, the vesting schedule for
each award, the type of award to be granted, the number of shares of Bancorp stock to be subject to each option and
restricted stock award, and any other terms and conditions. In 2011, there were no common shares awarded to
directors from the 2007 Equity plan.
Effective July 1, 2007, we adopted an Employee Stock Purchase Plan whereby our employees may purchase
Bancorp common shares through payroll deductions of between one percent and fifteen percent of pay in each pay
period. Shares are purchased quarterly at a five percent discount from the closing market price on the last day of the
quarter. The plan calls for 200,000 common shares to be set aside for employee purchases, and there were 196,016
shares available for future grants under the plan as of December 31, 2011.
We also have the 1999 Stock Option Plan and the 1989 Stock Option Plan for certain full-time employees and
directors who have substantial responsibility for the successful operation of the Bank. Stock options granted pursuant
to the 1989 and 1999 Stock Option Plans were subsequently adopted by Bancorp as part of the holding company
formation. Stock options under these plans now relate to shares of common stock of Bancorp. Upon approval of the
1999 Stock Option Plan, no new awards were granted under the 1989 Stock Option Plan. Upon approval of the 2007
Equity Plan, no new awards were granted under the 1999 Stock Option Plan.
Page - 78
Options are issued at an exercise price equal to the fair market value of the stock at the date of grant. Options to
officers and employees granted prior to January 1, 2006 vested 20% immediately and 20% on each anniversary of the
grant date for four years. Options granted subsequent to January 1, 2006 and restricted stock vested 20% on each
anniversary of the grant date for five years. All officer and employee options expire ten years from the grant date.
Options granted to non-employee directors vest 20% immediately and 20% on each anniversary of the grant date for
four years. Director options expire seven years from the grant date.
A summary of activity for stock options for the years ended December 31, 2011, 2010 and 2009 is presented below.
The intrinsic value is calculated as the number of in-the-money options times the difference between the market price
of our stock as of each year end presented and the exercise prices of the in-the-money options.
Options outstanding at December 31, 2008
Granted
Cancelled, expired or forfeited
Exercised
Options outstanding at December 31, 2009
Weighted
Average
Exercise
Price
Aggregate
Intrinsic Value
as of
year-end
(in thousands)
Weighted
Average
Grant-Date
Fair Value
Average
Remaining
Contractual
Term
(in years)
26.12 $
22.25
30.48
14.28
27.54
1,278 $
373
55
826
2,016
8.16
5.31
9.31
6.49
8.10
5.53
---
---
---
5.43
Number of
Shares
401,958 $
36,200
(17,188)
(61,175)
359,795
Exercisable (vested) at December 31, 2009
245,562
26.77
1,537
8.71
4.41
Options outstanding at December 31, 2009
Granted
Cancelled, expired or forfeited
Exercised
Options outstanding at December 31, 2010
359,795
29,601
(21,652)
(49,940)
317,804
27.54
32.74
31.41
17.92
29.27
2,016
67
78
782
1,828
8.10
9.01
8.31
6.70
8.39
5.43
---
---
---
5.18
Exercisable (vested) at December 31, 2010
225,246
29.12
1,330
8.84
4.30
Options outstanding at December 31, 2010
Granted
Cancelled, expired or forfeited
Exercised
Options outstanding at December 31, 2011
317,804
17,585
(670)
(34,913)
299,806
29.27
37.76
29.28
21.22
30.71
1,828
3
6
534
2,068
8.39
11.19
7.07
7.51
8.66
5.18
---
---
---
4.70
Exercisable (vested) at December 31, 2011
226,989
30.64
1,579
8.81
3.82
The following table summarizes non-vested share-based awards at December 31, 2011, and changes during the year
ended December 31, 2011.
Non-vested awards at December 31, 2010
Granted
Vested
Forfeited
Non-vested awards at December 31, 2011
Options
Restricted Stock
Number of
Shares
92,558
17,585
(36,656)
(670)
72,817
$
$
Weighted
Average
Grant-Date
Fair Value
7.28
11.19
7.37
7.07
8.18
Number of
Shares
17,110
5,675
(4,305)
(315)
18,165
$
$
Weighted
Average
Grant-Date
Fair Value
27.03
38.00
26.77
27.07
30.52
Page - 79
As of December 31, 2011, there was $836 thousand of total unrecognized compensation expense related to non-
vested stock options and restricted stock. This cost is expected to be recognized over a weighted average period of
approximately three years. The total grant-date fair value of option shares vested during the years ended December
31, 2011, 2010 and 2009 was $270 thousand, $284 thousand and $375 thousand, respectively. The total grant-date
fair value of restricted stock vested during 2011, 2010 and 2009 was $115 thousand, $90 thousand and $39 thousand
respectively.
A summary of the options outstanding and exercisable by price range as of December 31, 2011 is presented in the
following table:
Stock Options Outstanding as of December 31, 2011
Stock Options Exercisable as of December 31, 2011
Range of Exercise Prices
$10.01 - $15.00
$15.01 - $20.00
$20.01 - $25.00
$25.01 - $30.00
$30.01 - $35.00
$35.01 - $40.00
Stock Options
Outstanding
6,125
5,210
26,964
61,979
143,435
56,093
299,806
Remaining
Contractual Life
(in years)
0.3 $
1.3 $
7.3 $
3.6 $
4.3 $
6.4 $
Weighted
Average
Exercise Price
14.43
17.20
22.25
27.14
32.96
36.01
Stock Options
Exercisable
6,125
5,210
8,274
52,568
123,504
31,308
226,989
$
$
$
$
$
$
Weighted
Average
Exercise Price
14.43
17.20
22.25
26.94
32.98
35.21
The fair value of stock options on the grant date is recorded as a stock-based compensation expense in the
statements of income over the requisite service period with a corresponding increase in common stock. Stock-based
compensation also includes compensation expense related to the issuance of non-vested restricted common shares
pursuant to the 2007 Equity Plan. The grant-date fair value of the restricted common shares, which equals its intrinsic
value on that date, is being recorded as compensation expense over the requisite service period with a corresponding
increase in common stock as the shares vest. In addition, we record excess tax benefits on the exercise of non-
qualified stock options, the disqualifying disposition of incentive stock options and vesting of restricted stock as an
addition to common stock with a corresponding decrease in current taxes payable.
We determine the fair value of stock options at the grant date using the Black-Scholes pricing model that takes into
account the stock price at the grant date, the exercise price, the expected life of the option, the volatility of the
underlying stock, the expected dividend yield and the risk-free interest rate over the expected life of the option.
The weighted average assumptions used in the pricing model are noted in the table below. The expected term of
options granted is derived from historical data on employee exercise and post-vesting employment termination
behavior. The risk-free rate for periods within the contractual life of the option is based on the U.S. Treasury yield
curve in effect at the time of the grant. Expected volatility is based on the historical volatility of the common stock.
Risk-free interest rate
Expected dividend yield on common
stock
Expected life in years
Expected price volatility
December 31, 2011
December 31, 2010
December 31, 2009
Year ended
2.77%
2.94%
1.69%
7.5
28.92%
1.85%
6.7
28.20%
2.25%
2.52%
6.4
28.99%
For options granted after January 1, 2006, the fair value of the option is expensed on a straight-line basis over the
vesting period. Forfeitures are estimated and expense is recognized only for those shares expected to vest. The
estimated forfeiture rate over the life of the options, based on historical forfeiture experience, was 7.5% in 2011, 5.0%
in 2010 and 7.5% in 2009.
Page - 80
The Black-Scholes option valuation model requires the input of highly subjective assumptions, including the expected
life of the stock based award and stock price volatility. The assumptions listed above represent Management’s best
estimates based on historical information, but these estimates involve inherent uncertainties and the application of
Management’s judgment. As a result, if other assumptions had been used, the recorded share-based compensation
expense could have been materially different from that reflected in these financial statements. If the actual forfeiture
rate is materially different from the estimate, the share-based compensation expense could also be materially
different.
