SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark one)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES AND EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 2001
[_] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934 (No Fee Required)
For the transition period from ______________ to ______________.
Commission file number 0-25034
GREATER BAY BANCORP
(Exact name of registrant as specified in its charter)
California 77-0387041
(State or other jurisdiction of (I.R.S. Employer Identification No.)
Incorporation or organization)
2860 West Bayshore Road, Palo Alto, California 94303
(Address of principal executive offices)(Zip Code)
Registrant's telephone number, including area code: (650) 813-8200
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes [X] No [_]
Outstanding shares of Common Stock, no par value, as of October 26, 2001:
49,744,042
GREATER BAY BANCORP
INDEX
Part I. Financial Information
Item 1. Consolidated Financial Statements
Consolidated Balance Sheets as of
September 30, 2001 and December 31, 2000 ..................... 3
Consolidated Statements of Operations
for the Three Months and Nine Months Ended
September 30, 2001 and 2000 .................................. 4
Consolidated Statements of Comprehensive Income
for the Three Months and Nine Months Ended
September 30, 2001 and 2000 .................................. 5
Consolidated Statements of Cash Flows for the
Nine Months Ended September 30, 2001 and 2000 ................ 6
Notes to Consolidated Financial Statements ................... 7
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations .......................... 15
Item 3. Quantitative and Qualitative Disclosures About Market Risk ....... 38
Part II. Other Information
Item 1. Legal Proceedings ................................................ 43
Item 2. Changes in Securities and Use of Proceeds ........................ 43
Item 3. Defaults Upon Senior Securities .................................. 43
Item 4. Submission of Matters to a Vote of Security Holders .............. 43
Item 5. Other Information ................................................ 43
Item 6. Exhibits and Reports on Form 8-K ................................. 43
Signatures ................................................... 44
2
GREATER BAY BANCORP AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
September 30, 2001 December 31,
(Dollars in thousands) (unaudited) 2000
--------------------------------------------------------------------------------------------------------------------
ASSETS
Cash and due from banks $ 212,811 $ 270,774
Federal funds sold 117,000 138,000
Other short term securities -- 56
---------------- ---------------
Cash and cash equivalents 329,811 408,830
Investment securities:
Available for sale, at fair value 2,338,251 578,172
Held to maturity, at amortized cost (fair value 2000: $364,787) -- 354,454
Other securities 83,250 29,651
---------------- ---------------
Investment securities 2,421,501 962,277
Total loans:
Commercial 1,645,159 1,562,712
Term real estate - commercial 1,177,058 967,428
---------------- ---------------
Total commercial 2,822,217 2,530,140
Real estate construction and land 675,527 691,912
Real estate other 226,553 176,568
Consumer and other 184,458 216,459
Deferred loan fees and discounts (14,075) (13,657)
---------------- ---------------
Total loans, net of deferred fees 3,894,680 3,601,422
Allowance for loan losses (90,414) (84,014)
---------------- ---------------
Total loans, net 3,804,266 3,517,408
Property, premises and equipment, net 43,174 33,860
Interest receivable and other assets 244,772 208,003
---------------- ---------------
Total assets $ 6,843,524 $ 5,130,378
================ ===============
LIABILITIES AND SHAREHOLDERS' EQUITY
Deposits:
Demand, noninterest-bearing $ 851,708 $ 1,003,828
MMDA, NOW and savings 2,018,214 2,082,708
Time certificates, $100,000 and over 593,536 571,330
Other time certificates 850,893 507,195
---------------- ---------------
Total deposits 4,314,351 4,165,061
Other borrowings 1,770,519 431,228
Other liabilities 133,994 112,224
---------------- ---------------
Total liabilities 6,218,864 4,708,513
---------------- ---------------
Company obligated mandatorily redeemable cumulative trust preferred securities
of subsidiary trusts holding solely junior
subordinated debentures 218,000 99,500
Commitments and contingencies
SHAREHOLDERS' EQUITY
Preferred stock, no par value: 4,000,000 shares authorized;
none issued -- --
Common stock, no par value: 80,000,000 shares authorized;
42,774,660 and 41,929,173 shares issued and outstanding
as of September 30, 2001 and December 31, 2000, respectively 180,651 173,276
Accumulated other comprehensive income (loss) 19,749 (6,552)
Retained earnings 206,260 155,641
---------------- ---------------
Total shareholders' equity 406,660 322,365
---------------- ---------------
Total liabilities and shareholders' equity $ 6,843,524 $ 5,130,378
================ ===============
----------
See notes to consolidated financial statements.
3
GREATER BAY BANCORP AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
Three months ended Nine months ended
September 30, September 30,
------------------- -------------------
(Dollars in thousands, except per share amounts) 2001 2000* 2001 2000*
-------------------------------------------------------------------------------------- -------------------
INTEREST INCOME
Interest on loans $ 82,727 $ 74,716 $256,266 $205,299
Interest on investment securities:
Taxable 33,829 14,978 71,457 39,550
Tax - exempt 1,472 2,185 5,254 6,413
-------- -------- -------- --------
Total interest on investment securities 35,301 17,163 76,711 45,963
Other interest income 1,678 4,733 5,230 12,725
-------- -------- -------- --------
Total interest income 119,706 96,612 338,207 263,987
-------- -------- -------- --------
INTEREST EXPENSE
Interest on deposits 29,766 34,780 95,636 91,933
Interest on long term borrowings 3,794 175 9,093 697
Interest on other borrowings 13,394 1,842 25,739 4,817
-------- -------- -------- --------
Total interest expense 46,954 36,797 130,468 97,447
-------- -------- -------- --------
Net interest income 72,752 59,815 207,739 166,540
Provision for loan losses 7,880 7,844 24,657 21,780
-------- -------- -------- --------
Net interest income after provision for loan losses 64,872 51,971 183,082 144,760
-------- -------- -------- --------
OTHER INCOME
Service charges and other fees 2,192 2,219 6,296 6,560
Loan and international banking fees 1,987 2,497 3,833 5,600
Gain on sale of loans 1,684 429 2,894 1,878
Trust fees 865 822 2,729 2,496
Gain on sale of investments, net 819 3 6,341 60
ATM network revenue 803 817 2,231 2,143
Other income 1,538 1,288 8,122 5,882
-------- -------- -------- --------
Total recurring 9,888 8,075 32,446 24,619
Warrant income, net 77 2,767 581 12,116
-------- -------- -------- --------
Total 9,965 10,842 33,027 36,735
-------- -------- -------- --------
OPERATING EXPENSES
Compensation and benefits 19,680 15,792 57,145 46,875
Occupancy and equipment 6,597 5,575 18,746 15,977
Trust Preferred Securities 3,724 2,585 8,636 5,426
Legal and other professional fees 2,324 1,312 5,243 3,621
Telephone, postage and supplies 1,232 1,040 3,937 3,362
Marketing and promotion 1,272 935 3,779 2,956
Client services 548 477 1,845 1,518
FDIC insurance and regulatory assessments 406 379 1,009 880
Directors fees 336 302 804 777
Other real estate owned - - - 51
Other 4,321 2,173 12,258 7,816
-------- -------- -------- --------
Total, recurring 40,440 30,570 113,402 89,259
Merger and other related nonrecurring costs - 11,412 - 25,496
-------- -------- -------- --------
Total operating expenses 40,440 41,982 113,402 114,755
-------- -------- -------- --------
Income before provision for income taxes 34,397 20,831 102,707 66,740
Provision for income taxes 13,037 7,962 38,668 26,150
-------- -------- -------- --------
Net income $ 21,360 $ 12,869 $ 64,039 $ 40,590
======== ======== ======== ========
Net income per share - basic** $ 0.50 $ 0.31 $ 1.51 $ 0.99
======== ======== ======== ========
Net income per share - diluted** $ 0.49 $ 0.29 $ 1.46 $ 0.94
======== ======== ======== ========
----------
*Restated on a historical basis to reflect the mergers described in note 1 on a
pooling of interests basis.
**Restated to reflect 2 - for - 1 stock split effective on October 4, 2000.
See notes to consolidated financial statements.
4
GREATER BAY BANCORP AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(UNAUDITED)
Three months ended Nine months ended
September 30, September 30,
-------------------- --------------------
(Dollars in thousands) 2001 2000* 2001 2000*
------------------------------------------------------------------------------------------------------- --------------------
Net income $ 21,360 $ 12,869 $ 64,039 $ 40,590
-------- -------- -------- --------
Other comprehensive income (loss):
Unrealized gains on securities:
Unrealized holding gains (losses) arising during period
(net of taxes of $11.9 million and $1.7 million for the three months
ended September 30, 2001 and 2000, respectively)
(net of taxes of $16.5 million and $(3.1) million for the nine months
ended September 30, 2001 and 2000, respectively) 17,100 2,422 23,606 (4,422)
Reclassification adjustment for gains (losses) included
in net income 482 2 3,732 35
-------- -------- -------- --------
Net change 17,582 2,424 27,338 (4,387)
Cash flow hedge:
Net derivative gains (losses) arising during period
(net of taxes of $(758,000) and $(398,000) for the three months
ended September 30, 2001 and 2000, respectively)
(net of taxes of $(775,000) and $(269,000) for the nine months
ended September 30, 2001 and 2000, respectively) (1,084) (569) (1,109) (384)
Reclassification adjustment for income included
in net income (net of taxes of $24,000 and $24,000 for the
three months ended September 30, 2001 and 2000, respectively)
in net income (net of taxes of $72,000 and $31,000 for the
nine months ended September 30, 2001 and 2000, respectively) 24 24 72 31
-------- -------- -------- --------
Net change (1,060) (545) (1,037) (353)
Other comprehensive income (loss) 16,522 1,879 26,301 (4,740)
-------- -------- -------- --------
Comprehensive income $ 37,882 $ 14,748 $ 90,340 $ 35,850
======== ======== ======== ========
----------
* Restated on a historical basis to reflect the mergers described in note 1 on a
pooling of interests basis.
See notes to consolidated financial statements.
5
GREATER BAY BANCORP AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
Nine months ended September 30,
--------------------------------
(Dollars in thousands) 2001 2000*
---------------------------------------------------------------------------------------------------------
Cash flows - operating activities
Net income $ 64,039 $ 40,590
Reconcilement of net income to net cash from operations:
Provision for loan losses 24,977 28,062
Depreciation and amortization 9,197 6,272
Deferred income taxes (2,633) (7,808)
(Gain) loss on sale of investments, net 4,043 60
Changes in:
Accrued interest receivable and other assets (19,300) (38,678)
Accrued interest payable and other liabilities 20,008 32,207
Deferred loan fees and discounts, net 418 414
-------------- --------------
Operating cash flows, net 100,749 61,119
-------------- --------------
Cash flows - investing activities
Maturities and partial paydowns on investment securities:
Held to maturity - 22,262
Available for sale 239,832 1,750
Other securities - 12,328
Purchase of investment securities:
Held to maturity - (241,012)
Available for sale (2,028,141) (17,076)
Other securities (53,599) (14,095)
Proceeds from sale of available for sale securities 406,169 -
Loans, net (297,841) (634,819)
Loan acquired from business acquisition (14,671) -
Payment for business acquisitions, net of cash acquired (7,983) -
Sale of other real estate owned 259 -
Sale of bank building - 5,502
Purchase of property, premises and equipment (15,642) (10,287)
Purchase of insurance policies (7,811) (9,240)
-------------- --------------
Investing cash flows, net (1,779,428) (884,687)
-------------- --------------
Cash flows - financing activities
Net change in deposits 149,290 662,451
Net change in other borrowings - short term 1,277,592 18,261
Proceeds from other borrowings - long term 83,200 -
Principal repayment - long term borrowings (21,501) -
Proceeds from company obligated mandatorily redeemable
preferred securities of subsidiary trusts holding solely junior
subordinated debentures 118,500 50,500
Proceeds from sale of common stock 6,012 18,063
Cash dividends (13,433) (6,592)
-------------- --------------
Financing cash flows, net 1,599,660 742,683
-------------- --------------
Net change in cash and cash equivalents (79,019) (80,885)
Cash and cash equivalents at beginning of period 408,830 393,029
-------------- --------------
Cash and cash equivalents at end of period $ 329,811 $ 312,144
============== ==============
Cash flows - supplemental disclosures
Cash paid during the period for:
Interest $ 114,075 $ 103,046
============== ==============
Income taxes $ 55,391 $ 19,450
============== ==============
Non-cash transactions:
Additions to other real estate owned $ 259 $ 124
============== ==============
Transfer of appreciated securities to GBB Foundation $ - $ 7,200
============== ==============
----------
* Restated on a historical basis to reflect the mergers described in note 1 on a
pooling of interests basis.
See notes to consolidated financial statements.
