To our Shareholders and Friends:
We are pleased to report that 2012 was an excellent year for your Bank, our best
ever. Net income was $3,448,000, a 55% increase over the previous year. Our
continuing emphasis on Relationship Banking allowed us to increase our Demand
Deposits 54% and our overall demand, money market and savings deposits by 35%.
We also made strides in improving our credit quality. Non‐performing loans
declined from 4.46% to 1.72% of total loans. At the same time, our overall loan
portfolio increased 2.2% in an otherwise sluggish economy.
Our earnings last year were augmented by an insurance settlement representing
$891,000 after tax. Excluding that one‐time event, our operating profit before loan
loss provisions and taxes was $7,711,000 compared to $7,442,000 in 2011 and was
a record for your Bank.
Your Bank continued to expand services and its support to both individual and
business customers as well as give special attention to the banking needs of
community non‐profit and charitable organizations which grew 38% in number.
Our entire Team worked very hard last year to continue our advance on being the
preeminent community bank in our market area and they are proud that they
produced results that exceeded many institutions faced with similar opportunities
and challenges.
We would be remiss if we did not recognize the support and encouragement of you,
our shareholders. You are an integral part of our success. If you are a customer,
please accept our sincere thank you for your business. If not, we invite you to open
an account and experience what banking with our Team is all about.
Sincerely,
Allan J. Hemphill
Chairman
Thomas M. Duryea
President and Chief Executive Officer
Executive Officers:
Thomas M. Duryea
President & Chief Executive Officer
Dennis E. Kelley
Senior Vice President & Chief Financial Officer
William Fogarty
Senior Vice President & Chief Credit Officer
Linda Bertauche
Senior Vice President & Chief Operating Officer
Company Contact Information:
Phone: 707-568-6000
www.summitstatebank.com
Corporate Secretary: Nancy Farber
Summit State Bank
P.O. Box 6188
Santa Rosa, CA 95406
Transfer Agent:
Computershare
1745 Gardena Ave.
Glendale, CA 91204
303-262-0780
Investor Information:
www.summitstatebank.com
Investor Relations
Directors:
Bradley E. Baker
Chairman and Chief Executive Officer
Codding Enterprises
James E. Baxter II
Chairman
Baxter Fentriss & Company
James E. Brush
Business Consultant
Josh C. Cox, Jr
Banking Consultant
Josh Cox & Associates
John F. DeMeo
Attorney
DeMeo DeMeo & West
Michael J. Donovan
Attorney
Richard A. Dorr
Owner
RAD Developers
Thomas M. Duryea
President and Chief Executive Officer
Summit State Bank
Todd R. Fry
Chief Financial Officer
Champion Industries, Inc.
Joseph F. Helmer
President
Caldwell Securities
Allan J. Hemphill
President
Hemphill and Associates
Ronald A. Metcalfe
Principal
Call & Metcalfe Certified Public Accountants, P.C.
Nicholas J. Rado
President
Rado Consulting Services
Marshall T. Reynolds
Chairman and Chief Executive Officer
Champion Industries, Inc.
Eugene W. Traverso
Director
Summit State Bank
SUMMIT STATE BANK
ANNUAL REPORT ON FORM 10-K
TABLE OF CONTENTS
Selected Financial Data .................................................................................................................3
Management’s Discussion and Analysis of the Bank’s Financial Condition and Results of
Operations
Overview ..........................................................................................................................................6
Results of Operations .......................................................................................................................6
Net Income .......................................................................................................................................7
Net Interest Income and Net Interest Margin ..................................................................................7
Provision for Loan Losses .............................................................................................................10
Noninterest Income ........................................................................................................................11
Noninterest Expenses .....................................................................................................................12
Provision for Income Taxes ...........................................................................................................13
Investment Portfolio.......................................................................................................................13
Loan Portfolio ................................................................................................................................15
Nonperforming Assets ...................................................................................................................17
Loan Policies and Procedures ........................................................................................................18
Allowance for Loan Losses ...........................................................................................................19
Deposits..........................................................................................................................................22
Borrowings .....................................................................................................................................23
Quantitative and Qualitative Disclosures about Market Risk ........................................................24
Liquidity and Capital Resources ....................................................................................................25
Impact of Inflation .........................................................................................................................27
Consolidated Financial Statements
Reports of Independent Registered Public Accounting Firms .......................................................29
Consolidated Balance Sheets December 31, 2012 and 2011 .........................................................31
Consolidated Statements of Income for the Years Ended
December 31, 2012, 2011 and 2010 ..................................................................................32
Consolidated Statements of Comprehensive Income for the Years Ended
December 31, 2012, 2011 and 2010 ..................................................................................33
Consolidated Statements of Changes in Shareholders’ Equity for the
Years Ended December 31, 2012, 2011 and 2010 ................................................................34
Consolidated Statements of Cash Flows for the Years Ended
December 31, 2012, 2011 and 2010 ..................................................................................35
Notes to Consolidated Financial Statements ..................................................................................37
1
Form 10-K
Cover ................................................................................................................................71
Cross-Reference Index .......................................................................................................72
Disclosure Regarding Forward-Looking Statements .........................................................74
Business .............................................................................................................................74
Information about Summit State Bank ..................................................................74
Services and Financial Products ............................................................................75
Sources of Business ...............................................................................................77
Competition............................................................................................................77
Our Address, Telephone Number and Internet Website ........................................78
Regulation and Supervision ...................................................................................78
Employees ..............................................................................................................87
Risk Factors .......................................................................................................................87
Unresolved Staff Comments ..............................................................................................95
Properties ...........................................................................................................................95
Legal Proceedings ..............................................................................................................95
Submission of Matters to a Vote of Security Holders .......................................................96
Market for Registrant’s Common Equity, Related Stockholder
Matters and Issuer Purchases of Equity Securities ................................................96
Changes in and Disagreements with Accountants on
Accounting and Financial Disclosure ....................................................................97
Controls and Procedures ....................................................................................................97
Other Information ..............................................................................................................98
Security Ownership of Certain Beneficial Owners and
Management and Related Stockholder Matters .....................................................99
Exhibits, Financial Statement Schedules .........................................................................101
2
(in thousands except per share data)
Income statement data:
Interest income
Net interest income
Provision for loan losses
Total non-interest income
Total non-interest expense
Income before income taxes
Income taxes
Net income
Preferred dividend
Net income available to common stockholders
Selected balance sheet data:
Assets
Loans, net
Earning assets
Deposits
Federal Home Loan Bank advances
Shareholders' equity
Balance sheet data - average
Assets
Loans, net
Earning assets
Deposits
Federal Home Loan Bank advances
Shareholders' equity
Selected per common share data:
Earnings per common share - basic
Earnings per common share - diluted
Weighted average shares used to
Selected Financial Data
Year Ended December 31
2012
2011
2010
2009
2008
$
$
$
$
$
18,278
16,249
3,360
3,498
10,521
5,866
2,418
3,448
521
2,927
18,678
15,750
3,650
1,926
10,234
3,792
1,564
2,228
651
1,577
18,886
15,333
3,860
1,263
9,553
3,183
1,376
1,807
552
1,255
20,653
15,093
3,650
1,099
8,999
3,543
1,462
2,081
510
1,571
21,554
12,343
685
(1,303)
8,639
1,716
707
1,009
4
1,005
$
$
$
$
$
$
$
$
$
$
$
444,896
275,877
426,414
341,004
40,000
62,870
$
410,291
275,505
393,941
324,428
22,545
61,812
$
387,625
269,963
374,427
312,058
13,750
61,009
$
377,126
279,405
363,042
307,031
10,763
58,109
$
347,933
280,398
330,652
279,977
12,000
55,309
$
351,386
287,929
336,905
278,593
15,727
56,197
$
340,400
288,277
323,356
264,253
20,120
55,505
$
353,790
299,932
337,705
260,507
36,052
56,190
$
364,580
299,645
347,786
252,763
55,420
55,547
$
343,403
279,140
326,496
242,587
52,233
47,655
$
$
0.62
0.62
$
$
0.33
0.33
$
$
0.26
0.26
$
$
0.33
0.33
$
$
0.21
0.21
calculate earnings per common share - basic
4,745
4,745
4,745
4,745
4,745
Weighted average shares used to
calculate earnings per common share - diluted
Common shares oustanding at year end
Cash dividends per share
Book value per common share
Tangible book value per common share (1)
4,746
4,745
0.36
10.37
9.50
$
$
$
4,745
4,745
0.36
9.98
9.11
$
$
$
4,779
4,745
0.36
9.95
9.08
$
$
$
4,766
4,745
0.36
10.01
9.15
$
$
$
4,745
4,745
0.36
10.05
9.18
$
$
$
Selected ratios:
Return on average common equity
Return on average assets
Common dividend payout ratio
Net interest margin
Efficiency ratio (2)
Average equity to average assets
Leverage capital ratio
Nonperforming assets to total assets
Nonperforming loans to total loans
Net charge-offs to average loans
Allowance for loan losses to total loans
6.08%
0.84%
58.35%
4.12%
60.45%
15.07%
13.37%
2.18%
1.72%
1.10%
2.04%
3.33%
0.59%
108.31%
4.34%
60.48%
15.41%
14.46%
3.45%
4.46%
1.54%
1.96%
2.64%
0.51%
136.18%
4.55%
58.00%
15.99%
14.62%
3.87%
4.70%
0.88%
2.11%
3.30%
0.59%
108.72%
4.47%
55.61%
15.88%
15.13%
3.44%
3.98%
0.98%
1.62%
2.12%
0.29%
169.95%
3.78%
64.01%
13.88%
14.76%
0.30%
0.34%
0.10%
1.32%
(1) Common tangiible equity excludes goodwill.
(2) Noninterest expenses to net interest and noninterest income, net of securities gains and building legal settlement.
3
DISCLOSURE REGARDING FORWARD-LOOKING STATEMENTS
This report contains certain statements that are forward-looking within the meaning of the
Private Securities Litigation Reform Act of 1995. These statements are not guarantees of future
performance and involve certain risks, uncertainties and assumptions that are difficult to predict.
Actual outcomes and results may differ materially from those expressed in, or implied by, our
forward-looking statements. Words such as “expects,” “anticipates,” “believes,” “estimates” and
other similar expressions or future or conditional verbs such as “will,” “should,” “would” and
“could” are intended to identify such forward-looking statements. Readers of this annual report
of the Summit State Bank (also referred to as we, us or our) should not rely solely on the
forward-looking statements and should consider all uncertainties and risks throughout the report.
Forward-looking statements, by their nature, are subject to risks, uncertainties and
assumptions. Our future results and shareholder values may differ significantly from those
expressed in these forward-looking statements. You are cautioned not to put undue reliance on
any forward-looking statement. The statements are representative only as of the date they are
made, and we undertake no obligation to update any forward-looking statement. However, your
attention is directed to any further disclosures made on related subjects in any subsequent reports
we may file with the Federal Deposit Insurance Corporation (“FDIC”), including on Forms 10-
K, 10-Q and 8-K, in the event we become required to make such filings.
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
The following discussion provides additional information about the financial condition of
Summit State Bank (“the Bank”) at December 31, 2012 and 2011 and results of operations for
the years ended December 31, 2012, 2011 and 2010. The following analysis should be read in
conjunction with the consolidated financial statements of the Bank and the notes thereto prepared
in accordance with accounting principles generally accepted in the United States.
Critical Accounting Policies
The discussion and analysis of the Bank’s results of operations and financial condition are
based upon financial statements which have been prepared in accordance with accounting
principles generally accepted in the United States. The preparation of these financial statements
requires the Bank’s management to make estimates and judgments that affect the reported
amounts of assets and liabilities, income and expense, and the related disclosures of contingent
assets and liabilities at the date of these financial statements.
The Bank believes these estimates and assumptions to be reasonably accurate; however, actual
results may differ from these estimates under different assumptions or circumstances. Material
estimates that are particularly susceptible to significant change in the near-term relate to the
determination of the allowance for loan losses, consideration of goodwill impairment and
consideration of “other than temporary impairment” of investment securities.
4
Allowance for Loan Losses. The allowance for loan losses is determined first and foremost
by promptly identifying potential credit weaknesses that could jeopardize repayment. The Bank’s
process for evaluating the adequacy of the allowance for loan losses includes determining
estimated loss percentages for each credit based on the Bank’s historical loss experience and
other factors in the Bank’s credit grading system and accompanying risk analysis for determining
an adequate level of the allowance. The risks are assessed by rating each account based upon
paying habits, loan to collateral value ratio, financial condition and level of classifications. The
allowance for loan losses was $5,749,000 at December 31, 2012 compared to $5,411,000 at
December 31, 2011.
The Bank maintains the allowance for loan losses to provide for probable incurred losses in the
loan portfolio. Additions to the allowance for loan losses are established through a provision
charged to expense. All loans which are judged to be uncollectible are charged against the
allowance while any recoveries are credited to the allowance. The Bank’s policy is to charge off
any known losses at the time of determination. Any unsecured loan more than 90 days delinquent
in payment of principal or interest and not in the process of collection is charged off in total.
Secured loans are evaluated on a case by case basis to determine the ultimate loss potential to us
subsequent to the liquidation of collateral. In those cases where we believe we are inadequately
protected, a charge-off will generally be made to reduce the loan balance to a level equal to the
liquidation value of the collateral unless we believe the collateral deficiency may be overcome
by borrower cash flows.
The Bank’s loan policy provides procedures designed to evaluate and assess the credit risk
factors associated with the loan portfolio, to enable the Bank to assess such credit risk factors
prior to granting new loans and to evaluate the sufficiency of the allowance for loan losses. The
Bank conducts an assessment of the allowance on a monthly basis and undertakes a more critical
evaluation quarterly. At the time of the quarterly review, the Board of Directors will examine
and formally approve the adequacy of the allowance. The quarterly evaluation includes an
assessment of the following factors: any external loan review and any recent regulatory
examination, estimated potential loss exposure on each pool of loans, concentrations of credit,
value of collateral, the level of delinquent and non-accrual loans, trends in loan volume, effects
of any changes in lending policies and procedures, changes in lending personnel, current
economic conditions at the local, state and national level and historical losses and recoveries.
Goodwill. We assess the carrying value of our goodwill at least annually in order to determine
if this intangible asset is impaired. In reviewing the carrying value of our goodwill, we assess
the recoverability of such assets by evaluating the fair value of the related business unit. If the
carrying amount of goodwill exceeds its fair value, an impairment loss is recognized for the
amount of the excess and the carrying value of goodwill is reduced accordingly. Any
impairment would be required to be recorded during the period identified.
Accounting standards require an annual evaluation of goodwill for impairment using various
estimates and assumptions. The market price of the Bank’s common stock at the close of
business on December 31, 2012 was $6.75 per common share compared to a book value of
$10.37 per common share. The Bank believes the lower market price in relation to book value is
due to the overall decline in the financial industry sector and is not specific to the Bank. As the
Bank’s stock price per common share is currently less than its book value per common share, it
5
is reasonably possible that management may conclude that goodwill, totaling $4.1 million at
December 31, 2012, is impaired as a result of a future assessment. If our goodwill is determined
to be impaired, the related charge to earnings could be material.
Investment Securities. We are obligated to assess, at each reporting date, whether there is an
“other-than-temporary” impairment to our investment securities. Such impairment, if related to
credit losses, must be recognized in current earnings rather than in other comprehensive income
or loss, net of tax. We examine all individual securities that are in an unrealized loss position at
each reporting date for other-than-temporary impairment. Specific investment level factors we
examine to assess impairment include, the severity and duration of the unrealized loss, the
nature, financial condition and results of operations of the issuers of the securities and whether
there has been any cause for default on the securities or any adverse change in the rating of the
securities by the various rating agencies, as well as whether the decline in value is credit or
liquidity related. Additionally, we reexamine our financial resources and our overall intent and
ability to hold the securities until their fair values recover. During 2010, we recognized other
than temporary impairment charges (OTTI) of $24,000 on a pooled trust preferred security.
There were no OTTI recorded in 2012 or 2011. We do not believe that we have any other
investment securities with material unrealized losses that would be deemed to be “other-than-
temporarily impaired” as of December 31, 2012. Investment securities are discussed in more
detail under “Investment Portfolio.”
Overview
The Bank is a community bank serving Sonoma, Napa, San Francisco and Marin Counties in
California. It operates through five offices located in Santa Rosa, Petaluma, Rohnert Park and
Healdsburg. The Bank was founded as a savings and loan in 1982 under the name Summit
Savings. On January 15, 1999, the Bank converted its charter to a California state-chartered
commercial bank and thereby became subject to regulation, supervision and examination by the
California Department of Financial Institutions and the FDIC.
Results of Operations
Years Ended December 31, 2012, 2011 and 2010
The Bank’s primary source of income is net interest income, which is the difference between
interest income and fees derived from earning assets and interest paid on liabilities which fund
those assets. Net interest income, expressed as a percentage of total average interest earning
assets, is referred to as the net interest margin. The Bank’s net interest income is affected by
changes in the volume and mix of interest earning assets and interest bearing liabilities. It is also
affected by changes in yields earned on interest earning assets and rates paid on interest bearing
deposits and other borrowed funds. The Bank also generates noninterest income, including
transactional fees, service charges, office lease income, gains and losses on investment securities
and gains on sold SBA guaranteed loans originated by the Bank. Noninterest expenses consist
primarily of employee compensation and benefits, occupancy and equipment expenses and other
operating expenses. The Bank’s results of operations are also affected by its provision for loan
losses. Results of operations may also be significantly affected by other factors including general
economic and competitive conditions, mergers and acquisitions of other financial institutions
6
within the Bank’s market area, changes in market interest rates, government policies, and actions
of regulatory agencies.
Net Income
The Bank had net income of $3,448,000 and net income available for common stockholders,
which deducts the preferred dividends, of $2,927,000, or $0.62 per diluted share, for the year
ended December 31, 2012 compared to net income of $2,228,000 and net income available for
common stockholders of $1,577,000, or $0.33 per diluted share, for the year ended December 31,
2011, and net income of $1,807,000 and net income available for common stockholders of
$1,255,000, or $0.26 per diluted share, for the year ended December 31, 2010.
The Return on average assets was 0.84%, 0.59% and 0.51% for the years ended December 31,
2012, 2011 and 2010, respectively. Although various factors effected the change in net income
between the years which are discussed in the following sections of this Management’s
Discussion and Analysis, the years 2012, 2011 and 2010 were significantly impacted by
additional loan loss provisions to the allowance for loan losses. See “Provision for Loan Losses”
below.
Net Interest Income and Net Interest Margin
Net interest income was $16,249,000 and the net interest margin was 4.12% for the year ended
December 31, 2012, which represented a $499,000 or 3.2% increase over 2011. For the year
ended December 31, 2011, net interest income was $15,750,000 and the net interest margin was
4.34%. This was an increase of $417,000 or 2.7% over 2010. For the year ended December 31,
2010, net interest income was $15,333,000 and the net interest margin was 4.55%. At
December 31, 2012, approximately 62% of the Bank’s assets were comprised of net loans and
28% of investment securities compared to 70% of net loans and 23% of investment securities at
December 31, 2011. The increase in investment securities as a percent of assets in 2012 was
primarily due to an increase in the investment portfolio funded by transactional deposit accounts
and FHLB borrowings.
The yield on average interest earning assets declined from 2011 to 2012 and declined from
2010 to 2011. The yield on average interest earning assets was 4.64% for the year ended
December 31, 2012, 5.14% for the year ended December 31, 2011 and 5.61% for the year ended
December 31, 2010. The changes in the overall yield on average earning assets between the
years was primarily attributable to the changes in general economic interest rates with the
changes in rates impacting the re-pricing of the Bank’s variable rate loan portfolio and calls on
higher yielding government agency securities. The Bank increased its liquid assets by increasing
investment securities in 2012 and 2011, which are lower yielding assets than loans, and this also
had an impact on the decline in yields of earning assets in 2012 and 2011.
In 2012, average earning assets increased 8.5% with average investment securities increasing
50% and average loans declining 1.4%. Deposits at the Federal Reserve Bank were increased in
2011 instead of selling Federal Funds as the interest paid by the Federal Reserve was higher than
what was available on Federal Funds. In 2011, average earning assets increased 7.8% and
7
average loans declined 3.0% compared to 2010. The decline in loans was due to reductions in the
portfolio from pay downs and resolution of problem loans that were unable to be offset with new
loan demand.
For the year ended December 31, 2012, the cost of average interest bearing liabilities was
0.67% compared with a cost of average interest bearing liabilities 1.01% for the year ended
December 31, 2011 and 1.30% for the year ended December 31, 2010. The changes in cost of
funds have been driven by the changing market interest rates over the periods. Additionally, the
Bank experienced growth in lower cost demand, savings and money market deposits, in 2010
through 2012.
The following table presents condensed average balance sheet information for the Bank,
together with interest rates earned and paid on the various sources and uses of its funds for each
of the periods presented. Average balances are based on daily average balances. Nonaccrual
loans are included in loans with any interest collected reflected on a cash basis.
8
Average Balance Sheets and Analysis of net Interest Income
Year Ended December 31,
(in thousands)
Assets
Interest earning assets:
Interest bearing deposits in banks
Time deposits with banks
Taxable investment securities
Federal funds sold
Loans, net of unearned income (1)
Total earning assets/interest income
Nonearning assets
Allowance for loan losses
Total assets
Liabilities and Shareholders' Equity
Interest bearing liabilities:
Deposits:
Interest bearing demand deposits
Savings and money market
Time deposits
FHLB advances
Total interest bearing liabilities/interest expense
Noninterest bearing deposits
Other liabilities
Total liabilities
Shareholders' equity
Total liabilities and shareholders' equity
2012
Interest
Income/
Expense
Average
Balance
Average
Rate
Average
Balance
$
$
14,644
1,566
102,226
-
275,505
393,941
22,675
(6,325)
410,291
$
$
27,117
74,555
177,026
22,545
301,243
45,730
1,505
348,478
61,812
410,290
32
15
3,209
-
15,022
18,278
0.22%
0.97%
3.14%
0.00%
5.45%
4.64%
30
233
1,584
182
2,029
0.11%
0.31%
0.89%
0.81%
0.67%
$
13,524
-
68,043
2,070
279,405
363,042
21,019
(6,934)
377,127
$
$
25,298
61,814
191,515
10,763
289,390
28,404
1,224
319,018
58,109
377,127
Average
Rate
Average
Balance
2011
Interest
Income/
Expense
$
30
-
2,588
5
16,055
18,678
0.22%
0.00%
3.80%
0.24%
5.75%
5.14%
2010
Interest
Income/
Expense
4
$
-
1,390
26
17,466
18,886
Average
Rate
0.13%
0.00%
4.02%
0.23%
6.07%
5.61%
87
452
2,517
497
3,553
0.36%
0.87%
1.39%
3.16%
1.30%
$
3,109
-
34,573
11,294
287,929
336,905
20,427
(5,946)
351,386
$
$
24,049
51,951
180,694
15,727
272,421
21,899
869
295,189
56,197
351,386
57
343
2,189
339
2,928
0.23%
0.55%
1.14%
3.15%
1.01%
$
$
$
Net interest income and margin (2)
Net interest spread (3)
$
16,249
4.12%
3.97%
$
15,750
4.34%
4.13%
$
15,333
4.55%
4.31%
(1) The net amortization of deferred fees and costs on loans included in interest income was $199,000, $286,000
and $531,000 for the years ended December 31, 2012, 2011 and 2010, respectively.
(2) Net interest margin is computed by dividing net interest income by average total earning assets.
(3) Net interest spread is the difference between the average rate earned on average total earning assets and the
average rate paid on average total interest bearing liabilities.
The following table shows the change in interest income and interest expense and the amount
of change attributable to variances in volume and rates. The unallocated change in rate or volume
variance has been allocated between the rate and volume variances in proportion to the absolute
dollar amount in the change of each.
9
Volume and Yield/Rate Variances
2012 Compared to 2011
Change Due to
2011 Compared to 2010
Change Due to
Volume
Rate
Net
Volume
Rate
Net
(Dollars in thousands)
Interest income:
Interest bearing deposits in banks
$
2
$
-
$
2
$
21
$
5
$
26
Time deposits with banks
Taxable investment securities
Federal funds sold
Loans, net
Total interest income
Interest expense:
Interest-bearing demand deposits
Savings and money market
Time deposits
FHLB advances
Total interest expense
Increase (decrease) in net
interest income
15
1,132
(5)
(227)
917
4
61
(175)
207
97
-
(511)
-
(806)
(1,317)
(31)
(171)
(430)
(364)
(996)
15
621
(5)
(1,033)
(400)
(27)
(110)
(605)
(157)
(899)
-
1,277
(20)
(527)
751
4
75
144
(157)
66
-
(79)
(1)
(884)
(959)
(34)
(184)
(472)
(1)
(691)
-
1,198
(21)
(1,411)
(208)
(30)
(109)
(328)
(158)
(625)
$
820
$
(321)
$
499
$
685
$
(268)
$
417
Provision for Loan Losses
The Bank maintains an allowance for loan losses for probable incurred losses that are expected
as an incidental part of the banking business. Write-offs of loans are charged against the
allowance for loan losses, which is adjusted periodically to reflect changes in the volume of
outstanding loans and estimated losses due to changes in the financial condition of borrowers or
the value of property securing nonperforming loans, or changes in general economic conditions
and other qualitative factors. Additions to the allowance for loan losses are made through a
charge against income referred to as the “provision for loan losses.”
The Bank’s loan policy provides procedures designed to evaluate and assess the credit risk
factors associated with the loan portfolio, to enable management to assess such credit risk factors
prior to granting new loans and to evaluate the sufficiency of the allowance for loan losses.
Management conducts an assessment of the allowance for loan losses on a monthly basis and
undertakes a more critical evaluation quarterly. At the time of the quarterly review, the Board of
Directors evaluates and formally approves the adequacy of the allowance. The quarterly
evaluation includes an assessment of the following factors: any external loan review and
regulatory examination, estimated probable loss exposure on each pool of loans, concentrations
of credit, value of collateral, the level of delinquent and non-accrual loans, trends in loan
volume, effects of any changes in the lending policies and procedures, changes in lending
personnel, current economic conditions at the local, state and national level, and a migration
analysis of historical losses and recoveries for the prior eight quarters.
10
At December 31, 2012, the Bank’s allowance for loan losses totaled $5,749,000 or 2.04% of
outstanding loans, compared with an allowance for loan losses of $5,411,000, or 1.96% of
outstanding loans at December 31, 2011 and $6,058,000, or 2.11% of outstanding loans at
December 31, 2010. There were $3,022,000 in net loans charged-off to the allowance for loan
losses during 2012, $4,297,000 in net charge-offs to the allowance in 2011 and $2,539,000 in net
charge-offs in 2010. For the year ended December 31, 2012, the provision for loan losses
amounted to $3,360,000 and for the years ended December 31, 2011 and 2010, the provision for
loan losses amounted to $3,650,000 and $3,860,000, respectively. The provision for loan losses
is dependent on the change in loans outstanding, the mix of types of loans within the portfolio,
net charge-offs recorded against the allowance, the volumes of loans past due or on non-accrual
status and economic factors. See “Allowance for Loan Losses” below.