Dividends
Presented below is a summary of preferred dividends on preferred stock issued under the TCPP, as well as cash
dividends paid to common shareholders, both of which were recorded as a reduction of retained earnings.
(in thousands except per share data)
Preferred dividends
Cash dividends to common shareholders
Cash dividends per common share
2011
Years ended December 31
2010
2009
$
$
$
---
3,457
0.65
$
$
$
---
3,205
0.61
$
$
$
354
2,960
0.57
The holders of non-vested restricted common shares are entitled to dividends on the same per-share ratio as the
holders of common stock. Dividends paid on the portion of share-based awards not expected to vest are included in
stock-based compensation expense. Tax benefits on dividends paid on the portion of share-based awards expected
to vest are recorded as an increase to common stock with a corresponding decrease in current taxes payable.
Under the California Corporations Code effective January 1, 2012, payment of dividends by Bancorp is restricted to
the amount of retained earnings immediately prior to the distribution or the amount of assets that exceeds the total
liabilities immediately after the distribution. As of December 31, 2011, Bancorp’s retained earnings and the amount of
assets that exceeds the total liabilities were $77.1 million and $135.6 million, respectively.
Under the California Financial Code, payment of dividends by the Bank to Bancorp is restricted to the lesser of
retained earnings or the amount of undistributed net profits of the Bank from the three most recent fiscal years. Under
this restriction, approximately $2.7 million of the Bank’s retained earnings balance was available for payment of
dividends to Bancorp as of December 31, 2011. Bancorp holds $2.8 million in cash at December 31, 2011. This cash,
combined with the $2.7 million dividends available to be distributed (discussed above), is expected to be adequate to
cover Bancorp’s estimated operational needs and cash dividends to shareholders for 2012.
Shareholder Rights Plan
On July 2, 2007, Bancorp executed a shareholder rights agreement (“Rights Agreement”) designed to discourage
takeovers that involve abusive tactics or do not provide fair value to shareholders. As of December 31, 2011, Bancorp
was also authorized to issue five million shares of preferred stock with no par value under the Rights Agreement. In
the event of a proposed merger, tender offer or other attempt to gain control of Bancorp that the Board of Directors
does not approve, it might be possible for the Board of Directors to authorize the issuance of shares of common or
preferred stock that would impede the completion of such a transaction. An effect of the possible issuance of common
or preferred stock, therefore, may be to deter a future takeover attempt. The Board of Directors has no present plans
or understandings for the issuance of any common or preferred stock.
Refer to Exhibit 4.1 to Registration Statement on Form 8-A12B filed with the Securities and Exchange Commission on
July 2, 2007.
Note 10: Fair Value of Assets and Liabilities
Fair Value Hierarchy and Fair Value Measurement
We group our assets and liabilities that are recorded at fair value in three levels, based on the markets in which the
assets and liabilities are traded and the reliability of the assumptions used to determine fair value. These levels are:
Page - 81
Level 1: Valuations are based on quoted prices in active markets for identical assets or liabilities. Since valuations are
based on quoted prices that are readily and regularly available in an active market, valuation of these products does
not involve a significant degree of judgment.
Level 2: Valuations are based on quoted prices for similar instruments in active markets, quoted prices for identical or
similar instruments in markets that are not active and model-based valuations for which all significant assumptions are
observable or can be corroborated by observable market data.
Level 3: Valuations are based on unobservable inputs that are supported by little or no market activity and that are
significant to the fair value of the assets or liabilities. Values are determined using pricing models and discounted cash
flow models and includes management judgment and estimation which may be significant.
The following table summarizes our assets and liabilities that were required to be recorded at fair value on a recurring
basis.
Quoted Prices
in Active
Markets for
Identical Assets
(Level 1)
Carrying
Value
Significant Other
Observable
Inputs (Level 2)
Significant
Unobservable
Inputs (Level 3)
(in thousands)
Description of Financial Instruments
Balance at December 31, 2011:
Securities available for sale:
Mortgage-backed securities and collateralized
mortgage obligations issued by U.S.
government agencies
$
Debentures of government sponsored agencies $
Privately-issued collateralized mortgage
108,857 $
8,050 $
--- $
--- $
108,857 $
8,050 $
obligations
$
18,197 $
--- $
18,197 $
Derivative financial liabilities (interest rate
contracts)
Balance at December 31, 2010:
Securities available for sale:
Mortgage-backed securities and collateralized
mortgage obligations issued by U.S.
government agencies
Privately-issued collateralized mortgage
obligations
Visa stock
$
5,052 $
--- $
5,052 $
$
$
$
95,258 $
--- $
95,258 $
15,870 $
608 $
--- $
608 $
15,870 $
--- $
Derivative financial liabilities (interest rate
contracts)
$
2,470 $
--- $
2,470 $
---
---
---
---
---
---
---
---
Securities available for sale are recorded at fair value on a recurring basis. When available, quoted market prices
(Level 1) are used to determine the fair value of securities available for sale. If quoted market prices are not available,
we obtain pricing information from a reputable third-party service provider, who may utilize valuation techniques that
use current market-based or independently sourced parameters, such as bid/ask prices, dealer-quoted prices, interest
rates, benchmark yield curves, prepayment speeds, and credit spreads (Level 2). Level 1 securities include those
traded on active markets, including U.S. Treasury securities and equity securities. Level 2 securities include U.S.
agencies’ debt securities, mortgage-backed securities, and corporate collateralized mortgage obligations.
Page - 82
On a recurring basis, derivative financial instruments are recorded at fair value, which is based on the income
approach using observable Level 2 market inputs, reflecting market expectations of future interest rates as of the
measurement date. Standard valuation techniques are used to calculate the present value of the future expected cash
flows assuming an orderly transaction. Valuation adjustments may be made to reflect both our own credit risk and the
counterparties’ credit quality in determining the fair value of the derivatives. Level 2 inputs for the valuations are
limited to observable market prices for London Interbank Offered Rate (“LIBOR”) cash rates (for the very short term),
quoted prices for LIBOR futures contracts, observable market prices for LIBOR swap rates, and one-month and three-
month LIBOR basis spreads at commonly quoted intervals. Mid-market pricing of the inputs is used as a practical
expedient in the fair value measurements. Key inputs for interest rate valuations are used to project spot rates at
resets specified by each swap, as well as to discount those future cash flows to present value at the measurement
date. When the value of any collateral placed with counterparties is less than the interest rate derivative liability, the
interest rate liability position is further discounted to reflect our potential credit risk to counterparties. We have used
the spread between the Standard & Poors BBB rated U.S. Bank Composite rate and LIBOR with maturity term
corresponding to the duration of the swaps to calculate this credit-risk-related discount of future cash flows.
Certain financial assets may be measured at fair value on a non-recurring basis. These assets are subject to fair
value adjustments that result from the application of the lower of cost or fair value accounting or write-downs of
individual assets, such as other real estate owned. For example, when a loan is identified as impaired, it is reported at
the lower of cost or fair value, measured based on the loan’s observable market price (Level 1), the present value of
expected future cash flows discounted at a market-based interest rate for similar loans (Level 2), or the current
appraised value of the underlying collateral securing the loan if the loan is collateral dependent (Level 3). Securities
held to maturity may be written down to fair value (determined using the same techniques discussed above for
securities available for sale) as a result of an other-than-temporary impairment, if any.
The following table presents the carrying value of financial instruments by level within the fair value hierarchy as of
December 31, 2011 and 2010, for which a non-recurring change in fair value has been recorded.
(in thousands)
Description of Financial Instruments
At December 31, 2011:
Impaired loans carried at fair value (c)
At December 31, 2010:
Impaired loans carried at fair value (c)
Quoted
Prices in
Active
Markets for
Identical
Assets
(Level1)
Significant
Other
Observable
Inputs
(Level 2)
Carrying
Value
Significant
Unobservable
Inputs
(Level 3) (a)
Losses for
the year
ended
December 31(b)
$
5,269 $
--- $
--- $
5,269 $
6,671
$
8,635 $
--- $
--- $
8,635 $
4,610
(a) Represents collateral-dependent loan principal balances that had been generally written down to the appraised
value or estimated fair value of the underlying collateral, net of specific valuation allowance of $1.4 million and $936
thousand at December 31, 2011 and 2010, respectively. The carrying value of loans fully charged-off, which includes
unsecured lines of credit, overdrafts and all other loans, is zero.