6
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
As of September 30, 2001 and December 31, 2000 and for the
Three Months and Nine Months Ended September 30, 2001 and 2000
NOTE 1-SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
The Consolidated Balance Sheets as of September 30, 2001, the Consolidated
Statements of Operations and the Consolidated Statements of Comprehensive Income
for the three months and nine months ended September 30, 2001, and the
Consolidated Statements of Cash Flows for the nine months ended September 30,
2001 have been prepared by Greater Bay Bancorp ("Greater Bay" on a parent-only
basis, and "we" or "our" on a consolidated basis) and are not audited. The
results of operations for the quarter and nine months ended September 30, 2001
are not necessarily indicative of the results expected for any subsequent
quarter or for the entire year ended December 31, 2001.
Consolidation and Basis of Presentation
The unaudited financial information presented was prepared on the same
basis as the audited financial statements for the year ended December 31, 2000.
The consolidated financial statements include the accounts of Greater Bay
Bancorp and our wholly owned subsidiaries, Bank of Petaluma, Bank of Santa
Clara, Bay Area Bank, Bay Bank of Commerce, Coast Commercial Bank, Cupertino
National Bank, Golden Gate Bank, Mid-Peninsula Bank, Mt. Diablo National Bank,
Peninsula Bank of Commerce, CNB Investment Trust I, GBB Capital I, GBB Capital
II, GBB Capital III, GBB Capital IV, GBB Capital V, GBB Capital VI, Matsco Lease
Finance, Inc. II, and Matsco Lease Finance, Inc. III, and our operating
divisions. All significant intercompany transactions and balances have been
eliminated. Certain reclassifications have been made to prior period's
consolidated financial statements to conform to the current presentation. In the
opinion of management, such unaudited financial statements reflect all
adjustments necessary for fair statement of the results of operations and
balances for the interim period presented. Our accounting and reporting policies
conform to generally accepted accounting principles and the prevailing practices
within the banking industry.
We have completed six mergers and acquisitions from December 31, 1999
through September 30, 2001. The mergers with Mt. Diablo Bancshares, Coast
Bancorp, Bank of Santa Clara and Bank of Petaluma were accounted for as a
pooling-of-interests and, accordingly, all of our financial information for the
periods prior to the mergers has been restated as if the mergers had occurred at
the beginning of the earliest period presented. The acquisitions of The Matsco
Companies, Inc. and CAPCO Financial Company, Inc. ("CAPCO") were accounted for
using the purchase accounting method and accordingly The Matsco Companies,
Inc.'s and CAPCO's results of operations have been included in the consolidated
financial statements since the date of acquisition.
Use of Estimates in the Preparation of Financial Statements
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of certain assets and liabilities
and disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of certain revenues and expenses during the
reporting period. Actual results could differ from those estimates.
7
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
As of September 30, 2001 and December 31, 2000 and for the
Three Months and Nine Months Ended September 30, 2001 and 2000
Comprehensive Income
Statement of Financial Accounting Standards ("SFAS") No. 130, "Reporting
Comprehensive Income" requires us to classify items of other comprehensive
income by their nature in the financial statements and display the accumulated
other comprehensive income separately from retained earnings in the equity
section of the balance sheet. The changes to the balances of accumulated other
comprehensive income are as follows:
Accumulated
Unrealized other
Nine months ended gains (losses) Cash flow comprehensive
(Dollars in thousands) on securities hedges income (loss)
-------------------------------------------------------------------------------
Balance - December 31, 2000 $ (6,700) $ 148 $ (6,552)
Current period change 27,338 (1,037) 26,301
------------- ----------- ------------
Balance - September 30, 2001 $ 20,638 $ (889) $ 19,749
============= =========== ============
Balance - December 31, 1999 $ (10,662) $ 1,504 $ (9,158)
Current period change (4,387) (353) (4,740)
------------- ----------- ------------
Balance - September 30, 2000 $ (15,049) $ 1,151 $ (13,898)
============= =========== ============
Balance - June 30, 2001 $ 3,056 $ 171 $ 3,227
Current period change 17,582 (1,060) 16,522
------------- ----------- ------------
Balance - September 30, 2001 $ 20,638 $ (889) $ 19,749
============= =========== ============
Balance - June 30, 2000 $ (17,473) $ 1,696 $ (15,777)
Current period change 2,424 (545) 1,879
------------- ----------- ------------
Balance - September 30, 2000 $ (15,049) $ 1,151 $ (13,898)
============= =========== ============
8
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
As of September 30, 2001 and December 31, 2000 and for the
Three Months and Nine Months Ended September 30, 2001 and 2000
Segment Information
In accordance with SFAS No. 131 "Disclosures about Segments of an
Enterprise and Related Information" ("SFAS No. 131"), we use the "management
approach" for reporting business segment information. The management approach
designates the internal organization that is used by management for making
operating decisions and assessing performance as the source of our reportable
segments. SFAS No. 131 also requires disclosures about products and services,
geographic areas, and major customers.
NOTE 2--BUSINESS COMBINATIONS
On March 30, 2001, we completed the acquisition of CAPCO for a purchase
price of $8.5 million in cash and 44,820 shares of common stock with a fair
value of $1.4 million. The acquisition was accounted for using the purchase
method of accounting and, accordingly, CAPCO's results of operations have been
included in the consolidated financial statements since the date of the
acquisition. The source of funds for the acquisition was a $6.9 million advance
on an existing credit line, with the remainder paid from our available cash.
The purchase price has been allocated to the assets acquired and
liabilities assumed based on the estimated fair values at the date of
acquisition. The excess of purchase price over the estimated fair values of the
net assets acquired, totaling $5.7 million, has been recorded as goodwill and is
being amortized on the straight-line method over twenty years.
On October 23, 2001, SJNB Financial Corp., the holding company for San Jose
National Bank merged with and into Greater Bay. Upon consummation of the merger,
the outstanding shares of SJNB Financial Corp. were converted into an aggregate
of approximately 6,944,000 shares of Greater Bay's common stock. SJNB Financial
Corp's results are not included in these fiancial statetments because the merger
was completed after September 30, 2001. The merger will be accounted for as a
pooling-of-interests. As of and for the nine months ended September 30, 2001,
SJNB Financial Corp. had approximately $25.4 million in net interest income,
$8.3 million in net income, $661.4 million in assets, $559.0 million in deposits
and $73.9 million in shareholders' equity.
NOTE 3--INVESTMENT SECURITIES
During the first quarter of 2001, we transferred our entire portfolio of
held to maturity debt securities to the available for sale category. The
amortized cost of these securities at the time of transfer was $345.8 million
and the securities had an unrealized gain of $11.0 million ($6.4 million, net of
taxes) at the time of the transfer. Although our intention to hold a majority of
our debt securities to maturity has not changed, the transfer was made to
increase our flexibility in responding to future economic changes and to
increase our efficiency in managing our investment portfolio. Subsequent to the
transfer, we sold securities which had been classified as held to maturity at
December 31, 2000 with an amortized cost of $43.2 million for a gain of $2.5
million.
9
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
As of September 30, 2001 and December 31, 2000 and for the
Three Months and Nine Months Ended September 30, 2001 and 2000
NOTE 4--BORROWINGS
Other borrowings are detailed as follows:
September 30, December 31,
(Dollars in thousands) 2001 2000
-------------------------------------------------------------------------
Other borrowings:
Short term borrowings:
Securities sold under
agreements to repurchase $ 337,250 $ 63,000
Other short term notes payable 4,201 15,419
FHLB advances 1,199,000 183,000
Advances under credit lines 23,000 15,000
------------- ------------
Total short term borrowings 1,563,451 276,419
------------- ------------
Long term borrowings:
Securities sold under
agreements to repurchase 24,700 -
Other long term notes payable 24,368 51,809
FHLB advances 158,000 103,000
------------- ------------
Total other long term
borrowings 207,068 154,809
------------- ------------
Total other borrowings $ 1,770,519 $ 431,228
============= ============
During the nine months ended September 30, 2001 and the year ended December
31, 2000, the average balance of securities sold under short term agreements to
repurchase was $158.5 million and $76.8 million, respectively, and the average
interest rates during those periods were 3.96% and 6.05%, respectively.
Securities sold under short term agreements to repurchase generally mature
within 90 days of the dates of purchase.
During the nine months ended September 30, 2001 and the year ended December
31, 2000, the average balance of federal funds purchased was $102.5 million and
$105.3 million, respectively, and the average interest rates during those
periods were 5.25% and 6.49%, respectively. There was no such balance
outstanding at September 30, 2001 and December 31, 2000.
The FHLB advances are collateralized by loans and securities pledged to the
FHLB. The following is a breakdown of rates and maturities:
(Dollars in thousands) Short term Long term
--------------------------------------------------------------------------
Amount $ 1,199,000 $ 158,000
Maturity 2001 2002-2003
Average rates 4.20% 5.52%
As of September 30, 2001, we had short-term, unsecured credit facilities
from two financial institutions totaling $65.0 million. At September 30, 2001
and December 31, 2000, we had advances outstanding of $23.0 million and $15.0
million, respectively, under these facilities. The average rate paid on these
advances was approximately LIBOR + 0.50%. In addition, we were in compliance
with all related financial covenants for these credit facilities.
10
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
As of September 30, 2001 and December 31, 2000 and for the
Three Months and Nine Months Ended September 30, 2001 and 2000
NOTE 5--ISSUANCE OF ADDITIONAL COMPANY OBLIGATED MANDITORILY REDEEMABLE
CUMULATIVE TRUST PREFERRED SECURITIES OF SUBSIDIARY TRUST HOLDING SOLELY JUNIOR
SUBORDINATED DEBENTURES
On July 16, 2001, we completed a $15.0 million trust preferred securities
private offering. We issued the trust preferred securities through a newly
created trust subsidiary, GBB Capital VI, to a qualified institutional buyer.
The trust preferred securities bear an interest rate of 6-month LIBOR plus 3.75%
payable semi-annually. GBB Capital VI used the proceeds from the sale of the
trust preferred securities to purchase junior subordinated deferrable interest
debentures of Greater Bay. Greater Bay intends to invest a portion of the net
proceeds in one or more of our subsidiary banks to increase their capital levels
and intends to use the remaining net proceeds for general corporate purposes.
Under applicable regulatory guidelines, all of the trust preferred securities
qualify as Tier I Capital. In connection with this transaction, we concurrently
entered into an interest rate swap agreement to cap the cost of the offering at
8.75% for 10 years.
On August 20, 2001, we completed a $103.5 million trust preferred
securities underwritten public offering. We issued the trust preferred
securities through a newly created trust subsidiary, GBB Capital V. The trust
preferred securities bear an interest rate of 9.00% payable quarterly. GBB
Capital V used the proceeds from the sale of the trust preferred securities to
purchase junior subordinated deferrable interest debentures of Greater Bay.
Greater Bay intends to invest a portion of the net proceeds in one or more of
our subsidiary banks to increase their capital levels and intends to use the
remaining net proceeds for general corporate purposes. Under applicable
regulatory guidelines, $14.5 million of the trust preferred securities qualify
as Tier I Capital and $89.0 million of the trust preferred securities qualify as
Tier II Capital.
NOTE 6--FORMATION OF CNB INVESTMENT TRUST I
During the third quarter of 2001, we formed and funded CNB Investment Trust
I ("CNBIT I"), a Maryland real estate investment trust, as a wholly owned
subsidiary of Cupertino National Bank ("CNB"). CNBIT I provides CNB with
flexibility in raising capital. CNB contributed loans and corporate securities
with a net book value of $311.3 million, and $500,000 in cash to CNBIT I, in
exchange for 100% of the common and preferred stock of CNBIT I. As of September
30, 2001, the net income, assets and equity of CNBIT I are eliminated in
consolidation.
NOTE 7--PER SHARE DATA
Basic net income per share is computed by dividing net income by the
weighted average number of common shares outstanding during the year. Diluted
net income per share is computed by dividing net income by the weighted average
number of common shares plus common equivalent shares outstanding including
dilutive stock options. The following table provides a reconciliation of the
numerators and denominators of the basic and diluted net income per share
computations for the three and nine months ended September 30, 2001 and 2000.