Noninterest Income
The following table summarizes noninterest income recorded for the years indicated.
Noninterest Income
(in thousands)
Year Ended December 31,
2011
2012
2010
Service charges on deposit accounts
Office leases
Net securities gains
Net gain on sale of other real estate owned
Loan servicing, net
Other-than-temporary impairment (loss)
Total impairment loss
Loss recognized in other comprehensive income (loss)
Net impairment loss recognized in earnings
Building legal settlement
Other income
Total non-interest income
$
519
499
728
(89)
29
-
-
-
1,363
449
3,498
$
$
514
534
754
75
26
-
-
-
-
23
1,926
$
$
401
529
150
-
40
(24)
-
(24)
-
167
1,263
$
Service charges on deposit accounts were $519,000 for the year ended December 31, 2012,
compared to $514,000 and $401,000 for the years ended December 31, 2011 and 2010,
respectively. The Bank has experienced an increase in demand deposits, and the increase in
service charges has primarily resulted from the addition of commercial analysis checking
accounts.
The Bank owns its headquarters building with approximately half of the office space leased to
nonaffiliated tenants. The building was occupied in 2004 and was fully leased at December 31,
2012. Lease income from this office building was $499,000, $534,000 and $529,000 for the
years ended December 31, 2012, 2011 and 2010, respectively. The leases have annual rent
increases. The decline in lease income in 2012 was attributable to lower lease rates at lease
renewals.
11
Net securities gains can vary significantly from year to year based on the amount of securities
sold or called and the net gain realized. Additionally, gains or losses are highly dependent on the
interest rate environment and its impacts on the fair market value of investment securities. In
2010 noninterest income was decreased by $24,000 in other than temporary impairment write
downs on investment securities (OTTI). In 2012, 2011 and 2010, the Bank sold or had calls on
various government agency and corporate bonds with a net gain of $728,000 in 2012, $754,000
in 2011 and $150,000 in 2010.
Other income in 2012 included income recognition of a non-recurring legal settlement
concerning the Bank’s headquarters building. Net proceeds received from the settlement were
$2,515,000 of which $1,363,000 was recorded as other income, $152,000 was recovery of legal
expense and $1,000,000 was recorded as a reduction in the building’s cost basis. Additionally,
other income in 2012 included $431,000 in rental income received from foreclosed properties.
Noninterest Expenses
The following table summarizes noninterest expenses recorded for the years indicated.
Noninterest Expenses
Year Ended December 31,
(in thousands)
2012
2011
2010
Salaries and employee benefits
Occupancy and equipment
Other expenses
Total
$
5,303
$
1,509
$
3,709
$
5,135
$
4,788
1,601
3,498
1,598
3,167
$
10,521
$
10,234
$
9,553
Noninterest expenses, or also referred to as operating expenses, is commonly expressed as a
percentage of average assets for the period and as a percentage of operating revenues, or the
efficiency ratio. The efficiency ratio divides the noninterest expenses by total revenues, which is
defined as net interest income plus noninterest income, excluding net security gains, and for
2012, the income from the building settlement. The noninterest expenses as a percent of annual
average assets for 2012 was 2.6% and were 2.7% for 2011 and 2010. The efficiency ratio for the
years 2012 and 2011 were 60.5% and for 2010 was 58.0%.
Salaries and employee benefits expense increased 3.3% in 2012 compared to 2011 and
increased 7.2% in 2011 compared to 2010. The increases were primarily due to salary increases
and increased health insurance premiums. Full time equivalent employee levels were 57, 60 and
58 at December 31, 2012, 2011 and 2010.
Occupancy and equipment expenses decreased 5.7% in 2012 compared to 2011 and were
stable in 2011 compared to 2010. Occupancy expenses include costs incurred with the Bank’s
owned headquarters building and its leased four branch office buildings.
12
The following table summarizes the categories of other expenses.
Other Expenses
Year Ended December 31,
(in thousands)
2012
2011
2010
Data processing
Professional fees
Director fees and expenses
Advertising and promotion
Deposit and other insurance premiums
Telephone and postage
Other expenses
$
$
$
693
562
554
525
478
62
835
3,709
544
675
520
546
496
67
650
3,498
586
587
317
441
552
90
594
3,167
$
$
$
The increase in data processing expenses in 2012 were partially due to the Bank’s adoption of
mobile banking which allows customers to access their deposit accounts and make deposits on
their mobile phones. There was also a general increase from transaction charges by the Bank’s
data systems provider that incrementally increases as customers are added to the Bank’s
database.
Professional fees vary depending on the use of legal and consulting services. Legal services
utilized by the Bank increased since 2008 as a result of problem loan resolutions. Director fees
and expenses increased as a result of an increase in the number of directors and travel expenses
incurred by directors for attendance of Board meetings. Miscellaneous other expenses increased
from 2010 through 2012, primarily as a result of increased costs of monitoring the loan portfolio.
Provision for Income Taxes
The Bank accrues income tax expense based on the anticipated tax rates during the financial
period covered. The provision for income taxes for the years ended December 31, 2012, 2011
and 2010, was $2,418,000 $1,564,000 and $1,376,000, respectively. The combined effective
Federal and State corporate income tax rates for the years ended December 31, 2012 and 2011
were 41.2%. In 2010 the combined effective income tax rates were 43.2%.
Investment Portfolio
Securities classified as available-for-sale for accounting purposes are recorded at their fair
value on the balance sheet. Securities classified as held-to-maturity, if any, are recorded at
amortized cost. At December 31, 2012, investment securities comprised 28.3% of total assets
and 29.5% of earning assets. At December 31, 2011, investment securities comprised 22.8% of
total assets and 23.7% of earning assets. At December 31, 2012 and 2011, there were no
investment securities classified as held-to-maturity. Securities classified as available-for-sale
were $125,714,000 and $88,660,000 for the 2012 and 2011 respective year ends. Changes in the
fair value of available-for-sale securities (e.g., unrealized holding gains or losses) are reported as
13
“other comprehensive
comprehensive income or loss within shareholders’ equity until realized.
income (loss),” net of
tax, and carried as accumulated other
The increase in investments during 2012 was funded by additional deposits and FHLB advances.
The increase in investments was the result of a strategy to increase balance sheet liquidity and to
increase earning assets.
The Bank utilizes the investment portfolio to manage liquidity and attract funding that requires
collateralization. At December 31, 2012, investment securities with a fair value of $37,752,000,
or 30% of the portfolio, were pledged to secure State of California deposits. This compares to
$31,799,000, or 36% of the portfolio pledged at December 31, 2011. At December 31, 2012 and
2011, securities with a par value of $61,790,000 and $50,100,000, respectively, were callable
within one year.
Investment Securities
December 31,
(in thousands)
2012
2011
2010
Available-for-sale securities:
Government agencies
Mortgage-backed securities - residential
Corporate debt
Municipal securities
Total
$
71,676
$
57,626
$
29,308
3,470
50,263
305
3,823
27,211
-
4,334
-
-
$
125,714
$
88,660
$
33,642
The composition of the investment portfolio by major category and contracted maturities or
repricing of debt investment securities at December 31, 2012 are shown below.
Contractual Maturity or Repricing Schedule and Weighted Average Yields of Securities
As of December 31, 2012
(in thousands)
Available-for-sale:
Government agencies
Mortgage backed securities - residential
Corporate debt
Municipal securities
Within One Year
Amount
Yield
After One But Within
Five Years
Amount
Yield
After Five But Within Ten
Years
After Ten Years
Amount
Yield
Amount
Yield
$
-
-
229
-
229
$
-
-
1.39%
-
1.39%
$
24,081
1.42%
$
31,059
2.11%
$
16,536
-
8,820
-
32,901
$
-
3.16%
-
1.88%
-
41,201
-
72,260
$
-
3.84%
-
3.10%
3,479
-
305
20,320
$
3.09%
4.00%
-
4.85%
3.28%
14
As of December 31, 2012 the Bank did not own securities of any single issuer (other than
U.S. Government agencies) whose aggregate book value was in excess of 10% of the Bank’s
total equity at the time of purchase.
The Bank recorded other than temporary impairment charges of $24,000 on investment
securities during 2010 and none in 2012 and 2011. The securities with impairment charges had
no remaining recorded value at December 31, 2012. The security with an impairment charge was
a pooled trust preferred security.
Loan Portfolio
Loan categories used in presentations in this report conform to the categorizations used by
regulatory Called Reports as described by the instructions issued by the Federal Financial
Interagency Examination Council (FFIEC).
The following table shows the composition of the Bank’s loan portfolio by amount and
percentage of total loans for each major loan category at the dates indicated.
(in thousands)
2012
%
2011
%
December 31,
2010
%
2009
%
2008
%
Loans
Commercial & agricultural (1)
Real Estate - commercial
Real estate - construction and land
Real Estate - single family
Real Estate - multifamily
Consumer & lease financing
LESS:
Allowance for Loan Losses
Deferred Loan Fees
Total Loans, Net
(1) Includes loans secured by farmland.
$
66,245
134,481
10,784
51,659
18,990
556
23.4%
47.6%
3.8%
18.3%
6.7%
0.2%
$
58,809
125,964
11,397
55,183
23,214
1,786
282,715
100%
276,353
21.3%
45.6%
4.1%
20.0%
8.4%
0.6%
100%
$
64,375
112,608
17,052
62,584
27,685
2,808
22.4%
39.2%
5.9%
21.8%
9.6%
1.0%
$
69,520
113,203
12,067
64,914
28,967
4,865
287,112
100%
293,536
23.7%
38.6%
4.1%
22.1%
9.9%
1.7%
100%
(5,749)
(1,089)
(5,411)
(979)
(6,058)
(656)
(4,737)
(521)
20.9%
38.8%
8.1%
21.6%
7.8%
2.8%
100%
$
63,567
118,080
24,594
65,695
23,589
8,635
304,160
(4,016)
(498)
$
275,877
$
269,963
$
280,398
$
288,278
$
299,646
At December 31, 2012, the Bank had approximately $13,102,000 in undisbursed loan
commitments, of which approximately $7,566,000 related to real estate loan types. This
compares with undisbursed commitments of approximately $10,726,000 at December 31, 2011,
of which approximately $3,970,000 related to real estate loan types. At December 31, 2012 and
2011, there were $2,025,000 and $1,835,000, respectively, in standby letters of credit
outstanding.
The following table shows the maturity distribution of Real Estate Construction and Land and
Commercial & Agricultural loans, including rate repricing intervals on variable rate loans, at
December 31, 2012. In the following table, the term variable (generally referring to loans for
which the interest rate will change immediately given a change in the underlying index) also
15
includes loans with adjustable rates (loans for which the rate may change, but which are also
limited in occurrence).
Loan Portfolio Maturity Structure at
December 31, 2012
(in thousands)
Within One
Year
After One But
Within Five
Years
After Five
Years
Total
Real Estate - construction and land
$
7,062
$
3,722
$
-
$
10,784
Commercial & agricultural
13,685
43,140
9,420
66,245
Total
Loans with:
Fixed interest rates
Floating interest rates
Total
$
20,747
$
46,862
$
9,420
$
77,029
$
5,657
$
27,335
$
9,420
$
42,412
15,090
19,527
-
34,617
$
20,747
$
46,862
$
9,420
$
77,029
16
Nonperforming Assets
Nonperforming assets consist of nonperforming loans, investment securities with deferred
interest payments and other real estate owned. Nonperforming loans are those for which the
borrower fails to perform under the original terms of the obligation and consist of nonaccrual
loans and accruing loans past due 90 days or more. Additionally, loans may be restructured due
to deteriorating financial conditions and classified as troubled debt restructurings (TDRs). The
TDR’s may or may not be the same as those listed as nonaccrual or 90 days or more past due
loans.
The following are the nonperforming assets for the respective periods:
Nonperforming Loans and Assets
December 31,
(in thousands)
2012
2011
2010
2009
2008
Nonaccrual loans
$
4,840
$
12,292
$
13,472
$
10,587
$
1,046
Accruing loans past due 90 days or more
-
-
-
1,066
-
Total nonperforming loans
Other real estate owned
Investment securities
Total nonperforming assets
Nonperforming loans to total loans
Nonperforming assets to total assets
4,840
4,845
-
9,685
$
1.72%
2.18%
12,292
1,074
-
13,366
$
4.46%
3.45%
13,472
-
-
13,472
$
4.70%
3.87%
11,653
-
44
11,697
$
3.98%
3.44%
$
1,046
-
42
1,088
0.34%
0.30%
Nonperforming loans at December 31, 2012, consisted of 13 loans to 9 customers.
Nonperforming commercial real estate loans totaled $4,122,000 and loans collateralized by land
or farmland totaled $482,000. The Bank had $350,000 specific allocated allowance for loan
losses to these loans.
Other real estate owned at December 31, 2012 consisted of two properties, one for land and the
other a commercial property.
The Bank actively works with customers to facilitate collection of the loans that are impacted
in the current economic downturn. The Bank may modify terms of the loans to provide the
borrower with relief. These modifications may classify the loan as a TDR. Loans that are
classified as TDRs were $9,628,000 at December 31, 2012, of which $6,393,000 were not
considered nonperforming loans and $3,235,000 are nonperforming loans and are included in the
table above. The $6,393,000 in TDRs that were not considered as nonperforming loans are
primarily collateralized by single family residential or commercial real estate properties.
17
Loan Policies and Procedures
The Bank’s underwriting practices include an analysis of the borrower’s management, current
economic factors, the borrower’s ability to respond and adapt to economic changes outside its
direct control and verification of primary and secondary sources of repayment. Risk within the
loan portfolio is managed through the Bank’s loan policies and underwriting. These policies are
reviewed and approved annually by the Board of Directors.
Management administers the loan policy, ensures proper loan documentation is
maintained and develops the methodology for monitoring loan quality and the level of the
allowance for loan losses and reports on these matters to the Board of Directors' Internal
Asset Review Committee and the Board of Directors.
The Board of Directors' Internal Asset Review Committee meets regularly to evaluate
problem assets and the adequacy of the allowance for loan losses. The Committee also
reviews and makes recommendations to the Board of Directors regarding the adequacy of
the allowance for loan losses, and is responsible for ensuring that an independent third
party reviews the loan portfolio at least annually. Resultant reports are sent to this
Committee and to the Audit Committee.
The Board of Directors' Loan Committee is responsible for enforcement of the loan
policy and has additional responsibilities which include approving loans or loan
relationships for a customer that, when considered in the aggregate, exceed management's
level of loan authority for that customer.
The Board of Directors' Audit Committee also engages a third party to perform a review
of management's asset and liability practices to ensure compliance with the Bank's
policies.
The Board of Directors retains overall responsibility for all loan functions and reviews
material loan relationships.
Loan approvals are granted according to established policies, and lending officers are assigned
approval authorities within their levels of training and experience. Interest rates reflect the risk
inherent in loans and collateral is generally taken for purchase-money financing. Collateral may
consist of accounts receivable, direct assignment of contracts, inventory, equipment and real
estate. Unsecured loans may be made when warranted by the financial strength of the borrower.
With the exception of single-family residential mortgage loans, the maximum rate adjusting
period is generally five years. The Bank has approximately $130 million in loans (46% of the
gross loan portfolio at December 31, 2012) with fixed interest rates or variable interest rates
where the current interest rate is at the contractual floor rate which is above the fully indexed rate
that mature in over 5 years. Guarantees are generally required to help assure repayment.
Management believes that pricing is commensurate with risk for both new and existing
customers.
18
Allowance for Loan Losses
The Bank maintains the allowance for loan losses to provide for inherent losses in the loan
portfolio. Additions to the allowance for loan losses are established through a provision charged
to expense. All loans which are judged to be uncollectible are charged against the allowance
while any recoveries are credited to the allowance. The Bank’s policy is to charge off any known
losses at the time of determination. Any unsecured loan more than 90 days delinquent in
payment of principal or interest and not in the process of collection is charged off in total.
Secured loans are evaluated on a case by case basis to determine the ultimate loss potential to us
subsequent to the liquidation of collateral. In those cases where we believe we are inadequately
protected, a charge-off will be made to reduce the loan balance to a level equal to the liquidation
value of the collateral.
The Bank’s loan policy provides procedures designed to evaluate and assess the credit risk
factors associated with the loan portfolio, to enable management to assess such credit risk factors
prior to granting new loans and to evaluate the sufficiency of the allowance for loan losses.
Management conducts an assessment of the allowance for loan losses on a monthly basis and
undertakes a more critical evaluation quarterly. At the time of the quarterly review, the Board of
Directors evaluates and formally approves the adequacy of the allowance. The quarterly
evaluation includes an assessment of the following factors: any external loan review and
regulatory examination, estimated probable loss exposure on each pool of loans, concentrations
of credit, value of collateral, the level of delinquent and non-accrual loans, trends in loan
volume, effects of any changes in lending policies and procedures, changes in lending personnel,
current economic conditions at the local, state and national level and a migration analysis of
historical losses and recoveries for the prior eight quarters.
19
The following table sets forth an analysis of the allowance for loan losses and provision for
loan losses for the periods indicated.
Summary of Activity in the Allowance for Loan Losses
(Dollars in thousands)
Year Ended December 31,
Balance at beginning of period
$
5,411
$
6,058
$
4,737
$
4,016
$
3,621
2012
2011
2010
2009
2008
Charge-offs:
Commercial & agricultural
Real estate - commercial
Real estate - construction and land
Real Estate - single family
Real Estate - multifamily
Consumer & lease financing
Total loans charged-off
Recoveries:
Commercial & agricultural
Real estate - commercial
Real estate - construction and land
Real Estate - single family
Real Estate - multifamily
Consumer & lease financing
Total recoveries
Net loans charged-off
83
1,157
871
971
-
64
3,146
31
56
-
25
-
12
124
3,022
82
2,250
1,081
33
784
104
4,334
12
-
25
-
-
-
37
4,297
1,987
-
270
242
-
56
2,555
-
-
14
-
-
2
16
2,539
2,147
-
-
807
-
31
2,985
56
-
-
-
-
-
56
2,929
431
-
-
-
-
27
458
168
-
-
-
-
-
168
290
Provision for loan losses
Allowance for loan losses - end of period
3,360
5,749
$
3,650
5,411
$
3,860
6,058
$
3,650
4,737
$
685
4,016
$
Loans:
Average loans outstanding during period, net
of unearned income
Total loans at end of period, net of unearned income
Ratios:
Net loans charged-off to average net loans
Net loans charged-off to total loans
Allowance for loan losses to average net loans
Allowance for loan losses to total loans
Net loans charged-off to beginning allowance for loan losses
Net loans charged-off to provision for loan losses
$
$
275,505
281,626
$
$
279,405
275,374
$
287,929
286,456
$
$
299,932
293,014
$
$
279,140
303,661
1.10%
1.07%
2.09%
2.04%
55.85%
89.94%
1.54%
1.55%
1.94%
1.96%
70.93%
117.73%
0.88%
0.89%
2.10%
2.11%
53.60%
65.78%
0.98%
1.00%
1.58%
1.62%
72.93%
80.25%
0.10%
0.10%
1.44%
1.32%
8.01%
42.34%
20
The following table summarizes the allocation of the allowance for loan losses by loan
category and the amount of loans in each category as a percentage of total loans in each category
as of the end of each year presented. The allocated and unallocated portions of the allowance for
loan losses are available to the entire portfolio.
Allocation of Allowance for Loan Losses
Year Ended December 31,
2012
2011
2010
2009
2008
(in thousands)
Commercial & agricultural
Real estate - commercial
Real estate - construction
and land
Real estate - single family
Real estate - multifamily
Consumer & lease financing
Other qualitative factors
Unallocated
Total
Allowance
Allocation
$ 734
2,547
148
251
82
6
960
1,021
$ 5,749
Amount of
Category
Loans to
Total Loans
Allowance
Allocation
23.4% 852
47.6% 3,230
3.8% 180
18.3% 91
6.7% 82
0.2% 16
960
-
100% $ 5,411
Amount of
Category
Loans to
Total Loans
21.3%
45.6%
4.1%
20.0%
8.4%
0.6%
100%
Amount of
Category
Loans to
Total Loans
22.4%
39.2%
5.9%
21.8%
9.6%
1.0%
100%
Allowance
Allocation
$ 1,485
1,402
1,891
63
87
60
960
110
$ 6,058
Allowance
Allocation
$ 1,634
1,094
94
379
176
104
960
296
$ 4,737
Amount of
Category
Loans to Total
Loans
23.7%
38.6%
4.1%
22.1%
9.9%
1.7%
100%
Amount of
Category
Loans to Total
Loans
20.9%
38.8%
8.1%
21.6%
7.8%
2.8%
100%
Allowance
Allocation
1,024
707
533
88
328
322
735
279
$ 4,016
The changes from year to year for the allocation by loan category are attributable to the growth
of the category and management’s assessment of the quality of the individual loans within the
category. The other qualitative factors allocation represents various qualitative factors in the
determination of the adequacy of the allowance for loan losses. Qualitative factors included the
size of individual credits, concentrations and general economic conditions. Management also
considers these qualitative factors in their evaluation of the adequacy of the allowance for loan
losses.
The changes in the allowance allocations for the loan portfolio categories at December 31,
2012 compared to December 31, 2011 was primarily attributable to the reduction in loans that
were allocated a specific reserve. Specific reserves are highly dependent on the estimated
collateral values compared to loan balances. Specific reserves included in the Allocation of
Allowance for Loan Losses table above were $1,884,000 and $2,514,000 at December 31, 2012
and 2011.
An unallocated allowance can arise from fluctuations in the amount of classified (“credit
grades”) and specific allocations to nonperforming loans between periods. Management and the
Internal Asset Review Committee reviews the amount and reasons for unallocated allowances
and whether it has arisen due to periodic fluctuations in the credit grades or has arisen due to
changes in qualitative factors or changes in lending strategies. If the unallocated allowance has
arisen from other than periodic fluctuations in credit grades or other than potential temporary
factors, then the Internal Asset Review Committee may determine that a portion of the allowance
for loan losses should be reversed.
In addition to the allowance for loan losses, the Bank maintains an allowance for losses for
undisbursed loan commitments, which is reported in other liabilities on the consolidated balance
sheets. This allowance was $30,000 at December 31, 2012 and 2011.
21
Deposits
Deposits are the Bank’s primary source of funds. The Bank employs business development
officers and branch office personnal to solicit commercial demand deposits. The Bank focuses on
obtaining deposits from the communities it serves but occasionally may accept deposits from
outside its market area or receive brokered deposits.
The following table sets forth total deposits by type.
Deposits by Type
Year Ended December 31,
2012
2011
Balance
% of Total
Balance
% of Total
Demand Accounts
Savings and Money Market
Time Deposits
Total Deposits
$
87,607
79,926
173,471
341,004
$
25.69%
23.44%
50.87%
$
56,765
67,656
187,637
312,058
$
18.19%
21.68%
60.13%
The Bank offers local depositors with deposits in excess of $250,000 and who are concerned
with FDIC insurance limits, a deposit placement service through a program called CDARS.
Through this program amounts in excess of $250,000 can be placed in certificates of deposit at
other institutions and the Bank receives reciprocal deposits from other institutions within the
network. At December 31, 2012 and 2011, there were $21,387,000 and $17,728,000 in the
CDARS program, respectively. Although the originating depositors are local customers of the
Bank, this exchange of deposits for the purposes of FFIEC Called Reports, are classified as
brokered deposits. In addition to the CDARS deposits, the Bank had $19,823,000 and
$23,455,000 at December 31, 2012 and 2011 in brokered deposits.
Certain time deposits are received through a program run by the Treasurer of the State of
California to place public deposits with community banks. At December 31, 2012 and 2011, the
State of California had $36,500,000 and $31,500,000 in time deposits with the Bank with
maturities of up to six months and collateralized by investment securities or mortgage loans.
22
The following table sets forth the average balances by deposit category and the interest cost for
the periods indicated.
Average Deposit Balances and Rates Paid
Year Ended December 31,
2012
2011
2010
(in thousands)
Average
Balance
Average
Rate
Average
Balance
Average
Rate
Average
Balance
Average
Rate
Non-interest-bearing demand deposits
Interest-bearing demand deposits
Savings and money market
Time certificates under $100,000
Time certificates $100,000 or over
$
45,730
27,117
74,555
46,570
130,456
$
28,404
25,298
61,814
57,445
134,070
0.11%
0.31%
1.42%
0.70%
$
21,899
24,049
51,951
72,927
107,767
0.23%
0.55%
1.68%
0.91%
Total deposits
$
324,428
0.57%
$
307,031
0.84%
$
278,593
0.36%
0.87%
1.60%
1.25%
1.10%
The following table sets forth the maturities of time certificates of deposit of $100,000 or more
outstanding at December 31, 2012 and 2011.
Maturity of Time Deposits of $100,000 or More
(in thousands)
December 31, 2012
December 31, 2011
Time deposits of $100,000 or more maturing in:
Three months or less
Over three though six months
Over six to twelve months
Over twelve months
Total time deposits of $100,000 or more
$
Borrowings
$
$
52,518
36,430
15,828
24,009
128,785
58,041
29,667
17,415
35,557
140,680
$
Borrowings were $40,000,000 and $13,750,000 at December 31, 2012 and 2011.
Borrowings consisted of FHLB advances. At December 31, 2012 there was $40,000,000 due
within one year. Management utilizes FHLB advances when the terms are deemed advantageous
compared to raising time deposits and to manage overall liquidity.
23
Quantitative and Qualitative Disclosures about Market Risk
The Bank monitors earning asset and deposit levels, developments and trends in interest rates,
liquidity, capital adequacy and marketplace opportunities. Risks associated with interest rate
changes and market risk are managed through the Bank’s Asset Liability and Investment
Policies. These policies are reviewed and approved annually by the Board of Directors, and
oversight is provided by the Asset Liability and Investment Committee of the Board.
Management responds to all of these to protect and possibly enhance net interest income, while
managing risks within acceptable levels as set forth in the Bank’s policies. In addition,
alternative business plans and transactions are contemplated for their potential impact. This
process is known as asset/liability management and is carried out by changing the maturities and
relative proportions of the various types of loans, investments, deposits and borrowings in the
ways described above.
The tool most commonly used to manage and analyze the interest rate sensitivity of a bank is
known as a computer simulation model. To quantify the extent of risks in both the Bank’s
current position and in transactions it might make in the future, the Bank uses a model to
simulate the impact of different interest rate scenarios on net interest income. The hypothetical
impact of both sudden (up to an immediate change in interest rates of +/- 4.00%) and smaller
incremental interest rate changes are modeled at least quarterly, representing the primary means
the Bank uses for interest rate risk management decisions.
The Bank is liability sensitive during a one year period meaning that during one year, more
liabilities will reprice than loans. Liability sensitive banks would expect an increase in the net
interest margin if interest rates decline and the net interest margin to decline when rates increase.