(b) Represents net charge-offs during the period presented and the specific valuation allowance established on loans
during the period.
(c) Represents the portion of impaired loans that have been written down to their fair value.
Page - 83
Disclosures about Fair Value of Financial Instruments
The table below is a summary of fair value estimates for financial instruments as of December 31, 2011 and 2010,
excluding financial instruments recorded at fair value on a recurring basis (summarized in a separate table). The
carrying amounts in the following table are recorded in the statements of condition under the indicated captions. We
have excluded nonfinancial assets and nonfinancial liabilities defined by the FASB Accounting Standards
CodificationTM ( ASC 820-10-15-1A) such as Bank premises and equipment, deferred taxes and other liabilities. In
addition, we have not disclosed the fair value of financial instruments specifically excluded from disclosure
requirements of the Financial Instruments Topic 825 of the FASB Accounting Standards CodificationTM (ASC 825-10-
50-8), such as Bank-owned life insurance policies.
(in thousands)
Financial assets
Cash and cash equivalents
Investment securities held to maturity
Loans, net
Interest receivable
Financial liabilities
December 31, 2011
Carrying
Amounts
Fair
Value
December 31, 2010
Carrying
Amounts
Fair
Value
$
129,743
59,738
1,016,515
4,638
$
129,743
62,185
1,053,762
4,638
$
$
85,232
34,917
929,008
4,207
85,232
35,090
952,763
4,207
Deposits
Federal Home Loan Bank long-term borrowings
Subordinated debenture
Interest payable
1,202,972
35,000
5,000
381
1,203,974
36,256
4,759
381
1,015,739
55,000
5,000
414
1,016,401
57,090
4,994
414
Following is a description of methods and assumptions used to estimate the fair value of each class of financial
instrument not recorded at fair value but required for disclosure purposes:
Cash and Cash Equivalents – The carrying amounts of cash and cash equivalents approximate their fair value due to
the short-term nature of these instruments.
Held-to-maturity Securities - Held-to-maturity securities, which generally consist of obligations of state & political
subdivisions, are recorded at their amortized cost. Their fair value for disclosure purposes is determined using
methodologies similar to those described above for available-for-sale securities using Level 2 inputs. If Level 2 inputs
are not available, we may utilize pricing models that incorporate unobservable inputs that are supported by little or no
market activity and that are significant to the fair value of the assets or liabilities (Level 3). As of December 31, 2011,
we did not hold any securities whose fair value was measured using significant unobservable inputs.
Loans - The fair value of loans with variable interest rates approximates the current carrying value, because their
rates are regularly adjusted to current market rates. The fair value of fixed rate loans or variable loans at negotiated
interest rate floors or ceilings with remaining maturities in excess of one year is estimated by discounting the future
cash flows using current market rates at which similar loans would be made to borrowers with similar credit
worthiness and similar remaining maturities. The allowance for loan losses (“ALLL”) is considered to be a reasonable
estimate of loan discount due to credit risks.
Interest Receivable and Payable - The interest receivable and payable balances approximate their fair value due to
the short-term nature of their settlement dates.
Deposits - The fair value of non-interest bearing deposits, interest bearing transaction accounts, savings accounts and
money market accounts is the amount payable on demand at the reporting date. The fair value of time deposits is
estimated by discounting the future cash flows using current rates offered for deposits of similar remaining maturities.
Federal Home Loan Bank Borrowings - The fair value is estimated by discounting the future cash flows using current
rates offered by the FHLB for similar credit advances corresponding to the remaining duration of our fixed-rate credit
advances.
Page - 84
Subordinated Debenture - The fair value of the subordinated debenture is estimated by discounting the future cash
flows (interest payment at a rate of three-month LIBOR plus 2.48%) using current market rates at which similar bonds
would be issued, with similar credit ratings as ours and similar remaining maturities. We have used the spread of the
seven-year BBB rated U.S. Bank Composite over LIBOR to calculate this credit-risk-related discount of future cash
flows.
Commitments - Loan commitments and standby letters of credit generate ongoing fees, which are recognized over the
term of the commitment period. In situations where the borrower’s credit quality has declined, we record a reserve for
these off-balance sheet commitments. Given the uncertainty of the likelihood and timing of a commitment being drawn
upon, a reasonable estimate of the fair value of these commitments is the carrying value of the related unamortized
loan fees plus the reserve, which is not material.
Note 11: Benefit Plans
In 2003, we established a Deferred Compensation Plan that allows key executive officers designated by the Board of
Directors of the Bank to defer up to 80% of their salary and 100% of their annual bonus. The Plan was amended in
2007 in order to comply with the most recent Internal Revenue Code Section 409A changes. Under the amended
plan, amounts deferred earn interest that is equal to the prime rate on the first business of day of year, which
remained unchanged at 3.25% for the past three years. Our deferred compensation obligation of $2.7 million and $2.8
million at December 31, 2011 and 2010, respectively, is included in interest payable and other liabilities.
Our 401(k) Defined Contribution Plan (the “401(k) Plan”) commenced in May 1990 and is available to all regular
employees at least eighteen years of age who complete ninety days of service, and enter the plan during one of the
four open enrollment dates (January 1, April 1, July 1, and October 1) of each year. Under this plan employees can
defer between 1% and 50% of their eligible compensation, up to the maximum amount allowed by the Internal
Revenue Code. The Bank will match 50% of each participant’s contribution up to $4 thousand annually. Employer
contributions totaled $366 thousand, $277 thousand and $311 thousand for the years ended December 31, 2011,
2010 and 2009, respectively.
In 1999, the 401(k) Plan was amended to include an employee stock ownership component and was renamed the
Bank of Marin Employee Stock Ownership and Savings Plan (the “Plan”). Under the terms of the Plan, as amended,
the Board of Directors determines a specific portion of the Bank’s profits to be contributed to the ESOP each year
either in common stock or in cash for the purchase of Bancorp stock to be allocated to all eligible employees based on
a set percentage of their salaries, regardless of whether an employee is participating in the 401(k) plan or not. For the
years ended December 31, 2011, 2010 and 2009, the Bank contributed $1.1 million, $898 thousand and $750
thousand, respectively, to the ESOP by purchasing Bancorp stock in the open market and by buying stock back from
employees or other private parties who are diversifying their portfolio or taking distributions. Contributions to the Plan
for both the 401(k) employer matching contribution and for the ESOP are included in salaries and benefits expenses
and vested at a rate of 20% per year over a five-year period. As of December 31, 2011, cash dividends on
Bancorp’s stock held by the Plan are used to purchase additional shares in the open market. All shares of the
Bancorp’s stock held by the Plan are included in the calculations of basic and diluted earnings per share.
In January 2010, the Plan was bifurcated into a separate 401(k) Plan and a separate ESOP Plan. The same eligibility
criteria and employer contribution allocation apply under the ESOP Plan, while employees’ contributions are not
permitted. For participants who join the ESOP on or after January 1, 2010, employer contributions vest 0% in year
one, 20% in years two through four and 40% in year five.
On January 1, 2011, we established a Salary Continuation Plan to a select group of executive management, who will
receive twenty-five percent of their salary continuation benefit payments upon retirement. Each participant will need to
participate in this plan for five years before vesting begins. After five years, the participant will vest ratable in the
benefit over the remaining period until age 65. This Plan is unfunded and nonqualified for tax purposes and for
purposes of Title I of the Employee Retirement Income Security Act of 1974. Our liability under the Salary
Continuation Plan was $114 thousand recorded in interest payable and other liabilities at December 31, 2011.