11
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
As of September 30, 2001 and December 31, 2000 and for the
Three Months and Nine Months Ended September 30, 2001 and 2000
For the three months ended September 30, 2001
-------------------------------------------------------------------
Income Shares Per share
(Dollars in thousands, except per share amounts) (numerator) (denominator) amount
--------------------------------------------------------------------------------------------------------------------------------
Basic net income per share:
Income available to common shareholders $ 21,360 42,652,000 $ 0.50
Effect of dilutive securities:
Stock options - 1,331,000
----------- ----------
Diluted net income per share:
Income available to common shareholders
and assumed conversions $ 21,360 43,983,000 $ 0.49
=========== ==========
For the three months ended September 30, 2000
-------------------------------------------------------------------
Income Shares Per share
(Dollars in thousands, except per share amounts) (numerator) (denominator) amount
--------------------------------------------------------------------------------------------------------------------------------
Basic net income per share:
Income available to common shareholders $ 12,869 41,448,000 $ 0.31
Effect of dilutive securities:
Stock options - 2,228,000
----------- ----------
Diluted net income per share:
Income available to common shareholders
and assumed conversions $ 12,869 43,676,000 $ 0.29
=========== ==========
For the nine months ended September 30, 2001
-------------------------------------------------------------------
Income Shares Per share
(Dollars in thousands, except per share amounts) (numerator) (denominator) amount
--------------------------------------------------------------------------------------------------------------------------------
Basic net income per share:
Income available to common shareholders $ 64,039 42,515,000 $ 1.51
Effect of dilutive securities:
Stock options - 1,335,000
----------- ----------
Diluted net income per share:
Income available to common shareholders
and assumed conversions $ 64,039 43,850,000 $ 1.46
=========== ==========
For the nine months ended September 30, 2000
-------------------------------------------------------------------
Income Shares Per share
(Dollars in thousands, except per share amounts) (numerator) (denominator) amount
--------------------------------------------------------------------------------------------------------------------------------
Basic net income per share:
Income available to common shareholders $ 40,590 40,996,000 $ 0.99
Effect of dilutive securities:
Stock options - 1,985,000
----------- ----------
Diluted net income per share:
Income available to common shareholders
and assumed conversions $ 40,590 42,981,000 $ 0.94
=========== ==========
12
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
As of September 30, 2001 and December 31, 2000 and for the
Three Months and Nine Months Ended September 30, 2001 and 2000
There were options to purchase 1,475,000 shares and 1,000 shares that were
considered anti-dilutive whereby the options' exercise price was greater than
the average market price of the common shares, during the three months ended
September 30, 2001 and 2000, respectively. There were options to purchase
1,409,000 shares and 14,000 shares that were considered anti-dilutive during the
nine months ended September 30, 2001 and 2000, respectively.
The three and nine month periods ended September 30, 2000 have been
restated to reflect the 2-for-1 stock split effective as of October 4, 2000.
Weighted average shares outstanding and all per share amounts included in
the interim consolidated financial statements and notes thereto are based upon
the increased number of shares giving retroactive effect to the October 13, 2000
merger with Bank of Petaluma at a 0.5731 conversion ratio.
NOTE 7--ACTIVITY OF BUSINESS SEGMENTS
The accounting policies of the segments are described in the "Summary of
Significant Accounting Policies." Segment data includes intersegment revenue, as
well as charges allocating all corporate-headquarters costs to each of our
operating segments. Intersegment revenue is recorded at prevailing market terms
and rates and is not significant to the results of the segments. This revenue is
eliminated in consolidation. We evaluate the performances of our segments and
allocate resources to them based on net interest income, other income, net
income before income taxes, total assets and deposits.
We are organized primarily along community banking and trust divisions.
Twenty of the divisions have been aggregated into the "community banking"
segment. Community banking provides a range of commercial banking services to
small and medium-sized businesses, real estate developers, property managers,
business executives, professionals and other individuals. The GBB Trust division
has been shown as the "trust operations" segment. Our business is conducted in
the U.S.
The following table shows each segment's key operating results and
financial position for the nine months ended September 30, 2001 and 2000:
Nine months ended Nine months ended
September 30, 2001 September 30, 2000
--------------------------------- ---------------------------------
Community Trust Community Trust
(Dollars in thousands) banking operations banking operations
----------------------------------------------------------------------------------------------------------------------
Net interest income $ 206,754 $ 727 $ 168,584 $ 474
Other income 29,077 3,039 33,623 2,689
Operating expenses 64,795 2,228 62,042 2,022
Net income before income taxes (1) 110,591 1,319 128,577 998
Total assets 6,161,017 - 4,139,842 -
Deposits 4,263,794 50,557 3,864,654 60,684
Assets under administration - 633,783 - 838,659
----------
(1) Includes intercompany earnings allocation charge which is eliminated in
consolidation.
13
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
As of September 30, 2001 and December 31, 2000 and for the
Three Months and Nine Months Ended September 30, 2001 and 2000
A reconciliation of total segment net interest income and other income
combined, net income before income taxes, and total assets to the consolidated
numbers in each of these categories for the nine months ended September 30, 2001
and 2000 is presented below.
Nine months ended Nine months ended
(Dollars in thousands) September 30, 2001 September 30, 2000
------------------------------------------------------------------------------------------- -------------------------
Net interest income and other income
Total segment net interest income and other income $ 239,597 $ 205,370
Parent company net interest income and other income 1,169 (2,095)
-------------- ---------------
Consolidated net interest income and other income $ 240,766 $ 203,275
-------------- ---------------
Net income before taxes
Total segment net income before income taxes $ 111,910 $ 129,575
Parent company net income before income taxes (9,203) (37,339)
-------------- ---------------
Consolidated net income before income taxes $ 102,707 $ 92,236
============== ===============
Total assets
Total segment assets $ 6,161,017 $ 4,139,842
Parent company segment assets 682,507 408,227
-------------- ---------------
Consolidated total assets $ 6,843,524 $ 4,548,069
============== ===============
NOTE 8--CASH DIVIDEND
We declared a cash dividend of $0.115 cents per share payable on October
15, 2001 to shareholders of record as of September 28, 2001.
14
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS
OVERVIEW
Greater Bay is a bank holding company with 11 bank subsidiaries: Bank of
Petaluma, Bank of Santa Clara, Bay Area Bank, Bay Bank of Commerce, Coast
Commercial Bank, Cupertino National Bank, Golden Gate Bank, Mid-Peninsula Bank,
Mt. Diablo National Bank, Peninsula Bank of Commerce, and San Jose National Bank
which was acquired on October 23, 2001.
As of September 30, 2001, we owned GBB Capital I, GBB Capital II, GBB
Capital III, GBB Capital IV, GBB Capital V and GBB Capital VI, which are
Delaware statutory business trusts formed for the exclusive purpose of issuing
and selling Cumulative Trust Preferred Securities. We also owned CNB Investment
Trust I, a Maryland real estate investment trust, formed for the purpose of
providing CNB with flexibility in raising additional capital.
We also own Matsco Lease Finance, Inc. II and Matsco Lease Finance, Inc.
III, which are special purpose corporations formed for the exclusive purpose of
securitizing leases and issuing lease-backed notes.
We also operate through the following divisions: CAPCO, Greater Bay Bank
Contra Costa Region, Greater Bay Bank Fremont Region, Greater Bay Bank Carmel,
Greater Bay Bank Marin, Greater Bay Bank Santa Clara Valley Commercial Banking
Group, Greater Bay Bank SBA Lending Group, Greater Bay Corporate Finance Group,
Greater Bay International Banking Division, Greater Bay Trust Company, Matsco,
Pacific Business Funding and the Venture Banking Group.
We provide a wide range of commercial banking services to small and
medium-sized businesses, real estate developers, property managers, business
executives, professionals and other individuals. We operate throughout the San
Francisco Bay Area including Silicon Valley, San Francisco and the San Francisco
Peninsula, the East Bay, Santa Cruz, Marin and Sonoma Counties, with 39 offices
located in Aptos, Blackhawk, Capitola, Carmel, Cupertino, Danville, Fremont,
Hayward, Lafayette, Millbrae, Milpitas, Palo Alto, Petaluma, Pleasanton, Point
Reyes Station, Redwood City, San Francisco, San Jose, San Leandro, San Mateo,
San Ramon, San Rafael, Santa Clara, Santa Cruz, Scotts Valley, Sunnyvale, Valley
Ford, Walnut Creek and Watsonville.
At September 30, 2001, we had total assets of $6.8 billion, total loans,
net, of $3.8 billion and total deposits of $4.3 billion.
We have completed six mergers and acquisitions from December 31, 1999
through September 30, 2001. The mergers with Mt. Diablo Bancshares, Coast
Bancorp, Bank of Santa Clara and Bank of Petaluma were accounted for as a
pooling-of-interests and, accordingly, all of our financial information for the
periods prior to the mergers has been restated as if the mergers had occurred at
the beginning of the earliest period presented. The acquisitions of The Matsco
Companies, Inc. and CAPCO were accounted for using the purchase accounting
method and accordingly The Matsco Companies, Inc.'s and CAPCO's results of
operations have been included in the consolidated financial statements since the
date of acquisition. On October 23, 2001, we completed the acquisition of SJNB
Financial. See Note 2 of Notes to Consolidated Financial Statements.
The three and nine month periods ended September 30, 2000 have been
restated to reflect the 2-for-1 stock split effective October 4, 2000.
15
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS (CONTINUED)
The following discussion and analysis is intended to provide greater
details of our results of operations and financial condition. The following
discussion should be read in conjunction with our consolidated financial data
included elsewhere in this document. Certain statements under this caption
constitute "forward-looking statements" within the meaning of Section 27A of the
Securities Act of 1933, as amended, and Section 21E of the Securities Exchange
Act of 1934, as amended, which involve risks and uncertainties. Our actual
results may differ significantly from the results discussed in such
forward-looking statements. Factors that might cause such a difference include
but are not limited to economic, political, and global changes arising from the
terrorist attacks of September 11, 2001 and their aftermath, economic
conditions, competition in the geographic and business areas in which we conduct
our operations, fluctuation in interest rates, credit quality and government
regulation and other factors discussed in our Annual Report on Form 10-K for the
year ended December 31, 2000.
RESULTS OF OPERATIONS
The following table summarizes income, income per share and key financial
ratios for the periods indicated using three different measurements:
Core earnings (income before Core earnings (income before
nonrecurring warrant income, nonrecurring warrant income,
merger and other related merger and other related
nonrecurring costs, other nonrecurring costs, other
nonrecurring expenses nonrecurring expenses
and extraordinary items) and extraordinary items)
---------------------------------------- ---------------------------------------
Three months ended Three months ended Nine months ended Nine months ended
(Dollars in thousands, except per share amounts) September 30, 2001 September 30, 2000 September 30, 2001 September 30, 2000
-----------------------------------------------------------------------------------------------------------------------------------
Income $ 21,315 $ 18,303 $ 63,702 $ 49,688
Income per share:
Basic $ 0.50 $ 0.44 $ 1.50 $ 1.21
Diluted $ 0.48 $ 0.42 $ 1.45 $ 1.16
Return on average assets 1.30% 1.61% 1.47% 1.57%
Return on average shareholders' equity 21.68% 24.14% 23.30% 23.25%
Income including nonrecurring Income including nonrecurring
warrant income and before warrant income and before
merger and other related merger and other related
nonrecurring costs, other nonrecurring costs, other
nonrecurring expenses nonrecurring expenses
and extraordinary items and extraordinary items
---------------------------------------- ---------------------------------------
Three months ended Three months ended Nine months ended Nine months ended
(Dollars in thousands, except per share amounts) September 30, 2001 September 30, 2000 September 30, 2001 September 30, 2000
-----------------------------------------------------------------------------------------------------------------------------------
Income $ 21,360 $ 19,906 $ 64,038 $ 56,760
Income per share:
Basic $ 0.50 $ 0.48 $ 1.51 $ 1.38
Diluted $ 0.49 $ 0.46 $ 1.46 $ 1.32
Return on average assets 1.31% 1.75% 1.48% 1.79%
Return on average shareholders' equity 21.73% 26.25% 23.42% 26.56%
Net income (including non-recurring Net income (including non-recurring
warrant income and warrant income and
merger and other related merger and other related
nonrecurring costs, other nonrecurring costs, other
nonrecurring expenses nonrecurring expenses
and extraordinary items) and extraordinary items)
---------------------------------------- ---------------------------------------
Three months ended Three months ended Nine months ended Nine months ended
(Dollars in thousands, except per share amounts) September 30, 2001 September 30, 2000 September 30, 2001 September 30, 2000
-----------------------------------------------------------------------------------------------------------------------------------
Income $ 21,360 $ 12,869 $ 64,039 $ 40,590
Income per share:
Basic $ 0.50 $ 0.31 $ 1.51 $ 0.99
Diluted $ 0.49 $ 0.29 $ 1.46 $ 0.94
Return on average assets 1.31% 1.13% 1.48% 1.28%
Return on average shareholders' equity 21.73% 16.97% 23.42% 18.99%
16
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS (CONTINUED)
Quarter to Date
Net income for the third quarter of 2001 increased 66.0% to $21.4 million,
or $0.49 per diluted share, compared to net income of $12.9 million, or $0.29
per diluted share, for the third quarter of 2000.
The third quarter 2001 results included nonrecurring warrant income of
$77,000 ($45,000 net of taxes) compared to $2.8 million ($1.6 million, net of
taxes) during the third quarter of 2000. In addition, for the third quarter of
2001, there were no merger and other related nonrecurring costs as compared to
$11.4 million ($7.0 million, net of taxes) in the third quarter of 2000.