However various factors influence the change in the Bank’s margin when general economic
interest rates change. These factors include, but are not limited to, the growth and mix of new
assets, deposit liabilities and borrowings, the extension or contraction of maturities of new and
renewed assets and liabilities, the particular shape of the general economic yield curve, and the
general influence on pricing by competition in the local market for loans and deposits.
Additionally, when economic rates change, there is an immediate impact from loans that are tied
to a daily “prime lending or other index rate.” The repricing of liabilities to offset this change
requires time for deposits to mature and renew. Based strictly on maturing time deposits and
borrowings, and without the other factors listed above, it normally will take three months for the
Bank to reprice liabilities to offset a prime rate change.
At December 31, 2012, the computer simulation model for a +2.00% interest rate shock,
results in the Bank’s net interest income for a twelve month period to decrease by 10.0% or
$(1,345,000). As current interest rates are at low levels, no meaningful projection is made for a
rate reduction. Computer simulation models use information from the Bank’s loan and deposit
system at a static point in time and bases the repricing of assets and liabilities based on
contractual terms, and certain assumptions as to movements of various rate indexes and
management decisions regarding when to reprice certain portfolios not linked to an index. The
actual results experienced from interest rate changes can vary from the results of the simulation.
24
When preparing its modeling, the Bank makes significant assumptions about the lag in the rate
of change and impacts of optionality in various asset and liability categories. The Bank bases its
assumptions on past experience and comparisons with other banks, and tests the validity of its
assumptions by reviewing actual results with past projected expectations annually. As the impact
of changing interest rates depends on assumptions, actual experience can materially differ from
projections. The purpose of the model is to forecast the likely impact in order for management to
monitor exposures to interest rate risk and make adjustments to the balance sheet if needed.
Liquidity and Capital Resources
Maintenance of adequate liquidity requires that sufficient resources be available at all times to
meet cash flow requirements of the Bank. Liquidity in a banking institution is required primarily
to provide for deposit withdrawals and the credit needs of customers and to take advantage of
lending and investment opportunities as they arise. A bank may achieve desired liquidity from
both assets and liabilities. Cash and deposits held in other banks, federal funds sold, other short
term investments, maturing loans and investments, payments of principal and interest on loans
and investments, and potential loan sales are sources of asset liquidity. Deposit growth and
access to credit lines established with correspondent banks, primarily with the FHLB, Federal
Reserve and access to brokered certificates of deposits are sources of liability liquidity. The
Bank reviews its liquidity position on a regular basis based upon its current position and
expected trends of loans and deposits. Management believes that the Bank maintains adequate
sources of liquidity to meet its liquidity needs.
The Bank’s liquid assets, defined as cash, deposits with banks, Federal funds sold and
unpledged investment securities, totaled $109,916,000 and $65,151,000 at December 31, 2012
and December 31, 2011, respectively, and constituted 24.7% and 16.8%, respectively, of total
assets on those dates. The increase in liquid assets was attributable to a decision to increase the
Bank’s investment portfolio in 2010.
At December 31, 2012 the Bank had $128,917,000 in borrowing lines of credit from the FHLB
and correspondent banks with $40,000,000 in outstanding advances from the FHLB that mature
in 2013. At December 31, 2011, these lines of credit available were $102,698,000 with
$13,750,000 in FHLB advances outstanding.
The Board of Directors recognizes that a strong capital position is vital to growth, continued
profitability, and depositor and investor confidence. The policy of the Board of Directors is to
maintain sufficient capital at not less than the “well-capitalized” thresholds established by
banking regulators. However, in the current economic and regulatory environment the Bank has
maintained capital ratios in excess of regulatory requirements.
Shareholders’ equity also includes the Bank’s accumulated other comprehensive income
(loss), net of taxes of $1,558,000 at December 31, 2012 and $961,000 at December 31, 2011.
Other comprehensive income (loss) reflects the fair value adjustment, net of tax, of investment
securities classified as available-for-sale. This will fluctuate based on the amount of securities
classified as available-for-sale and changes in market interest rates. Total shareholders’ equity
was $62,870,000 at December 31, 2012, $61,009,000 at December 31, 2011.
25
Federal regulations establish guidelines for calculating “risk-adjusted” capital ratios and
minimum ratio requirements. Under these regulations, banks are required to maintain a total risk-
based capital ratio of 8.0% and Tier 1 risk-based capital (primarily shareholders’ equity) of at
least 4.0% of risk-weighted assets. The Bank had total and Tier 1 risk-based capital ratios of
18.4% and 17.1%, respectively, at December 31, 2012, and was “well-capitalized” under the
regulatory guidelines. The Bank’s total and Tier 1 risk-based capital ratios were 20.0% and
18.7%, respectively, at December 31, 2011.
In addition, regulators have adopted a minimum leverage ratio standard for Tier 1 capital to
average assets. The minimum ratio for top-rated institutions may be as low as 3%. However,
regulatory agencies have stated that most institutions should maintain ratios at least 1 to
2 percentage points above the 3% minimum. As of December 31, 2012, the Bank’s leverage ratio
was 13.4%, while as of December 31, 2011, the Bank’s leverage ratio was 14.5%. Capital levels
for the Bank remain above established regulatory capital requirements.
On August 4, 2011, the Bank redeemed all shares of its Fixed Rate Non-cumulative Perpetual
Preferred Stock, Series A and related warrant for common stock. On December 19, 2008, the
Bank received $8,500,000 and issued 8,500 shares of Fixed Rate Non-cumulative Perpetual
Preferred Stock, Series A and a warrant representing the purchase rights to 239,212 shares of
common stock (the “Warrant”) to the United States Department of the Treasury (the “Treasury”)
as part of the Treasury’s Capital Purchase Program (“CPP”). All requirements under the CPP
were terminated with the redemption of the preferred stock and warrant.
On August 4, 2011, as part of the Small Business Lending Fund (“SBLF”), the Bank entered
into a Small Business Lending Fund Securities Purchase Agreement (“SBLF Purchase
Agreement”) with the United States Department of the Treasury (“Treasury”). Under the SBLF
Purchase Agreement, the Bank received $13,750,000 and issued 13,750 shares of preferred stock
series B to the Treasury. $8,500,000 of the funds was used to redeem the outstanding Series A
shares. The preferred stock series B shares qualify as Tier 1 capital and will pay quarterly
dividends. The initial dividend is 5%. The dividend rate can fluctuate between 1% and 5% until
December 31, 2013 based on the growth in qualified small business loans. After December 31,
2013, the dividend is fixed until September 30, 2016 at which time it increases to an annual rate
of 9%.
Quarterly dividends are paid out of retained earnings. The Bank has paid $0.09 or $427,000 in
quarterly dividends on common stock during 2012 and 2011. The California Financial Code
restricts total dividend payment of any bank in any calendar year without permission of the
California Department of Financial Institutions, to the lesser of (1) the bank’s retained earnings
or (2) the bank’s net income for its last three fiscal years, less distributions made to shareholders
during the same three-year period. At December 31, 2012, future dividends are subject to the
foregoing restrictions and approval. Additionally, the Bank has paid quarterly dividends on the
CPP preferred stock up until August 2011, when it was redeemed, and has paid dividends on the
SBLF preferred stock since its issuance in August 2011.
Although
in excess of requirements and
notwithstanding the requirements of the California Financial Code, the Board of Directors
the Bank’s regulatory capital ratios are
26
reviews and declares dividends on a quarterly basis and there is no assurance that future
dividends will be declared.
Impact of Inflation
The primary impact of inflation on the Bank is its effect on interest rates. The Bank’s primary
source of income is net interest income, which is affected by changes in interest rates. The Bank
attempts to limit the impact of inflation on its net interest margin through management of rate-
sensitive assets and liabilities and analyses of interest rate sensitivity. The effect of inflation on
premises and equipment as well as on noninterest expenses has not been significant for the
periods presented.
27
SUMMIT STATE BANK AND SUBSIDIARY
CONSOLIDATED FINANCIAL STATEMENTS
AS OF DECEMBER 31, 2012 AND 2011
AND FOR THE YEARS ENDED
DECEMBER 31, 2012, 2011 AND 2010
AND
REPORTS OF INDEPENDENT REGISTERED PUBLIC
ACCOUNTING FIRMS
28
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Board of Directors and Shareholders
Summit State Bank
We have audited the accompanying consolidated balance sheet of Summit State Bank (the
“Bank”) as of December 31, 2012, and the related consolidated statements of income,
comprehensive income, changes in shareholders’ equity, and cash flows for the years then
ended. These consolidated financial statements are the responsibility of the Bank’s
management. Our responsibility is to express an opinion on these consolidated financial
statements based on our audit.
We conducted our audit in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Those standards require that we plan and
perform the audit to obtain reasonable assurance about whether the consolidated financial
statements are free of material misstatement. The Bank is not required to have, nor were we
engaged to perform, an audit of its internal control over financial reporting. Our audit
included consideration of internal control over financial reporting as a basis for designing
audit procedures that are appropriate in the circumstances, but not for the purpose of
expressing an opinion on the effectiveness of the Bank’s internal control over financial
reporting. Accordingly, we express no such opinion. An audit also includes 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, as well as evaluating the overall consolidated financial statement
presentation. We believe that our audit provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present fairly, in all
material respects, the consolidated financial position of Summit State Bank as of
December 31, 2012, and the consolidated results of its operations and its cash flows for the
year then ended in conformity with accounting principles generally accepted in the United
States of America.
San Francisco, California
March 12, 2013
29
29
Report of Independent Registered Public Accounting Firm
The Board of Directors and Shareholders
Summit State Bank
Santa Rosa, California
We have audited the accompanying consolidated balance sheet of Summit State Bank as of December 31, 2011, and
the related consolidated statements of income, comprehensive income, shareholders' equity, and cash flows for each
of the two years in the period ended December 31, 2011. These consolidated financial statements are the
responsibility of Summit State Bank’s management. Our responsibility is to express an opinion on these consolidated
financial statements 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 audit to obtain reasonable assurance about
whether the consolidated financial statements are free of material misstatement. The Company is not required to
have, nor were we engaged to perform, an audit of its internal control over financial reporting. Our audit included
consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate
in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the Company's internal
control over financial reporting. Accordingly, we express no such opinion. An audit includes examining, on a test
basis, evidence supporting the amounts and disclosures in the consolidated financial statements. An audit also
includes assessing the accounting principles used and significant estimates made by management, as well as
evaluating the overall consolidated financial statement presentation. We believe that our audits provide a reasonable
basis for our opinion.
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the
financial position of Summit State Bank as of December 31, 2011, and the results of its operations and its cash flows
for each of the two years in the period ended December 31, 2011, in conformity with U.S. generally accepted
accounting principles.
Costa Mesa, California
March 19, 2012
Crowe Horwath LLP
30
SUMMIT STATE BANK AND SUBSIDIARY
CONSOLIDATED BALANCE SHEETS
(In thousands except share and per share data)
December 31,
2012
December 31,
2011
ASSETS
Cash and due from banks
Total cash and cash equivalents
$
19,979
19,979
$
8,290
8,290
Time deposits with banks
Available-for-sale investment securities - amortized cost of $123,026
in 2012 and $87,001 in 2011
Loans, less allowance for loan losses of $5,749
in 2012 and $5,411 in 2011
Bank premises and equipment, net
Investment in Federal Home Loan Bank stock, at cost
Goodwill
Other Real Estate Owned
Accrued interest receivable and other assets
2,977
125,714
275,877
5,160
2,265
4,119
4,845
3,960
-
88,660
269,963
6,731
2,190
4,119
1,074
6,598
Total assets
$
444,896
$
387,625
LIABILITIES AND
SHAREHOLDERS' EQUITY
Deposits:
Demand - non interest-bearing
Demand - interest-bearing
Savings
Money market
Time deposits, $100,000 and over
Other time deposits
Total deposits
Federal Home Loan Bank (FHLB) advances
Accrued interest payable and other liabilities
Total liabilities
$
58,548
29,059
23,257
56,669
128,785
44,686
341,004
$
31,022
25,743
20,201
47,455
140,680
46,957
312,058
40,000
1,022
382,026
13,750
808
326,616
Shareholders' equity
Preferred stock, no par value; 20,000,000 shares authorized;
shares issued and outstanding - 13,750 Series B in 2012 and 2011;
per share redemption of $1,000 for total liquidation preference of $13,750
Common stock, no par value; shares authorized - 30,000,000 shares; issued
and outstanding 4,744,720 at December 31, 2012 and December 31, 2011
Retained earnings
Accumulated other comprehensive income
13,666
36,396
11,250
1,558
13,666
36,352
10,030
961
Total shareholders' equity
Total liabilities and shareholders' equity
62,870
444,896
$
$
61,009
387,625
The accompanying notes are an integral part of these audited consolidated financial statements.
31
SUMMIT STATE BANK AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF INCOME
(In thousands except per share data)
Year Ended December 31,
(In thousands except for earnings per share data)
2012
2011
2010
Interest income:
Interest and fees on loans
Interest on federal funds sold
Interest on investment securities and deposits in banks
Dividends on FHLB stock
Total interest income
Interest expense:
Deposits
FHLB advances
Total interest expense
Net interest income before provision for loan losses
Provision for loan losses
Net interest income after provision for loan losses
Non-interest income:
Service charges on deposit accounts
Rental income
Net securities gains
Net gain (loss) on sale of other real estate owned
Loan servicing, net
Other-than-temporary impairment loss
Total impairment loss
Loss recognized in other comprehensive income (loss)
Net impairment loss recognized in earnings
Other income:
Building legal settlement
Other income
Non-interest expense:
Total non-interest income
Salaries and employee benefits
Occupancy and equipment
Other expenses
Total non-interest expense
Income before provision for income taxes
Provision for income taxes
Net income
Less: preferred dividends
Net income available for common stockholders
$
15,022
-
3,234
22
18,278
$
16,055
5
2,611
7
18,678
$
17,466
26
1,384
10
18,886
1,847
182
2,029
16,249
3,360
12,889
519
499
728
(89)
29
-
-
-
1,363
449
3,498
5,303
1,509
3,709
10,521
5,866
2,418
2,589
339
2,928
15,750
3,650
12,100
514
534
754
75
26
-
-
-
-
23
1,926
5,135
1,601
3,498
10,234
3,792
1,564
3,056
497
3,553
15,333
3,860
11,473
401
529
150
11
40
(44)
20
(24)
-
156
1,263
4,788
1,598
3,167
9,553
3,183
1,376
$
3,448
$
2,228
$
1,807
$
521
2,927
$
651
1,577
$
552
1,255
Basic earnings per common share
Diluted earnings per common share
$
$
0.62
0.62
$
$
0.33
0.33
$
$
0.26
0.26
Basic weighted average shares of common stock outstanding
Diluted weighted average shares of common stock outstanding
4,745
4,746
4,745
4,745
4,745
4,779
The accompanying notes are an integral part of these audited consolidated financial statements.
32
SUMMIT STATE BANK AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(In thousands)
December 31,
2012
December 31,
2011
December 31,
2010
Net income
$
3,448
$
2,228
$
1,807
Change in securities available-for-sale:
Unrealized holding gains on available-for-sale securites
arising during the period
Reclassification adjustment for (gains) realized in net income
on available-for-sale securities
Net unrealized gains
Income tax expense
Total other comprehensive income
1,757
2,243
313
(728)
(754)
(150)
1,029
(432)
597
1,489
(626)
863
163
(69)
94
Comprehensive income
$
4,045
$
3,091
$
1,901
The accompanying notes are an integral part of these audited consolidated financial statements.
33
SUMMIT STATE BANK AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY
(In thousands except per share data)
Preferred Stock and
Common Stock
Warrant
Amount
Common Stock
Shares
Amount
Retained
Earnings
Accumulated
Other
Comprehensive
Income (Loss)
Total
Shareholders'
Equity
Balance, January 1, 2010
$
8,611
4,745
$
36,275
$
10,615
$
4
$
55,505
Net income
Other comprehensive income
Stock-based compensation expense
Preferred stock dividends
Accretion of preferred stock discount
Cash dividends - $.36 per share
128
36
1,807
(424)
(128)
(1,709)
Balance, December 31, 2010
8,739
4,745
36,311
10,161
Net income
Other comprehensive income
Stock-based compensation expense
Preferred stock dividends
Redemption of preferred stock and retirement of warrants
Issuance of preferred stock, net of issuance costs
Accretion of preferred stock discount
Cash dividends - $.36 per share
(8,803)
13,666
64
41
2,228
(587)
(64)
(1,708)
Balance, December 31, 2011
13,666
4,745
36,352
10,030
Net income
Other comprehensive income
Stock-based compensation expense
Preferred stock dividend
Cash dividends - $0.36 per share
44
3,448
(521)
(1,707)
94
98
863
961
597
1,807
94
36
(424)
-
(1,709)
55,309
2,228
863
41
(587)
(8,803)
13,666
-
(1,708)
61,009
3,448
597
44
(521)
(1,707)
Balance, December 31, 2012
$
13,666
4,745
$
36,396
$
11,250
$
1,558
$
62,870
The accompanying notes are an integral part of these audited consolidated financial statements.
34
SUMMIT STATE BANK AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS
Year Ended December 31,
(In thousands)
2012
2011
2010
Cash flows from operating activities:
Net income
Adjustments to reconcile net income to net
$
3,448
$
2,228
$
1,807
cash from operating activities:
Depreciation and amortization
Securities amortization and accretion, net
Building legal settlement
Net increase (decrease) in deferred loan fees
Provision for loan losses
Net securities impairment loss recognized in earnings
(Gain) Loss on sale of other real estate owned
Net securities gains
Net change in accrued interest
receivable and other assets
Net change in accrued interest
payable and other liabilities
Stock-based compensation expense
Net cash from operating activities
Cash flows from investing activities:
Increase in time deposits in banks
Purchases of available-for-sale investment
securities
Proceeds from sales of available-for-sale
investment securities
Proceeds from calls and maturities of available-for-sale
investment securities
Purchase of Federal Home Loan Bank stock
Proceeds from the redemption of Federal
Home Loan Bank stock
Net change in loans
Purchases of bank premises and equipment, net
Proceeds on sale of other real estate owned
Proceeds from building legal settlement
Net cash from (used in) investing activities
710
591
(1,515)
110
3,360
-
89
(728)
2,206
214
44
8,529
(2,977)
1,078
-
-
323
3,650
-
(75)
(754)
150
161
41
6,802
-
766
-
-
307
3,860
24
(11)
(150)
(435)
125
36
6,329
-
(111,315)
(85,985)
(27,577)
5,197
70,230
(180)
105
(15,754)
(139)
2,510
2,515
(49,808)
5,270
27,625
-
424
2,281
(190)
3,182
-
2,350
19,274
-
328
3,641
(349)
82
-
(47,393)
(2,251)
(Continued)
35
SUMMIT STATE BANK AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS
Year Ended December 31,
(In thousands)
2012
2011
2010
Cash flows from financing activities:
Net increase (decrease) in demand, NOW, savings
and money market deposits
Net change in certificates of deposit
Net change in short term FHLB advances
Repayment of long term FHLB advances
Issuance of preferred series B, net
Redemption of preferred series A, net
Retirement of warrants
Dividends paid on common stock
Dividends paid on preferred stock
Net cash from financing activities
43,112
(14,166)
33,250
(7,000)
-
-
-
(1,707)
(521)
52,968
22,494
9,587
1,750
-
13,678
(8,500)
(315)
(1,708)
(587)
36,399
7,743
7,981
(8,120)
-
-
-
-
(1,709)
(424)
5,471
Net change in cash and cash equivalents
11,689
(4,192)
9,549
Cash and cash equivalents at beginning
of year
8,290
12,482
2,933
Cash and cash equivalents at end of period
$
19,979
$
8,290
$
12,482
Supplemental disclosure of cash flow
information:
Cash paid during the period for:
Interest
Income taxes
Noncash investing activities:
Transfer from loans to other real estate owned
$
2,077
$
-
$
$
2,954
1,470
$
$
3,538
2,060
$
6,370
$
4,181
$
71
The accompanying notes are an integral part of these audited consolidated financial statements.
36
SUMMIT STATE BANK AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1.
SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
General
On January 15, 1999, Summit State Bank (the “Bank”) received authority to transact business as a
California state-chartered commercial bank and is subject to regulation, supervision and examination by the
California Department of Financial Institutions and the Federal Deposit Insurance Corporation. The Bank
was organized under a charter granted by the Department of Savings and Loan of the State of California
under the name Summit Savings. The Bank was incorporated on December 20, 1982. The Bank converted
to a federal savings bank under a charter granted by the Office of Thrift Supervision on May 24, 1990. The
Bank provides a variety of banking services to individuals and businesses in its primary service area of
Sonoma County, California. The Bank's branch locations include Santa Rosa, Petaluma, Rohnert Park and
Healdsburg. The Bank offers depository and lending services primarily to meet the needs of its business
and individual clientele. These services include a variety of transaction, money market, savings and time
deposit account alternatives. The Bank's lending activities are directed primarily towards commercial real
estate, construction and business loans. The Bank utilizes its subsidiary Alto Service Corporation for its
deed of trust services.
The accounting and reporting policies of the Bank and its subsidiary conform with accounting principles
generally accepted in the United States of America and prevailing practices within the banking industry.
Principles of Consolidation
The consolidated financial statements include the accounts of the Bank and its wholly-owned subsidiary,
Alto Service Corporation. All significant intercompany accounts and transactions have been eliminated in
consolidation.
Reclassification
Some items in the prior year financial statements were reclassified to conform to the current presentation.
Reclassifications had no effect on prior year net income or shareholders’ equity.
Use of Estimates
The preparation of financial statements in conformity with U.S. Generally Accepted Accounting Principles
requires management to make estimates and assumptions. These estimates and assumptions affect the
reported amounts of assets and liabilities at the date of the financial statements and the reported amounts of
revenues and expenses during the reporting period. Actual results could differ from these estimates. The
allowance for loan losses, goodwill impairment and fair values of investment securities and other financial
instruments are particularly subject to change.
Cash and Cash Equivalents
For the purpose of the consolidated statement of cash flows, the Bank considers cash and due from banks
with original maturities under 90 days and Federal funds sold to be cash equivalents. Generally, Federal
funds are sold for one-day periods. Net cash flows are reported for customer loan and deposit transactions,
time deposits in banks and short-term borrowings with an original maturity of 90 days or less.
37
Investment Securities
Investments are classified into the following categories:
Available-for-sale securities, reported at fair value, with unrealized gains and losses
excluded from earnings and reported, net of taxes, as accumulated other comprehensive
income (loss) within shareholders' equity.
Held-to-maturity securities, which management has the positive intent and ability to hold
to maturity, reported at amortized cost, adjusted for the accretion of discounts and
amortization of premiums.
Management determines the appropriate classification of its investments at the time of purchase and may
only change the classification in certain limited circumstances. All transfers between categories are
accounted for at fair value.
Gains or losses on the sale of investment securities are recorded on the trade date and are computed on the
specific identification method. Interest earned on investment securities is reported in interest income, net
of applicable adjustments for accretion of discounts and amortization of premiums on the level yield
method.
Management evaluates securities for other-than-temporary impairment (“OTTI”) on at least a quarterly
basis, and more frequently when economic or market conditions warrant such an evaluation. For securities
in an unrealized loss position, management considers the extent and duration of the unrealized loss, and the
financial condition and near-term prospects of the issuer. Management also assesses whether it intends to
sell, or it is more likely than not that it will be required to sell, a security in an unrealized loss position
before recovery of its amortized cost basis. If either of the criteria regarding intent or requirement to sell is
met, the entire difference between amortized cost and fair value is recognized as impairment through
earnings. For debt securities that do not meet the aforementioned criteria, the amount of impairment is split
into two components as follows: 1) OTTI related to credit loss, which must be recognized in the income
statement and 2) OTTI related to other factors, which is recognized in other comprehensive income or loss.
The credit loss is defined as the difference between the present value of the cash flows expected to be
collected and the amortized cost basis.
Investment in Federal Home Loan Bank Stock
In order to borrow from the Federal Home Loan Bank of San Francisco (FHLB), the Bank is required to
maintain an investment in the capital stock of the FHLB. The investment is carried at cost and is generally
redeemable at par. Both cash and stock dividends are reported as income.
Loans
Loans that management has the intent and ability to hold for the foreseeable future or until maturity are
stated at principal balances outstanding, net of deferred loan origination fees and costs and the allowance
for loan losses, adjusted for accretion of discounts or amortization of premiums. Interest is accrued daily
based upon outstanding loan balances. However, for all loan classes, when in the opinion of management,
loans are considered to be impaired and the future collectability of interest and principal is in serious doubt,
loans are placed on nonaccrual status and the accrual of interest income is suspended. Any interest
previously accrued, but unpaid, is charged against income. Payments received are applied to reduce
principal to the extent necessary to ensure collection. Subsequent payments on these loans, or payments
received on nonaccrual loans for which the ultimate collectability of principal is not in doubt, are applied
first to earned but unpaid interest and then to principal.
Substantially all loan origination fees, commitment fees, direct loan origination costs and purchase
premiums and discounts on loans are deferred and recognized in interest income using the level yield
38
method, to be amortized to interest income over the contractual term of the loan. The unamortized balance
of deferred fees and costs is reported as a component of net loans.
Non-accrual loans and loans past due 90 days still on accrual include both smaller balance homogeneous
loans that are collectively evaluated for impairment and individually classified impaired loans. A loan is
moved to non-accrual status in accordance with the Bank’s policy, typically after 90 days of non-payment.
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.
Allowance for Loan Losses
The allowance for loan losses is a valuation allowance for probable incurred credit losses. Loan losses are
charged against the allowance when management believes the un-collectability of a loan balance is
confirmed. Loans or portions of loans are charged off when there is a distinct probability of loss identified.
A distinct probability of loss exists when it has been determined that any remaining sources of repayment
are not sufficient to cover all outstanding principal. The probable loss is immediately calculated based on
the value of the remaining sources of repayment and charged to the allowance for loan losses. Subsequent
recoveries, if any, are credited to the allowance. Management estimates the allowance balance required
using past loan loss experience, the nature and volume of the portfolio, information about specific borrower
situations and estimated collateral values, economic conditions, and other factors. Allocations of the
allowance may be made for specific loans, but the entire allowance is available for any loan that, in
management’s judgment, should be charged-off.
A loan is impaired when, based on current information and events, it is probable that the Bank will be
unable to collect all amounts due according to the contractual terms of the loan agreement. Commercial &
agricultural, real estate-commercial, real estate-construction and land, and real estate-multifamily loans are
individually evaluated for impairment. Large groups of smaller balance homogeneous loans such as real
estate-single family units and consumer & lease financing are collectively evaluated for impairment, and
accordingly, they are not separately identified for impairment disclosures. Impaired loans are measured on
the present value of expected future cash flows discounted at the loan’s original effective interest rate. As a
practical expedient, impairment may be measured based on the loan’s observable market price or the fair
value of the collateral if the loan is collateral dependent. When the measure of the impaired loan is less
than the recorded investment in the loan, the impairment is recorded through an allocation of a portion of
the allowance for loan losses. Loans, for which the terms have been modified granting concessions to the
borrower that the Bank would not otherwise consider, and for which the borrower is experiencing financial
difficulties, are considered troubled debt restructurings and classified as impaired. Troubled debt
restructurings are measured at the present value of estimated future cash flows using the loan’s effective
interest rate at inception.