Page - 85
Note 12: Income Taxes
The current and deferred components of the income tax provision for each of the three years ended December 31 are
as follows:
(in thousands)
Current tax provision
Federal
State
Total current
Deferred tax (benefit) provision
Federal
State
Total deferred
Total income tax provision
2011
2010
2009
$
$
7,045
2,635
9,680
(205)
(284)
(489)
9,191
$
$
6,602
2,293
8,895
(503)
(221)
(724)
8,171
$
$
6,208
2,069
8,277
(341)
(158)
(499)
7,778
Income taxes related to changes in the unrealized gains and losses on available for sale securities are recorded
directly to other comprehensive income in stockholders’ equity and are not included above. These income tax
liabilities amounted to $37 thousand, $672 thousand, and $168 thousand in 2011, 2010 and 2009, respectively.
The following table shows the tax effect of our cumulative temporary differences as of December 31:
(in thousands)
Deferred tax assets:
Allowance for loan losses and off-balance sheet commitments
State franchise tax
Deferred Compensation Plan and Salary Continuation Plan
Stock-based compensation
Deferred rent and other
Core deposit intangible asset impairment
Total gross deferred tax assets
$
Deferred tax liabilities:
Loan origination costs
Net unrealized gain on securities available for sale
Depreciation
Other
Total gross deferred tax liabilities
2011
2010
6,388
912
1,195
254
690
287
9,726
(760)
(1,158)
(778)
(25)
(2,721)
$
5,423
787
1,164
220
438
-
8,032
(275)
(1,121)
(63)
(20)
(1,479)
Net deferred tax assets
$
7,005
$
6,553
Based upon the level of historical taxable income and projections for future taxable income over the periods during
which the deferred tax assets are expected to be deductible, Management believes it is more likely than not we will
realize the benefit of the deferred tax assets. Accordingly, no valuation allowance has been established as of
December 31, 2011 or 2010.
The effective tax rate for 2011, 2010 and 2009 differs from the current Federal statutory income tax rate as follows:
Federal statutory income tax rate
Increase (decrease) due to:
California franchise tax, net of federal tax benefit
Stock based compensation
Tax exempt interest on municipal securities and loans
Tax exempt earnings on bank owned life insurance
Other
Effective Tax Rate
2011
35.0%
6.2
0.1
(2.8)
(1.1)
(0.3)
37.1%
2010
35.0%
6.1
0.2
(2.7)
(1.1)
0.1
37.6%
2009
35.0%
6.2
0.4
(2.6)
(1.2)
0.1
37.9%
Page - 86
Bancorp files a consolidated return in the U.S. Federal tax jurisdiction and a combined report in the State of California
tax jurisdiction. Prior to the formation of Bancorp in 2007, the Bank filed in the U.S. Federal and California jurisdictions
on a stand-alone basis. None of the entities are subject to examination by taxing authorities for years before 2008 for
U.S. Federal or before 2007 for California.
We had no tax reserve for uncertain tax positions at December 31, 2011 or 2010. We do not anticipate providing a
reserve for uncertain tax positions in the next twelve months. We have elected to record interest and penalties related
to unrecognized tax benefits in tax expense. During the years ended December 31, 2011, 2010 and 2009, neither the
Bank nor Bancorp had an accrual for interest and penalties associated with uncertain tax positions.
Note 13: Commitments and Contingencies
We rent premises and certain equipment under long-term non-cancelable operating leases expiring at various dates
through the year 2024. Most of the leases contain certain renewal options and escalation clauses. At December 31,
2011, the approximate minimum future commitments payable under non-cancelable contracts for leased premises are
as follows:
(in thousands)
Operating leases
2012
$ 2,670
2013
$ 2,663
2014
2,549
2015
2,619
$
$
2016
2,696
Thereafter
14,091
$
Total
$ 27,288
$
Rent expense included in occupancy expense totaled $3.1 million, $2.9 million and $2.8 million in 2011, 2010 and
2009, respectively.
We may be party to legal actions which arise from time to time as part of the normal course of our business. We
believe, after consultation with legal counsel, that we have meritorious defenses in these actions, and that litigation
contingency liability, if any, will not have a material adverse effect on our financial position, results of operations, or
cash flows.
As a member bank of Visa U.S.A., we are responsible for our proportionate share of certain litigation indemnification
obligations to Visa U.S.A. Visa Inc. has established several related mechanisms designed to address potential liability
referred to as the Retrospective Responsibility Plan, which consists of an escrow agreement, the conversion feature
of the Visa Inc. shares of Class B common stock into Class A common stock, the indemnification obligations of the
Visa U.S.A. members, an interchange judgment sharing agreement and a loss sharing agreement.
In November 2007, Visa Inc. settled an antitrust litigation with American Express Travel Related Services (“AMEX”)
for $2.1 billion. On March 19, 2008, Visa Inc. established an escrow account for $3.0 billion from which it paid the
initial amount owed under the AMEX settlement and planned to pay the required 16 quarterly AMEX payments and
additional identified antitrust settlements as they occurred. The funding of the escrow was accomplished through a
reduction in the conversion factor of Visa Inc. Class B shares held by the member banks that are available for
conversion to Class A shares as allowed by the Retrospective Responsibility Plan outlined in the Form S-1 filed by
Visa Inc. on November 9, 2007.
On October 27, 2008 Visa Inc. announced a settlement with the other major antitrust litigant, Discover Financial
Services, Inc., for $1.9 billion, of which $1.7 billion is the responsibility of member banks. On December 19, 2008 Visa
Inc. deposited another $1.1 billion directly into the litigation escrow account to cover the settlement through a further
reduction in the conversion factor of Visa Inc. Class B shares. In September 2009, Visa’s settlement obligations were
fully satisfied to Discover.
Our proportionate share of potential exposure under the Retrospective Responsibility Plan related to the remaining
open cases (the Attridge Litigation, Multidistrict Litigation Proceedings and other putative class actions) is not
reasonably estimable. In their Annual Report on Form 10-K filed on November 18, 2011, Visa Inc. stated it believes
some loss is reasonably possible, but not probable and not reasonably estimable. Many material uncertainties exist,
including, among other things, the mixed progress in settlement negotiation and numerous motions pending before
the court. In December 2011, Visa Inc. deposited an additional $1.6 billion into the litigation escrow account. However,
we are not aware of any future cash settlement payments required by us on covered litigation.
Page - 87
As permitted or required under California law and to the maximum extent allowable under that law, we have certain
obligations to indemnify our current and former officers and directors for certain events or occurrences while the
officer or director is, or was serving, at our request in such capacity. These indemnification obligations are valid as
long as the director or officer acted in good faith and in a manner the person reasonably believed to be in or not
opposed to the best interests of the corporation, and, with respect to any criminal action or proceeding, had no
reasonable cause to believe his or her conduct was unlawful. The maximum potential amount of future payments we
could be required to make under these indemnification obligations is unlimited; however, we have a director and
officer insurance policy that mitigates our exposure and enables us to recover a portion of any future amounts paid.
We believe the estimated fair value of these indemnification obligations is minimal.
Note 14: Concentrations of Credit Risk
Concentration of credit risk is the risk associated with a lack of diversification, such as having substantial investments
in a few individual issuers, thereby exposing us to greater risks resulting from adverse economic, political, regulatory,
geographic, industrial or credit developments. Financial instruments that potentially subject us to concentrations of
credit risk consist primarily of cash and cash equivalents, investment securities and loans.
Our cash in correspondent bank accounts, at times, may exceed FDIC insured limits. We place cash and cash
equivalents with high quality financial institutions, periodically monitor their credit worthiness and limit the amount of
credit exposure with any one institution. Concentrations of credit risk with respect to investment securities are limited
to the U.S. Government, its agencies and Government Sponsored Enterprises. Our exposure, which primarily results
from positions in securities available for sale issued and sponsored by the U.S. Government, and its agencies, was
$116.9 million, or 60% of our total investment portfolio at December 31, 2011.
We also manage our credit exposure related to our loan portfolio to avoid the risk of undue concentration of credits in
a particular industry by reducing significant exposure to highly leveraged transactions or to any individual customer or
counterparty, and by obtaining collateral as appropriate. No individual borrower accounts for more than 5% of loans
held in the portfolio. The largest loan concentration group by industry of the borrowers is real estate, which account for
76% of our loan portfolio at December 31, 2011.