Income including nonrecurring warrant income and before nonrecurring merger
and other related expenses and extraordinary items, increased 7.30% to $21.4
million, or $0.49 per diluted share, in the third quarter of 2001, compared to
$19.9 million, or $0.46 per diluted share, in the third quarter of 2000.
Our core earnings (income before nonrecurring warrant income, merger and
other related nonrecurring costs, other nonrecurring expenses and extraordinary
items) for the third quarter of 2001 increased 16.5% to $21.3 million, or $0.48
per diluted share, compared to $18.3 million, or $0.42 per diluted share, in the
third quarter of 2000. Based on our core earnings for the third quarter of 2001,
our return on average shareholders' equity was 21.68% and our return on average
assets was 1.30%. During the third quarter of 2000, our core earnings resulted
in a return on average shareholders' equity of 24.14% and a return on average
assets of 1.61%.
The 16.5% increase in core earnings during the third quarter of 2001 as
compared to the third quarter of 2000 was the result of significant growth in
loans and investments. For the third quarter of 2001, net interest income
increased 21.6% as compared to the third quarter of 2000. This increase was
primarily due to a 46.6% increase in average interest-earning assets for the
third quarter of 2001 as compared to 2000. Increases in operating expenses were
required to service and support our growth. As a result, increases in revenue
were partially offset for the third quarter of 2001 by a 32.3% increase in
recurring operating expenses, as compared to the third quarter of 2000.
Year to Date
Net income for the nine months ended September 30, 2001 increased 57.8% to
$64.0 million, or $1.46 per diluted share, compared to net income of $40.6
million, or $0.94 per diluted share, for the nine months ended September 30,
2000.
The nine months ended September 30, 2001 results included nonrecurring
warrant income of $581,000 ($337,000 net of taxes) as compared to $12.1 million
($7.1 million, net of taxes) during the nine months ended September 30, 2000. In
addition, for the nine months ended September 30, 2001, there were no merger and
other related nonrecurring costs as compared to $25.5 million ($16.2 million,
net of taxes) in the nine months ended September 30, 2000.
Income including nonrecurring warrant income and before nonrecurring merger
and other related expenses and extraordinary items, increased 12.8% to $64.0
million, or $1.46 per diluted share, for the nine months ended September 30
2001, compared to $56.8 million, or $1.32 per diluted share, for the nine months
ended September 30, 2000.
Our core earnings for the nine months ended September 30, 2001 increased
28.2% to $63.7 million, or $1.45 per diluted share, compared to $49.7 million,
or $1.16 per diluted share, for the nine months ended September 30, 2000. Based
on our core earnings for the nine months ended September 30, 2001, our return on
average shareholders' equity was 23.30% and our return on average assets was
1.47%. During the nine months ended September 30, 2000, our core earnings
resulted in a return on average shareholders' equity of 23.25% and a return on
average assets of 1.57%.
17
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS (CONTINUED)
The 28.2% increase in core earnings for the nine months ended September 30,
2001 as compared to the nine months ended September 30, 2000 was the result of
significant growth in loans and investments. For the nine months ended September
30, 2001, net interest income increased 24.7% as compared to the nine months
ended September 30, 2000. This increase was primarily due to a 37.3% increase in
average interest-earning assets during the nine months ended September 30, 2001
as compared to the nine months ended September 30, 2000. Increases in operating
expenses were required to service and support our growth. As a result, increases
in revenue were partially offset for the nine months ended September 30, 2001 by
a 27.1% increase in recurring operating expenses, as compared to the nine months
ended September 30, 2000.
Net Interest Income-Overview
We are subject to continued pressure on our net interest margin, primarily
attributable to the rapidly declining interest rate environment, our asset
sensitive balance sheet, slowdown in loan and deposit growth, combined with a
shift in the mix of our interest earning assets and interest bearing
liabilities. In response to those conditions, during the second quarter of 2001,
we changed our balance sheet mix and composition as we have shifted the funding
source of our specialty finance businesses from a core deposit base to a
wholesale funding strategy. This shift in funding corresponds with our original
strategy for financing these niche specialty finance businesses. The impact of
this change has allowed us to also restructure and increase the size of our
investment portfolio by funding it with the deposits which previously supported
the specialty finance business units. The overall impact of this funding change
has been threefold. First, it has increased the overall net interest income from
operations, second it has allowed us to improve liquidity and reduce the
duration of our investment portfolio and third it has slightly reduced our asset
sensitive balance sheet. On a combined basis, this change has positioned us to
slightly reduce our exposure to declining interest rates, while also effectively
restructuring our balance sheet to take advantage of market interest rates when
they move upward.
The following table highlights the change in composition of our balance
sheet at September 30, 2001 and December 31, 2000:
Assets September 30, 2001 December 31, 2000
------------------------------------------------------------------------
Loans 56.9% 69.1%
Investments 37.1% 18.4%
Other assets 6.0% 12.5%
------------------------------------------------------------------------
100.0% 100.0%
Deposits September 30, 2001 December 31, 2000
------------------------------------------------------------------------
Demand, non-interest bearing 19.7% 24.1%
NOW, MMDA and savings 46.8% 50.0%
Time certificates 33.5% 25.9%
------------------------------------------------------------------------
100.0% 100.0%
Liabilities & Equity September 30, 2001 December 31, 2000
------------------------------------------------------------------------
Total deposits 63.0% 79.9%
Other borrowing 25.9% 8.3%
Other liabilities 5.1% 3.7%
Equity 5.9% 8.1%
------------------------------------------------------------------------
100.0% 100.0%
18
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS (CONTINUED)
The impact on our net interest margin from this change in balance sheet mix
has been a reduction in the net interest margin, offset by an increase in
average earning assets. The net interest margin based on ending assets and
liabilities at September 30, 2001 was 4.77% with interest earning assets of $6.4
billion. If we had not undertaken the change to our balance sheet mix, our net
interest margin would have been 4.97% with interest earning assets of $6.0
billion. The overall impact on our net interest income and interest rate risk
profile has been positive. Net interest income has increased, and the asset
sensitive nature of the balance sheet has been slightly reduced. Our pro forma
annualized net interest income based upon our September 30, 2001 balance sheet
is $306.8 million. If we had not undertaken the change to our balance sheet mix,
our pro forma annualized net interest income would have been $297.0 million.
Current modeling of our interest rate risk indicates that our net interest
margin would contract approximately 10 to 15 basis points for every 25 basis
point reduction in market interest rates. This relationship is estimated to be
reasonable through an additional 50 basis point decline in market interest
rates, assuming the mix and composition of our balance sheet remains similar.
The restructuring of the balance sheet has reduced a small portion of the
downward pressure on our net interest margin, but it has not substantially
reduced the upside if and when market interest rates begin their upward trend.
For every 25 basis point increase in rates, it is anticipated that our net
interest margin would increase by approximately 10 to 12 basis points. Again,
this assumes a similar mix in loans and deposits. However, in an improving
economy, we believe that our clients' demand for loans should increase, thus
having the effect of increasing the net interest margin at a more rapid pace.
For further information regarding our interest rate risk, see "Quantitative and
Qualitative Disclosures about Market Risk".
19
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS (CONTINUED)
Net Interest Income-Quarterly
Net interest income increased 21.6% to $72.8 million for the third
quarter of 2001 from $59.8 million for the third quarter of 2000. This increase
was primarily due to the $2.0 billion, or 46.6%, increase in average
interest-earning assets which was partially offset by a 98 basis point decrease
in our net yield on interest-earning assets. Net interest income increased 5.8%
in the third quarter of 2001 from $68.7 million from the second quarter of 2001.
This increase was primarily due to the $732.0 million, or 13.5%, increase in
average interest-earning assets, which was partially offset by the 40 basis
point decreases in our net yield on interest-earning assets.
The following table presents, for the periods indicated, our condensed
average balance sheet information together with interest income and yields
earned on average interest-earning assets and interest expense and rates paid on
average interest-bearing liabilities. Average balances are average daily
balances.
Three months ended Three months ended
September 30, 2001 June 30, 2001
----------------------------------------- -------------------------------------
Average Average
Average yield / Average yield /
(Dollars in thousands) balance (1) Interest rate balance (1) Interest rate
--------------------------------------------------------------------------------------------- -------------------------------------
INTEREST-EARNING ASSETS:
Fed funds sold $ 82,065 $ 1,673 8.09% $ 87,372 $ 942 4.32%
Other short term securities 321 5 6.18% 57 1 7.04%
Investment securities:
Taxable 2,095,101 33,829 6.40% 1,422,065 24,612 6.94%
Tax-exempt (2) 123,637 1,472 4.72% 139,571 1,653 4.75%
Loans (3) 3,838,288 82,727 8.55% 3,759,151 84,599 9.03%
----------- -------- ----------- --------
Total interest-earning assets 6,140,411 119,706 7.73% 5,408,216 111,807 8.29%
Noninterest-earning assets 350,591 362,568
----------- -------- ----------- --------
Total assets $ 6,490,768 119,706 $ 5,770,784 111,807
=========== -------- =========== --------
INTEREST-BEARING LIABILITIES:
Deposits:
MMDA, NOW and Savings $ 2,051,106 14,078 2.72% $ 2,080,286 15,492 2.99%
Time deposits, over $100,000 572,314 6,306 4.37% 649,212 7,870 4.86%
Other time deposits 865,166 9,382 4.30% 666,652 8,031 4.83%
----------- -------- ----------- --------
Total interest-bearing deposits 3,488,586 29,766 3.39% 3,396,150 31,393 3.71%
Other borrowings 1,516,153 17,188 4.50% 957,798 11,673 4.89%
----------- -------- ----------- --------
Total interest-bearing liabilities 5,004,739 46,954 3.72% 4,353,948 43,066 3.97%
Noninterest-bearing deposits 842,983 859,178
Other noninterest-bearing liabilities 97,218 94,373
Trust Preferred Securities 155,811 99,500
----------- -----------
Shareholders' equity 390,017 363,785
----------- -------- ----------- --------
Total shareholders' equity and
liabilities $ 6,490,768 46,954 $ 5,770,784 43,066
=========== -------- =========== --------
Net interest income $ 72,752 $ 68,741
======== ========
Interest rate spread 4.01% 4.32%
Contribution of interest free funds 0.69% 0.77%
----- -----
Net yield on interest-earnings assets(4) 4.70% 5.10%
===== =====
Three months ended
September 30, 2000
-----------------------------------------------
Average
Average yield /
(Dollars in thousands) balance (1) Interest rate
---------------------------------------------------- -----------------------------------------------
INTEREST-EARNING ASSETS:
Fed funds sold $ 194,890 $ 4,334 8.85%
Other short term securities 26,649 399 5.96%
Investment securities:
Taxable 826,183 14,978 7.21%
Tax-exempt (2) 177,876 2,185 4.89%
Loans (3) 2,962,402 74,716 10.03%
----------- --------
Total interest-earning assets 4,188,000 96,612 9.18%
Noninterest-earning assets 344,392
----------- --------
Total assets $ 4,532,392 96,612
=========== --------
INTEREST-BEARING LIABILITIES:
Deposits:
MMDA, NOW and Savings $ 2,069,924 22,590 4.34%
Time deposits, over $100,000 686,354 9,614 5.57%
Other time deposits 156,828 2,576 6.53%
----------- --------
Total interest-bearing deposits 2,913,106 34,780 4.75%
Other borrowings 131,236 2,017 6.11%
----------- --------
Total interest-bearing liabilities 3,044,342 36,797 4.81%
Noninterest-bearing deposits 859,293
Other noninterest-bearing liabilities 227,613
Trust Preferred Securities 99,500
-----------
Shareholders' equity 301,644
----------- --------
Total shareholders' equity and liabilities $ 4,532,392 36,797
=========== --------
Net interest income $ 59,815
========
Interest rate spread 4.37%
Contribution of interest free funds 1.31%
-----
Net yield on interest-earnings assets(4) 5.68%
=====
------------
(1) Nonaccrual loans are excluded from the average balance and only collected
interest on nonaccrual loans is included in the interest column.
(2) Tax equivalent yields earned on the tax exempt securities are 6.84%, 6.87%
and 6.60% for the three months ended September 30, 2001, June 30, 2001 and
September 30, 2000, respectively, using the federal statutory rate of 34%.
(3) Loan fees totaling $2.3 million, $2.1 million and $1.3 million are included
in loan interest income for three months ended September 30, 2001, June 30,
2001 and September 30, 2000, respectively.
(4) Net yield on interest-earning assets during the period equals (a) the
difference between interest income on interest-earning assets and the
interest expense on interest-bearing liabilities, divided by (b) average
interest-earning assets for the period.