The allowance consists of specific and general components. The specific component relates to loans that
are individually classified as impaired and substandard or doubtful. The general component covers loans
that are both non-impaired and non-classified and is based on historical loss experience adjusted for
qualitative factors. The historical loss experience is determined by portfolio segment and is based on the
actual loss history experienced by the Bank over the most recent three years. This actual loss experience is
supplemented with other economic factors based on the risks present for each portfolio segment. These
economic factors include consideration of the following: levels of and trends in delinquencies and
impaired loans; levels of and trends in charge-offs and recoveries; trends in volume and terms of loans;
effects of any changes in risk selection and underwriting standards; other changes in lending policies,
procedures, and practices; experience, ability, and depth of lending management and other relevant staff;
national and local economic trends and conditions; industry conditions; and effects of changes in credit
concentrations. The following portfolio segments have been identified: commercial & agricultural, real
estate mortgage loans and consumer & lease financing. Real estate mortgage loans have been further
39
classified according to the following risk characteristics: commercial, construction and land, single family
units and multifamily units. Loan categories used in presentations in this report conform to the
categorizations used by regulatory Called Reports as described by the instructions issued by the Federal
Financial Interagency Examination Council (FFIEC).
Commercial & Agricultural Loans - Commercial & Agricultural credit is extended to commercial
customers for use in normal business operations to finance working capital needs, equipment purchases, or
other projects. The majority of these borrowers are customers doing business within our geographic
regions. These loans are generally underwritten individually and secured with the assets of the company
and the personal guarantee of the business owners. Commercial & Agricultural loans are made based
primarily on the historical and projected cash flow of the borrower and the underlying collateral provided
by the borrowers.
Commercial & Multifamily Real Estate Loans - Commercial & multifamily real estate loans are subject to
underwriting standards and processes similar to commercial loans. These loans are viewed primarily as
cash flow loans and the repayment of these loans is largely dependent on the successful operation of the
property. Loan performance may be adversely affected by factors impacting the general economy or
conditions specific to the real estate market such as geographic location and property type.
Construction and Land Real Estate Loans - Construction and Land Real Estate Loans are extended to
qualified commercial and individual customers and are underwritten and secured by the assets of the
company or individual. Commercial construction credits may also be secured with personal guarantees of
the business owner. Credits are underwritten to meet the general credit policy criteria for current and
projected cash flow coverage and loan-to-value. Terms for Construction and Land loans are typically of
shorter duration and have more restrictive advance rates than similar commercial credit or single family
residences. Both types of credit may be refinanced to a long –term loan upon completion of construction.
The majority of these credits are with customers doing business within the Bank’s geographic region.
Consumer & Lease Financing Loans - Consumer and Lease Financing loans are primarily comprised of
loans made directly to consumers. These loans have a specific underwriting matrix which consists of
several factors including debt to income, type of collateral and loan to collateral value, credit history and
relationship to the borrower. Consumer and Lease Financing lending uses risk-based pricing in the
underwriting process.
Single Family Residential Loans - Single family residential mortgage loans represent loans to consumers
for the purchase or refinance of a residence. These loans are generally financed up to 30 years, and in most
cases, are extended to borrowers to finance their primary residence. Real estate market values at the time
of origination directly affect the amount of credit extended, and in the event of default, subsequent changes
in these values may impact the severity of losses. Additionally, commercial loans may be categorized as
Single Family Residential if the loan is secured by a mortgage on a home. These loans are underwritten as
described in Commercial and Agricultural Loans above and have terms such as interest rates and maturities
as a standard Commercial Loan.
The Bank is subject to periodic examinations by its federal and state regulatory examiners and may be
required by such regulators to recognize additions to the allowance for loan losses based on their
assessment of credit information available to them at the time of their examinations. The process of
assessing the adequacy of the allowance for loan losses is necessarily subjective. Further, and particularly
in times of economic downturns, it is reasonably possible that future credit losses may exceed historical
loss levels and may also exceed management’s current estimates of incurred credit losses inherent within
the loan portfolio. As such, there can be no assurance that future charge-offs will not exceed
management’s current estimate of what constitutes a reasonable allowance for credit losses.
Loan Servicing
Accounting standards require separately recognized servicing assets and servicing liabilities to be initially
measured at fair value, The Bank has elected to continue to amortize its servicing assets over the loan
service period with periodic impairment assessment. The Bank’s servicing assets at December 31, 2012 and
40
2011 were $23,000 and $26,000 respectively, and consist of the servicing of loans guaranteed by the Small
Business Administration (SBA) totaling $2,153,000 and $2,932,000 at December 31, 2012 and 2011,
respectively.
Servicing fee income which is reported on the income statement as loan servicing, net is recorded for fees
earned for servicing loans. The fees are based on a contractual percentage of the outstanding principal; or a
fixed amount per loan and are recorded as income when earned. The amortization of SBA loan servicing
rights is netted against loan servicing fee income. Gross servicing fees totaled $29,000, $26,000 and
$40,000 for the years ended December 31, 2012, 2011 and 2010. Late fees and ancillary fees related to
loan servicing are not material.
Valuation of Goodwill
Goodwill and intangible assets acquired in a purchase business combination and determined to have an
indefinite useful life are not amortized, but tested for impairment at least annually. The Bank has selected
September 30 as the date to perform the annual impairment test. Intangible assets with definite useful lives
are amortized over their estimated useful lives to their estimated residual values. Goodwill is the only
intangible asset with an indefinite life on our balance sheet.
Management assesses the carrying value of our goodwill at least annually in order to determine if this
intangible asset is impaired. In reviewing the carrying value of our goodwill, we assess the recoverability
of such assets by evaluating the fair value of the related business unit. If the carrying amount of goodwill
exceeds its fair value, an impairment loss is recognized for the amount of the excess and the carrying value
of goodwill is reduced accordingly. Any impairment would be required to be recorded during the period
identified.
The annual evaluation of goodwill for impairment uses various estimates and assumptions. The market
price of the Bank’s common stock at the close of business on December 31, 2012 was $6.75 per common
share compared to a book value of $10.37 per common share. The Bank believes the lower market price in
relation to book value is due to the overall decline in the financial industry sector and is not specific to the
Bank. At September 30, 2012 with the adoption of AU 2012-02 – Intangibles – Goodwill and Other (Topic
350), management performed an assessment of qualitative factors to determine if it is more likely than not
that the fair value of the Bank is less than its carrying value. Based on the assessment it was determined
that the implied fair value for the Bank is sufficiently above the book value to support the current carrying
value of goodwill. As the Bank’s stock price per common share is currently less than its book value per
common share, it is reasonably possible that management may conclude that goodwill, totaling $4.1 million
at December 31, 2012, is impaired as a result of a future assessment. If our goodwill is determined to be
impaired, the related charge to earnings could be material.
Other Real Estate
Other real estate includes real estate acquired in full or partial settlement of loan obligations. When
property is acquired, any excess of the Bank's recorded investment in the loan balance and accrued interest
income over the estimated fair market value of the property, less costs to sell, is charged against the
allowance for loan losses. A valuation allowance for losses on other real estate, if needed, is maintained to
provide for declines in value. The allowance is established through a provision for losses on other real
estate which is included in other expenses. Subsequent gains or losses on sales or write-downs resulting
from impairment are recorded in other income or expenses as incurred. Operating costs after acquisition
are expensed and any rental income from the properties are recorded as income. There was $4,845,000 and
$1,074,000 in other real estate owned at December 31, 2012 and 2011, respectively.
Bank Premises and Equipment
Land is carried at cost. Buildings, furniture, fixtures, and equipment are carried at cost less accumulated
depreciation. Depreciation is determined using the straight-line method over the estimated useful lives of
the related assets. The useful lives of buildings are estimated to be 39 years and furniture, fixtures and
41
equipment are estimated to be 3 to 15 years. Leasehold improvements are amortized over the estimated
useful life of the asset or the term of the related lease, whichever is shorter. When assets are sold or
otherwise disposed of, the cost and related accumulated depreciation 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.
The Bank evaluates premises and equipment for financial impairment as events or changes in
circumstances indicate that the carrying amount of such assets may not be fully recoverable.
Income Taxes
The Bank files its income taxes on a consolidated basis with its subsidiary. The allocation of income tax
expense (benefit) represents each entity's proportionate share of the consolidated provision for income
taxes. Income tax expense is the total of the current year income tax due or refundable and the change in
deferred tax assets and liabilities.
Deferred tax assets and liabilities are recognized for the tax consequences of temporary differences
between the reported amounts of assets and liabilities and their tax basis. Deferred tax assets and liabilities
are adjusted for the effects of changes in tax laws and rates on the date of enactment. A valuation
allowance, if needed, reduces deferred tax assets to the amount expected to be realized. On the
consolidated balance sheet, net deferred tax assets are included in accrued interest receivable and other
assets.
A tax position is recognized as a benefit only if it is "more likely than not" that the tax position would be
sustained in a tax examination, with a tax examination being presumed to occur. The amount recognized is
the largest amount of tax benefit that is greater than 50% likely of being realized on examination. For tax
positions not meeting the "more likely than not" test, no tax benefit is recorded.
The Bank recognizes interest and/or penalties related to income tax matters in income tax expense. The
Bank has not accrued any potential interest and penalties as of December 31, 2012 and December 31, 2011
and for the three years ended December 31, 2012 for uncertainties related to income taxes.
Earnings Per Common Share
Basic earnings per common share (EPS), which excludes dilution, is computed by dividing income
available to common shareholders by the weighted-average number of common shares outstanding for the
period. Diluted earnings per share reflects the potential dilution that could occur if contracts to issue
common stock, such as stock options, result in the issuance of common stock which shares in the earnings
of the Bank. Stock options for 160,166, 179,319 and 138,166 shares of common stock were not considered
in computing diluted earnings per share for 2012, 2011 and 2010 because they were anti-dilutive. No
warrant for shares of common stock was considered in computing diluted earnings per share for 2011 and
2010 because it was anti-dilutive. The warrant was retired in 2011 with no common stock issued.
42
The factors used in the earnings per common share computation follow:
(in thousands except earnings per share)
2012
2011
2010
Basic
Net income available for common shareholders
$
2,927
$
1,577
$
1,255
Weighted average common shares outstanding
4,745
4,745
4,745
Basic earnings per common share
$
0.62
$
0.33
$
0.26
Diluted
Net income available for common shareholders
$
2,927
$
1,577
$
1,255
Weighted average common shares
outstanding for basic earnings per
common share
Add: Dilutive effects of assumed exercises of
stock options and warrants
Average shares and dilutive potential common
shares
Diluted earnings per common share
4,745
1
4,745
-
4,745
34
4,746
0.62
$
4,745
0.33
$
4,779
0.26
$
Stock Based Compensation
Compensation cost is recognized for stock options granted to employees, based on the fair value of these
awards at the date of grant. A Black-Scholes model is utilized to estimate the fair value of stock options.
Compensation cost is recognized over the required service period, generally defined as the vesting period.
Adoption of New Accounting Standards
In July 2012, the FASB issued an accounting standard update, AU 2012-02 – Intangibles – Goodwill and
Other (Topic 350). The amendments in this Update allow an entity to first assess qualitative factors to
determine whether it is necessary to perform a quantitative impairment test. Under these amendments, an
entity would not be required to calculate the fair value of an indefinite-lived intangible asset unless the
entity determines, based on qualitative assessment, that it is not more likely than not, the indefinite-lived
intangible asset is impaired. The amendments include a number of events and circumstances for an entity
to consider in conducting the qualitative assessment. This guidance is effective for annual and interim
impairment tests performed for fiscal years beginning after September 15, 2012. Early adoption is
permitted. In fiscal year 2012, the Bank performed an assessment of qualitative factors and determined it
was not necessary to perform a quantitative impairment test over goodwill.
In February 2013, the FASB issued an accounting standard update, AU 2013-02 – Other Comprehensive
Income (Topic 220). The amendments in this Update supersede and replace the presentation requirements
for reclassifications out of accumulated other comprehensive income in ASUs 2011-05 (issued in June
2011) and 2011-12 (issued in December 2011) for all public and private organizations. The amendments
would require an entity to provide additional information about reclassifications out of accumulated other
comprehensive income. This Accounting Standards Update is the final version of Proposed Accounting
Standards Update 2012-240 – Comprehensive Income (Topic 220) which has been deleted. This guidance
is effective prospectively for reporting periods beginning after December 15, 2012.
Operating segments
While the Bank’s chief decision makers monitor the revenue streams of the Bank’s various products and
services, operations are managed and financial performance is evaluated on a bank-wide basis. Operating
segments are aggregated into one segment as operating results for all segments are similar.
43
2.
INVESTMENT SECURITIES
The amortized costs and estimated fair value of investment securities at December 31, 2012 and 2011
consisted of the following:
(in thousands)
Securities available-for-sale:
Government agencies
Mortgage-backed securities - residential
Corporate debt
Municipal securities
Total securities available-for-sale
(in thousands)
Securities available-for-sale:
Government agencies
Mortgage-backed securities - residential
Corporate debt
Total securities available-for-sale
December 31, 2012
Amortized Cost
Gross Unrealized
Gains
Gross
Unrealized
Losses
Estimated Fair
Value
$
71,271
3,304
48,140
311
123,026
$
$
535
166
2,301
-
3,002
$
$
$
(130)
-
(178)
(6)
(314)
$
$
71,676
3,470
50,263
305
125,714
December 31, 2011
Amortized Cost
Gross Unrealized
Gains
Gross
Unrealized
Losses
Estimated Fair
Value
$
$
56,397
3,643
26,961
87,001
$
1,246
180
567
1,993
$
$
(17)
-
(317)
(334)
$
$
$
57,626
3,823
27,211
88,660
Net unrealized gains on available-for-sale investment securities totaling $2,688,000, $1,659,000 and
$170,000 are recorded, net of $1,130,000, $698,000 and $72,000 in tax expense, as accumulated other
comprehensive income within shareholders' equity at December 31, 2012, 2011 and 2010, respectively.
In 2012, proceeds from the sale of available-for-sale securities totaled $5,197,000 and proceeds from calls
of securities with unamortized gains or losses totaled $5,284,000, with gross gains of $750,000 and gross
losses of $23,000. Proceeds from the sale of available-for-sale securities were $5,270,000 and $2,350,000
with gross gains of $755,000 and $150,000 for the years ended December 31, 2011 and 2010.
44
There were two investment securities in a continuous unrealized loss position greater than 12 months at
December 31, 2012. At December 31, 2012, the Bank held 53 investment securities which were in an
unrealized loss position for less than twelve months. Management periodically evaluates each investment
security for other than temporary impairment, relying primarily on industry analyst reports and observation
of market conditions and interest rate fluctuations. All of the impairment appearing in the investment
securities portfolio valuations is considered to be temporary, other than $24,000 the Bank recorded in other
than temporary impairment losses (OTTI) in the consolidated statements of income in 2010 on an
investment in pooled trust preferred securities. The measured impairment in the securities values is
primarily attributable to changes in short term interest rates, market shifts of the Treasury yield curve and
other variable market and economic conditions. The measured impairment in securities values did not result
from any significant or persistent deterioration in the underlying credit quality of any of the investments.
The securities portfolio consists primarily of debt securities with non-contingent contractual cash flows.
Full realization of the principal balance is expected upon final maturity. Management has the intent and
ability to hold the securities until recovery of the carrying value, which could be at the final maturity.
Investment securities with unrealized losses at December 31, 2012 and 2011 are summarized and classified
according to the duration of the loss period as follows:
(in thousands)
Debt Securities:
Government agencies
Corporate debt
Municipal securities
(in thousands)
Debt Securities:
Government agencies
Corporate debt
December 31, 2012
Less than 12 Months
12 Months or More
Total
Fair Value
Unrealized Losses
Fair Value
Unrealized Losses
Fair Value
Unrealized Losses
$
$
28,403
8,978
305
37,686
$
$
(130)
(152)
(6)
(288)
$
-
464
-
464
$
$
-
(26)
-
(26)
$
December 31, 2011
$
$
28,403
9,442
305
38,150
$
$
(130)
(178)
(6)
(314)
Less than 12 Months
12 Months or More
Total
Fair Value
Unrealized Losses
Fair Value
Unrealized Losses
Fair Value
Unrealized Losses
$
5,983
8,736
14,719
$
$
(17)
(317)
(334)
$
-
$
-
-
$
-
$
-
$
-
$
5,983
8,736
14,719
$
$
(17)
(317)
(334)
$
45
The amortized cost and estimated fair value of investment securities at December 31, 2012 by contractual
maturity 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 year through five years
After five years through ten years
After ten years
Investment securities not due at a
single maturity date:
Mortgage-backed securities - residential
Available for Sale
Amortized Cost
$
228
18,171
75,424
25,899
119,722
Estimated
Fair Value
$
229
18,451
77,293
26,271
122,244
3,304
3,470
$
123,026
$
125,714
Investment securities with amortized costs totaling $38,280,000 and $30,444,000 and estimated fair values
totaling $38,754,000 and $31,799,000 were pledged to secure State of California deposits at December 31,
2012 and 2011 (see Note 6).
3.
LOANS
Loans at year end were as follows:
(in thousands)
Real estate mortgage loans collateralized by:
Commercial & agricultural
Real estate - commercial
Real estate - construction and land
Real estate - single family
Real estate - multifamily
Consumer & lease financing
December 31,
2012
December 31,
2011
$
66,245
134,481
10,784
51,659
18,990
556
$
58,809
125,964
11,397
55,183
23,214
1,786
$
$
276,353
(979)
(5,411)
269,963
$
282,715
(1,089)
(5,749)
275,877
Deferred loan fees, net
Allowance for loan losses
$
46
Changes to the allowance for loan losses were as follows:
(in thousands)
Year Ended December 31, 2012
Balance at
December 31,
2011
Provision
for loan
losses
Charge-
offs
Recoveries
$
$
$
$
$
$
$
$
(in thousands)
Year Ended December 31, 2011
Balance at
December 31,
2010
Provision
for loan
losses
Charge-
offs
Recoveries
Balance at
December 31,
2011
$
$
$
$
$
Commercial & agricultural
Real estate - commercial
Real estate - construction and land
Real estate - single family
Real estate - multifamily
Consumer & lease financing
Other qualitative factors
Unallocated
Total
Commercial & agricultural
Real estate - commercial
Real estate - construction and land
Real estate - single family
Real estate - multifamily
Consumer & lease financing
Other qualitative factors
Unallocated
Total
852
3,230
180
91
82
16
960
-
5,411
1,485
1,402
1,891
63
87
60
960
110
6,058
(66)
418
839
1,106
-
42
-
1,021
3,360
(563)
4,078
(655)
61
779
60
-
(110)
3,650
(83)
(1,157)
(871)
(971)
-
(64)
-
-
(3,146)
(82)
(2,250)
(1,081)
(33)
(784)
(104)
-
-
(4,334)
Balance at
December 31,
2012
$ 734
2,547
148
251
82
6
960
1,021
5,749
$
852
3,230
180
91
82
16
960
-
5,411
31
56
-
25
-
12
-
-
124
12
-
25
-
-
-
-
-
37
$
$
$
$
$
47
The following table presents the balance in the allowance for loan losses and loan balances by class and
based on impairment method:
(in thousands)
Commercial & agricultural
Real estate - commercial
Real estate - construction and land
Real estate - single family
Real estate - multifamily
Consumer & lease financing
Other qualitative factors
Unallocated
Total
(in thousands)
Commercial & agricultural
Real estate - commercial
Real estate - construction and land
Real estate - single family
Real estate - multifamily
Consumer & lease financing
Other qualitative factors
Unallocated
Total
December 31, 2012
Allowance for Loan Losses:
Loans:
Individually
Evaluated for
Impairment
Collectively
Evaluated for
Impairment
Total Ending
Allowance Balance
Loans
Individually
Evaluated for
Impairment
Loans Collectively
Evaluated for
Impairment
Total Ending
Loans Balance
$
-
$
734
$
734
$
1,575
$
64,670
$
66,245
1,709
-
175
-
-
-
-
838
148
76
82
6
960
1,021
2,547
148
251
82
6
960
1,021
12,624
288
3,063
-
-
-
-
121,857
10,496
48,596
18,990
556
-
-
134,481
10,784
51,659
18,990
556
-
-
$
1,884
$
3,865
$
5,749
$
17,550
$
265,165
$
282,715
December 31, 2011
Allowance for Loan Losses:
Loans:
Individually
Evaluated for
Impairment
Collectively
Evaluated for
Impairment
Total Ending
Allowance Balance
Loans
Individually
Evaluated for
Impairment
Loans Collectively
Evaluated for
Impairment
Total Ending
Loans Balance
$
-
$
852
$
852
$
5,462
$
53,347
$
58,809
2,514
-
-
-
-
-
-
716
180
91
82
16
960
-
3,230
180
91
82
16
960
-
14,068
1,094
2,461
-
64
-
-
111,896
10,303
52,722
23,214
1,722
-
-
125,964
11,397
55,183
23,214
1,786
-
-
$
2,514
$
2,897
$
5,411
$
23,149
$
253,204
$
276,353
The recorded investment in the aforementioned disclosure and the next several disclosures do not include
accrued interest receivable and net deferred fees because such amounts are not considered material.
Accrued interest receivable for the total loan portfolio was $1,034,000 and $1,088,000 and net deferred
loan fees was $1,089,000 and $979,000 as of December 31, 2012 and 2011.
48
The following table presents loans individually evaluated for impairment by class of loans as of
December 31, 2012:
(in thousands)
With no related allowance recorded:
Commercial & agricultural
Real estate - commercial
Real estate - construction and land
Real estate - single family
Real estate - multifamily
Consumer & lease financing
Subtotal
With an allowance recorded:
Commercial & agricultural
Real estate - commercial
Real estate - construction and land
Real estate - single family
Real estate - multifamily
Consumer & lease financing
Subtotal
Unpaid
Principal
Balance
Recorded
Investment
Allowance for
Loan Losses
Allocation
$
1,575
4,086
288
1,132
-
-
7,081
$
1,575
4,086
288
1,081
-
-
7,030
-
$
-
-
-
-
-
-
-
8,538
-
2,681
-
-
11,219
-
8,538
-
1,982
-
-
10,520
-
1,709
-
175
-
-
1,884
Total
$
18,300
$
17,550
$
1,884
49
The following table presents loans individually evaluated for impairment by class of loans as of
December 31, 2011:
(in thousands)
With no related allowance recorded:
Commercial & agricultural
Real estate - commercial
Real estate - construction and land
Real estate - single family
Real estate - multifamily
Consumer & lease financing
Subtotal
With an allowance recorded:
Commercial & agricultural
Real estate - commercial
Real estate - construction and land
Real estate - single family
Real estate - multifamily
Consumer & lease financing
Subtotal
Unpaid
Principal
Balance
$
5,462
8,034
1,094
2,461
-
64
17,115
-
6,034
-
-
-
-
6,034
Recorded
Investment
$
5,462
8,034
1,094
2,461
-
64
17,115
-
6,034
-
-
-
-
6,034
Allowance for
Loan Losses
Allocation
$
-
-
-
-
-
-
-
-
2,514
-
-
-
-
2,514
Total
$
23,149
$
23,149
$
2,514
50
The following table presents loans individually evaluated for impairment by class of loans as of
December 31, 2012:
(in thousands)
With no related allowance recorded:
Commercial & agricultural
Real estate - commercial
Real estate - construction and land
Real estate - single family
Real estate - multifamily
Consumer & lease financing
Subtotal
With an allowance recorded:
Commercial & agricultural
Real estate - commercial
Real estate - construction and land
Real estate - single family
Real estate - multifamily
Consumer & lease financing
Subtotal
Year Ended December 31, 2012
Average
Impaired Loans
During The
Period
$
5,135
6,556
1,065
1,682
-
5
14,443
-
5,687
-
1,674
-
-
7,361
Interest
Recognized On
Impaired Loans
Cash Basis
Interest Income
Recognized
$
161
114
13
61
-
-
349
$
188
114
12
65
-
-
379
-
218
-
72
-
-
290
-
219
-
76
-
-
295
Total
$
21,804
$
639
$
674
The following table presents information for impaired loans as of December 31:
Average impaired loans during the period
Interest recognized on impaired loans
Cash basis interest income recognized
2011
$
25,913
1,283
1,243
2010
$
13,055
902
834
51
The following tables present the recorded investment in nonaccrual loans and loans past due over 90 days
still on accrual by class of loans:
December 31, 2012
December 31, 2011
(in thousands)
Nonaccrual
Commercial & agricultural
Real Estate - commercial
Real estate - construction and land
Real Estate - single family
Real estate - multifamily
Consumer & lease financing
$
482
4,122
46
190
-
-
Loans Past Due
Over 90 Days
Still Accruing
-
$
-
-
-
-
-
Loans Past Due
Over 90 Days
Still Accruing
-
$
-
-
-
-
-
Nonaccrual
$
1,626
9,751
851
-
-
64
Total
$
4,840
$
-
$
12,292
$
-
The following table presents the aging of the recorded investment in past due loans, based on contractual
loan terms, as of December 31, 2012 by class of loans:
(in thousands)
30 - 59
Days
Past Due
60 - 89
Days
Past Due
Greater Than
90 Days
Past Due
Total
Past Due
Loans Not
Past Due
Commercial & agricultural
Real Estate - commercial
Real estate - construction and land
Real Estate - single family
Real estate - multifamily
Consumer & lease financing
$
175
6,318
-
-
214
14
$
355
582
-
72
-
-
$
-
2,087
-
190
-
-
$
530
8,987
-
262
214
14
$
65,715
125,494
10,784
51,397
18,776
542
Total
$
66,245
134,481
10,784
51,659
18,990
556
Total
$
6,721
$
1,009
$
2,277
$
10,007
$
272,708
$
282,715
The following table presents the aging of the recorded investment in past due loans, based on contractual
loan terms, as of December 31, 2011 by class of loans:
(in thousands)
30 - 59
Days
Past Due
60 - 89
Days
Past Due
Greater Than
90 Days
Past Due
Total
Past Due
Loans Not
Past Due
Commercial & agricultural
Real Estate - commercial
Real estate - construction and land
Real Estate - single family
Real estate - multifamily
Consumer & lease financing
$
330
653
-
225
219
-
$
-
-
-
75
-
-
$
1,626
9,751
851
-
-
64
$
$
$
$
$
$
1,956
10,404
851
300
219
64
$
$
$
$
$
$
56,853
115,560
10,546
54,883
22,995
1,722
Total
$
58,809
125,964
11,397
55,183
23,214
1,786
Total
$
1,427
$
75
$
12,292
$
13,794
$
262,559
$
276,353
Troubled Debt Restructurings
From time to time, the Bank may agree to modify the contractual terms of a borrower’s loan. In cases
where such modifications represent a concession to a borrower experiencing financial difficulty, the
modification is considered a troubled debt restructuring (“TDR”). At December 31, 2012 and 2011, loans
modified in a TDR totaled $9,628,000 and $11,762,000 which are included in the impaired loan disclosures
above. The total TDRs includes $3,235,000 and $5,767,000 that are also included in nonperforming loans
52
at December 31, 2012 and 2011. TDRs had specific loss allocations of $1,252,000 and $2,200,000 as of
December 31, 2012 and 2011.