Note 15: Derivative Financial Instruments and Hedging Activities
We have entered into interest rate swap agreements, primarily as an asset/liability management strategy, in order to
mitigate the changes in the fair value of specified long-term fixed-rate loans (or firm commitments to enter into long-
term fixed-rate loans) caused by changes in interest rates. These hedges allow us to offer long-term fixed rate loans
to customers without assuming the interest rate risk of a long-term asset. Converting our fixed-rate interest stream to
a floating-rate interest stream, generally benchmarked to the one-month U.S. dollar LIBOR index, protects us against
changes in the fair value of our loans otherwise associated with fluctuating interest rates.
The fixed-rate payment features of the interest rate swap agreements are generally structured at inception to mirror
substantially all of the provisions of the hedged loan agreements. These interest rate swaps, designated and qualified
as fair value hedges, are carried on the balance sheet at their fair value in other assets (when the fair value is
positive) or in other liabilities (when the fair value is negative). One of our interest rate swap agreements qualifies for
shortcut hedge accounting treatment. The change in fair value of the swap using the shortcut accounting treatment is
recorded in other non-interest income, while the change in fair value of swaps using non-shortcut accounting is
recorded in interest income. The unrealized gain or loss in fair value of the hedged fixed-rate loan is recorded as an
adjustment to the hedged loan and offset in other non-interest income (for shortcut accounting treatment) or interest
income (for non-shortcut accounting treatment).
Page - 88
From time to time, we make firm commitments to enter into long-term fixed-rate loans with borrowers backed by yield
maintenance agreements and simultaneously enter into forward interest rate swap agreements with correspondent
banks to mitigate the change in fair value of the yield maintenance agreement. Prior to loan funding, yield
maintenance agreements with net settlement features that meet the definition of a derivative are considered as non-
designated hedges and are carried on the balance sheet at their fair value in other assets (when the fair value is
positive) or in other liabilities (when the fair value is negative). The offsetting changes in the fair value of the forward
swap and the yield maintenance agreement are recorded in interest income. In June 2007, August 2010 and June
2011, three previously undesignated forward swaps were designated to offset the change in fair value of a fixed-rate
loan originated in each of those periods. Subsequent to the point of the swap designations, the related yield
maintenance agreements are no longer considered derivatives. Their fair value at the designation date was recorded
in other assets and is amortized using the effective yield method over the life of the respective designated loans.
The net effect of the change in fair value of interest rate swaps, the amortization of the yield maintenance agreement
and the change in the fair value of the hedged loans results in an insignificant amount of hedge ineffectiveness
recognized in interest income.
Our credit exposure, if any, on interest rate swaps is limited to the net favorable value (net of any collateral pledged to
us) and interest payments of all swaps by each counterparty. Conversely, when an interest rate swap is in a liability
position exceeding a certain threshold, we are required to post collateral to the counterparty in an amount determined
by the agreements (generally when our derivative liability position is greater than $100 thousand or $1.3 million,
depending upon the counterparty). Collateral levels are monitored and adjusted on a regular basis for changes in
interest rate swap values. The aggregate fair value of all derivative instruments that are in a liability position and have
collateral requirements on December 31, 2011 is $5.1 million, for which we have posted collateral in the form of
securities available for sale totaling $4.8 million and cash of $1.3 million.
As of December 31, 2011, we have seven interest rate swap agreements, which are scheduled to mature in
September 2018, April 2019, June 2020, August 2020, June 2022, June 2031 and October 2031. All of our derivatives
are accounted for as fair value hedges. Our interest rate swaps are settled monthly with counterparties. Accrued
interest on the swaps totaled $72 thousand and $64 thousand as of December 31, 2011 and 2010, respectively.
Information on our derivatives follows:
(in thousands)
Fair value hedges
Interest rate contracts notional amount
Credit risk amount
Interest rate contracts fair value (1)
Balance sheet location
At December 31, 2011
At December 31, 2010
Liability derivatives
$
$
34,161
---
5,052
Other liabilities
23,132
---
2,470
Other liabilities
(in thousands)
(Decrease) increase in value of designated interest rate swaps
recognized in interest income
Payment on interest rate swaps recorded in interest income
Increase (decrease) in value of hedged loans recognized in interest
income
(Decrease) increase in value of yield maintenance agreement
recognized against interest income
Net loss on derivatives recognized against interest income (2)
(1) See Note 10 for valuation methodology.
Year ended December 31,
2011
2010
2009
$
$
(2,582) $
(1,076)
(881) $
(895)
1,866
(849)
2,436
575
(1,942)
(14)
(1,236) $
254
(947) $
(19)
(944)
(2) Ineffectiveness of ($160) thousand, ($52) thousand and ($95) thousand was recorded in interest income during the
years ended December 31, 2011, 2010 and 2009, respectively. The full change in value of swaps was included in the
assessment of hedge effectiveness.
Page - 89
Note 16: Regulatory Matters
We are subject to various regulatory capital requirements administered by the federal banking agencies. Failure to
meet minimum capital requirements can initiate certain mandatory, and possibly additional discretionary, actions by
regulators that, if undertaken, could have a material effect on our consolidated financial statements. Under capital
adequacy guidelines and the regulatory framework for prompt corrective action, we must meet specific capital
guidelines that involve quantitative measures of our assets, liabilities, and certain off-balance sheet items as
calculated under regulatory accounting practices. The capital amounts and our prompt corrective action classification
are also subject to qualitative judgments by the regulators about components, risk weightings and other factors.
Prompt corrective action provisions are not applicable to bank holding companies such as Bancorp.
Quantitative measures established by regulation to ensure capital adequacy requires us to maintain minimum
amounts and ratios (set forth in the table below) of total and Tier 1 capital to risk weighted assets and of Tier 1 capital
to quarterly average assets.
Our capital adequacy ratios are presented in the following tables. Capital ratios are reviewed by Management on a
regular basis to ensure that capital exceeds the prescribed regulatory minimums and is adequate to meet our
anticipated future needs. For all periods presented, our ratios exceed the regulatory definition of well capitalized under
the regulatory framework for prompt corrective action (Bank level) and capital adequacy purposes (Bancorp level).
Capital Ratios for the Bancorp:
(dollars in thousands)
As of December 31, 2011
Total Capital (to risk-weighted assets)
Tier 1 Capital (to risk-weighted assets)
Tier 1 Capital (to average assets)
As of December 31, 2010
Total Capital (to risk-weighted assets)
Tier 1 Capital (to risk-weighted assets)
Tier 1 Capital (to average assets)
Actual Ratio
Amount
$153,577
$133,953
$133,953
Amount
$138,545
$120,375
$120,375
Ratio for Capital
Adequacy Purposes
Amount
>$93,552
>$46,776
>$56,206
Amount
>$83,068
>$41,534
>$48,566
Ratio
>8.0%
>4.0%
>4.0%
Ratio
>8.0%
>4.0%
>4.0%
Ratio
13.13%
11.45%
9.53%
Ratio
13.34%
11.59%
9.91%
Capital Ratios for the Bank:
(dollars in thousands)
As of December 31, 2011
Total Capital (to risk-weighted
assets)
Tier 1 Capital (to risk-weighted
assets)
Tier 1 Capital (to average assets)
As of December 31, 2010
Total Capital (to risk-weighted
assets)
Tier 1 Capital (to risk-weighted
assets)
Tier 1 Capital (to average
assets)
Actual Ratio
Ratio for Capital
Adequacy Purposes
Ratio to be Well
Capitalized Under
Prompt Corrective
Action Provisions
Amount
Ratio
Amount
Ratio
Amount
Ratio
$150,785
12.89% >$93,551
>8.0%
>$116,939
>10.0%
$131,160
$131,160
11.22% >$46,776
9.33% >$56,206
>4.0%
>4.0%
>$70,163
>$70,257
>6.0%
>5.0%
Amount
Ratio
Amount
Ratio
Amount
Ratio
$131,817
12.70% >$83,067
>8.0%
>$103,834
>10.0%
$113,647
10.95% >$41,533
>4.0%
>$62,300
>6.0%
$113,647
9.36% >$48,566
>4.0%
>$60,708
>5.0%
Note 17: Financial Instruments with Off-Balance Sheet Risk
We make commitments to extend credit in the normal course of business to meet the financing needs of our
customers. These financial instruments include commitments to extend credit in the form of loans or through standby
letters of credit. Commitments to extend credit are agreements to lend to a customer as long as there is no violation of
any condition established in the contract. Commitments generally have fixed expiration dates or other termination
clauses and may require payment of a fee. Since many of the commitments are expected to expire without being
drawn upon, the total commitment amount does not necessarily represent future cash requirements.