20
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS (CONTINUED)
The most significant impact on our net interest income between periods
is derived from the interaction of changes in the volume of, and rate earned or
paid on, interest-earning assets and interest-bearing liabilities. The volume of
interest-earning asset dollars in loans and investments, compared to the volume
of interest-bearing liabilities represented by deposits and borrowings, combined
with the spread, produces the changes in the net interest income between
periods. The table below sets forth, for the periods indicated a summary of the
changes in average asset and liability balances (volume) and changes in average
interest rates (rate).
Three months ended September 30, 2001 Three months ended September 30, 2001
compared with June 30, 2001 compared with September 30, 2000
favorable / (unfavorable) favorable / (unfavorable)
(Dollars in thousands) Volume Rate Net Volume Rate Net
------------------------------------------------------------------------------------------- ---------------------------------------
INTEREST EARNED ON INTEREST-EARNING ASSETS
Federal funds sold $ (381) $ 1,112 $ 731 $ (2,318) $ (343) $ (2,661)
Other short term investments 6 (2) 4 (495) 101 (394)
Investment securities:
Taxable 21,091 (11,874) 9,217 30,031 (11,180) 18,851
Tax-exempt (173) (8) (181) (643) (70) (713)
Loans 9,674 (11,546) (1,872) 63,917 (55,906) 8,011
-------------------------------- -------------------------------------
Total interest income 30,216 (22,317) 7,899 90,492 (67,398) 23,094
-------------------------------- -------------------------------------
INTEREST EXPENSE ON INTEREST-BEARING LIABILITIES
Deposits:
MMDA, NOW and savings 194 1,220 1,414 203 8,309 8,512
Time deposits over $100,000 845 719 1,564 1,440 1,868 3,308
Other time deposits (6,149) 4,798 (1,351) (12,837) 6,031 (6,806)
-------------------------------- -------------------------------------
Total interest-bearing deposits (5,111) 6,738 1,627 (11,194) 16,208 5,014
Other borrowings (11,432) 5,917 (5,515) (18,940) 3,769 (15,171)
-------------------------------- -------------------------------------
Total interest expense (16,543) 12,655 (3,888) (30,135) 19,978 (10,157)
-------------------------------- -------------------------------------
Net increase (decrease) in net
interest income $ 13,674 $ (9,663) $ 4,011 $ 60,357 $(47,420) $ 12,937
================================ =====================================
The Quarter Ended September 30, 2001 Compared to September 30, 2000
-------------------------------------------------------------------
Interest income in the third quarter ended September 30, 2001 increased
23.9% to $119.7 million from $96.6 million in the quarter ended September 30,
2000. This was primarily due to the significant increase in loans and investment
securities. Average interest-earning assets increased $2.0 billion, or 46.6%, to
$6.1 billion in the three months ended September 30, 2001, compared to $4.2
billion in the same period of 2000. Average loans increased $875.9 million, or
29.6%, to $3.8 billion for the three months ended September 30, 2001 from $3.0
billion in the same period of 2000. Average investment securities, Federal funds
sold and other short-term securities, increased 87.8% to $2.3 billion in the
third quarter of 2001 from $1.2 billion in the same period of 2000. The impact
of the increase in average assets was partially offset by a decrease in the
yield earned on interest-earning assets.
During the first nine months of 2001, interest rates declined, due to
the Federal Reserve Board's reduction of the key Fed Funds Rate by 400 basis
points. As a result, the average yield on interest-earning assets decreased 145
basis points to 7.73% in the third quarter of 2001 from 9.18% in the same period
of 2000. The average yield on loans decreased 148 basis points to 8.55% in the
same period of 2001 from 10.03% in the same period of 2000.
21
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS (CONTINUED)
Interest expense in the third quarter of 2001 increased 27.6% to $47.0
million from $36.8 million in the same period of 2000. This increase was due to
greater volumes of interest-bearing liabilities. Average interest-bearing
liabilities increased 64.4% to $5.0 billion in the third quarter of 2001 from
$3.0 billion in the same period of 2000. The increase was due primarily to the
increase in other borrowings which was a result of the implementation of our
wholesale funding strategy, described above. The increase in borrowings was
augmented by deposit growth resulting from the efforts of our relationship
managers in generating core deposits from their client relationships and the
deposits derived from the activities of the Greater Bay Trust Company and the
Venture Banking Group. The impact of the increase in average liabilities was
partially offset by a decrease in the rate paid on interest bearing liabilities.
The average yield on interest-bearing liabilities decreased 109 basis
points to 3.72% in the third quarter of 2001 from 4.81% in the same period of
2000. The average yield on interest bearing deposits decreased 136 basis points
to 3.39% in the same period of 2001 from 4.75% in the same period of 2000.
During the third quarter of 2001, average noninterest-bearing deposits
decreased to $843.0 million from $859.3 million in the same period of 2000.
As a result of the foregoing, our interest rate spread decreased to
4.01% in the third quarter of 2001 from 4.37% in the same period of 2000. The
net yield on interest-earning assets decreased in the third quarter of 2001 to
4.70% from 5.68% in the same period of 2000.
The Quarter Ended September 30, 2001 Compared to June 30, 2001
--------------------------------------------------------------
Interest income in the third quarter ended September 30, 2001 increased
7.1% to $119.7 million from $111.8 million in the quarter ended June 30, 2001.
This was primarily due to the significant increase in investment securities.
Average interest-earning assets increased $731.9 million, or 13.5%, to $6.1
billion in the quarter ended September 30, 2001, compared to $5.4 billion in the
previous quarter. Average loans increased $79.1 million, or 2.1%, to $3.8
billion for the quarter ended September 30, 2001 from $3.8 billion in the
previous quarter. Average investment securities, Federal funds sold and other
short-term securities, increased 39.6% to $2.3 billion in the third quarter of
2001 from $1.6 billion in the previous quarter. The impact of the increase in
average assets was partially offset by a decrease in the yield earned on
interest-earning assets.
During the quarter ended September 30, 2001, interest rates declined,
due to the Federal Reserve Board's reduction of the key Fed Funds Rate by 125
basis points. As a result, the average yield on interest-earning assets
decreased 56 basis points to 7.73% in the third quarter of 2001 from 8.29% in
the previous quarter. The average yield on loans decreased 48 basis points to
8.55% in third quarter of 2001 from 9.03% in the previous quarter.
Interest expense in the third quarter of 2001 increased 9.0% to $47.0
million from $43.1 million in the previous quarter. This increase was due to
greater volumes of interest-bearing liabilities. Average interest-bearing
liabilities increased 14.9% to $5.0 billion in the third quarter of 2001 from
$4.4 billion in the previous quarter. The increase was due primarily to the
increase in other borrowings which was a result of the implementation of our
wholesale funding strategy, described above. The impact of the increase in
average liabilities was partially offset by a decrease in the rate paid on
interest bearing liabilities.
22
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS (CONTINUED)
The average yield on interest-bearing liabilities decreased 25 basis
points to 3.72% in the third quarter of 2001 from 3.97% in the previous quarter
of 2001. The average yield on interest bearing deposits decreased 32 basis
points to 3.39% in the third quarter of 2001 from 3.71% in the previous quarter.
During the third quarter of 2001, average noninterest-bearing deposits
decreased to $843.0 million from $859.2 million in the previous quarter.
As a result of the foregoing, our interest rate spread decreased to
4.01% in the third quarter of 2001 from 4.32% in the previous quarter. The net
yield on interest-earning assets decreased in the third quarter of 2001 to 4.70%
from 5.10% in the previous quarter.
23
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS (CONTINUED)
Net Interest Income-Year to Date
Net interest income increased 24.7% to $207.7 million for the nine months
ended September 30, 2001 from $166.5 million for the nine months ended September
30, 2000. This increase was primarily due to the $1.5 billion, or 37.3%,
increase in average interest-earning assets, which was partially offset by a 51
basis point decrease in our net yield on interest-earning assets.
The following table presents, for the periods indicated, our condensed
average balance sheet information together with interest income and yields
earned on average interest-earning assets and interest expense and rates paid on
average interest-bearing liabilities. Average balances are average daily
balances.
Nine months ended Nine months ended
September 30, 2001 September 30, 2000
------------------------------------ -----------------------------------
Average Average
Average yield / Average yield /
(Dollars in thousands) balance (1) Interest rate balance (1) Interest rate
------------------------------------------------------------------------------------------- -----------------------------------
INTEREST-EARNING ASSETS:
Fed funds sold $ 83,125 $ 5,216 8.39% $ 229,040 $ 11,626 6.78%
Other short term securities 271 14 6.91% 24,758 1,099 5.93%
Investment securities:
Taxable 1,441,602 71,457 6.63% 753,487 39,550 7.01%
Tax-exempt (2) 146,218 5,254 4.80% 165,617 6,413 5.17%
Loans (3) 3,746,475 256,266 9.15% 2,773,335 205,299 9.89%
----------- ----------- ----------- ----------
Total interest-earning assets 5,417,691 338,207 8.35% 3,946,237 263,987 8.94%
Noninterest-earning assets 370,756 292,894
----------- ----------- ----------- ----------
Total assets $ 5,788,447 338,207 $ 4,239,131 263,987
=========== ----------- =========== ----------
INTEREST-BEARING LIABILITIES:
Deposits:
MMDA, NOW and Savings $ 2,098,777 48,939 3.12% $ 2,047,210 60,995 3.98%
Time deposits, over $100,000 563,347 20,540 4.87% 619,979 24,643 5.31%
Other time deposits 715,494 26,157 4.89% 158,012 6,295 5.32%
----------- ----------- ----------- ----------
Total interest-bearing deposits 3,377,618 95,636 3.79% 2,825,201 91,933 4.35%
Other borrowings 964,511 34,832 4.83% 123,344 5,514 5.97%
----------- ----------- ----------- ----------
Total interest-bearing liabilities 4,342,129 130,468 4.02% 2,948,545 97,447 4.41%
Noninterest-bearing deposits 864,390 818,424
Other noninterest-bearing liabilities 101,777 110,647
----------- -----------
Trust Preferred Securities 115,175 76,007
----------- -----------
Shareholders' equity 364,976 285,508
----------- ----------- ----------- ----------
Total shareholders' equity and liabilities $ 5,788,447 130,468 $ 4,239,131 97,447
=========== ----------- =========== ----------
Net interest income $ 207,739 $ 166,540
=========== ==========
Interest rate spread 4.33% 4.52%
Contribution of interest free funds 0.80% 1.12%
-------- -------
Net yield on interest-earnings assets(4) 5.13% 5.64%
======== =======
----------
(1) Nonaccrual loans are excluded from the average balance and only collected
interest on nonaccrual loans is included in the interest column.
(2) Tax equivalent yields earned on the tax exempt securities are 6.94% and
7.13% for the nine months ended September 30, 2001 and September 30, 2000,
respectively, using the federal statutory rate of 34%.
(3) Loan fees totaling $7.7 million and $5.3 million are included in loan
interest income for nine months ended September 30, 2001, and September 30,
2000 respectively.
(4) Net yield on interest-earning assets during the period equals (a) the
difference between interest income on interest-earning assets and the
interest expense on interest-bearing liabilities, divided by (b) average
interest-earning assets for the period.
24
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS (CONTINUED)
The table below sets forth, for the periods indicated, a summary of the
changes in average asset and liability balances (volume) and changes in average
interest rates (rate).
Nine months ended September 30, 2001
compared with September 30, 2000
favorable / (unfavorable)
(Dollars in thousands) Volume Rate Net
-------------------------------------------------------------------------------------------------------------
INTEREST EARNED ON INTEREST-EARNING ASSETS
Federal funds sold $ (10,041) $ 3,631 $ (6,410)
Other short term investments (1,345) 260 (1,085)
Investment securities:
Taxable 35,563 (3,656) 31,907
Tax-exempt (721) (438) (1,159)
Loans 75,917 (24,950) 50,967
----------------------------------------
Total interest income 99,373 (25,153) 74,220
----------------------------------------
INTEREST EXPENSE ON INTEREST-BEARING LIABILITIES
Deposits:
MMDA, NOW and savings (2,421) 14,477 12,056
Time deposits over $100,000 2,164 1,939 4,103
Other time deposits (20,754) 892 (19,862)
----------------------------------------
Total interest-bearing deposits (21,011) 17,308 (3,703)
Other borrowings (31,261) 1,943 (29,318)
----------------------------------------
Total interest expense (52,272) 19,251 (33,021)
----------------------------------------
Net increase (decrease) in net interest income $ 47,101 $ (5,902) $ 41,199
========================================
The Nine Months Ended September 30, 2001 Compared to Nine Months Ended September
--------------------------------------------------------------------------------
30, 2000
--------
Interest income in the nine months ended September 30, 2001 increased 28.1%
to $338.2 million from $264.0 million in the same period of 2000. This was
primarily due to the significant increase in loans and investment securities.