The terms of certain loans were modified as troubled debt restructurings. The modification of the terms of
such loans included one or a combination of the following: a reduction of the stated interest rate of the loan;
an extension of the maturity date at a stated rate of interest lower than the current market rate for new debt
with similar risk; or a permanent reduction of the recorded investment in the loan.
The Bank has applied the provisions of ASU 2011-02 when defining TDRs as of January 1, 2011. There
were no loans and related allowance for credit losses as of December 31, 2010 related to loans that are now
considered TDRs under ASC 310 for which impairment was previously measured under ASC 450.
The following table presents loans by class modified as troubled debt restructurings that occurred during
the year ending December 31, 2012:
Year Ended December 31, 2012
Number
Of Loans
Pre-Modification
Outstanding Recorded
Investment
Post-Modification
Outstanding Recorded
Investment
(Dollars in thousands)
Troubled Debt Restructurings:
Commercial & agricultural
Real Estate - commercial
Real estate - construction and land
Real Estate - single family
Real estate - multifamily
Consumer & lease financing
Total
1
1
1
2
-
-
5
$
$
10
1,409
53
2,864
-
-
4,336
10
1,409
53
2,091
-
-
3,563
$
$
The troubled debt restructurings described above resulted in additional allowances or charge offs of
$774,000 during the year ended December 31, 2012.
53
There were no loans modified as troubled debt restructurings for which there was a payment default within
twelve months following the modification during the year ended December 31, 2012.
A loan is considered to be in payment default once it is 90 days contractually past due under the modified
terms.
In order to determine whether a borrower is experiencing financial difficulty, an evaluation is performed of
the probability that the borrower will be in payment default on any of its debt in the foreseeable future
without the modification. This evaluation is performed under the Bank’s internal underwriting policy.
Credit Quality Indicators
The Bank categorizes loans into risk categories based on relevant information about the ability of
borrowers to service their debt such as: current financial information, historical payment experience, credit
documentation, public information, and current economic trends, among other factors. The Bank analyzes
loans individually by classifying the loans as to credit risk. This analysis is performed on a quarterly basis
for loans in excess of $250,000. Smaller balances are graded at origination and updated based on payment
status and other information obtained from borrowers. The Bank uses the following definitions for risk
ratings:
SPECIAL MENTION- Loans in this category are considered "criticized" from a regulatory point of view
but are not considered "classified" until the risk classification becomes substandard or worse. Loans in this
category represent above average risk and potential weakness which may, if not corrected, weaken the loan
and threaten repayment at some future date.
SUBSTANDARD- Loans in this category have well defined weakness that jeopardize full repayment of
the debt, although loss does not seem likely. Loss potential does not have to exist in individual loans in the
Substandard classification, but will be apparent in the aggregate. Typically, these loans have not met
repayment plans as agreed. The primary source of repayment may have failed to materialize; repayment
may be dependent on collateral liquidation or other secondary sources. Bankrupt borrowers and those with
continuously past due payments are considered substandard.
DOUBTFUL- Loans in this category have all the characteristics of substandard loans with the added
weakness that payment in full or liquidation in full is highly questionable and improbable. The possibility
of loss is extremely high, but because of certain important and reasonably specific pending factors, which
may work to the strengthening of the loan, its classification as an estimated loss is deferred until the amount
of the loss may be more accurately determined.
PASS- Loans not meeting any of the three criteria above that are analyzed individually as part of the above
described process are considered to be pass rated loans.
54
Based on recent analysis performed, the risk category of loans by class of loans is as follows:
2012
(in thousands)
Commercial & agricultural
Real estate - commercial
Real estate - construction and land
Real estate - single family
Real estate - multifamily
Consumer & lease financing
Pass
$
60,448
121,172
9,938
47,951
18,776
556
Special
Mention
$
4,874
8,121
558
1,065
-
-
Substandard
Doubtful
Not Rated
Total
$
923
5,188
288
2,505
214
-
$
-
-
-
138
-
-
$
-
-
-
-
-
-
$
$
$
$
$
$
66,245
134,481
10,784
51,659
18,990
556
Total
$
258,841
$
14,618
$
9,118
$
138
$
-
$
282,715
2011
(in thousands)
Commercial & agricultural
Real estate - commercial
Real estate - construction and land
Real estate - single family
Real estate - multifamily
Consumer & lease financing
Pass
$
51,221
105,091
10,359
53,278
23,214
1,722
Special
Mention
$
2,531
7,438
-
1,444
-
-
Substandard
Doubtful
Not Rated
Total
$
5,057
13,435
1,038
461
-
64
-
$
-
-
-
-
-
-
$
-
-
-
-
-
$
58,809
125,964
11,397
55,183
23,214
1,786
Total
$
244,885
$
11,413
$
20,055
$
-
$
-
$
276,353
Salaries and employee benefits totaling $238,000, $223,000, and $278,000 have been deferred as loan
origination costs for the years ended December 31, 2012, 2011 and 2010, respectively.
Loans totaling $189,014,000 and $200,873,000 were pledged to secure borrowings with the Federal Home
Loan Bank or State of California time deposits at December 31, 2012 and 2011, respectively (see Notes 6
and 8).
4.
OTHER REAL ESTATE OWNED
Other real estate owned (OREO) at year end December 31, 2012 and 2011 was $4,845,000 and
$1,074,000. No valuation allowance was recorded against the properties. Net losses on sales of OREO in
2012 were $89,000, and net gains on sales of OREO in 2011 and 2010 were $75,000 and $11,000
respectively. Operating income, net of rental expenses on OREO was $216,000, ($93,000) and ($11,000)
for the years ended December 31, 2012, 2011 and 2010.
55
5.
BANK PREMISES AND EQUIPMENT
Bank premises and equipment consisted of the following:
(in thousands)
Land
Building
Furniture, fixtures and equipment
Leasehold improvements
Less accumulated depreciation and
amortization
December 31,
2012
2011
$
1,184
6,354
2,995
1,177
11,710
$
1,184
7,343
2,907
1,154
12,588
(6,550)
$
5,160
(5,857)
6,731
$
Depreciation and amortization included in occupancy and equipment expense totaled $710,000, $763,000
and $766,000 for the years ended December 31, 2012, 2011 and 2010, respectively.
6.
INTEREST-BEARING DEPOSITS
The aggregate amount of maturities of all time deposits is as follows:
Year Ending
December 31,
2013
2014
2015
2016
2017
(in thousands)
$
132,185
24,418
13,223
1,605
2,040
173,471
$
Interest expense recognized on interest-bearing deposits was as follows:
(in thousands)
2012
2011
2010
Year Ended December 31,
Interest bearing demand
Savings
Money market
Time deposits
$
30
27
206
1,584
1,847
$
$
57
76
267
2,189
2,589
$
$
87
79
374
2,516
3,056
$
Time deposits, $100,000 and over included $36,500,000 and $31,500,000 at December 31, 2012 and 2011
of public deposits from the State of California with maturity terms of three to six months. Brokered
deposits included in time deposits were $41,210,000 and $41,183,000 at December 31, 2012 and 2011.
56
7.
BORROWINGS
The Bank has a total of $16,000,000 in Federal funds lines of credit with three correspondent banks at
December 31, 2012. The Bank maintains a letter of credit facility totaling $4,000,000 with a correspondent
bank to guarantee international letters of credit issued to certain customers. There were guarantees of
$2,025,000 and $1,826,000 under this facility as of December 31, 2012 and 2011, respectively. There were
no borrowings outstanding under the Federal funds lines of credit as of December 31, 2012 or 2011.
8.
FEDERAL HOME LOAN BANK ADVANCES
Each advance is payable at its maturity date, with a prepayment penalty for fixed rate advances. The
advances were collateralized by $182,849,000 and $194,418,000 of loans under a blanket lien arrangement
at year-end 2012 and 2011. Based on this collateral the Bank was eligible to borrow up to a total of
$128,917,000 and $102,698,000 of which $88,917,000 and $88,948,000 was available for additional
advances as of December 31, 2012 and 2011.
Advances from the Federal Home Loan Bank were $40,000,000 at December 31, 2012, with maturities
from January 2013 through June 2013 and fixed rates from 0.28% to 0.35%, averaging 0.32%. Advances
were $13,750,000 at December 31, 2011, with maturities from January 2012 through May 2012 and fixed
rates at rates from 0.07% to 4.67%, averaging 2.49%.
9.
INCOME TAXES
The provision for income taxes for the years ended December 31, 2012, 2011 and 2010 consisted of the
following:
(in thousands)
2012
Current
Deferred
Change in valuation allowance
Provision for income taxes
Federal
State
Total
$
$
1,729
52
-
1,781
$
$
703
(66)
-
637
$
$
2,432
(14)
-
2,418
2011
Federal
State
Total
Current
Deferred
Change in valuation allowance
Provision for income taxes
$
416
736
-
1,152
$
$
$
319
101
(8)
412
$
735
837
(8)
1,564
$
2010
Federal
State
Total
$
$
1,562
(276)
90
1,376
$
$
450
(14)
90
526
Current
Deferred
Change in valuation allowance
Provision for income taxes
$
1,112
(262)
-
850
$
57
Deferred tax assets (liabilities) are comprised of the following:
December 31,
2012
2011
(in thousands)
Deferred tax assets:
Allowance for loan losses
Future benefit of state tax deduction
Bank premises and equipment
Other than temporary impairment
Capital loss carryover
Other accruals
Total deferred tax assets
$
1,264
276
1,245
-
82
519
3,386
Deferred tax liabilities:
Federal Home Loan Bank stock dividends
Net unrealized gains on available-for-sale
investment securities
Prepaid expenses and other
(99)
(1,130)
-
$
1,479
106
697
100
82
127
2,591
(87)
(698)
(30)
Total deferred tax liabilities
Valuation allowance
Net deferred tax assets
(1,229)
(82)
2,075
$
(815)
(82)
1,694
$
A deferred tax asset valuation allowance of $82,000 was established for capital losses from other than
temporary impairment charges for California state income tax purposes in 2012 and 2011. The capital loss
carryover of $1,144,000, which can be used to offset future capital gain income, expires on December 31,
2016.
The provision for income taxes differs from amounts computed by applying the statutory Federal income
tax rates to operating income before income taxes. The significant items comprising these differences for
the years ended December 31, 2012, 2011 and 2010 consisted of the following:
(in thousands)
Amount
Rate %
Amount
Rate %
Amount
Rate %
2012
2011
2010
Federal income tax
expense, at
statutory rate
State franchise tax
expense, net of
Federal tax effect and other
Change in deferred tax asset
valuation allowance
Total income tax expense
$
1,994
34.0%
$
1,289
34.0%
$
1,082
34.0%
424
7.2%
283
7.4%
204
-
2,418
$
0.00%
41.2%
(8)
1,564
$
(0.20%)
41.2%
90
1,376
$
6.4%
2.8%
43.2%
The Bank does not have any unrecognized tax benefits at December 31, 2012 and 2011. The Bank does not
expect a significant change in unrecognized tax benefits in the next twelve months. The Bank and its
subsidiary are subject to U.S. federal income tax as well as income tax of the State of California. The Bank
58
is no longer subject to examination by federal taxing authorities for tax years 2008 and prior and by
California taxing authorities for tax years 2007 and prior.
10.
COMMITMENTS AND CONTINGENCIES
Leases
The Bank leases various equipment and branch offices in Santa Rosa, Rohnert Park, Petaluma and
Healdsburg under non-cancelable operating leases. These leases include various renewal and termination
options and rental adjustment provisions. Rental expense included in occupancy and equipment expense
totaled $296,000, $282,000, and $303,000 for the years ended December 31, 2012, 2011 and 2010,
respectively. Future minimum lease payments for the next five years are as follows:
Year Ending
December 31,
2013
2014
2015
2016
2017
(in thousands)
$
220
163
131
60
62
636
$
The Bank has operating leases with third parties for office space in its head office building. The leases are
for periods from five to seven years and contain a provision for one five year renewal option. Rental
income totaled $499,000, $534,000, and $529,000 for the years ended December 31, 2012, 2011 and 20
respectively. Minimum future rental incomes from these operating leases are as follows:
Year Ending
December 31,
2013
2014
2015
2016
2017
(in thousands)
$
505
288
293
139
35
1,260
Federal Reserve Requirements
$
Banks are required to maintain reserves with the Federal Reserve Bank equal to a percentage of their
reservable deposits less vault cash. The reserve requirement was $525,000 and $1,317,000 as of December
31, 2012 and 2011.
Financial Instruments with Off-Balance-Sheet Risk
The Bank is a party to financial instruments with off-balance-sheet risk in the normal course of business in
order to meet the financing needs of its clients and to reduce its own exposure to fluctuations in interest
rates. These financial instruments consist of commitments to extend credit and standby letters of credit.
These instruments involve, to varying degrees, elements of credit and interest rate risk in excess of the
amount recognized on the consolidated balance sheets.
The Bank's exposure to credit loss in the event of nonperformance by the other party for commitments to
extend credit and standby letters of credit is represented by the contractual amount of those instruments.
The Bank uses the same credit policies in making commitments and standby letters of credit as it does for
loans included on the consolidated balance sheets.
59
The contractual amounts of financial instruments with off-balance-sheet risk at year end were as follows:
December 31,
(in thousands)
2012
2011
Commitments to make loans
Unused lines of credit
Standby letters of credit
Fixed
Rate
$
-
3,149
-
Variable
Rate
-
$
9,953
2,025
Fixed
Rate
$
-
1,543
-
Variable
Rate
$
325
9,183
1,835
Commitments to extend credit are agreements to lend to a client 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 some of the commitments are expected to
expire without being drawn upon, the total commitment amounts do not necessarily represent future cash
requirements. The Bank evaluates each client's creditworthiness on a case-by-case basis. The amount of
collateral obtained, if deemed necessary by the Bank upon extension of the credit, is based on
management's credit evaluation of the borrower. Collateral held relating to these commitments varies, but
may include securities, equipment, accounts receivable, inventory and deeds of trust on residential real
estate and income-producing commercial properties.
Standby letters of credit are conditional commitments issued by the Bank to guarantee the performance of a
client to a third party. The credit risk involved in issuing standby letters of credit is essentially the same as
that involved in extending loans to clients. The fair value of the liability related to these standby letters of
credit, which represents the fees received for issuing the guarantees, was not significant at December 31,
2012 and 2011. The Bank recognizes these fees as revenue over the term of the commitment or when the
commitment is used.
At December 31, 2012, real estate loan commitments represent 58% of total commitments and are
generally secured by property with a loan-to-value ratio not to exceed 80%. Commercial loan
commitments represent approximately 42% of total commitments and are generally secured by collateral
other than real estate or are unsecured. The majority of the Bank's commitments have variable interest
rates.
Concentrations of Credit Risk
The Bank's business activity is primarily with clients located within Northern California. Although the
Bank has a diversified loan portfolio, a significant portion of its clients' ability to repay loans is dependent
upon the real estate market and various economic factors within Sonoma County. Generally, loans are
secured by various forms of collateral. The Bank's loan policy requires sufficient collateral be obtained as
necessary to meet the Bank's relative risk criteria for each borrower. The Bank's collateral consists
primarily of real estate, accounts receivable, inventory and other financial instruments.
Correspondent Banking Agreements
The Bank maintains funds on deposit with other federally insured financial institutions under correspondent
banking agreements, and $1,264,000 in deposits were uninsured at December 31, 2012.
60
Contingencies
The Bank is subject to legal proceedings and claims which arise in the ordinary course of business. In the
opinion of management, the amount of ultimate liability with respect to such actions will not materially
affect the consolidated financial condition or results of operations of the Bank.
11.
SHAREHOLDERS' EQUITY
Regulatory Capital
The Bank is subject to certain regulatory capital requirements administered by the Federal Deposit
Insurance Corporation (FDIC). Failure to meet these minimum capital requirements can initiate certain
mandatory and possibly additional discretionary actions by regulators that, if undertaken, could have a
direct material effect on the Bank's financial statements. Under capital adequacy guidelines and the
regulatory framework for prompt corrective action, the Bank must meet specific capital guidelines that
involve quantitative measures of the Bank's assets, liabilities and certain off-balance-sheet items as
calculated under regulatory accounting practices. The Bank's capital amounts and classification are also
subject to qualitative judgments by the regulators about components, risk weightings and other factors.
Quantitative measures established by regulation to ensure capital adequacy require the Bank to maintain
minimum amounts and ratios of total and Tier 1 capital to risk-weighted assets and of Tier 1 capital to
average assets. Each of these components is defined in the regulations. Management believes that the
Bank met all its capital adequacy requirements as of December 31, 2012 and 2011.
The most recent notification from the FDIC categorized the Bank as well capitalized under the regulatory
framework for prompt corrective action. To be categorized as well capitalized, the Bank must maintain
minimum total risk-based, Tier 1 risk-based and Tier 1 leverage ratios as set forth below. There are no
conditions or events since the last notification by the FDIC that management believes have changed the
Bank's category.
61
The Bank's actual and required capital amounts and ratios consisted of the following:
(in thousands)
Tier 1 Leverage Ratio
Summit State Bank
2012
2011
Amount
Ratio
Amount
Ratio
$
57,170
13.4%
$
55,903
14.5%
Minimum requirement for "Well-Capitalized" institution
Minimum regulatory requirement
$
$
21,387
17,110
5.0%
4.0%
$
$
19,325
15,460
5.0%
4.0%
Tier 1 Risk-Based Capital Ratio
Summit State Bank
$
57,170
17.1%
$
55,903
18.7%
Minimum requirement for "Well-Capitalized" institution
Minimum regulatory requirement
$
$
20,050
13,367
6.0%
4.0%
$
$
17,905
11,937
6.0%
4.0%
Total Risk-Based Capital Ratio
Summit State Bank
$
61,367
18.4%
$
59,680
20.0%
Minimum requirement for "Well-Capitalized" institution
Minimum regulatory requirement
$
$
33,417
26,733
10.0%
8.0%
$
$
29,842
23,873
10.0%
8.0%
Dividends
Upon declaration by the Board of Directors, all shareholders of record will be entitled to receive dividends.
The California Financial Code restricts the total dividend payment of any bank in any calendar year without
permission of the California Department of Financial Institutions, to the lesser of (1) the bank's retained
earnings or (2) the Bank's net income for its last three fiscal years, less distributions made to shareholders
during the same three-year period. At December 31, 2012, future dividends are subject to the foregoing
restrictions and approval. Further dividend restrictions are contained in the Preferred Stock purchase
agreement as explained below.
Preferred Stock
On August 4, 2011, the Bank redeemed all shares of its Fixed Rate Non-cumulative Perpetual Preferred
Stock, Series A and related warrant for common stock. On December 19, 2008, the Bank received
$8,500,000 and issued 8,500 shares of Fixed Rate Non-cumulative Perpetual Preferred Stock, Series A and
a warrant representing the purchase rights to 239,212 shares of common stock (the “Warrant”) to the
United States Department of the Treasury (the “Treasury”) as part of the Treasury’s Capital Purchase
Program (“CPP”). All requirements under the CPP were terminated with the redemption of the preferred
stock and warrant.
On August 4, 2011, as part of the Small Business Lending Fund (“SBLF”), the Bank entered into a Small
Business Lending Fund Securities Purchase Agreement (“SBLF Purchase Agreement”) with the United
States Department of the Treasury (“Treasury”). Under the SBLF Purchase Agreement, the Bank received
$13,750,000 and issued 13,750 shares of preferred stock Series B to the Treasury, of which $8,500,000 was
used to redeem Series A shares. The preferred stock Series B shares qualify as Tier 1 capital and will pay
quarterly dividends. The initial dividend is 5%. The dividend rate can fluctuate between 1% and 5%
during the next 4 quarters based on the growth in qualified small business loans.
62
Stock Options
In 1999, the Bank established a stock option plan for which 100,000 shares of common stock are reserved
for issuance to directors and officers under non-statutory agreements. The plan requires that the option
price may not be less than the fair market value of the stock at the date the option is granted, and the stock
must be paid in full at the time the option is exercised. Payment in full for the option price must be made in
cash or with Bank common stock previously acquired by the optionee and held by the optionee for a period
of at least six months. The options expire on dates determined by the Board of Directors, but not later than
ten years from the date of grant. Options vest over a three to five year period. The 1999 stock option plan
has been cancelled with the adoption of the 2007 stock option plan, except for the current options that were
granted under this plan, which totaled 10,666 and 30,666 shares at December 31, 2012 and December 31,
2011.
The Bank’s 2007 Stock Option Plan (stock option plan or the Plan), which is shareholder-approved, permits
the grant of share options to its employees for up to 150,000 shares of common stock. Option awards are
generally granted with an exercise price equal to the market price of the Bank’s common stock at the date
of grant; those option awards have vesting periods of 5 years unless otherwise approved by the Board of
Directors and have 10-year contractual terms. As of December 31, 2012, 500 shares remain available for
future grants under this plan.
The fair value of each option award is estimated on the date of grant using a closed form option valuation
(Black-Scholes) model that uses the assumptions noted in the table below. Expected volatilities are based
on historical volatilities of an index consisting of financial institution stocks which should approximate the
future volatility of the Bank’s common stock. The Bank uses historical data to estimate option exercise and
post-vesting termination behavior. Employee and management options are tracked separately. The expected
term of options granted is based on historical data and represents the period of time that options granted are
expected to be outstanding, which takes into account that the options are not transferable. The risk-free
interest rate for the expected term of the option is based on the U.S. Treasury yield curve in effect at the
time of the grant.
The fair value of options granted was determined using the following weighted-average assumptions as of
the grant date. There were no options granted in 2012.
Risk-free interest rate
Expected term
Expected stock price volatility
Dividend yield
2011
2010
1.3%
7 years
50%
6.7%
2.6%
7 years
36%
5.5%
63
A summary of the activity in the stock option plan for 2012 follows:
Outstanding at beginning of the year
Granted
Exercised
Forfeited or expired
Outstanding at end of the year
Vested or expected to vest
Exercisable at end of year
Shares
180,166
-
-
(20,000)
160,166
160,166
78,366
Weighted
Average
Exercise
Price
Weighted
Average
Remaining
Contractual
Term
Aggregate
Intrinsic Value
$
$
$
$
6.34
-
-
-
6.24
6.24
6.93
7 years
7 years
6 years
$
$
$
8,000
8,000
3,000
No options were exercised during the years ended December 31, 2012, 2011, and 2010.
There were no stock options granted or exercised in 2012. Information related to the stock option plan
during each year that grants occurred follows:
Intrinsic value of options exercised
Cash received from option exercises
Tax benefit realized from option exercises
Weighted average fair value of options granted
2011
2010
$
-
-
-
1.70
$
-
-
-
1.29
As of December 31, 2012, there was $147,000 of total unrecognized compensation costs related to
nonvested stock options granted under the Plan.
12.
OTHER INCOME
Other income in 2012 included income recognition of a legal settlement concerning the Bank’s
headquarters building. Net proceeds received from the settlement were $2,515,000 of which $1,363,000
was recorded as other income, $152,000 was recovery of legal expense and $1,000,000 was recorded as a
reduction in the building’s cost basis.
64
13.
OTHER EXPENSES
Other expenses consisted of the following:
(in thousands)
2012
2011
2010
Year Ended December 31,
Data processing
Professional fees
Director fees and expenses
Advertising and promotion
Deposit and other insurance premiums
Telephone and postage
Other expenses
14.
EMPLOYEE BENEFIT PLAN
401(k) Employee Savings Plan
$
$
$
693
562
554
525
478
62
835
3,709
544
675
520
546
496
67
650
3,498
586
587
317
441
552
90
594
3,167
$
$
$
The Bank has a 401(k) Employee Savings Plan (the "Plan"), qualified under the Internal Revenue Code
(Code), whereby participants may defer a percentage of their compensation, but not in excess of the
maximum allowed under the Code. Bank contributions, as determined by the Board of Directors, are
discretionary and vest immediately. Contributions by the Bank totaled $77,000, $86,000, and $77,000 for
the years ended December 31, 2012, 2011 and 2010, respectively.
15.
RELATED PARTY TRANSACTIONS
During the normal course of business, the Bank enters into loans with related parties, including executive
officers and directors. Other changes are the result of changes in related parties during the year. The
following is a summary of the aggregate activity involving related party borrowers during 2012:
(in thousands)
Balance, January 1, 2012
New borrowings
Amounts repaid
Balance, December 31, 2012
$
$
2,233
8,695
(1,799)
9,129
Undisbursed commitments to related
parties, December 31, 2012
$
233
Included in new borrowings above is $3,471,000 of loans to a director added in 2012.
65
16.
FAIR VALUE
Accounting standards establish a fair value hierarchy which requires an entity to maximize the use of
observable inputs and minimize the use of unobservable inputs when measuring fair value. The standard
describes three levels of inputs that may be used to measure fair value:
Level 1: Quoted prices (unadjusted) for identical assets or liabilities in active markets that the entity
has the ability to access as of the measurement date.
Level 2: Significant other observable inputs other than Level 1 prices such as quoted prices for
similar assets or liabilities; quoted prices in markets that are not active; or other inputs that are
observable or can be corroborated by observable market data.
Level 3: Significant unobservable inputs that reflect a reporting entity’s own assumptions about the
assumptions that market participants would use in pricing an asset or liability.
The fair values of most securities available for sale are determined by matrix pricing, which is a
mathematical technique widely used in the industry to value debt securities without relying exclusively on
quoted prices for the specific securities but rather by relying on the securities’ relationship to other
benchmark quoted securities (Level 2 inputs).
The fair value of impaired loans that are collateral dependent are generally based on real estate appraisals.
These appraisals may utilize a single valuation approach or a combination of approaches including
comparable sales and the income approach. Adjustments are routinely made in the appraisal process by the
appraisers to adjust for differences between the comparable sales and income data available. Such
adjustments are usually significant and typically result in a Level 3 classification of the inputs for
determining fair value.
Estimated fair values are disclosed for financial instruments for which it is practicable to estimate fair
value. These estimates are made at a specific point in time based on relevant market data and information
about the financial instruments. These estimates do not reflect any premium or discount that could result
from offering the Bank's entire holdings of a particular financial instrument for sale at one time, nor do they
attempt to estimate the value of anticipated future business related to the instruments. In addition, the tax
ramifications related to the realization of unrealized gains and losses can have a significant effect on fair
value estimates and have not been considered in any of these estimates.