Page - 90
We are exposed to credit loss equal to the contract amount of the commitment in the event of nonperformance by the
borrower. We use the same credit policies in making commitments as we do for on-balance-sheet instruments and we
evaluate each customer’s creditworthiness on a case-by-case basis. The amount of collateral obtained, if deemed
necessary by us, is based on Management’s credit evaluation of the borrower. Collateral held varies, but may include
accounts receivable, inventory, property, plant and equipment, and real property.
The contract amount of loan commitments and standby letters of credit not reflected on the consolidated statement of
condition was $276.8 million at December 31, 2011 at rates ranging from 1.91% to 18.00%. This amount included
$155.3 million under commercial lines of credit (these commitments are contingent upon customers maintaining
specific credit standards), $75.6 million under revolving home equity lines, $23.7 million under undisbursed
construction loans, $9.3 million under personal and other lines of credit, and a remaining $12.9 million under standby
letters of credit. We have set aside an allowance for credit losses in the amount of $554 thousand for these
commitments, which is recorded in interest payable and other liabilities. Approximately 42% of the commitments
expire in 2012 and approximately 58% expire between 2013 and 2020.
Note 18: Condensed Bank of Marin Bancorp Parent Only Financial Statements
Presented below is financial information for Bank of Marin Bancorp, parent holding company only.
CONDENSED UNCONSOLIDATED STATEMENTS OF CONDITION
at December 31, 2011 and 2010
(in thousands)
Assets
Cash and due from Bank of Marin
Investment in subsidiary
Other assets
Total assets
Liabilities and Stockholders' Equity
Accrued expenses payable
Total liabilities
Stockholders' equity
Total liabilities and stockholders' equity
December 31, 2011 December 31, 2010
$
$
$
$
2,836 $
132,759
21
135,616 $
65 $
65
135,551
135,616 $
6,688
115,192
79
121,959
39
39
121,920
121,959
Page - 91
CONDENSED UNCONSOLIDATED STATEMENTS OF INCOME
for the years ended December 31, 2011, 2010 and 2009
December 31, 2011
December 31, 2010 December 31, 2009
(in thousands)
Income
Dividends from Bank of Marin (a)
$
Total income
Expense
Non-interest expense
Total expense
Income before income taxes and equity in
undistributed net income of subsidiary
Income tax benefit
Income before equity in undistributed net income of
subsidiary
Equity in undistributed net income of subsidiary
- $
-
3,000 $
3,000
37,750
37,750
748
748
(748)
249
(499)
16,063
713
713
698
698
2,287
300
2,587
10,965
37,052
273
37,325
(24,560)
Net income
$
15,564 $
13,552 $
12,765
Preferred stock dividends and accretion
---
---
(1,299)
Net income available to common shareholders
$
15,564 $
13,552 $
11,466
(a) In 2009, the Bank made a $28.0 million dividend to Bancorp to fund Bancorp's repurchase of preferred stock, as
well as$9.8 million dividends to cover Bancorp's operational needs and cash dividends to shareholders.
Page - 92
CONDENSED UNCONSOLIDATED STATEMENTS OF CASH FLOWS
for the years ended December 31, 2011, 2010 and 2009
(in thousands)
December 31, 2011
December 31, 2010 December 31, 2009
Cash Flows from Operating Activities:
Net income
Adjustments to reconcile net income to net cash used in
$
operating activities:
Equity in undistributed and distributed net income of
subsidiary
Net change in operating assets and liabilities
15,564 $
13,552 $
12,765
(16,063)
(13,965)
(13,190)
Other assets
Other liabilities
Intercompany payable
Net cash used in operating activities
Cash Flows from Investing Activities:
Capital contribution to subsidiary
Net cash used in investing activities
Cash Flows from Financing Activities:
Repurchase of preferred stock
Proceeds from issuance of preferred stock
Proceeds from issuance of warrants
Stock options exercised and employee stock purchases
Dividends paid on common stock
Dividends received from subsidiary
Preferred stock dividend
Stock repurchased
Net cash (used by) provided by financing activities
Net (decrease) increase in cash and cash
equivalents
Cash and cash equivalents at beginning of period
Cash and cash equivalents at end of period
Supplemental schedule of non-cash financing
activities:
Accretion of preferred stock
Stock issued in payment of director fees
$
$
58
46
-
(395)
(774)
(774)
---
---
---
774
(3,457)
---
---
---
(2,683)
(6)
13
-
(406)
(912)
(912)
---
---
---
912
(3,205)
3,000
---
---
707
(3,852)
(611)
6,688
2,836 $
7,299
6,688 $
--- $
200
--- $
200
End of 2011 Audited Consolidated Financial Statements
7
(18)
(47)
(483)
(897)
(897)
(28,000)
---
---
897
(2,960)
37,750
(451)
---
7,236
5,856
1,443
7,299
945
233
Page - 93
ITEM 9.
None.
CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
ITEM 9A.
CONTROLS AND PROCEDURES
(A)
Evaluation of Disclosure Controls and Procedures
We conducted an evaluation under the supervision and with the participation of our management, including
our Chief Executive Officer and Chief Financial Officer, or persons performing similar functions, of the
effectiveness of the design and operation of our disclosure controls and procedures (as defined in Rule 13a-
15(e) or 15d-15(e) under the Exchange Act of 1934 (the “Act”)) as of December 31, 2011. Based upon that
evaluation, our Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and
procedures were effective as of December 31, 2011.
The term disclosure controls and procedures means controls and other procedures that are designed to
ensure that information required to be disclosed by us in the reports that we file or submit under the Act (15
U.S.C. 78a et seq.) is recorded, processed, summarized and reported, within the time periods specified in the
Commission’s rules and forms. Disclosure controls and procedures include, without limitation, controls and
procedures designed to ensure that information required to be disclosed by us in the reports that we file or
submit under the Act is accumulated and communicated to our Management, including our principal executive
and principal financial officers, or persons performing similar functions, as appropriate to allow timely
decisions regarding required disclosure.
There are inherent limitations to the effectiveness of any system of disclosure controls and procedures. These
limitations include the possibility of human error, the circumvention or overriding of the controls and
procedures and reasonable resource constraints. In addition, because we have designed our system of
controls based on certain assumptions, which we believe are reasonable, about the likelihood of future
events, our system of controls may not achieve its desired purpose under all possible future conditions.
Accordingly, our disclosure controls and procedures provide reasonable assurance, but not absolute
assurance, of achieving their objectives.
(B)
Management’s Annual Report on Internal Control over Financial Reporting
Our Management’s report on Internal Control over Financial Reporting is set forth in Item 8 and is
incorporated herein by reference.
Our internal control over financial reporting is designed to provide reasonable, but not absolute, assurance
regarding the financial reporting and the preparation of financial statements in accordance with generally
accepted accounting principles. There are inherent limitations to the effectiveness of any system of internal
control over financial reporting. These limitations include the possibility of human error, the circumvention of
overriding of the system and reasonable resource constraints. Because of its inherent limitations, our internal
control over financial reporting may not prevent or detect misstatements. Projections of any evaluation of
effectiveness to future periods are subject to the risks discussed in Item 1A-Risk Factors in this report.
Our registered public accounting firm has issued an audit report on our internal control over financial
reporting. See (C) below.