Average interest-earning assets increased $1.5 billion, or 37.3%, to $5.4
billion in the nine months ended September 30, 2001, compared to $3.9 billion in
the same period of 2000. Average loans increased $973 million, or 35.1%, to $3.7
billion for the nine months ended September 30, 2001 from $2.8 billion in the
same period of 2000. Average investment securities, Federal funds sold and other
short-term securities, increased 42.5% to $1.7 billion in the nine months ended
2001 from $1.2 billion in the same period of 2000. The impact of the increase in
average assets was offset by a decrease in the yield earned on average
interest-earning assets.
During the first nine months of 2001, interest rates declined, due to the
Federal Reserve Board's reduction of the key Fed Funds Rate by 400 basis points.
As a result, the average yield on interest-earning assets decreased 59 basis
points to 8.35% in the nine months ended September 30, 2001 from 8.94% in the
same period of 2000 primarily due to lower interest rates. The average yield on
loans decreased 74 basis points to 9.15% in the same period of 2001 from 9.89%
for the same period of 2000.
25
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS (CONTINUED)
Interest expense in the nine months ended September 30, 2001 increased
33.9% to $130.5 million from $97.4 million for the same period of 2000. This
increase was due to greater volumes of interest-bearing liabilities. Average
interest-bearing liabilities increased 47.3% to $4.3 billion in the nine months
ended September 30, 2001 from $2.9 billion in the same period of 2000. The
increase was due primarily to the increase in other borrowings which was a
result of the implementation of our wholesale funding strategy, described above.
The increase in borrowing was augmented by deposit growth resulting from the
efforts of our relationship managers in generating core deposits from their
client relationships and the deposits derived from the activities of the Greater
Bay Trust Company and the Venture Banking Group.
The average yield on interest-bearing liabilities decreased 39 basis points
to 4.02% for the nine months ended September 30, 2001, as compared from 4.41%
for the same period of 2000. The average yield on interest bearing deposits
decreased 114 basis points to 3.79% in the same period of 2001 from 4.35% for
the same period in 2000.
During the nine months ended September 30, 2001, average
noninterest-bearing deposits increased to $864.4 million from $818.4 million in
the same period of 2000.
As a result of the foregoing, our interest rate spread decreased to 4.33%
in the nine months ended September 30, 2001 from 4.52% in the same period of
2000. The net yield on interest-earning assets decreased in the nine months
ended September 30, 2001 to 5.13% from 5.64% in the same period of 2000.
We incurred certain client service expenses with respect to our
noninterest-bearing liabilities. These expenses include courier and armored car
services, check supplies and other related items that are included in operating
expenses. If these expenses had been included in interest expense, our net yield
on interest-earning assets would have been as follows for each of the periods
presented.
Three months ended September 30, Nine months ended September 30,
-------------------------------- -------------------------------
(Dollars in thousands) 2001 2000 2001 2000
--------------------------------------------------------------------------------------------------------------------
Average noninterest bearing demand deposits $ 842,983 $ 859,293 $ 864,390 $ 818,424
Client service expenses 548 477 1,845 1,518
Client service expenses, as a percentage of
average noninterest bearing demand deposits 0.26% 0.22% 0.29% 0.25%
IMPACT ON NET YIELD ON INTEREST-EARNING ASSETS:
Net yield on interest-earning assets 4.70% 5.68% 5.13% 5.64%
Impact of client service expense (0.03)% (0.04)% (0.05)% (0.05)%
----------- ----------- ----------- -----------
Adjusted net yield on interest-earning assets 4.67% 5.64% 5.08% 5.59%
=========== =========== =========== ===========
The impact on the net yield on interest-earning assets is determined by
offsetting net interest income by the cost of client service expense, which
reduces the yield on interest-earning assets. The cost for client service
expense reflects our efforts to manage interest expense.
Provision for Loan Losses
The provision for loan losses represents the current period credit cost
associated with maintaining an appropriate allowance for credit losses. The loan
loss provision for each period is dependent upon many factors, including loan
growth, net charge-offs, changes in the composition of the loan portfolio,
delinquencies, management's assessment of the quality of the loan portfolio, the
value of the underlying collateral on problem loans and the general economic
conditions in our market area. Periodic fluctuations in the provision for loan
losses result from management's assessment of the adequacy of the allowance for
loan losses; however, actual loan losses may vary from current estimates.
26
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS (CONTINUED)
Refer to the section "Financial Condition - Allowance for Loan Losses" for
a description of our systematic methodology employed in determining an adequate
allowance for loan losses.
The provision for loan losses for the third quarter of 2001 was $7.9
million, compared to $9.8 million for the second quarter of 2001 and $7.8
million for the third quarter of 2000. The provision for loan losses for the
nine months ended September 30, 2001 was $24.7 million as compared to $21.8
million for the nine months ended September 30, 2000. In addition, in connection
with the Bank of Santa Clara, Coast Bancorp, and the Mt. Diablo Bancshares
mergers, we made an additional provision for loan losses of $3.9 million in the
third quarter of 2000 and $6.3 million for the nine months ended September 30,
2000, respectively, to conform to our allowance methodology.
For further information on nonperforming and classified loans and the
allowance for loan losses, see "Financial Condition -- Nonperforming and
Classified Assets".
Other Income
Total recurring income increased to $9.9 million in the third quarter of
2001, compared to $11.8 million for the second quarter of 2001 and $8.1 million
for the third quarter of 2000. The following table sets forth information by
category of other income for the periods indicated.
At and for the three month periods ended
-------------------------------------------------------------------------------
September 30, June 30, March 31, December 31, September 30,
(Dollars in thousands) 2001 2001 2001 2000 2000
------------------------------------------------------------------------------------------------------------------------
Service charges and other fees $ 2,192 $ 2,091 $ 2,013 $ 2,034 $ 2,219
Loan and international banking fees 1,987 2,085 2,541 2,562 2,497
Gain on sale of loans 1,684 375 835 312 429
Trust fees 865 978 886 954 822
Gain on sale of investments, net 819 3,944 1,578 21 3
ATM network revenue 803 766 662 748 817
Other income 1,538 1,588 2,216 1,289 1,288
------------- ---------- ----------- ----------- -------------
Total, recurring 9,888 11,827 10,731 7,920 8,075
Warrant income 77 504 - 870 2,767
------------- ---------- ----------- ----------- -------------
Total $ 9,965 $ 12,331 $ 10,731 $ 8,790 $ 10,842
============= ========== =========== =========== =============
The decrease in recurring income in the third quarter of 2001 as compared
to the second quarter of 2001 and third quarter of 2000 was primarily the result
of gain on sale of investments which decreased from $3.9 million during the
second quarter of 2001 to $819,000 during the third quarter of 2001. That
decrease during the third quarter of 2001 compared to the second quarter of 2001
was partially offset by a $1.3 million increase in the gain on sale of loans.
During the third quarter of 2001, we recorded an $819,000 gain on the sale
of investments, as compared to $3.9 million during the second quarter of 2001
and $3,000 during the third quarter of 2000. During the first two quarters of
2001, we undertook a program to consolidate the investment portfolios of our
subsidiary banks (see " - FINANCIAL CONDITION - Investment Securities" below for
further details). During the third quarter of 2001, sales of appreciated
securities under this program slowed, resulting in the decline in the gain on
sale of investments as compared to the second quarter.
During the third quarter of 2001, we recorded a $1.7 million gain on sale
of loans, as compared to $375,000 in the second quarter of 2001, and $429,000 in
the third quarter of 2000. $1.2 million of the gain for the third quarter of
2001 relates to the sale of $15.0 in Matsco's loan production. There were no
such gains recorded during the first two quarters on 2001. Our future plans
would indicate selling approximately 20% to 40% of Matsco's loan production.
During the first two quarters of 2001, the gain on sale of investments allowed
us to postpone the planned sale of Matsco loans. With the slowing of investment
sales during the third quarter of 2001, we began to increase the sales of
Matsco's loan production.
27
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS (CONTINUED)
The gain on sale of loans includes gains on the sale of SBA loans of
$439,000 for the third quarter of 2001, as compared to $375,000 in the second
quarter of 2001, and $429,000 in the third quarter of 2000. We originate SBA
loans with the intention of selling a significant portion of those loans into
the secondary market. Occasionally, weakness in the market for these loans will
cause us to retain newly originated loans in our portfolio until such time that
the secondary market for these loans strengthens. Such a weakness in the
secondary market for these loans took place in the latter half of 2000, causing
us to reduce the pace of our SBA loan sales. In the first quarter of 2001, we
increased the amount of the sales of SBA loans as market conditions for these
sales had improved. In the second quarter of 2001, originations declined and
market conditions continued to weaken and as a result, our pace of sales
declined.
During the third quarter of 2001, we recorded $2.0 million of loan and
international banking fees, as compared to $2.1 million in the second quarter of
2001 and to $2.5 million in the third quarter of 2000. The decline during the
third quarter of 2001 as compared to the third quarter of 2000 is a result of
the slowing growth rate in our overall loan portfolio.
Other income in the third quarter of 2001, the second quarter of 2001 and
the third quarter of 2000 included warrant income of $77,000, $504,000 and $2.8
million, which is net of related employee incentives of $33,000, $216,000 and
$759,000, respectively. At September 30, 2001, we held approximately 135 warrant
positions for which we do not have a significant recorded investment. We
occasionally receive warrants to acquire common stock from companies that are in
the start-up or development phase. The timing and amount of income derived from
the exercise and sale of client warrants typically depend upon factors beyond
our control, and cannot be predicted with any degree of accuracy and are likely
to vary materially from period to period.
Operating Expenses
The following table sets forth the major components of operating expenses
for the periods indicated.
At and for the three month periods ended
---------------------------------------------------------------------------
September 30, June 30, March 31, December 31, September 30,
(Dollars in thousands) 2001 2001 2001 2000 2000
----------------------------------------------------------------------------------------------------------------------------------
Compensation and benefits $ 19,680 $ 19,060 $ 18,405 $ 17,449 $ 15,792
Occupancy and equipment 6,597 6,286 5,863 5,711 5,575
Trust Preferred Securities 3,724 2,454 2,458 2,412 2,585
Legal and other professional fees 2,324 1,532 1,387 1,083 1,312
Client service expenses 548 653 644 563 477
FDIC insurance and regulatory assessments 406 330 273 356 379
Expenses on other real estate owned -- -- -- 5 --
Other 7,161 7,057 6,560 5,770 4,450
------------- ----------- ----------- ------------ -------------
Total operating expenses excluding
nonrecurring costs 40,440 37,372 35,590 33,349 30,570
Mergers and other related nonrecurring costs -- -- -- 4,606 11,412
------------- ----------- ----------- ------------ -------------
Total operating expenses $ 40,440 $ 37,372 $ 35,590 $ 37,955 $ 41,982
============= =========== =========== ============ =============
Efficiency ratio 48.89% 46.10% 46.23% 51.15% 59.42%
Efficiency ratio (before merger and nonrecurring
items) 48.94% 46.39% 46.23% 45.47% 45.03%
Efficiency ratio (excluding Matsco) 49.92% 45.77% 44.67% 50.66% 59.42%
Efficiency ratio (excluding Matsco and before merger
and nonrecurring items) 49.97% 46.08% 44.67% 44.84% 45.03%
Total operating expenses to average assets 2.47% 2.60% 2.84% 3.16% 3.68%
Total operating expenses to average assets (before
merger and nonrecurring) 2.47% 2.60% 2.84% 2.77% 2.68%
28
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS (CONTINUED)
Operating expenses totaled $40.4 million for the third quarter of 2001,
compared to $37.4 million for the second quarter of 2001 and $42.0 million for
the third quarter of 2000. The ratio of operating expenses to average assets was
2.47% in the third quarter of 2001, 2.60% in the second quarter of 2001, and
3.68% in the third quarter of 2000. Total operating expenses include merger and
other related nonrecurring costs.
The efficiency ratio is computed by dividing total operating expenses by
net interest income and other income. An increase in the efficiency ratio
indicates that more resources are being utilized to generate the same (or
greater) volume of income while a decrease would indicate a more efficient
allocation of resources. Our efficiency ratio before merger, nonrecurring and
extraordinary items for the third quarter of 2001 was 48.94%, compared to 46.39%
for the second quarter of 2001 and 45.03% for the third quarter of 2000.
Compensation and benefits expenses increased in the third quarter of 2001
to $19.7 million, compared to $19.1 million in the second quarter of 2001 and
$15.8 million in the third quarter of 2000. The increase in the third quarter of
2001, as compared to the second quarter is the result of increased incentive
accruals as we neared our annual incentive targets. This increase was also
impacted by an increase in full time equivalent employees from 1,047 to 1,060
during that period, which equates to an annualized growth rate in staffing of
less than 10%. We believe future growth in the employee base will be less in
subsequent quarters. An additional contributing factor to the increase in
compensation and benefits for the third quarter of 2001 as compared to the same
period in 2000 is due to the addition of Matsco and CAPCO in our results.