Because no active market exists for a significant portion of the Bank's financial instruments, fair value
estimates are based on judgments regarding current economic conditions, risk characteristics of various
financial instruments and other factors. These estimates are subjective in nature and involve uncertainties
and matters of significant judgment and therefore cannot be determined with precision. Changes in
assumptions could significantly affect the fair values presented.
The following methods and assumptions were used by the Bank to estimate the fair value of its financial
instruments at December 31, 2012 and 2011:
Cash and cash equivalents: For cash and cash equivalents consisting of cash, due from banks and federal
funds sold, the carrying amount is estimated to be fair value.
Investment securities: For investment securities, fair values are based on quoted market prices, where
available. If quoted market prices are not available, fair values are estimated using quoted market prices
for similar securities and indications of value provided by brokers. The carrying amount of accrued interest
receivable approximates its fair value.
Loans, net of allowance: For variable-rate loans that reprice frequently with no significant change in credit
risk, fair values are based on carrying values. Fair values for other loans are estimated using discounted
cash flow analyses, using interest rates being offered at each reporting date for loans with similar terms to
66
borrowers of comparable creditworthiness (without considering widening credit spreads due to market
illiquidity). The allowance for loan losses is considered to be a reasonable estimate of discount for credit
risk. The carrying amount of accrued interest receivable approximates its fair value.
Federal Home Loan Bank stock: The fair value for Federal Home Loan Bank Stock is not determinable as
there are restrictions on its transferability.
Deposits: The fair values for demand deposits are, by definition, equal to the amount payable on demand at
the reporting date represented by their carrying amount. Fair values for fixed-rate certificates of deposit are
estimated using a discounted cash flow analysis using interest rates being offered at each reporting date for
certificates with similar remaining maturities. The carrying amount of accrued interest payable
approximates its fair value.
Short-term borrowings and long-term debt: The fair values of fixed rate borrowings are estimated using a
discounted cash flow analysis that applies interest rates being offered on similar debt instruments. The fair
values of variable rate borrowings are based on carrying value. The carrying amount of accrued interest
payable approximates its fair value.
Commitments to fund loans/standby letters of credit: The fair values of commitments are estimated using
the fees currently charged to enter into similar agreements, taking into account the remaining terms of the
agreements and the present creditworthiness of the counterparties. The differences between the carrying
value of commitments to fund loans or standby letters of credit and their fair value are not significant and,
therefore, are not included in the following table.
December 31, 2012
December 31, 2011
(in thousands)
Financial assets:
Cash and due from banks
Time deposits
Investment securities
Loans, net of allowance
Investment in FHLB stock
Accrued interest receivable
Financial liabilities:
Deposits
FHLB advances
Accrued interest payable
Carrying
Amount
$
19,979
2,977
125,714
275,877
2,265
2,020
Fair
Value
$
19,979
2,977
125,714
299,197
2,265
2,020
$
341,004
40,000
49
$
341,474
40,000
49
Fair
Value
Hierarchy
Level 1
Level 2
Level 2
Level 3
Level 2
Level 2
Level 2
Level 2
Level 2
Carrying
Amount
$
8,290
-
88,660
269,963
2,190
1,888
Fair
Value
$
8,290
-
88,660
303,539
2,190
1,888
$
312,058
13,750
97
$
312,868
13,893
97
Fair
Value
Hierarchy
Level 1
Level 2
Level 2
Level 3
Level 2
Level 2
Level 2
Level 2
Level 2
67
Assets Measured on a Recurring Basis
Assets measured at fair value on a recurring basis are summarized below:
Fair Value Measurements at December 31, 2012
(In thousands)
Quoted Prices in
Active Markets for
Identical Assets
(Level 1)
Significant Other
Observable Inputs
(Level 2)
Significant
Unobservable
Inputs
(Level 3)
December 31, 2012
Assets:
Government agencies
Mortgage-backed securities - residential
Corporate debt
Municipal securities
Total securities available-for-sale
Assets:
Government agencies
Mortgage-backed securities - residential
Corporate debt
Total securities available-for-sale
$
$
71,676
3,470
50,263
305
125,714
-
$
-
-
$
-
71,676
3,470
50,263
305
125,714
-
$
-
-
$
-
$
$
Fair Value Measurements at December 31, 2011
(In thousands)
Quoted Prices in
Active Markets for
Identical Assets
(Level 1)
Significant Other
Observable Inputs
(Level 2)
Significant
Unobservable
Inputs
(Level 3)
December 31, 2011
$
$
57,626
3,823
27,211
88,660
-
$
-
$
-
$
$
57,626
3,823
27,211
88,660
-
$
-
$
-
There were no significant transfers between Level 1 and Level 2 during 2012 and 2011.
68
Assets Measured on a Non-Recurring Basis
Assets measured at fair value on a non-recurring basis are summarized below:
Assets:
Commercial & agricultural
Real estate - commercial
Real estate - construction and land
Real estate - single family
Real estate - multifamily
Consumer & lease financing
Impaired loans with specific loss allocations
Other real estate owned
Assets:
Commercial & agricultural
Real estate - commercial
Real estate - construction and land
Real estate - single family
Real estate - multifamily
Consumer & lease financing
Impaired loans with specific loss allocations
Other real estate owned
Fair Value Measurements at December 31, 2012
(In thousands)
Quoted Prices in
Active Markets for
Identical Assets
(Level 1)
Significant Other
Observable Inputs
(Level 2)
Significant
Unobservable
Inputs
(Level 3)
$ -
-
-
-
-
-
-
-
-
$ -
-
-
-
-
-
-
-
-
-
$
6,829
-
1,807
-
-
8,636
4,845
13,481
$
Fair Value Measurements at December 31, 2011
(In thousands)
Quoted Prices in
Active Markets for
Identical Assets
(Level 1)
Significant Other
Observable Inputs
(Level 2)
Significant
Unobservable
Inputs
(Level 3)
$ -
-
-
-
-
-
-
-
-
$ -
-
-
-
-
-
-
-
-
$
-
3,520
-
-
-
-
3,520
1,074
4,594
$
December 31, 2012
$ -
6,829
-
1,807
-
-
8,636
4,845
13,481
$
December 31, 2011
$ -
3,520
-
-
-
-
3,520
1,074
4,594
$
Fair value estimates are determined as of a specific point in time utilizing quoted market prices, where
available, or various assumptions and estimates. As the assumptions and estimates change, the fair value of
the financial instruments will change. The use of assumptions and various techniques, as well as the
absence of secondary markets for certain financial instruments, will likely reduce the comparability of
value disclosures between companies.
Impaired loans with specific loss allocations had a principal balance of $10,520,000 with a valuation
allowance of $1,884,000 at December 31, 2012. Impaired loans with specific loss allocations had a
principal balance of $6,034,000 with a valuation allowance of $2,514,000 at December 31, 2011. A
reduction in the provision for loan losses of $112,000 was recognized for impaired loans with specific loss
allocations for the year ended December 31, 2012. An additional provision for loan losses of $1,709,000
was recognized for impaired loans with specific loss allocations for the year ended December 31, 2011.
17.
SUBSEQUENT EVENT
Subsequent events are events or transactions that occur after the consolidated balance sheet date but before
the consolidated financial statements are issued. The Bank recognizes in the consolidated financial
statements the effects of all subsequent events that provide additional evidence about conditions that
existed at the date of the consolidated balance sheet, including these estimates inherent in the process of
preparing the consolidated financial statements. The Bank’s consolidated financial statements do not
69
recognize subsequent events that provide evidence about conditions that did not exist at the date of the
balance sheet but arose after the balance sheet date and before consolidated financial statements are
available to be issued. The Bank has evaluated subsequent events after December 31, 2012 for potential
recognition and disclosure matters.
On January 28, 2013, the Board of Directors declared a $0.09 per common share cash dividend to
shareholders of record at the close of business on February 15, 2013, to be paid on February 23, 2013.
18.
QUARTERLY FINANCIAL DATA (Unaudited)
2012
Earnings Per Common
Share
(in thousands except EPS data)
Interest
Income
Net Interest
Income
Net Income
Basic
Diluted
First quarter
Second quarter
Third quarter
Fourth quarter
$
4,637
4,525
4,446
4,670
$
4,023
3,990
3,989
4,247
$
613
835
977
1,024
$
0.09
0.14
0.19
0.20
$
0.09
0.14
0.19
0.20
2011
Earnings Per Common
Share
Interest
Income
Net Interest
Income
Net Income
Basic
Diluted
First quarter
Second quarter
Third quarter
Fourth quarter
$
4,688
5,068
4,626
4,296
$
3,943
4,315
3,873
3,619
$
477
790
409
552
$
0.07
0.14
0.04
0.08
$
0.07
0.14
0.04
0.08
70
FEDERAL DEPOSIT INSURANCE CORPORATION
Washington, D.C. 20429
FORM 10-K
[X]
[ ]
Annual Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934.
For the Fiscal Year Ended December 31, 2012
Transition Report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 for the transition period from
___ to ___.
FDIC Certificate Number 32203
Summit State Bank
(Exact name of registrant as specified in its charter)
California
(State of incorporation)
94-2878925
(I.R.S. Employee Identification No.)
500 Bicentennial Way, Santa Rosa, California 95403
(Address of principal executive offices)
(707) 568-6000
(registrant’s telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act::
Common Stock, no par value, registered on the NASDAQ Stock Market, LLC
Securities registered pursuant to Section 12(g) of the Act:
None
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes [ ] No
[X]
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or 15(d) of the Exchange Act. Yes [ ]
No [X]
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities
Exchange Act of 1934 during the preceding 12 months and (2) has been subject to such filing requirements for the past 90 days.
Yes [X] 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 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 no accelerated filer or smaller
reporting company. See definition of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2
of the Exchange Act). (Check one)
Large accelerated filer [ ] Accelerated filer [ ] Non-accelerated filer [ ] Smaller reporting company [X]
Indicate by check mark if the registrant is a shell company, in Rule 12b(2) of the Exchange Act. Yes [ ] No [X]
The aggregate market value of the Common Stock held by nonaffiliated was approximately $19,191,000 (based upon the closing
price of shares of the registrant’s Common Stock, no par value, as reported by the NASDAQ Stock Market, LLC on June 30,
2012). The number of shares outstanding of the registrant’s common stock (no par value) at the close of business March 12, 2013
was 4,745,920.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the registrant’s Proxy Statement for the 2012 Annual Meeting of Shareholders to be filed within 120 days of the fiscal
year ended December 31, 2012 are incorporated by reference into Part III.
71
SUMMIT STATE BANK
CROSS REFERENCE INDEX
PART I
Cover ................................................................................................................................71
Cross-Reference Index .......................................................................................................72
Item 1. Business .................................................................................................................74
Information about Summit State Bank ..................................................................74
Services and Financial Products ............................................................................75
Sources of Business ...............................................................................................77
Competition............................................................................................................77
Our Address, Telephone Number and Internet Website ........................................78
Regulation and Supervision ...................................................................................78
Employees ..............................................................................................................87
Item 1A. Risk Factors ........................................................................................................87
Item 1B. Unresolved Staff Comments ...............................................................................95
Item 2. Properties ...............................................................................................................95
Item 3. Legal Proceedings ..................................................................................................95
Item 4. Submission of Matters to a Vote on Security Holders ..........................................96
PART II
Item 5. Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer
Purchases of Equity Securities ...............................................................................96
Item 6. Selected Financial Data .........................................................................................96
Item 7. Management’s Discussion and Analysis of Financial Condition and Results
of Operations ..........................................................................................................97
Item 7A. Quantitative and Qualitative Disclosures about Market Risk .............................97
Item 8. Financial Statements and Supplementary Data .....................................................97
Item 9. Changes in and Disagreements with Accountants on Accounting and
Financial Disclosure..............................................................................................97
Item 9A. Controls and Procedures .....................................................................................97
Item 9B. Other Information ...............................................................................................98
PART III
Item 10. Directors, Executive Officers and Corporate Governance ..................................98
Item 11. Executive Compensation .....................................................................................99
Item 12. Security Ownership of Certain Beneficial Owners and Management and
Related Stockholder Matters ...............................................................................99
Item 13. Certain Relationships and Related Transactions, and Director Independence ..100
Item 14. Principal Accountant Fees and Services ............................................................100
72
PART IV
Item 15. Exhibits, Financial Statement Schedules ...........................................................101
Signatures .........................................................................................................................102
Exhibit Index ....................................................................................................................104
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SUMMIT STATE BANK
ANNUAL REPORT ON FORM 10-K
PART I
DISCLOSURE REGARDING FORWARD-LOOKING STATEMENTS
This report contains certain statements that are forward-looking within the meaning of the
Private Securities Litigation Reform Act of 1995. These statements are not guarantees of future
performance and involve certain risks, uncertainties and assumptions that are difficult to predict.
Actual outcomes and results may differ materially from those expressed in, or implied by, our
forward-looking statements. Words such as “expects,” “anticipates,” “believes,” “estimates” and
other similar expressions or future or conditional verbs such as “will,” “should,” “would” and
“could” are intended to identify such forward-looking statements. Readers of this annual report
of the Summit State Bank (also referred to as we, us or our) should not rely solely on the
forward-looking statements and should consider all uncertainties and risks throughout the report.
Forward-looking statements, by their nature, are subject to risks, uncertainties and
assumptions. Our future results and shareholder values may differ significantly from those
expressed in these forward-looking statements. You are cautioned not to put undue reliance on
any forward-looking statement. The statements are representative only as of the date they are
made, and we undertake no obligation to update any forward-looking statement. However, your
attention is directed to any further disclosures made on related subjects in any subsequent reports
we may file with the Federal Deposit Insurance Corporation (“FDIC”), including on Forms 10-
K, 10-Q and 8-K, in the event we become required to make such filings.
ITEM 1. BUSINESS
INFORMATION ABOUT SUMMIT STATE BANK
General
Summit State Bank (the “Bank”) is a state-chartered commercial bank operating a traditional
community banking business within our primary service area of Sonoma County in California,
however we consider loans from Marin, Napa and San Francisco counties. We operate through
five offices located in Santa Rosa, Rohnert Park, Healdsburg and Petaluma.
The Bank was incorporated on December 20, 1982 and commenced operations as a California
state-chartered savings and loan in 1982. On January 15, 1999, the Bank received authority to
convert its charter to a California state-chartered commercial bank. On July 13, 2006, the Bank
completed an underwritten initial public offering and listed its stock on the Nasdaq Global
Market under the symbol SSBI. The Bank’s deposits are insured by the FDIC in accordance with
the Federal Deposit Insurance Act and the related regulations.
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We provide a broad array of financial services to small-to medium-sized businesses, and their
owners and employees, professionals and professional associations, entrepreneurs, high net
worth families, foundations, estates and to individual consumers. We believe that our principal
competitive advantages are personal service, flexibility and responsiveness to customer needs.
Our lending activities are primarily focused on commercial real estate, construction, and business
loans to our targeted clientele.
We emphasize relationship banking and we believe we offer our customers many of the
management capabilities of a large financial institution, together with the resourcefulness and
superior customer service of a community bank. Through our branches and the use of
technology, we offer a broad array of deposit products and services for both commercial and
consumer customers, including electronic banking, cash management services and electronic bill
payment. We provide a comprehensive set of loan products, such as commercial loans and
leases, lines of credit, commercial real estate loans, Small Business Administration, or SBA,
loans, residential mortgage loans, home equity lines of credit and construction loans. We believe
that local decision making ensures that our lending process is fast, efficient, and focused on
maintaining our high credit quality and underwriting standards.
The Bank’s only subsidiary is ALTO Service Corporation, which is a wholly owned
subsidiary, incorporated in California. Its purpose is to act as trustee on the Bank’s deeds of trust
and perform reconveyances. The assets of ALTO Service Corporation consist exclusively of cash
on deposit with the Bank. It has no employees and its operations and balance sheet are not
material to the Bank’s consolidated operating income or financial condition.
Services and Financial Products
Deposit Products
The Bank offers a wide range of deposit accounts designed to attract commercial businesses,
professionals, and residents in its primary service area. These accounts include personal and
business checking accounts, money market accounts, time certificates of deposit, sweep accounts
and specialized deposit accounts, including professional accounts, small business “packaged”
accounts, and tiered accounts designed to attract larger deposits, and Keogh and IRA accounts.
Lending Products
The Bank also offers a full complement of lending products designed to meet the specialized
needs of its customers, including commercial and industrial lines of credit and term loans, credit
lines to individuals, equipment loans, real estate and construction loans, small business loans of
which a portion may be guaranteed by the SBA, and business lines of credit. The Bank has the
designation of “Preferred Lender” by the SBA, which allows for expedited loan approval and
funding. The Bank also offers consumer loans, including auto loans, mortgage loans, home
improvement loans, and home equity lines of credit. The Bank offers loans in amounts which
exceed the Bank’s lending limits through participation arrangements with correspondent banks.
On a selective basis, the Bank also offers loans for accounts receivable and inventory financing,
loans to agriculture-related businesses, and equipment and expansion financing programs.
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Brokered Deposits and CDARS
The Bank will accept brokered deposits when it is determined to be advantageous over other
time deposits through its branch system. The Bank is a member of a special network
(Promontory Interfinancial Network) offering a time deposit product called CDARS. When a
customer places a large deposit with the Bank as a network member, the Bank can place the
funds into certificates of deposit issued by other banks in the network in increments of less than
$250,000, so that both principal and interest are eligible for complete FDIC protection. Other
banks do the same thing with their customer funds. The network banks exchange deposits on a
dollar-for-dollar basis, bringing the full amount of the original deposit back to the originating
bank. Because the originating bank comes out “whole,” it can make the full amount of deposits
received available for community lending purposes or other initiatives of its choosing. Deposits
placed using CDARS meet the pass-through insurance coverage guidelines established by the
FDIC and the depositor can obtain up to $25 million in FDIC insurance coverage. The deposits
received by the Bank from other network members in exchange for the Bank’s customers’
deposits placed in the program are reported as brokered deposits for FFIEC Call Report
purposes. Deposit funding raised through the CDARS product can vary significantly between
financial reporting periods. CDARS and other brokered deposits totaled $46,663,000 or 14% of
deposits at December 31, 2012, and $41,183,000 or 13% of deposits at December 31, 2011.
State of California Approved Depository
The Bank is an approved depositary for the deposit of funds of the State of California. These
time deposits are placed by the Treasurer of the State of California and have maturities of three
to six months, and are collateralized by investment securities, mortgage loans or letters of credit
issued by the Federal Home Loan Bank (“FHLB”). These deposits totaled $36,500,000 and
$31,500,000 or 11% and 10% of deposits at December 31, 2012 and 2011.
Internet and Telephone Banking Services
The Bank offers a computerized internet banking system, accessible on the Internet at the
Bank’s website www.summitstatebank.com, that enables its customers to view account
information, access cash management services (including
initiation of automated
clearinghouse payments), make transfers between accounts, pay bills, make loan payments, pre-
schedule deposit transfers and request loan draws, and view both the front and back of cleared
deposit items. The Bank also offers telephone banking services that enable customers to obtain
account information, make transfers between accounts, make stop payments, check cleared
items, and pre-schedule deposit transfers and loan payments. The Bank has an “app” for cellular
phones that allows check image deposits, account inquiries and account transfers.
the
Other Services
Other services which the Bank offers include banking by appointment, online banking
services, direct payroll and social security deposits, letters of credit, access to national automated
teller machine networks, courier services, safe deposit boxes, night depository facilities, notary
services, travelers checks, lockbox, and banking by mail.
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Management evaluates the Bank’s services on an ongoing basis, and adds or discontinues
services based upon customer needs, competitive factors, and the financial and other capabilities
of the Bank. Future services may also be significantly influenced by improvements and
developments in technology and evolving state and federal regulations.
Sources of Business
In marketing its services, the Bank capitalizes on its identity as a local, community bank, with
officers, Directors and shareholders who have business and personal ties to the community.
Small to medium-sized businesses are targeted, as well as accounting, insurance, legal and
medical professionals.
The Bank competes with other financial institutions in its service area through localized
promotional activities, personalized service, and personal contact with potential customers by
Executive Officers, Directors, employees and shareholders. Promotional activities include media
advertising, community advisory groups and Officer participation in community business and
civic groups. Officers and Directors are active members of the community who call personally
on their business contacts and acquaintances in the Sonoma County area to become customers.
The Bank employs business development officers to solicit loans and deposits from local
businesses and professionals.
Competition
The banking business in California generally, and in the Bank’s service area in particular, is
highly competitive with respect to both loans and deposits and is dominated by a relatively small
number of major banks that have offices operating over wide geographic areas. The Bank
competes for deposits and loans with these banks as well as with savings and loan associations,
credit unions, mortgage companies, money market funds, stock brokerage firms, insurance
companies, and other traditional and non-traditional financial institutions.
Major financial institutions with offices in the service area include Bank of America, Wells
Fargo Bank, and JP Morgan Chase. Regional and independent financial institutions with offices
in our service area include, among others, Sonoma Bank (part of Sterling Savings Bank), Luther
Burbank Savings, Exchange Bank, and Westamerica Bank.
The major banks and some of the other institutions have the ability to finance extensive
advertising campaigns and to shift their resources to regions or activities of greater potential
profitability. Many of the competing banks and other institutions offer diversified financial
services which may not be directly offered by the Bank. The major banks also have substantially
more capital and higher lending limits.
The Bank competes for customers’ funds with governmental and private entities issuing debt
or equity securities or other forms of investments which may offer different or higher yields than
those available through bank deposits.
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Existing and future state and federal legislation could significantly affect the Bank’s cost of
doing business, its range of permissible activities, and the competitive balance among major,
regional and independent banks, and other financial institutions. Management cannot predict the
impact these matters may have on commercial banking in general or on the business of the Bank
in particular.
To compete with the financial institutions operating in the Bank’s service area, the Bank relies
upon its independent status to provide flexibility and personalized service to its customers. The
Bank emphasizes personal contacts with potential customers by Executive Officers, Directors
and employees, develops local promotional activities, and seeks to develop specialized or
streamlined services for customers. To the extent customers desire loans in excess of its lending
limits or services not offered by the Bank, the Bank attempts to assist customers in obtaining
such loans or other services through participations with other banks or assistance from
correspondent banks.
Our Address, Telephone Number and Internet Website
Our principal executive offices are located at 500 Bicentennial Way, Santa Rosa, California
95403, and our telephone number is (707) 568-6000. Information about us is available at
www.summitstatebank.com. The information on our website is not incorporated by reference
into and does not form a part of this report.
REGULATION AND SUPERVISION
Overview
The Bank is extensively regulated by federal and state authorities. As a California state-
chartered commercial bank with deposit accounts insured by the FDIC to the maximum amount
permitted by law, the Bank is regulated, supervised and examined by the Commissioner of the
California Department of Financial Institutions (“the Commissioner”) and the FDIC. The Bank
must also comply with certain regulations issued by the FRB. The regulations of the
Commissioner, the FRB and the FDIC govern most aspects of the Bank’s business, including the
making of periodic reports by the Bank, as well as the Bank’s activities relating to dividends,
investments,
loans, borrowings, capital requirements, certain check-clearing activities,
branching, mergers and acquisitions, reserves against deposits, the issuance of securities and
numerous other areas. The Bank is also subject to the requirements and restrictions of various
consumer laws and regulations, as well as applicable provisions of California law, insofar as they
do not conflict with and are not preempted by federal banking laws. Supervision, legal action and
examination of the Bank by the regulatory agencies are generally intended to protect depositors
and are not intended for the protection of shareholders.
Statutes, regulations and policies affecting the banking industry are frequently under review by
the U.S. Congress and state legislatures, and by the federal and state agencies charged with
supervisory and examination authority over banking institutions. Changes in the banking and
78
financial services industry can be expected to occur in the future. Some of the changes may
create opportunities for the Bank to compete in financial markets with less regulation. However,
these changes also may create new competitors in geographic and product markets which have
historically been limited by law to insured depository institutions such as the Bank. Changes in
the statutes, regulations or policies that affect the Bank cannot be predicted and may have a
material effect on the Bank’s business and earnings. In addition, the regulatory agencies which
have jurisdiction over the Bank have broad discretion in exercising their supervisory powers. For
example, the FDIC has authority under federal law to prohibit a state bank from engaging in
banking practices which it considers unsafe and unsound.
The laws of the State of California affect the Bank’s business and operations. The California
Financial Code provides that if the Commissioner believes that a bank is violating its articles of
incorporation or state law, or is engaging in unsafe or injurious business practices, the
Commissioner can order that bank to comply with the law or to cease the unsafe or injurious
practices and has authority to impose civil money penalties. The Commissioner has the power to
suspend or remove bank officers, directors and employees who violate any law or regulation
relating to the business of the bank or breach any fiduciary duty to the bank, engage in any
unsafe and unsound practices related to the business of the bank, or are charged with or
convicted of a felony involving dishonesty or breach of trust. The Commissioner also has
authority to take possession of and to liquidate a bank, to appoint a conservator for a bank and to
appoint the FDIC as receiver for a bank.
The FDIC can pursue an enforcement action against a bank for unsafe and unsound practices
in conducting its business, or for violations of any law, rule or regulation or provision, any
consent order with any agency, any condition imposed in writing by the agency, or any written
agreement with the agency. Enforcement actions may include the imposition of a conservator or
receiver, cease-and-desist orders and written agreements, the termination of insurance of
deposits, the imposition of civil money penalties and removal and prohibition orders against
institution-affiliated parties.
In addition to the regulation and supervision outlined above, banks must be prepared for
judicial scrutiny of their lending and collection practices. For example, some banks have been
found liable for exercising remedies which their loan documents authorized upon the borrower’s
default. This has occurred in cases where the exercise of those remedies was determined to be
inconsistent with the previous course of dealing between those banks and the borrowers. As a
result, banks have had to exercise increased caution, incur greater expense and face increased
exposure to liability when dealing with defaulting loans.
Dodd-Frank Wall Street Reform and Consumer Protection Act
On July 21, 2010, the Dodd-Frank Wall Street Reform and Consumer Protection Act (the
“Dodd-Frank Act”) was signed into law. The Dodd-Frank Act is intended to effect a fundamental
restructuring of federal banking regulation. Among other things, the Dodd-Frank Act creates a
new Financial Stability Oversight Council to identify systemic risks in the financial system and
gives federal regulators new authority to take control of and liquidate financial firms. The Dodd-
Frank Act also creates a new independent federal regulator to administer federal consumer
79
protection laws. The Dodd-Frank Act is expected to have a significant impact on our business
operations as its provisions take effect. Among the provisions that are likely to affect us are the
following:
Deposit Insurance. The Dodd-Frank Act permanently increases the maximum deposit
insurance amount for banks, savings institutions and credit unions to $250,000 per depositor, and
extended unlimited deposit insurance to non-interest bearing transaction accounts through
December 31, 2012. The Dodd-Frank Act also broadens the base for FDIC insurance
assessments. Assessments are now based on the average consolidated total assets less tangible
equity capital of a financial institution, rather than on deposits as in the past. Assessment rates
would be reduced to a range of 2.5 to 9 basis points on the broader assessment base for banks in
the lowest risk category (“well capitalized” and CAMELS I or II) up to 30 to 45 basis points for
banks in the highest risk category. The Dodd-Frank Act requires the FDIC to increase the
reserve ratio of the Deposit Insurance Fund from 1.15% to 1.35% of insured deposits by 2020
and eliminates the requirement that the FDIC pay dividends to insured depository institutions
when the reserve ratio exceeds certain thresholds. The Dodd-Frank Act also eliminated the
federal statutory prohibition against the payment of interest on business checking accounts.