(C)
Attestation Report of the Registered Public Accounting Firm
The Attestation Report of the Registered Public Accounting firm required to be furnished pursuant to this item
is set forth in Item 8 and is incorporated herein by reference.
Page - 94
(D)
Changes in Internal Controls
During the quarter ended December 31, 2011, there was no significant change in our internal control over
financial reporting identified in connection with the evaluation mentioned in (B) above, that has materially
affected, or is reasonably likely to materially affect, our internal control over financial reporting.
ITEM 9B.
OTHER INFORMATION
None.
PART III
ITEM 10.
DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE
The information required by this Item is incorporated by reference from our Proxy Statement for the 2012 Annual
Meeting of Shareholders. Bancorp and the Bank have adopted a Code of Ethics that applies to all staff including the
Chief Executive Officer, Chief Financial Officer and Controller. A copy of the Code of Ethical Conduct, which is also
included on our website, will be provided to any person, without charge, upon written request to Corporate Secretary,
Bank of Marin Bancorp, 504 Redwood Boulevard, Suite 100, Novato, CA 94947.
ITEM 11.
EXECUTIVE COMPENSATION
The information required by this Item is incorporated by reference from our Proxy Statement for the 2012 Annual
Meeting of Shareholders.
ITEM 12.
SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND
RELATED STOCKHOLDER MATTERS
The information required by this Item is incorporated by reference from Item 5 above, Note 9 to our audited
consolidated financial statements and our Proxy Statement for the 2012 Annual Meeting of Shareholders.
ITEM 13.
CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCE
The information required by this Item is incorporated by reference from our Proxy Statement for the 2012 Annual
Meeting of Shareholders.
ITEM 14.
PRINCIPAL ACCOUNTANT FEES AND SERVICES
The information required by this Item is incorporated by reference from our Proxy Statement for the 2012 Annual
Meeting of Shareholders.
Page - 95
ITEM 15.
EXHIBITS AND FINANCIAL STATEMENT SCHEDULES
PART IV
(A)
Documents Filed as Part of this Report
1.
Financial Statements
The financial statements and supplementary data listed below are filed as part of this report under Item 8,
captioned Financial Statements and Supplementary Data.
Report of Independent Registered Public Accounting Firm for the years ended December 31, 2011,
2010 and 2009
Management’s Report on Internal Control over Financial Reporting
Consolidated Statements of Condition as of December 31, 2011 and 2010
Consolidated Statements of Income for the Years Ended December 31, 2011, 2010 and 2009
Consolidated Statements of Changes in Stockholders’ Equity for the Years Ended December 31,
2011, 2010 and 2009
Consolidated Statement of Cash Flows for the Years Ended December 31, 2011, 2010 and 2009
Notes to Consolidated Financial Statements
2.
Financial Statement Schedules
All financial statement schedules have been omitted, as they are inapplicable or the required
information is included in the financial statements or notes thereto.
Page - 96
(B)
Exhibits Filed
The following exhibits are filed as part of this report or hereby incorporated by references to filings previously made with the SEC
Exhibit
Number
2.01
Exhibit Description
Modified Whole Bank Purchase and Assumption
Agreement dated February 18, 2011 among Federal
Deposit Insurance Corporation, Receiver of Charter
Oak Bank, Napa, California, Federal Deposit
Insurance Corporation, and Bank of Marin
Incorporated by Reference
Form
8-K
File No.
001-33572
Exhibit
99.2
Filing Date
Herewith
February 28,
2011
3.01
Articles of Incorporation, as amended
10-Q
001-33572
3.01
November 7,
3.02
4.01
4.02
Bylaws, as amended
Rights Agreement dated as of July 2, 2007
Form of Warrant for Purchase of Shares of Common
Stock, as amended
10.01 2007 Employee Stock Purchase Plan
10.02 1989 Stock Option Plan
10.03 1999 Stock Option Plan
10.04 2007 Equity Plan
10.05 2010 Director Stock Plan
10.06 Form of Indemnification Agreement for Directors and
Executive Officers dated August 9, 2007
10.07 Form of Employment Agreement dated January 23,
2009
10-Q
2007
May 9, 2011
July 2, 2007
3.02
4.1
001-33572
8-A12B 001-33572
333-156782
POS AM
S-3
S-8
S-8
S-8
S-8
S-8
10-Q
4.1
333-144810
4.1
333-144807
4.1
333-144808
4.1
333-144809
333-167639
4.1
001-33572 10.06 November 7,
December 20,
2011
July 24, 2007
July 24, 2007
July 24, 2007
July 24, 2007
June 21, 2010
8-K
001-33572
10.1
10.08 2010 Director Stock Plan
10.09 2010 Annual Individual Incentive Compensation Plan
S-8
8-K
333-167639
001-33572
10.10 Salary Continuation Agreement with four executive
officers, Russell Colombo, Chief Executive Officer,
Christina Cook, Chief Financial Officer, Kevin
Coonan, Chief Credit Officer, and Peter Pelham,
Director of Retail Banking, dated January 1, 2011
8-K
001-33572
4.1
99.1
10.1
10.2
10.3
10.4
2007
January 26,
2009
June 21, 2010
October 21,
2010
January 6,
2011
10.11 2007 Form of Change in Control Agreement
8-K
001-33572
10.1
October 31,
11.01 Earnings Per Share Computation - included in Note 1
to the Consolidated Financial Statements.
14.01 Code of Ethical Conduct
8-K
001-33572 14.01
23.01 Consent of Moss Adam LLP
31.01 Certification of Principal Executive Officer pursuant to
Rule 13a-14(a)/15d-14(a) as adopted pursuant to
Section 302 of the Sarbanes-Oxley Act of 2002
31.02 Certification of Principal Financial Officer pursuant to
Rule 13a-14(a)/15d-14(a) as adopted pursuant to
Section 302 of the Sarbanes-Oxley Act of 2002.
32.01 Certification pursuant to 18 U.S.C. §1350 as adopted
pursuant to §906 of the Sarbanes-Oxley Act of 2002.
101.01* XBRL Interactive Data File
2007
January 26,
2008
Filed
Filed
Filed
Filed
Furnished
Furnished
*As provided in Rule 406T of Regulation S-T, this information is furnished and not filed for purposes of Sections 11 and
12 of the Securities Act of 1933 and Section 18 of the Securities Exchange Act of 1934.
Page - 97
Pursuant to the requirements of Section 13 of the Securities Exchange Act of 1934, Bancorp has duly caused this
report to be signed on its behalf by the undersigned thereunto duly authorized.
SIGNATURES
Dated: March 12, 2012
Dated: March 12, 2012
Dated: March 12, 2012
Bank of Marin Bancorp
/s/ Russell A. Colombo
Russell A. Colombo
President &
Chief Executive Officer
(Principal Executive Officer)
/s/ Christina J. Cook
Christina J. Cook
Executive Vice President &
Chief Financial Officer
(Principal Financial Officer)
/s/ Cecilia Situ
Cecilia Situ
First Vice President &
Controller
(Principal Accounting Officer)
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the
following persons on behalf of the registrant and in the capacities and on the dates indicated.
Dated: March 12, 2012
Dated: March 12, 2012
Dated: March 12, 2012
Dated: March 12, 2012
Dated: March 12, 2012
Dated: March 12, 2012
Dated: March 12, 2012
Dated: March 12, 2012
Dated: March 12, 2012
Dated: March 12, 2012
Dated: March 12, 2012
Members of Bank of Marin Bancorp’s Board of Directors
/s/ Joel Sklar
Joel Sklar, M.D.
Chairman of the Board
/s/ Russell A. Colombo
Russell A. Colombo
President & Chief Executive Officer
/s/ Thomas M. Foster
Thomas M. Foster
/s/ Robert Heller
Robert Heller
/s/ Norma J. Howard
Norma J. Howard
/s/ Stuart D. Lum
Stuart D. Lum
/s/ Joseph D. Martino
Joseph D. Martino
/s/ William H. McDevitt, Jr.
William H. McDevitt, Jr.