Trust Preferred Securities expense was $3.7 million for the third quarter
of 2001, compared to $2.5 million for the second quarter of 2001 and $2.6
million for the third quarter of 2000. The increase in this expense was the
result of the $118.5 million in Trust Preferred Securities issued in the third
quarter of 2001.
During the third quarter of 2001, legal and other professional fees
increased to $2.3 million as compared to $1.5 million for the quarter ended June
30, 2001. This increase relates primarily to consulting projects underway which
are designed to improve the efficiency of back office operations.
The increases in occupancy and equipment, Federal Deposit Insurance
Corporation ("FDIC") insurance and regulatory assessments and other operating
expenses were related to the growth in our staffing levels, loans, deposits and
trust assets.
Our goodwill amortization for the third quarter of 2001 and the second
quarter of 2001 was $272,000. Our diluted earnings per share excluding goodwill
amortization was $0.50 for the third quarter of 2001.
Income Taxes
Our effective income tax rate for the third quarter of 2001 was 37.9%,
compared to 37.5% in the second quarter of 2001 and 38.2% in the third quarter
of 2000. The effective rates were lower than the statutory rate of 42% due to
state enterprise zone tax credits and tax-exempt income on municipal securities.
The reductions were partially offset by the impact of nondeductible merger and
other related nonrecurring costs.
29
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS (CONTINUED)
FINANCIAL CONDITION
Total assets increased 33.4% to $6.8 billion at September 30, 2001,
compared to $5.1 billion at December 31, 2000. The increase in the nine months
ended September 30, 2001 was primarily due to increases in our investment and
loan portfolios funded by growth in deposits and other borrowings.
Investment Securities
Investment securities increased to $2.4 billion at September 30, 2001
compared to $962.3 million at December 31, 2000. The increase is a result of the
shift to wholesale funding sources for our specialty finance divisions. This
change allowed us to increase the size of the investment portfolio by funding it
with deposits which previously supported our specialty finance units. For
further information see "Net Interest Income - Overview" above.
During the first quarter of 2001, we began a program to consolidate the
investment portfolios of our subsidiary banks. As a result of this program, we
liquidated a number of our smaller investment positions. We anticipate that this
will result in improved operating efficiencies as well as improving the overall
yield, as our average block sizes increase. During the first three quarters of
2001, we sold securities with an amortized cost of $201.5 million for a
recognized gain of $3.8 million. Those sales include securities previously
classified as held to maturity with an amortized cost of $43.2 million for a
gain of $2.4 million. In total, these sales resulted in an insignificant
reduction in the yield on our investment portfolio despite the declining
interest rate environment. We anticipate making further investment securities
sales under this program in subsequent quarters. The average life of the
portfolio has declined from approximately 7 to approximately 3 1/2 years.
Shortening the duration of the investment portfolio will result in an increase
in the proceeds from maturities and prepayments in the next year which will
provide additional funding for loan growth when the economy begins its recovery.
Loans
Total gross loans increased to $3.9 billion at September 30, 2001, compared
to $3.6 billion at December 31, 2000 and $3.1 billion at September 30, 2000.
While we continue to anticipate loan growth, we do not expect the growth rate of
over 30% experienced during the last three years to continue. Our performance
goals for 2001 (included in a Current Report on Form 8-K filed on October 17,
2001) indicated a target loan growth rate in the range of 10%.
We have continued to see strong loan demand during the third quarter of
2001. However, even with the significant volume, we are seeing a change in our
corporate borrowers' usage of their lines of credit and we are also seeing a
slowing in the commercial construction market, as builders postpone or delay
projects that have been in process for several months. We continue to take a
conservative posture related to credit underwriting, which we believe is a
prudent course of action, especially during slowing economic times. We believe
it is in the best interest of Greater Bay Bancorp and its shareholders to focus
attention on our quality client relationships and avoid growth on the fringe
during these uncertain times. Both of these factors have combined to cause a
slowing in the growth of our loan portfolio.
30
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS (CONTINUED)
While the short-term outlook for loan growth has slowed from late 2000 and
early 2001, we are optimistic about the future, as we have continued to invest
in new businesses that we believe will bring excellent opportunities for growth
and expansion. Our acquisitions of Matsco, a dental equipment lease financing
company, at the end of 2000 and CAPCO, an asset-based financing and factoring
company, at the end of the first quarter of this year, are showing excellent
growth opportunities as they become fully integrated into the our organization.
Our new office in Carmel is now operational and will focus on large depositors,
lending and cash management. In addition, the four banks that joined us last
year are now fully integrated, both operationally and culturally into our
organization. We expect solid growth from all of these sources in the latter
part of 2001 and into 2002.
The following table presents the composition of our loan portfolio at the
dates indicated.
September 31, December 31, September 31,
2001 2000 2000
---------------------------------------------------------------------------
(Dollars in thousands) Amount % Amount % Amount %
---------------------------------------------------------------------------------------------------------------------------
Commercial $ 1,645,159 43.2% $ 1,562,712 44.4% $ 1,250,056 41.4%
Term real estate - commercial 1,177,058 30.9 967,428 27.5 890,127 29.4
---------------------------------------------------------------------------
Total Commercial 2,822,217 74.1 2,530,140 71.9 2,140,183 70.8
Real estate construction and land 675,527 17.8 691,912 19.7 581,956 19.3
Real estate other 226,553 6.0 176,568 5.0 174,997 5.8
Consumer and other 184,458 4.8 216,459 6.2 206,632 6.8
---------------------------------------------------------------------------
Total loans, gross 3,908,755 102.7 3,615,079 102.8 3,103,768 102.7
Deferred fees and discounts, net (14,075) (0.4) (13,657) (0.4) (13,440) (0.4)
---------------------------------------------------------------------------
Total loans, net of deferred fees 3,894,680 102.3 3,601,422 102.4 3,090,328 102.3
Allowance for loan losses (90,414) (2.3) (84,014) (2.4) (67,637) (2.3)
---------------------------------------------------------------------------
Total loans, net $ 3,804,266 100.0% $ 3,517,408 100.0% $ 3,022,691 100.0%
===========================================================================
31
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS (CONTINUED)
Our loan portfolio is concentrated in commercial (primarily manufacturing,
service and technology) and real estate lending, with the balance in leases and
consumer loans. While no specific industry concentration is considered
significant, our lending operations are located in a market area that is
dependent on the technology and real estate industries and supporting service
companies. Thus, a downturn in these sectors of the economy could adversely
impact our borrowers. This could, in turn, reduce the demand for loans and
adversely impact the borrowers' abilities to repay their loans, while also
adversely impacting our net interest margin and results of operations.
The following table presents the maturity distribution of our commercial,
real estate construction and land, term real estate - commercial and real estate
other portfolios and the sensitivity of such loans to changes in interest rates
at September 30, 2001.
Term Real estate
real estate- construction Real estate
(Dollars in thousands) Commercial commercial and land other
--------------------------------------------------------------------------------------------
Loans maturing in:
One year or less:
Fixed rate $ 213,899 $ 28,103 $ 33,215 $ 11,770
Variable rate 163,712 20,327 307,993 15,387
One to five years:
Fixed rate 214,885 170,819 11,680 3,801
Variable rate 530,850 167,673 303,288 33,956
After five years:
Fixed rate 342,685 389,757 5,051 36,109
Variable rate 179,128 400,379 14,300 125,530
---------- ----------- --------- -----------
Total $1,645,159 $ 1,177,058 $ 675,527 $ 226,553
========== =========== ========= ===========
32
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS (CONTINUED)
Nonperforming Assets
We generally place loans on nonaccrual status when they become 90 days past
due, unless they are well secured and in the process of collection. When a loan
is placed on nonaccrual status, any interest previously accrued and not
collected is generally reversed from income. Loans are charged off when
management determines that collection has become unlikely. Restructured loans
are those where we have granted a concession on the interest paid or original
repayment terms due to financial difficulties of the borrower. Other real estate
owned ("OREO") consists of real property acquired through foreclosure on the
related collateral underlying defaulted loans.
The following table sets forth information regarding nonperforming assets
at the dates indicated.
September 30, June 30, March 31, December 31, September 30,
(Dollars in thousands) 2001 2001 2001 2000 2000
---------------------------------------------------------------------------------------------------------------------------
Nonperforming loans:
Nonaccrual loans $ 21,620 $ 7,221 $ 17,874 $ 12,593 $ 14,884
Restructured loans - - - - 420
-------------------------------------------------------------------------
Total nonperforming loans 21,620 7,221 17,874 12,593 15,304
OREO - - 259 - 395
-------------------------------------------------------------------------
Total nonperforming assets $ 21,620 $ 7,221 $ 18,133 $ 12,593 $ 15,699
=========================================================================
Accruing loans past due 90 days or more $ 5,213 $ 833 $ 1,307 $ 723 $ 641
=========================================================================
Nonperforming assets to total loans
and OREO 0.56% 0.19% 0.49% 0.35% 0.51%
Nonperforming assets to total assets 0.32% 0.12% 0.34% 0.25% 0.35%
Nonperforming assets and accruing loans past
due 90 days or more to total loans and OREO 0.69% 0.21% 0.52% 0.37% 0.53%
Nonperforming assets and accruing loans past
due 90 days or more to total assets 0.39% 0.13% 0.36% 0.26% 0.36%
At September 30, 2001, we had $21.6 million in nonperforming assets, as
compared to $12.6 million at December 31, 2000 and $15.7 million at September
30, 2000. Our ratio of nonperforming assets to total assets at September 30,
2001 was 0.32%, as compared to 0.25% at December 31, 2000 and 0.35% at September
30, 2000. Our ratios compare favorably to the industry average ratio of
nonperforming assets to total assets of 0.62% at June 30, 2001, which represents
the most recently available data.
The balance of loans past due 90 days or more and accruing increased to
$5.2 million at September 30, 2001, as compared to $833,000 at June 30, 2001.
Three loans included in the September 30, 2001, balance totaling $2.3 million
were either paid off or were brought current including a substantial principal
pay down after quarter end. A fourth loan with a balance of $2.1 million was
brought current with respect to principal and interest in the first week of
October.
In addition to the loans disclosed above as nonaccrual or restructured,
management has also identified approximately $7.3 million in loans that, on the
basis of information known to us, were judged to have a higher than normal risk
of becoming nonperforming. Management cannot, however, predict the extent to
which economic conditions may worsen or other factors may impact on our
borrowers and our loan portfolio. Accordingly, there can be no assurance that
other loans will not become 90 days or more past due, be placed on nonaccrual,
become restructured loans, or other real estate owned in the future.
33
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS (CONTINUED)
Allowance for Loan Losses
The allowance for loan losses is established through a provision for
loan losses based on management's evaluation of risk inherent in our loan
portfolio. The allowance is increased by provisions charged against current
earnings and reduced by net charge-offs. Loans are charged off when they are
deemed to be uncollectable; recoveries are generally recorded only when cash
payments are received.
The following table sets forth information concerning our allowance for
loan losses at the dates and for the periods indicated.
At and for the three month periods ended
--------------------------------------------------------------------------
September 30, June 30, March 31, December 31, September 30,
(Dollars in thousands) 2001 2001 2001 2000 2000
------------------------------------------------------------------------------------------------------------------------------------
Period end loans outstanding $ 3,894,680 $ 3,813,572 $ 3,725,625 $ 3,601,422 $ 3,090,328
Average loans outstanding $ 3,838,288 $ 3,759,151 $ 3,638,946 $ 3,326,505 $ 2,962,402
Allowance for loan losses:
Balance at beginning of period $ 88,190 $ 85,914 $ 84,014 $ 67,637 $ 58,578
Allowance of entities acquired through mergers accounted
for under purchase accounting method -- -- 320 10,927 --
Charge-offs:
Commercial (6,636) (7,757) (6,008) (2,987) (2,790)
Term Real Estate - Commercial -- -- -- -- --
-------------------------------------------------------------------------
Total Commercial (6,636) (7,757) (6,008) (2,987) (2,790)
Real estate construction and land -- -- -- -- --
Real estate other -- -- -- -- --
Consumer and other (83) (109) (46) (67) (20)
-------------------------------------------------------------------------
Total charge-offs (6,719) (7,866) (6,054) (3,054) (2,810)
-------------------------------------------------------------------------
Recoveries:
Commercial 1,011 273 683 386 31
Term Real Estate - Commercial -- -- -- -- --
-------------------------------------------------------------------------
Total Commercial 1,011 273 683 386 31
Real estate construction and land -- -- -- -- --
Real estate other -- -- -- -- --
Consumer and other 52 20 23 37 36
-------------------------------------------------------------------------
Total recoveries 1,063 293 706 423 67
-------------------------------------------------------------------------
Net charge-offs (5,656) (7,573) (5,348) (2,631) (2,743)
Provision charged to income (1) 7,880 9,849 6,928 8,081 11,802
-------------------------------------------------------------------------
Balance at end of period $ 90,414 $ 88,190 $ 85,914 $ 84,014 $ 67,637
=========================================================================
Quarterly net charge-offs to average loans outstanding
during the period, annualized 0.58% 0.79% 0.59% 0.31% 0.37%
Year to date net charge-offs to average loans outstanding
during the period, annualized 0.66% 0.69% 0.59% 0.38% 0.41%
Allowance as a percentage of average loans outstanding 2.34% 2.34% 2.35% 2.52% 2.27%
Allowance as a percentage of period end loans outstanding 2.31% 2.30% 2.30% 2.32% 2.18%
Allowance as a percentage of non-performing loans 418.20% 1221.30% 473.80% 667.15% 430.84%
----------
(1) Includes $1.5 million and $3.9 million during the quarters ended December
31, 2000 and September 30, 2000 respectively, to conform to the Company's
reserve methodologies which are included in mergers and related
nonrecurring costs.