Consumer Financial Protection Bureau. The Dodd-Frank Act created a new, independent
federal agency called the Consumer Financial Protection Bureau (“CFPB”), which is granted
broad rulemaking, supervisory and enforcement powers under various federal consumer financial
protection laws, including the Equal Credit Opportunity Act, Truth in Lending Act, Real Estate
Settlement Procedures Act, Fair Credit Reporting Act, Fair Debt Collection Act, the Consumer
Financial Privacy provisions of the Gramm-Leach-Bliley Act and certain other statutes. The
CFPB has examination and primary enforcement authority with respect to depository institutions
with $10 billion or more in assets. Smaller institutions will be subject to rules promulgated by
the CFPB but will continue to be examined and supervised by federal banking regulators for
consumer compliance purposes. The CFPB will have authority to prevent unfair, deceptive or
abusive practices in connection with the offering of consumer financial products. The Dodd-
Frank Act authorizes the CFPB to establish certain minimum standards for the origination of
residential mortgages including a determination of the borrower’s ability to repay. In addition,
the Dodd-Frank Act will allow borrowers to raise certain defenses to foreclosure if they receive
any loan other than a “qualified mortgage” as defined by the CFPB. The Dodd-Frank Act permits
states to adopt consumer protection laws and standards that are more stringent than those adopted
at the federal level and, in certain circumstances, permits state attorneys general to enforce
compliance with both the state and federal laws and regulations.
Corporate Governance. The Dodd-Frank Act requires publicly traded companies to give
shareholders a non-binding vote on executive compensation at their first annual meeting taking
place six months after the date of enactment and at least every three years thereafter and on so-
called “golden parachute” payments in connection with approvals of mergers and acquisitions
unless previously voted on by shareholders. The new legislation also authorizes the SEC to
promulgate rules that would allow shareholders to nominate their own candidates using a
company’s proxy materials. The Dodd-Frank Act directs the federal banking regulators to
promulgate rules prohibiting excessive compensation paid to executives of depository
institutions and their holding companies with assets in excess of $1.0 billion, regardless of
80
whether the company is publicly traded or not. It also gives the SEC authority to prohibit broker
discretionary voting on elections of directors and executive compensation matters.
Transactions with Affiliates and Insiders. The Dodd-Frank Act expands the definition of
affiliate for purposes of quantitative and qualitative limitations of Section 23A of the Federal
Reserve Act to include mutual funds advised by a depository institution or its affiliates. The
Dodd-Frank Act applies Section 23A and Section 22(h) of the Federal Reserve Act (governing
transactions with insiders) to derivative transactions, repurchase agreements and securities
lending and borrowing transactions that create credit exposure to an affiliate or an insider. Any
such transactions with affiliates must be fully secured. The previous exemption from Section
23A for transactions with financial subsidiaries has been eliminated.
Capital Requirements. The Dodd-Frank Act requires the FRB to apply consolidated capital
requirements to depository institution holding companies that are no less stringent than those
currently applied to depository institutions. Under these standards, trust preferred securities will
be excluded from Tier 1 capital unless such securities were issued prior to May 19, 2010 by a
bank holding company with less than $15 billion in assets. The Dodd-Frank Act also requires
capital requirements to be countercyclical so that the required amount of capital increases in
times of economic expansion and decreases in times of economic contraction, consistent with
safety and soundness.
Interstate Branching. The Dodd-Frank Act authorizes national and state banks to establish
branches in other states to the same extent as a bank chartered by that state would be permitted to
branch. Previously, banks could only establish branches in other states if the host state expressly
permitted out-of-state banks to establish branches in that state. Accordingly, banks will be able to
enter new markets more freely.
Limits on Derivatives. The Dodd-Frank Act prohibits state-chartered banks from
engaging in derivatives transactions unless the loans to one borrower limits of the state in which
the bank is chartered take into consideration credit exposure to derivatives transactions. For this
purpose, derivative transaction includes any contract, agreement, swap, warrant, note or option
that is based in whole or in part on the value of, any interest in, or any quantitative measure or
the occurrence of any event relating to, one or more commodities securities, currencies, interest
or other rates, indices or other assets.
Guidance on Sound Incentive Compensation Policies
In 2010, the federal bank regulators jointly issued final guidance on sound incentive
compensation policies ("SICP") intended to ensure that the incentive compensation policies of
banking organizations do not undermine safety and soundness by encouraging excessive risk-
taking. The SICP guidance, which covers all employees who have the ability to materially affect
the risk profile of an organization, is based on the principles that a banking organization's
incentive compensation arrangements should (i) provide incentives that do not encourage risk-
taking beyond the organization's ability to effectively identify and manage risks, (ii) be
compatible with effective internal controls and risk management, and (iii) be supported by strong
corporate governance, including active and effective oversight by the organization's board of
81
directors. Any deficiencies in compensation practices that are identified may be incorporated into
the organization's supervisory ratings, and result in enforcement actions.
Troubled Asset Relief Program and Related Measures
On October 3, 2008, Congress adopted the Emergency Economic Stabilization Act (“EESA”),
including a Troubled Asset Relief Program (“TARP”). TARP gave the United States Treasury
Department (“Treasury”) authority to deploy up to $700 billion into the financial system for the
purpose of improving liquidity in capital markets. On October 14, 2008, Treasury announced
plans to direct $250 billion of this authority into preferred stock investments in banks and bank
holding companies through a Capital Purchase Program (“CPP”). Certain terms of this CPP are
as follows:
Treasury’s preferred stock earns 5% dividends for the first five years and 9% dividends
thereafter; dividends on preferred stock issued by holding companies are cumulative;
dividends on preferred stock issued by banks without holding companies are non-
cumulative;
No increase in common stock dividends for three years while Treasury is an investor;
Treasury’s consent is required for common stock repurchases;
Treasury receives warrants for common stock equal to 15% of Treasury’s total
investment, with an exercise price based on the common stock’s market price;
Participating bank executives must agree to certain compensation restrictions and
executive compensation above $500,000 may not be claimed as a tax deduction;
If an issuer fails to pay dividends for six quarters, whether or not consecutive, Treasury
is entitled to appoint two persons to the issuer’s board of directors.
The Bank elected to participate in the CPP by issuing $8,500,000 in non-cumulative preferred
stock to Treasury along with a warrant to purchase up to 239,212 shares of common stock at an
exercise price of $5.33 per share. The transaction was completed on December 19, 2008. On
August 4, 2011, the Bank repurchased this non-cumulative preferred stock in connection with its
participation in Treasury’s Small Business Lending Fund program. See “---Small Business
Lending Fund.” The Bank repurchased the warrant on September 14, 2011
The American Recovery and Reinvestment Act of 2009 (“ARRA”) was signed into law on
February 17, 2009. ARRA included a wide variety of programs intended to stimulate the
economy. In addition, ARRA imposed new executive compensation and expenditure limits on
TARP CPP recipients and expanded the class of employees to whom the limits and restrictions
apply. ARRA also provided the opportunity for additional repayment flexibility for existing
TARP CPP recipients.
Small Business Lending Fund
In July 2010, the U.S. Congress passed the Small Business Jobs and Credit Act of 2010, which
establishment a Small Business Lending Fund (“SBLF”). The SBLF is a $30 billion fund be
used by Treasury to make preferred stock investments in banks and bank holding companies to
stimulate small business lending. The initial dividend rate on the preferred stock issued under
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the SBLF program will be 5% but is subject to a reduction to as low as 1% during the first four
years after the investment depending on the amount of increase in the institution’s qualified
small business lending following its issuance of the preferred stock to the U.S. Treasury. After
the initial four-and-a-half year period the dividend rate will increase to 9%. Under the SBLF,
small business lending means lending as defined by and reported in an eligible institution’s
quarterly call report, where each loan comprising such lending is one of the following types:
(i) commercial and industrial loans; (ii) owner-occupied nonfarm, nonresidential real estate
loans; (iii) loans to finance agricultural production and other loans to farmers; and (iv) loans
secured by farmland. Loans greater than $10 million or to businesses with more than $50 million
in revenue are excluded. If any part of the loan is guaranteed by a U.S. government agency or
enterprise, the guaranteed portion is subtracted from the loan amounts.
The Bank elected to participate in the SBLF program and, on August 4, 2011, sold 13,750
shares of its Senior Non-Cumulative Perpetual Preferred Stock, Series B (the “SBLF Preferred
Stock”) to Treasury for a purchase price of $13,750,000. As required by the terms of the SBLF
program, the Bank used $8,593,264 of these proceeds to repurchase 8,500 shares of preferred
stock sold to Treasury under the CPP. The terms of the SBLF Preferred Stock limit the Bank’s
ability to pay dividends to holders of common stock in certain circumstances. See “--Limitations
on Dividends” on page 84.
Deposit Insurance Premiums
The FDIC has developed a risk-based assessment system providing that the assessment rate for
an insured depository institution varies according to the level of risk incurred in its activities.
Institutions are classified into one of four risk categories. The FDIC is able to assess higher rates
to institutions with a significant reliance on secured liabilities or a significant reliance on
brokered deposits but, for well-managed and well-capitalized
institutions, only when
accompanied by rapid asset growth.
Assessments are now based on the average consolidated total assets less tangible equity capital
of a financial institution, rather than on deposits as in the past. Assessment rates range from 2.5
to 9 basis points on the broader assessment base for banks in the lowest risk category (“well
capitalized” and CAMELS I or II) and up to 30 to 45 basis points for banks in the highest risk
category.
In February 2009, the FDIC announced a proposed special emergency assessment of 20 basis
points, with the possibility of an additional emergency assessment. The FDIC ultimately adopted
a special assessment of 5 basis points times an institution’s assets less its Tier 1 capital, not to
exceed 10 basis points times its deposit assessment base. In addition, in December 2009, the
FDIC assessed an estimate of the insurance premiums for 2010, 2011 and 2012 totaling
$1,347,000. This prepaid amount was amortized to expense over 2010, 2011 and 2012.
Brokered Deposit Restrictions
Well-capitalized institutions are not subject to limitations on brokered deposits, while an
adequately capitalized institution is able to accept, renew or roll over brokered deposits only with
83
a waiver from the FDIC and subject to certain restrictions on the yield paid on such deposits.
Undercapitalized institutions are generally not permitted to accept, renew, or roll over brokered
deposits.
Limitations on Dividends
Under California law the holders of the Bank’s common stock are entitled to receive dividends
out of funds legally available for the payment of dividends when and as declared by the Board of
Directors, provided the conditions described below are satisfied.
The payment of cash dividends by the Bank depends on various factors, including the earnings
and capital requirements of the Bank and other financial conditions. California law provides that,
as a state-licensed bank, the Bank may not make a cash distribution to its shareholders in excess
of the lesser of the following: (a) the Bank’s retained earnings or (b) the Bank’s net income for
its last three fiscal years, less the amount of any distributions made by the Bank to its
shareholders during that period. However, a bank such as the Bank, with the prior approval of
the Commissioner, may make a distribution to its shareholders of an amount not to exceed the
greatest of (1) the Bank’s retained earnings, (2) the Bank’s net income for its last fiscal year, or
(3) the Bank’s net income for the current fiscal year. If the Commissioner determines that the
shareholders’ equity of the Bank is inadequate or that the making of a distribution by the Bank
would be unsafe or unsound, the Commissioner may order the Bank to refrain from making a
proposed distribution.
The FDIC and the Commissioner have authority to prohibit a bank from engaging in business
practices that are considered to be unsafe or unsound. Depending upon the financial condition of
bank and upon other factors, the FDIC or the Commissioner could assert that payments of
dividends or other payments by the Bank might be an unsafe or unsound practice.
Under the terms of SBLF Preferred Stock issued to Treasury in connection with the Bank’s
participation in the SBLF program, the Bank cannot pay dividends on its common stock unless it
has paid the dividends accrued on the SBLF Preferred Stock for the three preceding quarterly
dividend periods. In addition, under the terms of the Treasury preferred stock, the Bank may
only declare and pay a dividend on its common stock or other stock junior to the SBLF Preferred
Stock, or repurchase shares of any such class or series of stock, if, after payment of such
dividend or repurchase, Bank's Tier 1 Capital would be at least 90% of the Signing Date Tier 1
capital, as set forth in the Certificate of Determination for the SBLF Preferred Stock, less any
subsequent net charge-offs and any redemptions of the SBLF Preferred Stock (the "Tier 1
Dividend Threshold"). The Tier 1 Dividend Threshold is subject to reduction, beginning on the
second anniversary of issuance and ending on the tenth anniversary, by 10% for each one percent
increase in qualified small business lending over the baseline level as specified in the Certificate
of Determination for the SBLF Preferred Stock.
Capital Adequacy Guidelines
Federal bank regulatory agencies have adopted risk-based capital guidelines for insured banks.
A bank’s total qualifying capital consists of two types of capital components: “core capital
84
elements,” known as Tier 1 capital, and “supplementary capital elements,” known as Tier 2
capital. The Tier 1 component of a bank’s qualifying capital must represent at least 50% of total
qualifying capital. Tier 1 capital consists of common equity, non-cumulative perpetual preferred
stock and minority interests in the equity accounts of consolidated subsidiaries. Tier 1 capital
excludes goodwill and other specified intangibles, as well as the equity impact of adjusting
available-for-sale securities to market value. In addition to the Tier 1 capital components, total
capital also includes cumulative perpetual preferred stock, trust preferred stock, limited-life
preferred stock, mandatory convertible securities, subordinated debt and general loan loss
reserves up to a limit of 1.25% of risk-weighted assets.
The guidelines make regulatory capital requirements sensitive to the differences in risk
profiles among banking institutions, take off-balance-sheet items into account when assessing
capital adequacy, and minimize disincentives to holding liquid low-risk assets.
These guidelines require a minimum total risk-based capital ratio of 8% of risk-weighted
assets, with at least 4% in the form of Tier 1 capital. Federal banking regulators also have
instituted minimum leverage ratio guidelines for financial institutions. The leverage ratio
guidelines require maintenance of a minimum ratio of 3% Tier 1 capital to adjusted quarterly
average assets for the most highly rated bank holding company organizations. Less highly rated
institutions and institutions that are anticipating significant growth or that face other significant
risks are required to maintain capital levels ranging from 1% to 2% above the 3% minimum. In
addition, all banks are generally expected to maintain capital above these minimums.
Federal banking agencies, including the FDIC, have adopted regulations implementing a
system of prompt corrective action under the Federal Deposit Insurance Corporation
Improvement Act. The regulations establish five capital categories with the following
characteristics: (1) ”Well-capitalized,” consisting of institutions with a total risk-based capital
ratio of 10% or greater, a Tier 1 risk-based capital ratio of 6% or greater and a leverage ratio of
5% or greater and which are not operating under an order, written agreement, capital directive or
prompt corrective action directive; (2) ”Adequately capitalized,” consisting of institutions with a
total risk-based capital ratio of 8% or greater, a Tier 1 risk-based capital of 4% or greater and a
leverage ratio of 4% or greater and which do not meet the definition of a “well-capitalized”
institution; (3) ”Undercapitalized,” consisting of institutions with a total risk-based capital ratio
of less than 8%, a Tier 1 risk-based capital ratio of less than 4%, or a leverage ratio of less than
4%; (4) ”Significantly undercapitalized,” consisting of institutions with a total risk-based capital
ratio of less than 6%, a Tier 1 risk-based capital ratio of less than 3%, or a leverage ratio of less
than 3%; and (5) ”Critically undercapitalized,” consisting of institutions with a ratio of tangible
equity to total assets that is equal to or less than 2%. Banks are subject to sanctions of increasing
severity for failure to maintain capital ratios at well-capitalized or adequately-capitalized levels.
As of December 31, 2012, the Bank was well-capitalized and had a total risk-based capital
ratio of 18.4%, a Tier-1 risk-based capital ratio of 17.1% and a leverage ratio of 13.4%.
United States banking regulators have issued proposals for enhanced capital requirements
based on recommendations of an international committee of central banks and their supervisors,
generally known as the Basel Committee. It is unclear how smaller banking organizations in the
85
United States will be subject to these regulations and guidelines, if and when they are adopted.
These standards, if adopted, would lead to significantly higher capital requirements, higher
capital charges and more restrictive leverage and liquidity ratios. The standards would, among
other things:
Impose more restrictive eligibility requirements for Tier 1 and Tier 2 capital;
Increase the minimum Tier 1 common equity ratio to 4.5%, net of regulatory deductions,
and introduce a capital conservation buffer of an additional 2.5% of common equity to
risk-weighted assets, raising the target minimum common equity ratio to 7.0%;
Increase the minimum Tier 1 capital ratio to 8.5% inclusive of the capital conservation
buffer;
Increase the minimum total capital ratio to 10.5% inclusive of the capital conservation
buffer;
Introduce a countercyclical capital buffer of up to 2.5% of common equity or other fully
loss absorbing capital for periods of excess credit growth; and
Introduces a non-risk adjusted Tier 1 leverage ratio of 3.0% based on a measure of total
exposure rather than total assets, and new liquidity standards.
Programs To Mitigate Identity Theft
In November 2007, federal banking agencies together with the NCUA and FTC adopted
regulations under the Fair and Accurate Credit Transactions Act of 2003 to require financial
institutions and other creditors to develop and implement a written identity theft prevention
program to detect, prevent and mitigate identity theft in connection with certain new and existing
accounts. Covered accounts generally include consumer accounts and other accounts that
present a reasonably foreseeable risk of identity theft. Each institution's program must include
policies and procedures designed to: (i) identify indicators, or "red flags," of possible risk of
identity theft; (ii) detect the occurrence of red flags; (iii) respond appropriately to red flags that
are detected; and (iv) ensure that the program is updated periodically as appropriate to address
changing circumstances. The regulations include guidelines that each institution must consider
and, to the extent appropriate, include in its program.
Other Regulations
Interest and other charges collected or contracted for by the Bank are subject to state usury laws
and federal laws concerning interest rates. The Bank's operations are also subject to federal laws
applicable to credit and deposit transactions, such as:
• the federal Truth-In-Lending Act, governing disclosures of credit terms to consumer
borrowers;
• the Home Mortgage Disclosure Act of 1975, requiring financial institutions to provide
information to enable the public and public officials to determine whether a financial
institution is fulfilling its obligation to help meet the housing needs of the community it
serves;
• the Equal Credit Opportunity Act, prohibiting discrimination on the basis of race, creed
or other prohibited factors in extending credit;
86
• the Fair Credit Reporting Act of 1978, governing the use and provision of information
to credit reporting agencies;
• the Fair Debt Collection Practices Act, governing the manner in which consumer debts
may be collected by collection agencies;
• the Fair and Accurate Credit Transactions Act of 2003 and related regulation, requiring
financial institutions to implement a written identity theft prevention program to detect,
prevent and mitigate identity theft in connection with certain accounts, particularly
consumer accounts;
• the Right to Financial Privacy Act, which imposes a duty to maintain confidentiality of
consumer financial records and prescribes procedures for complying with administrative
subpoenas of financial records;
• the Electronic Funds Transfer Act and Regulation E issued by the Federal Reserve
Board to implement that act, which govern automatic deposits to and withdrawals from
deposit accounts and customers' rights and liabilities arising from the use of automated
teller machines and other electronic banking services; and
• the rules and regulations of the various federal agencies charged with the responsibility
of implementing these federal laws.
Legislation and Proposed Changes
From time to time, legislation is enacted which has the effect of increasing the cost of doing
business, limiting or expanding permissible activities or affecting the competitive balance
between banks and other financial institutions. Proposals to change the laws and regulations
governing the operations and taxation of banks, bank holding companies and other financial
institutions are frequently made in Congress, in the California legislature and before various
bank regulatory agencies. For example, from time to time Congress has considered various
proposals to eliminate the federal thrift charter, create a uniform financial institutions charter,
and conform holding company regulation. Typically, the intent of this type of legislation is to
strengthen the banking industry. No prediction can be made as to the likelihood of any major
changes or the impact that new laws or regulations might have on the Bank.
Employees
As of December 31, 2012, the Bank employed a total of 56 full-time and 5 part-time
employees in various capacities, all located in California. The Bank’s employees are not
represented by any union or covered by any collective bargaining agreement. The Bank
considers its relationships with its employees to be good.
ITEM 1A. RISK FACTORS
The risks and uncertainties described below are not the only ones facing us. Additional risks
and uncertainties that management is not aware of or focused on or that management currently
deems immaterial may also impair our business operations. This report is qualified in its entirety
by these risk factors.
87
Current Market Developments May Adversely Affect Our Industry, Business and Results of
Operations.
Dramatic declines in the housing market during the prior years, with falling home prices and
increasing foreclosures and unemployment, have resulted in significant write-downs of asset
values by financial institutions, including government-sponsored entities and major commercial
and investment banks. These write-downs, initially of mortgage-backed securities but spreading
to credit default swaps and other derivative securities, have caused many financial institutions to
seek additional capital, to merge with larger and stronger institutions and, in some cases, to fail.
Many lenders and institutional investors, concerned about the stability of the financial markets
generally and the strength of counterparties, have reduced or ceased to provide funding to
borrowers, including other financial institutions. The resulting lack of available credit, lack of
confidence in the financial sector, increased volatility in the financial markets and reduced
business activity could materially and adversely affect our business, financial condition and
results of operations.
Our Allowance for Loan Losses May Prove To Be Insufficient To Absorb Losses in Our
Loan Portfolio.
Lending money is a substantial part of our business. Every loan carries a certain risk that it will
not be repaid in accordance with its terms or that any underlying collateral will not be sufficient
to assure repayment. This risk is affected by, among other things:
cash flow of the borrower and/or the project being financed;
the changes and uncertainties as to the future value of the collateral, in the case of a
collateralized loan;
the credit experience of a particular borrower;
changes in economic and industry conditions; and
the duration of the loan.
We maintain an allowance for loan losses, a reserve established through a provision for loan
losses charged to expense, which we believe is appropriate to provide for probable losses in our
loan portfolio. The amount of this allowance is determined by our management through a
periodic review and consideration of several factors, including, but not limited to:
our general reserve, based on our historical default and loss experience as well as current
macroeconomic factors; and
our specific reserve, based on our evaluation of non-performing loans and their
underlying collateral.
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. Continuing deterioration in
loans,
economic conditions affecting borrowers, new
identification of additional problem loans and other factors, both within and outside of our
control, may require an increase in the allowance for loan losses. In addition, bank regulatory
regarding existing
information
88
agencies periodically review our allowance for loan losses and may require an increase in the
provision for possible loan losses or the recognition of further loan charge-offs, based on
judgments different than those of management. In addition, if charge-offs in future periods
exceed the allowance for loan losses, we may need additional provisions to replenish the
allowance for loan losses. Any increases in the allowance for loan losses will result in a decrease
in net income and, most likely, capital, and may have a material negative effect on our financial
condition and results of operations.
Recently enacted legislation, particularly the Dodd-Frank Act, could materially and
adversely affect us by increasing compliance costs, heightening our risk of noncompliance
with applicable regulations, and changing the competitive landscape in the banking industry.
From time to time, the U.S. Congress and state legislatures consider changing laws and enact
new laws to further regulate the financial services industry. On July 21, 2010, President Obama
signed the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010, or the Dodd-
Frank Act, into law. The Dodd-Frank Act has resulted in sweeping changes in the regulation of
financial institutions. As discussed in the section entitled “Business-Regulatory Considerations,”
the Dodd-Frank Act contains numerous provisions that affect all banks and bank holding
companies. The Dodd-Frank Act includes provisions that, among other things:
▪
▪
▪
▪
▪
▪
▪
change the assessment base for federal deposit insurance from the amount of insured
deposits to total consolidated assets less average tangible capital, eliminate the ceiling
on the size of the federal deposit insurance fund, and increase the floor of the size of
the federal deposit insurance fund;
repeal the federal prohibitions on the payment of interest on demand deposits, thereby
generally permitting the payment of interest on all deposit accounts;
centralize responsibility for promulgating regulations under and enforcing federal
consumer financial protection laws in a new bureau of consumer financial protection;
require the FDIC to seek to make its capital requirements for banks countercyclical;
implement corporate governance revisions, including with regard to executive
compensation and proxy access by shareholders, that apply to all public companies, not
just financial institutions;
establish new rules and restrictions regarding the origination of mortgages; and
permit the Federal Reserve to prescribe regulations regarding interchange transaction
fees, and limit them to an amount reasonable and proportional to the cost incurred by
the issuer for the transaction in question.
Many of these and other provisions in the Dodd-Frank Act remain subject to regulatory rule-
making and implementation, the effects of which are not yet known. Although we cannot predict
the specific impact and long-term effects that the Dodd-Frank Act and the regulations
promulgated thereunder will have on us and our prospects, our target markets and the financial
89
industry more generally, we believe that the Dodd-Frank Act and the regulations promulgated
thereunder are likely to impose additional administrative and regulatory burdens that will
obligate us to incur additional expenses and will adversely affect our margins and profitability.
We will also have a heightened risk of noncompliance with the additional regulations. Finally,
the impact of some of these new regulations is not known and may affect our ability to compete
long-term with larger competitors.
Premiums for Federal Deposit Insurance Have Increased and May Increase More.
Recent failures caused the FDIC’s deposit insurance fund to fall below the minimum balance
required by law, forcing the FDIC to consider action to rebuild the fund by raising the insurance
premiums assessed member banks. The FDIC increased premiums, provided for additional
increases for institutions with greater risk profiles and revised the base on which premiums are
charged. It also had an additional emergency assessment as of June 30, 2009. At the end of
2009, the FDIC required banks to prepay three years of projected premiums. The Dodd-Frank
Act changed the assessment base for FDIC premiums from insured deposits to total assets less
tangible capital. The FDIC may further increase the assessment rate schedule in order to manage
the DIF to prescribed statutory target levels. An increase in the Bank’s risk category or in the
assessment rates could have an adverse effect on the Bank's earnings. The FDIC may terminate
deposit insurance if it determines the institution involved has engaged in or is engaging in unsafe
or unsound banking practices, is in an unsafe or unsound condition, or has violated applicable
laws, regulations or orders.