/s/ Brian M. Sobel
Brian M. Sobel
/s/ J. Dietrich Stroeh
J. Dietrich Stroeh
/s/ Jan I. Yanehiro
Jan I. Yanehiro
Page - 98
Exhibit Number
23.01
Consent of Moss Adams LLP.
EXHIBIT INDEX
Description
Location
Filed herewith.
31.01
Certification of Principal Executive Officer pursuant to Rule 13a-14(a)/15d-14(a)
Filed herewith.
as adopted pursuant to §302 of the Sarbanes-Oxley Act of 2002.
31.02
Certification of Principal Financial Officer pursuant to Rule 13a-14(a)/15d-14(a)
Filed herewith.
as adopted pursuant to §302 of the Sarbanes-Oxley Act of 2002.
32.01
Certification pursuant to 18 U.S.C. §1350 as adopted pursuant to §906 of the
Sarbanes-Oxley Act of 2002.
Furnished
herewith.
Page - 99
BANK OFMARIN BANCORP
EXHIBIT 23.01
CONSENT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
We consent to the incorporation by reference in Registration Statements No. 333-144807, No. 333-144808, No. 333-
144809, No. 333-144810, and No. 333-167639 on Form S-8 and Registration Statements No. 333-162686 on Form S-
3 of our report dated March 12, 2012, relating to the consolidated financial statements and the effectiveness of
internal control over financial reporting, appearing in this Annual Report on Form 10-K, of Bank of Marin Bancorp for
the year ended December 31, 2011.
/s/ Moss Adams LLP
Stockton, California
March 12, 2012
BANK OFMARIN BANCORP
EXHIBIT 31.01
CERTIFICATION PURSUANT TO RULE 13a-14(a)/15d-14(a) AS ADOPTED PURSUANT TO SECTION 302 OF
THE SARBANES-OXLEY ACT OF 2002
I, Russell A. Colombo, Chief Executive Officer, certify that:
1.
2.
3.
4.
I have reviewed this annual report on Form 10-K of Bank of Marin Bancorp (the Registrant);
Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a
material fact necessary to make the statements made, in light of the circumstances under which such
statements were made, not misleading with respect to the period covered by this report;
Based on my knowledge, the financial statements, and other financial information included in this report, fairly
present in all material respects the financial condition, results of operations and cash flows of the Registrant
as of, and for, the periods presented in this report;
The Registrant’s other certifying officer and I are responsible for establishing and maintaining disclosure
controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control
over financial reporting (as defined in Exchange Act Rules 13a -15(f) and 15d-15(f)) for the Registrant and
have:
(a)
(b)
(c)
(d)
designed such disclosure controls and procedures, or caused such disclosure controls and
procedures to be designed under our supervision, to ensure that material information relating to the
Registrant, including its consolidated subsidiaries, is made known to us by others within those
entities, particularly during the period in which this report is being prepared;
designed such internal control over financial reporting, or caused such internal control over financial
reporting to be designed under our supervision, to provide reasonable assurance regarding the
reliability of financial reporting and the preparation of financial statements for external purposes in
accordance with generally accepted accounting principles;
evaluated the effectiveness of the Registrant’s disclosure controls and procedures and presented in
this report our conclusions about the effectiveness of the disclosure controls and procedures, as of
the end of the period covered by this report based on such evaluation; and
disclosed in this report any change in the Registrant’s internal control over financial reporting that
occurred during the Registrant’s most recent fiscal quarter (the Registrant’s fourth fiscal quarter in the
case of an annual report) that has materially affected, or is reasonably likely to materially affect, the
Registrant’s internal control over financial reporting; and
5.
The Registrant’s other certifying officer and I have disclosed, based on our most recent evaluation of internal
control over financial reporting, to the Registrant’s auditors and the audit committee of Registrant’s Board of
Directors (or persons performing the equivalent functions):
(a)
(b)
all significant deficiencies and material weaknesses in the design or operation of internal control over
financial reporting, which are reasonably likely to adversely affect the Registrant’s ability to record,
process, summarize and report financial information; and
any fraud, whether or not material, that involves Management or other employees who have a
significant role in the Registrant’s internal control over financial reporting.
Dated: March 12, 2012
/s/ Russell A. Colombo
Russell A. Colombo
Chief Executive Officer
BANK OFMARIN BANCORP
EXHIBIT 31.02
CERTIFICATION PURSUANT TO RULE 13a-14(a)/15d-14(a) AS ADOPTED PURSUANT TO SECTION 302 OF
THE SARBANES-OXLEY ACT OF 2002
I, Christina J. Cook, Chief Financial Officer, certify that:
1.
2.
3.
4.
I have reviewed this annual report on Form 10-K of Bank of Marin Bancorp (the Registrant);
Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a
material fact necessary to make the statements made, in light of the circumstances under which such
statements were made, not misleading with respect to the period covered by this report;
Based on my knowledge, the financial statements, and other financial information included in this report, fairly
present in all material respects the financial condition, results of operations and cash flows of the Registrant
as of, and for, the periods presented in this report;
The Registrant’s other certifying officer and I are responsible for establishing and maintaining disclosure
controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control
over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the Registrant and
have:
(a)
(b)
(c)
(d)
designed such disclosure controls and procedures, or caused such disclosure controls and
procedures to be designed under our supervision, to ensure that material information relating to the
Registrant, including its consolidated subsidiaries, is made known to us by others within those
entities, particularly during the period in which this report is being prepared;
designed such internal control over financial reporting, or caused such internal control over financial
reporting to be designed under our supervision, to provide reasonable assurance regarding the
reliability of financial reporting and the preparation of financial statements for external purposes in
accordance with generally accepted accounting principles;
evaluated the effectiveness of the Registrant’s disclosure controls and procedures and presented in
this report our conclusions about the effectiveness of the disclosure controls and procedures, as of
the end of the period covered by this report based on such evaluation; and
disclosed in this report any change in the Registrant’s internal control over financial reporting that
occurred during the Registrant’s most recent fiscal quarter (the Registrant’s fourth fiscal quarter in the
case of an annual report) that has materially affected, or is reasonably likely to materially affect, the
Registrant’s internal control over financial reporting; and
5.
The Registrant’s other certifying officer and I have disclosed, based on our most recent evaluation of internal
control over financial reporting, to the Registrant’s auditors and the audit committee of Registrant’s Board of
Directors (or persons performing the equivalent functions):
(a)
(b)
all significant deficiencies and material weaknesses in the design or operation of internal control over
financial reporting, which are reasonably likely to adversely affect the Registrant’s ability to record,
process, summarize and report financial information; and
any fraud, whether or not material, that involves Management or other employees who have a
significant role in the Registrant’s internal control over financial reporting.
Dated: March 12, 2012
/s/ Christina J. Cook
Christina J. Cook
Chief Financial Officer
BANK OFMARIN BANCORP
EXHIBIT 32.01
CERTIFICATION PURSUANT TO 18 U.S.C. SECTION 1350 AS ADOPTED PURSUANT TO SECTION 906 OF THE
SARBANES-OXLEY ACT OF 2002
In connection with the annual report on Form 10-K of Bank of Marin Bancorp (the Registrant) for the year ended
December 31, 2011, as filed with the Securities and Exchange Commission, the undersigned hereby certify pursuant
to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, that:
1)
2)
such Form 10-K fully complies with the requirements of Section 13(a) or 15(d) of the Securities
Exchange Act of 1934; and
the information contained in such Form 10-K fairly presents, in all material respects, the financial
condition and results of operations of the Registrant.
Dated: March 12, 2012
Dated: March 12, 2012
/s/ Russell A. Colombo
Russell A. Colombo
Chief Executive Officer
/s/ Christina J. Cook
Christina J. Cook
Chief Financial Officer
This certification accompanies each report pursuant to section 906 of the Sarbanes Oxley Act of 2002 and shall not,
except to the extent required by the Sarbanes Oxley Act of 2002, be deemed filed by the Registrant for purposes of
section 18 of the Securities and Exchange Act of 1934, as amended.
This page intentionally left blank.
This page intentionally left blank.
www.bankofmarin.com