Our Share Price May Be Volatile
As of December 31, 2012, there were 4,744,720 shares of our common stock issued and
outstanding. The Bank’s common stock is listed on the Nasdaq Global Market under the symbol
“SSBI.” Factors such as announcements of developments related to the Bank’s business,
announcements by competitors, fluctuations in its financial results, general conditions in the
banking industry, economic conditions in the areas in which the Bank does business, fluctuations
in interest rates, and other factors could cause the trading price of the shares to fluctuate
substantially. In addition, in recent years the stock market in general and the market for shares of
small capitalization stocks and financial institutions in particular have experienced extreme price
fluctuations, which have often been unrelated to the operating performance of affected
companies. Such fluctuations could have a material adverse effect on the market price of the
Shares.
The Bank Is Highly Dependent on Real Estate and Events that Negatively Impact the Real
Estate Market Could Hurt Our Business.
A significant portion of our loan portfolio is dependent on real estate. At December 31, 2012,
real estate served as the principal source of collateral with respect to approximately 76% of our
loan portfolio. At December 31, 2012, we owned real estate, acquired through foreclosure or
other judicial proceeding, in the amount of $4,845,000. A future decline in the value of the real
estate securing our loans and real estate owned by us could adversely impact our financial
condition. In addition, acts of nature, including earthquakes, brush fires and floods, which may
90
cause uninsured damage and other loss of value to real estate that secures these loans, may also
negatively impact our financial condition. This is particularly significant in light of the fact that
substantially all of the real estate that makes up the collateral of our real estate secured loans is
located in Northern California, where earthquakes and brush fires are common.
Our Growth or Future Losses May Require Us To Raise Additional Capital in the Future,
but That Capital May Not Be Available When It Is Needed or the Cost of That Capital May
Be Very High.
Under applicable government regulations, the Bank is permitted to make unsecured loans to
any single borrower or group of related borrowers in an amount that will not exceed 15% of its
shareholders’ equity, plus the allowance for loan losses, capital notes and debentures, and
secured loans in an amount that, when combined with unsecured loans made to the same
borrower or group of related borrowers, will not exceed 25% of its shareholders’ equity, plus the
allowance for loan losses, capital notes and debentures (“Lending Limits”). Such Lending Limits
make it more difficult for the Bank to attract borrowers who have lending requirements in excess
of those Lending Limits and, as a result, the future success of the Bank depends on, among other
things, its ability to increase capital (and thereby the amount of the loans it will be able to make
to borrowers) by selling additional common stock, preferred stock or subordinated debt. The
Bank has no plans at this time to sell any such securities (except upon issuance of options to
directors and employees under its stock option plan). However, if the need to do so should arise,
either because of the Bank’s desire to make larger loans to accommodate customers or to meet
regulatory capital requirements as a result of growth or losses, there is no assurance that the
Bank’s efforts to raise such additional capital will be successful or that the sale of additional
shares will not dilute the ownership of current investors. Any dilution of current investors could
be substantial. The Bank seeks the participation of other banks and lending institutions, as co-
lenders with it, for loans that exceed the Bank’s Lending Limits; however, there can be no
assurance that other lending institutions will be interested in doing so.
The Bank’s Business Is Highly Competitive.
In California generally, and in the Bank’s service area specifically, major banks and regional
banks dominate the commercial banking market. By virtue of their larger capital bases, such
institutions have substantially greater financial, marketing and operational resources than the
Bank and offer diversified services that might not be directly offered by the Bank. The Bank
competes with these larger commercial banks and other financial institutions, such as savings
and loan associations and credit unions, which offer services traditionally offered only by banks.
In addition, the Bank competes with other institutions such as money market funds, brokerage
firms, commercial finance companies, leasing companies, and even retail stores seeking to
penetrate the financial services market. No assurance can be given, however, that the Bank’s
efforts to compete with other banks and financial institutions will continue to be successful. In
addition, the costs of providing a high level of personal service could adversely affect the Bank’s
operating results. See “Information About Summit State Bank — Competition” on page 77.
91
The Bank Depends on Loan Originations to Grow Its Business.
The Bank’s success depends on, among other things, its ability to originate loans. For several
years, demand for loans by creditworthy borrowers has been relatively weak. The Bank’s
competitors may offer better terms or better service, or respond to changing capital and other
regulatory requirements better than the Bank is able to do. Some of the Bank’s competitors
make loans on terms that the Bank is not willing to match. Success in competing for loans
depends on such factors as:
• Quality of service to borrowers, especially the time it takes to process loans;
• Economic factors, such as interest rates;
• Terms of the loans offered, such as rate adjustment provisions, adjustment caps, loan
maturities, loan-to-value ratios and loan fees; and
• Size of the loan.
The Soundness of Other Financial Institutions Could Negatively Affect Us.
Our ability to engage in routine funding and other transactions could be negatively 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.
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 and 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 result of the
difficulties or failures of other banks, which would increase the capital we need to support our
growth.
The Bank’s Business is Subject to Extensive Government Regulation and Legislation.
The Bank is subject to extensive state and federal regulation, supervision and legislation, and
the laws that govern the Bank and its operations are subject to change from time to time.
Applicable laws and regulations provide for the regular examination and supervision of
institutions; affect the cost of funds through reserve requirements and assessments on deposits;
limit or prohibit the payment of interest on demand deposits; limit the kinds of investments a
bank or bank holding company can make and the kinds of activities in which it can engage; and
grant the regulatory agencies broad enforcement authority in case of violations. The laws and
regulations increase the cost of doing business and have an adverse impact on the ability of the
Bank to compete efficiently with other financial services providers that are not similarly
regulated. There can be no assurance that future regulation or legislation will not impose
additional requirements and restrictions on the Bank in a manner that will adversely affect its
results of operations, financial condition and prospects. See “Information About Summit State
Bank — “Competition” and “Regulation and Supervision” on pages 77 and 78.
92
The Bank’s Business May Be Adversely Affected By General Economic Conditions
Including Conditions in California.
The banking business is affected by general economic and political conditions, both domestic
and international, and by governmental monetary and fiscal policies. Conditions such as
inflation, recession, unemployment, volatile interest rates, money supply, scarce natural
resources, weather, natural disasters such as earthquakes, international disorders, etc., and other
factors beyond the Bank’s control may adversely affect the profitability of the Bank.
A substantial majority of the Bank’s assets and deposits are generated in Northern California.
As a result, poor economic conditions in Northern California may cause the Bank to incur losses
associated with higher default rates and decreased collateral values in its loan portfolio.
Economic conditions in Northern California are subject to various uncertainties at this time,
including the state’s budget deficit and the depreciation of real estate. If economic conditions in
California generally and Northern California in particular decline further, the Bank recognizes
that its level of problem assets could increase accordingly.
Our Business is Subject to Liquidity Risk and Changes in Our Source of Funds May Affect
Our Performance and Financial Condition.
Our ability to make loans is directly related to our ability to secure funding. In addition to local
deposits, the Bank receives funding from FHLB advances, brokered deposits and State of
California time deposits, when such alternatives are attractive compared to the cost of attracting
additional local deposits. These alternative sources of funds, along with local time deposits, are
sensitive to interest rates and can affect the cost of funds and net interest margin. Liquidity risk
arises from the inability to meet obligations when they come due or to manage the unplanned
decreases or changes in funding sources. Although we believe we can continue to successfully
pursue a local deposit funding strategy, significant fluctuations in local deposit balances or if one
of the alternative sources of funds becomes unavailable, an adverse effect on our financial
condition and results of operations may be experienced.
Changes in interest rates may reduce our net income.
The income of the Bank depends to a great extent on the difference between the interest rates
earned on its loans, securities and other interest-earning assets and the interest rates paid on its
deposits and other interest-bearing liabilities. These rates are highly sensitive to many factors
that are beyond the Bank’s control, including general economic conditions and the policies of
various governmental and regulatory agencies, in particular the Board of Governors of the
Federal Reserve System (“FRB”). A change in interest rates could have a material adverse effect
on the Bank’s results of operations, financial condition and prospects by reducing the spread
between income on interest earning assets and interest paid on interest bearing liabilities.
Generally, the value of fixed-rate securities fluctuates inversely with changes in interest rates.
Therefore, an increase in interest rates could cause the fair value of the Bank’s securities
investments to decrease. See “Management’s Discussion and Analysis of Financial Condition
and Results of Operations-Liquidity and Capital Resources” on page 25.
93
Failure to Successfully Execute Our Strategy Could Adversely Affect Our Performance.
Along with the other factors listed herein, our financial performance and profitability depends
on our ability to execute our corporate growth strategy. Continued growth may present operating
and other problems that could adversely affect our business, financial condition and results of
operations. Accordingly, there can be no assurance that we will be able to execute our growth
strategy or maintain the level of profitability that we have recently experienced.
We Are Exposed to Risk of Environmental and Other Liabilities with Respect to Properties to
Which We Take Title.
In the course of our business, we may foreclose and take title to real estate, and could be
subject to environmental or other liabilities with respect to these properties. We may be held
liable to a governmental entity or to third persons for property damage, personal injury,
investigation and clean-up costs incurred by these parties in connection with environmental
contamination, or we may be required to investigate or clean up hazardous or toxic substances,
or chemical releases at a property. The costs associated with investigation or remediation
activities could be substantial. In addition, in the event we become the owner or former owner of
a contaminated site, we may be subject to common law claims by third parties based on damages
and costs resulting from environmental contamination emanating from the property. If we ever
become subject to significant environmental liabilities, our business, financial condition,
liquidity and results of operations could be materially and adversely affected.
The Bank’s Ability to Declare Future Dividends Is Subject to Certain Limitations.
The Bank’s ability to pay dividends is limited by law, regulation, the terms of the preferred
stock sold to the U.S. Department of the Treasury under the Small Business Lending Fund
program and the financial condition of the Bank. There can be no assurance that the Bank will
continue to pay dividends at the rate and frequency at which it has done so in the past or that any
dividends will be declared and paid in the future at all. See “Regulation and Supervision-
Limitations on Dividends” on page 84.
The Accuracy of the Bank’s Judgments and Estimates about Financial and Accounting
Matters Will Impact Operating Results and Financial Condition.
The Bank makes certain estimates and judgments in preparing its financial statements. The
quality and accuracy of those estimates and judgments will have an impact on the Bank’s
operating results and financial condition. Three items that are subject to material estimates and
judgments include the consideration of other than temporary impairment of investment
securities, the recorded goodwill asset of $4,119,000 and the allowance for loan losses of
$5,749,000 as of December 31, 2012. Although management supports its estimates and
judgments by employing third party reviews there are no assurances that regulatory reviews may
result in a different conclusion or future events may occur that impact the recorded values
resulting in material fluctuations of financial results. See “MANAGEMENT’S DISCUSSION
AND ANALYSIS-Critical Accounting Policies” beginning on page 4.
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The Bank’s Information Systems May Experience an Interruption or Breach in Security.
The Bank relies heavily on communications and information systems to conduct its business.
Any failure, interruption or breach in security of these systems could result in failures or
disruptions in the Bank’s customer relationship management and systems. There can be no
assurance that any such failures, interruptions or security breaches will not occur or, if they do
occur, that they will be adequately corrected by the Bank. The occurrence of any such failures,
interruptions or security breaches could damage the Bank’s reputation, result in a loss of
customer business, subject the Bank to additional regulatory scrutiny, or expose the Bank to
litigation and possible financial liability, any of which could have a material adverse effect on
the Bank’s financial condition and results of operations.
The Bank’s Controls and Procedures May Fail or Be Circumvented.
Management regularly reviews and updates the Bank’s internal control over financial reporting,
disclosure controls and procedures, and corporate governance policies and procedures. Any
system of controls and procedures, however well designed and operated, is based in part on
certain assumptions and can provide only reasonable, not absolute, assurances that the objectives
of the system are met. Any failure or circumvention of the Bank’s controls and procedures or
failure to comply with regulations related to controls and procedures could have a material
adverse effect on the Bank’s business, results of operations and financial condition.
ITEM 1B. UNRESOLVED STAFF COMMENTS
None.
ITEM 2. PROPERTIES
The Bank owns its head office building located at 500 Bicentennial Way, Santa Rosa,
California. The building has approximately 31,000 square feet of usable space. The Bank
occupies approximately 13,000 square feet as its headquarters. The remaining 18,000 square feet
are currently leased to 3 tenants, with lease terms maturing from 2013 to 2017. The Bank also
leases spaces for branch offices in four shopping centers. These leases expire at various dates
from 2013 through 2019 and include renewal and termination options and rental adjustment
provisions.
ITEM 3. LEGAL PROCEEDINGS
The nature of our business causes us to be involved in legal proceedings from time to time. As
of the date of this report, the Bank is not a party to any litigation where management anticipates
that the outcome will have a material effect on the consolidated financial position or results of
operations.
95
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
There was no submission of matters to a vote of securities holders during the quarter ended
December 31, 2012.
PART II
ITEM 5. MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED
STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY
SECURITIES
The Bank’s common stock trades on the NASDAQ under the symbol “SSBI.” The quotations
shown below reflect for the periods indicated the high and low closing sales prices for our
common stock as reported by NASDAQ.
For the quarter ended
High
Low
December 31, 2012
September 30, 2012
June 30, 2012
March 31, 2012
December 31, 2011
September 30, 2011
June 30, 2011
March 31, 2011
$
7.50
6.86
6.45
6.32
6.74
6.79
6.98
6.98
$
6.00
5.74
5.56
5.26
5.02
5.16
5.74
6.40
Cash
dividends
declared
$
0.09
0.09
0.09
0.09
0.09
0.09
0.09
0.09
There were 192 common stock shareholders of record at December 31, 2012.
There were no issuer purchases of equity securities for the three month period ended December
31, 2012.
ITEM 6. SELECTED FINANCIAL DATA
Information regarding Selected Financial Data appears on page 3 under the caption
“SELECTED FINANCIAL DATA” and is incorporated herein by reference.
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ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
Information regarding Management’s Discussion and Analysis of Financial Condition and
Results of Operations appears on pages 4–27 under the caption “MANAGEMENT’S
DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS” and is incorporated herein by reference.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET
RISK
Information regarding Quantitative and Qualitative Disclosures About Market Risk appears on
page 24-25 under the caption “QUANTITATVE AND QUALITATIVE DISCLOSURES
ABOUT MARKET RISK” and is incorporated herein by reference.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
Information regarding Financial Statements and Supplementary Data appears on pages 28-68
under the captions “REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING
FIRM, “CONSOLIDATED BALANCE SHEETS,” “CONSOLIDATED STATEMENTS OF
INCOME,” “CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’
EQUITY,” “CONSOLIDATED STATEMENTS OF CASH FLOWS” and “NOTES TO
CONSOLIDATED FINANCIAL STATEMENTS” and is incorporated herein by reference.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON
ACCOUNTING AND FINANCIAL DISCLOSURE
None
ITEM 9A. CONTROLS AND PROCEDURES
(A) Evaluation of Disclosure Controls and Procedures
Our management, with the participation of our chief executive officer and chief financial
officer, evaluated the effectiveness of our disclosure controls and procedures as of December 31,
2011. The term “disclosure controls and procedures,” as defined in Rules 13a-15(e) and 15d-
15(e) under the Securities and Exchange Act of 1934, means controls and other procedures of a
Bank that are designed to ensure that information required to be disclosed by a company in the
reports that it files or submits under the Exchange Act is recorded, processed, summarized, and
reported, within the time periods specified in the SEC’s rules and forms. Disclosure controls and
procedures include, without limitation, controls and procedures designed to ensure that
information required to be disclosed by a company in the reports that it files and submits under
the Exchange Act is accumulated and communicated to the Bank’s management, including its
principal executive and principle financial officers, as appropriate to allow timely decisions
regarding required disclosure. Based on the evaluation of our disclosure controls and procedures
as of December 31, 2011, our chief executive officer and chief financial officer concluded that,
as of such date, our disclosure controls and procedures were effective.
97
The Audit Committee of the Board of Directors, which is composed solely of independent
directors, meets regularly with our independent registered public accounting firm, Moss Adams
LLP, and representatives of management to review accounting, financial reporting, internal
control and audit matters, as well as the nature and extent of the audit effort. The Audit
Committee is responsible for the engagement of the independent auditors. The independent
auditors have free access to the Audit Committee.
(B) Management’s Annual Report on Internal Control over Financial Reporting
The Bank’s management is responsible for establishing and maintaining adequate control over
financial reporting for the Bank, as such term is defined in Rules 13a-15(f) and 15d-15(f) under
the Securities Exchange Act of 1934. Under the supervision and with the participation of the
Bank’s management, including our principal executive and principal financial officers, the Bank
conducted an evaluation of the effectiveness of its internal control over financial reporting based
on the framework in Internal Control – Integrated Framework issued by the Committee of
Sponsoring Organizations of the Treadway Commission (the “COSO Framework”). Based on
this evaluation under the COSO Framework, management concluded that its internal control over
financial reporting was effective as of December 31, 2012.
(C) Changes in Internal Control over Financial Reporting
During the quarter ended December 31, 2012, the Registrant did not make any significant
changes in, nor take any corrective actions regarding, its internal control over financial reporting
or other factors that has materially affected, or is reasonably likely to materially affect the
registrants’ internal control over financial reporting.
(D) Attestation Report of the Independent Registered Public Accounting Firm
This annual report does not include an attestation report of the Bank’s independent registered
public accounting firm regarding internal control over financial reporting. Management’s report
was not subject to attestation by the Bank’s independent registered public accounting firm
pursuant to rules of the Securities and Exchange Commission that permit the Bank to provide
only management’s report in this annual report.
ITEM 9B. OTHER INFORMATION
None.
PART III
ITEM 10. DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE
We intend to file a definitive proxy statement for the 2012 Annual Meeting of Shareholders (or
“the Proxy Statement”) with the FDIC within 120 days of December 31, 2012. Information
regarding directors of Summit State Bank will appear under the caption —Proposal 1: “Election
98
of Directors” in the Proxy Statement and is incorporated herein by reference. Information about
Summit State Bank’s Audit Committee Financial Expert will appear under the caption “The
Committees of the Board—Audit Committee” and is incorporated herein by reference. The Bank
has adopted a code of ethics applicable to all of our directors and employees, including the
principal executive officer, principal financial officer and principal accounting officer.
Information regarding section 16(a) filing requirements will appear under the caption “section
16(a). “BENEFICIAL OWNERSHIP REPORTING COMPLIANCE”, in the Proxy Statement
and is incorporated herein by reference.
ITEM 11. EXECUTIVE COMPENSATION
Information regarding executive compensation will appear under the captions “EXECUTIVE
OFFICERS OF THE BANK,” “EXECUTIVE COMPENSATION, EMPLOYMENT
CONTRACTS” AND BOARD OF DIRECTORS’ REPORT ON COMPENSATON,” in the
Proxy Statement and is incorporated herein by reference.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND
MANAGEMENT AND RELATED STOCKHOLDER MATTERS
The following table summarizes information as of December 31, 2012 relating to equity
compensation plans of Summit State Bank pursuant to which grants of options, restricted stock,
or other rights to acquire shares may be granted from time to time.
Number of
securities
remaining
available for
future
issuance
under equity
compensation
plans
(excluding
securities
reflected in
column (a))
Number of
securities
to be issued
upon
exercise of
outstanding
options
Weighted
average
exercise
price of
outstanding
options
10,666
149,500
$7.50
6.15
0
500
Plan category
Equity compensation plans:
Not approved by security holders
Approved by security holders
Information regarding security ownership of certain beneficial owners and management and
related shareholder matters will appear under the caption “EQUITY COMPENSATION PLAN
INFORMATION,” “SECURITY OWNERSHIP OF MANAGEMENT” AND “PRINCIPAL
SHAREHOLDERS” in the Proxy Statement and is incorporated herein by reference.
99
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND
DIRECTOR INDEPENDENCE
Information regarding certain relationships and related transactions will appear under the
caption “TRANSACTIONS WITH RELATED PERSONS” in the Proxy Statement and is
incorporated herein by reference.
ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES
Information regarding fees paid to our independent registered public accounting firm, will
appear under the caption —Proposal 2. Ratification of Selection of Independent Public Accounts
“FEES PAID TO INDEPENDENT PUBLIC ACCOUNTANTS” in the Proxy Statement and is
incorporated herein by reference.
100
PART IV
ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES
(a) 1. Financial Statements
The following documents are filed as part of this report:
Reports of Independent Registered Public Accounting Firms
Consolidated Balance Sheets at December 31, 2012 and 2011
Consolidated Statements of Income for each of the years in the three-year period ended
December 31, 2012
Consolidated Statements of Comprehensive Income for each of the years in the three-year
period ended December 31, 2012
Consolidated Statements of Changes in Shareholders’ Equity for each of the years in the three-
year period ended December 31, 2012
Consolidated Statements of Cash Flows for each of the years in the three-year period ended
December 31, 2012
Notes to Consolidated Financial Statements
2. Financial Statement Schedules
Not applicable
3. Exhibits
(b) Exhibits Required by Item 601 of Regulation S-K
Reference is made to the Exhibit Index on page 104 for exhibits filed as part of this report.
(c) Additional Financial Statements
Not applicable.
101
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto
duly authorized.
Summit State Bank
By
/s/ Dennis E. Kelley
Dennis E. Kelley
Senior Vice President and
Chief Financial Officer
(Principal Financial and Accounting Officer)
March 12, 2013
Summit State Bank
By
/s/ Thomas M. Duryea
Thomas M. Duryea
President and
Chief Executive Officer
(Principal Executive Officer)
March 12, 2013
102
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 in the capacities and on the dates
indicated.
Dated:
March 12, 2013
Dated: March 12, 2013
Dated:
March 12, 2013
Dated:
March 12, 2013
Dated:
March 12, 2013
Dated:
March 12, 2013
Dated:
March 12, 2013
Dated:
March 12, 2013
Dated:
March 12, 2013
Dated:
March 12, 2013
Dated:
March 12, 2013
/s/ Thomas M. Duryea
Thomas M. Duryea, President and Chief Executive Officer
(Principal Executive Officer) and Director
/s/ Bradley E. Baker
Bradley E. Baker, Director
/s/ James E. Baxter II
James E. Baxter II, Director
/s/ James E. Brush
James E. Brush, Director
/s/ Josh C. Cox, Jr.
Josh C. Cox, Jr., Director
/s/ John F. DeMeo
John F. DeMeo, Director
/s/ Michael J. Donovan
Michael J. Donovan, Director
/s/ Richard A. Dorr
Richard A. Dorr, Director
/s/ Todd R. Fry
Todd R. Fry, Director
/s/ Joseph F. Helmer
Joseph F. Helmer, Director
/s/ Allan J. Hemphill
Allan J. Hemphill, Chairman of the Board and Director
Dated:
March 12, 2013
/s/ Dennis E. Kelley
Dennis E. Kelley, Senior Vice President and Chief Financial Officer
(Principal Financial and Accounting Officer)
Dated: March 12, 2013
Dated:
March 12, 2013
Dated:
March 12, 2013
Dated:
March 12, 2013
/s/ Ronald A. Metcalfe
Ronald A. Metcalfe, Director
/s/ Nicholas J. Rado
Nicholas J. Rado, Director
/s/ Marshall T. Reynolds
Marshall T. Reynolds, Director
/s/ Eugene W. Traverso
Eugene W. Traverso, Director
103
EXHIBIT INDEX
EXHIBIT
Articles of Incorporation of the registrant (1) (2) (3)
Certificate of determination of Series B preferred stock (5)
By-laws of the registrant (5)
Specimen of the registrant’s common stock certificate (1) (2) (3)
The total amount of the registrant’s long-term debt does not exceed 10 percent of
the total assets of the registrant and its subsidiaries on a consolidated basis.
Pursuant to Item 601(b)(4)(iii)(A) of Regulation S-K, the registrant agrees to file
any instrument with respect to such long-term debt upon request of the FDIC.
1999 Non-qualified Stock Option Plan, as amended by First Amendment dated
September 25, 2002 (1) (2) (3)
2007 Stock Option Plan (4)
Letter agreement dated August 4, 2011, between the Bank and the United States
Department of the Treasury, with respect to issuance of preferred stock (5)
Code of Ethics
Subsidiaries of the registrant (1)
Rule 13a-14(a)/15d-14(a) Certification
Rule 13a-14(a)/15d-14(a) Certification
Section 1350 certifications
EXHIBIT
NO.
3.1
3.2
3.3
4.1
4.2
10.1
10.2
10.3
14.1
21.1
31.1
31.2
32.1
(1) Incorporated by reference from Summit State Bank’s Form 10 filed with the FDIC on June 19, 2006.
(2) Incorporated by reference from Summit State Bank’s Form 10/A Amendment No. 1 filed with the FDIC on July 12,
2006.
(3) Incorporated by reference from Summit State Bank’s Form 10/A Amendment No. 2 filed with the FDIC on July 13,
2006.
(4) Incorporated by reference from Summit State Bank’s Definitive Proxy Statement filed with the FDIC on April 27,
2007.
(5) Incorporated by reference from Summit State Bank’s Form 8-K filed with the FDIC on August 4, 2011.
104
EXHIBIT 31.1
Certification pursuant to Rule 13a-14(a)/15d-14(a) as adopted pursuant to §302 of the
Sarbanes-Oxley Act of 2002.
I, Thomas M. Duryea, Chief Executive Officer, certify that:
1. I have reviewed this annual report on Form 10-K of Summit State Bank (the Registrant);
2. 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;
3. 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;
4. 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) 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;
(b) 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;
(c) 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
(d) 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):
105
(a) 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
(b) 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, 2013
/s/ Thomas M. Duryea
Thomas M. Duryea
President and Chief Executive Officer
106
EXHIBIT 31.2
Certification pursuant to Rule 13a-14(a)/15d-14(a) as adopted pursuant to §302 of the
Sarbanes-Oxley Act of 2002.
I, Dennis E. Kelley, Chief Financial Officer, certify that:
1. I have reviewed this annual report on Form 10-K of Summit State Bank (the Registrant);
2. 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;
3. 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;
4. 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) 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;
(b) 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;
(c) 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
(d) 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):
107
(a) 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
(b) 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, 2013
/s/ Dennis E. Kelley
Dennis E. Kelley
Senior Vice President and Chief Financial Officer
108
EXHIBIT 32.1
Certification pursuant to 18 U.S.C. §1350
In connection with the annual report on Form 10-K of Summit State Bank (the Registrant) for the
year ended December 31, 2012, as filed with the Federal Deposit Insurance Corporation, the
undersigned hereby certify pursuant to 18 U.S.C. §1350, as adopted pursuant to §906 of the
Sarbanes-Oxley Act of 2002, that:
1) such Form 10-K fully complies with the requirements of Section 13(a) or 15(d) of the
Securities Exchange Act of 1934; and
2) 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, 2013
/s/ Thomas M. Duryea
Thomas M. Duryea
President and Chief Executive Officer
Dated: March 12, 2013
/s/ Dennis E. Kelley
Dennis E. Kelley
Senior Vice President and Chief Financial Officer
109