During the third quarter of 2001, our ratio of net charge-offs to average
loans outstanding declined to 0.58%, as compared to 0.79% for the second quarter
of 2001 and 0.37% for the third quarter of 2000.
34
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS (CONTINUED)
We employ a systematic methodology for determining our allowance for loan
losses, which includes a monthly review process and monthly adjustment of the
allowance. Our process includes a periodic loan by loan review for loans that
are individually evaluated for impairment as well as detailed reviews of other
loans (either individually or in pools). This includes an assessment of known
problem loans, potential problem loans, and other loans that exhibit indicators
of deterioration.
Our methodology incorporates a variety of risk considerations, both
quantitative and qualitative, in establishing an allowance for loan losses that
management believes is appropriate at each reporting date. Quantitative factors
include our historical loss experience, delinquency and charge-off trends,
collateral values, changes in non-performing loans, and other factors.
Quantitative factors also incorporate known information about individual loans
including borrowers' sensitivity to interest rate movements and borrowers'
sensitivity to quantifiable external factors including commodity and finished
goods prices as well as acts of nature (earthquakes, fires, etc.) that occur in
a particular period.
In view of the increasing uncertainties regarding general economic and
business conditions in our primary market areas, and in particular with respect
to the real estate and technology industries, and uncertainties specifically
related to the impact of the California energy crisis, we instituted additional
review procedures during the first quarter of 2001. As a normal part of our
ongoing analysis of loans in our real estate loan portfolio, we request and
review on an annual basis updated financial and other information from the
borrower, including updated rent rolls and lease rates.
In addition, as part of our ongoing analysis of commercial and real estate
loans, we perform stress tests on the financial condition of the borrower to
determine what magnitude of change in income or expenses of the borrower could
impact the borrower's ability to service the debt. To supplement this analysis,
we have requested our loan officers to review their loan portfolios to identify
borrowers whom they believe could suffer significant adverse effects from either
increasing energy costs or periodic power outages. We have not to date
identified any such borrowers.
Qualitative factors include the general economic environment in our
marketplace, and in particular, the state of the technology industries based in
the Silicon Valley and other key industries in the San Francisco Bay Area. Size
and complexity of individual credits in relation to lending officers' background
and experience levels, loan structure, extent and nature of waivers of existing
loan policies and pace of portfolio growth are other qualitative factors that
are considered in our methodology.
Our methodology is, and has been, consistently followed. However, as we add
new products, increase in complexity, and expand our geographic coverage, we
will enhance our methodology to keep pace with the size and complexity of the
loan portfolio. In this regard, we have periodically engaged outside firms to
independently assess our methodology, and on an ongoing basis we engage outside
firms to perform independent credit reviews of our loan portfolio. Management
believes that our systematic methodology continues to be appropriate given our
size and level of complexity.
While this methodology utilizes historical and other objective information,
the establishment of the allowance for loan losses and the classification of
loans, is to some extent, based on the judgment and experience of management. In
general, management believes that the allowance for loan losses is adequate as
of September 30, 2001. However, future changes in circumstances, economic
conditions or other factors could cause management to increase or decrease the
allowance for loan losses as necessary.
35
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS (CONTINUED)
At September 30, 2001, the allowance for loan losses was $90.4 million,
consisting of an $84.2 million allocated allowance and a $6.2 million
unallocated allowance. The unallocated allowance recognizes the model and
estimation risk associated with the allocated allowances, and management's
evaluation of various conditions, the effects of which are not directly measured
in determining the allocated allowance. The evaluation of the inherent loss
regarding these conditions involves a higher degree of uncertainty because they
are not identified with specific problem credits or portfolio segments. The
conditions evaluated in connection with the unallocated allowance include the
following at the balance sheet date:
. Business cycles and existing general economic and business conditions
affecting our key lending areas; economic and business conditions affecting
our key lending portfolios;
. Seasoning of the loan portfolio, growth in loan volumes and changes in loan
terms; and
. The results of bank regulatory examinations.
Deposits
Total deposits increased to $4.3 billion at September 30, 2001, compared to
$4.2 billion at December 31, 2000 and $3.9 billion at September 30, 2000. While
we continue to anticipate deposit growth, we do not expect the growth rate
experienced during the last three years to continue. Our performance goals for
2001 (included in a Current Report on Form 8-K filed on October 17, 2001)
indicated a target deposit growth rate of 5% to 10%.
In this economic environment, we believe our clients are more likely to
utilize deposits and cash- on-hand rather than other funding sources. This is
particularly evidenced in our venture banking unit, as our business clients
focus more on managing current operations rather than business expansion, which
has resulted in a reduction in their borrowing needs. The economic slowdown has
also impacted our Trust unit as the general market conditions have reduced
investments in our money market accounts.
Liquidity and Cash Flow
The objective of our liquidity management is to maintain each bank's
ability to meet the day-to-day cash flow requirements of our clients who either
wish to withdraw funds or require funds to meet their credit needs. We must
manage our liquidity position to allow the banks to meet the needs of their
clients while maintaining an appropriate balance between assets and liabilities
to meet the return on investment expectations of our shareholders. We monitor
the sources and uses of funds on a daily basis to maintain an acceptable
liquidity position. In addition to liquidity from core deposits and repayments
and maturities of loans and investments, the banks can utilize brokered deposit
lines, sell securities under agreements to repurchase, obtain FHLB advances or
purchase overnight Federal Funds.
Greater Bay is a company separate and apart from the banks. It must provide
for its own liquidity. Substantially all of Greater Bay's revenues are obtained
from management fees, interest received on our investments and dividends
declared and paid by the banks. There are statutory and regulatory provisions
that could limit the ability of the banks to pay dividends to Greater Bay. At
September 30, 2001, the banks had approximately $124.4 million in the aggregate
available to be paid as dividends to Greater Bay. Management of Greater Bay
believes that such restrictions will not have an impact on the ability of
Greater Bay to meet its ongoing cash obligations. As of September 30, 2001,
Greater Bay did not have any material commitments for capital expenditures.
36
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS (CONTINUED)
Net cash provided by operating activities, consisting primarily of net
income, totaled $100.7 million for the first nine months of 2001 and $61.1
million for the same period of 2000. Cash used for investing activities totaled
$1.8 billion in the first nine month of 2001 and $884.7 million in the same
period of 2000. The funds used for investing activities primarily represent
increases in loans and investment securities for each year reported.
For the nine months ended September 30, 2001, net cash provided by
financing activities was $1.6 billion, compared to $742.7 million in the same
period of 2000. Historically, our primary financing activity has been through
deposits. For the nine months ended September 30, 2001 and 2000, deposit
gathering activities generated cash of $149.3 million and $662.5 million,
respectively. This represents a total of 9.3% and 89.2% of the financing cash
flows for the nine months ended September 30, 2001 and 2000, respectively. As a
result of our wholesale funding strategy, the increase in borrowings generated
cash of $1.3 billion during the nine months ended 2001, as compared to $18.3
million for the same period in 2000.
Capital Resources
Shareholders' equity at September 30, 2001 increased to $406.7 million from
$322.4 million at December 31, 2000. Greater Bay paid dividends of $0.115, and
$0.35 per share during the three months ended September 30, 2001 and the twelve
months ended December 31, 2000, respectively, excluding dividends paid by
subsidiaries prior to the completion of their mergers.
A banking organization's total qualifying capital includes two components:
core capital (Tier 1 capital) and supplementary capital (Tier 2 capital). Core
capital, which must comprise at least half of total capital, includes common
shareholders' equity, qualifying perpetual preferred stock, trust preferred
securities (subject to regulatory limitations) and minority interests, less
goodwill. Supplementary capital includes the allowance for loan losses (subject
to certain limitations), other perpetual preferred stock, trust preferred
securities, certain other capital instruments and term subordinated debt. Our
major capital components are shareholders' equity and Trust Preferred Securities
in core capital, and the allowance for loan losses in supplementary capital.
At September 30, 2001, the minimum risk-based capital requirements to be
considered adequately capitalized were 4.0% for core capital and 8.0% for total
capital. Federal banking regulators have also adopted leverage capital
guidelines to supplement risk-based measures. The leverage ratio is determined
by dividing Tier 1 capital as defined under the risk-based guidelines by average
total assets (not risk-adjusted) for the preceding quarter. The minimum leverage
ratio is 3.0%, although certain banking organizations are expected to exceed
that amount by 1.0% or more, depending on their circumstances.
Pursuant to the Federal Deposit Insurance Corporation Improvement Act of
1991, the Federal Reserve, the Office of the Comptroller of the Currency and the
FDIC have adopted regulations setting forth a five-tier system for measuring the
capital adequacy of the financial institutions they supervise. Our capital
levels at September 30, 2001 and the two highest levels recognized under these
regulations are as follows:
Tier 1 Total
Leverage risk-based risk-based
ratio capital ratio capital ratio
------------------------------------------------------------------------
Company 7.64% 9.83% 12.86%
Well-capitalized 5.00% 6.00% 10.00%
Adequately capitalized 4.00% 4.00% 8.00%
37
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS (CONTINUED)
In order to strengthen our capital position, we issued $15.0 million in
trust preferred securities in a private offering on July 16, 2001. On August 20,
2001 we completed a $103.5 million trust preferred securities public offering.
Quantitative and Qualitative Disclosures about Market Risk
Our financial performance is impacted by, among other factors, interest
rate risk and credit risk. We utilize no derivatives to mitigate our credit
risk, relying instead on an extensive loan review process and our allowance for
loan losses. See "--Allowance for Loan Losses" herein.
Interest rate risk is the change in value due to changes in interest rates.
This risk is addressed by our Asset & Liability Management Committee ("ALCO"),
which includes senior management representatives. The ALCO monitors interest
rate risk by analyzing the potential impact to the net portfolio of equity value
and net interest income from potential changes to interest rates and considers
the impact of alternative strategies or changes in balance sheet structure. The
ALCO manages our balance sheet in part to maintain the potential impact on net
portfolio value and net interest income within acceptable ranges despite changes
in interest rates.
Our exposure to interest rate risk is reviewed on at least a quarterly
basis by the Board of Directors, the ALCO, and the Asset Liability Management
Committee of the Board of Directors Interest rate risk exposure is measured
using interest rate sensitivity analysis to determine our change in net
portfolio value in the event of hypothetical changes in interest rates. If
potential changes to net portfolio value and net interest income resulting from
hypothetical interest rate changes are not within the limits established by the
Board, the Board may direct management to adjust our asset and liability mix to
bring interest rate risk within Board-approved limits.
In order to reduce the exposure to interest rate fluctuations, we have
implemented strategies to more closely match our balance sheet. We are currently
focusing our investment activities on securities with terms or average lives
between three and six years to shorten the average duration of our assets. We
have utilized short-term borrowings and deposit marketing programs to shorten
the effective duration of our liabilities. In addition, we have utilized
interest rate swaps to manage the interest rate risk of certain liabilities.
These interest rate swaps are not an "ineffective hedge" and are accounted for
under Statement of Financial Accounting Standards ("SFAS") No. 133, "Accounting
for Derivative Instruments and Hedging Activities" as amended by SFAS No. 138,
"Accounting for Derivative Instruments and Hedging Activities" ("SFAS No. 133
and 138").
Market Value of Portfolio Equity
Interest rate sensitivity is computed by estimating the changes in net
portfolio of equity value, or market value over a range of potential changes in
interest rates. The market value of equity is the market value of our assets
minus the market value of our liabilities plus the market value of any
off-balance sheet items. The market value of each asset, liability, and
off-balance sheet item is our net present value of expected cash flows
discounted at market rates after adjustment for rate changes. We measure the
impact on market value for an immediate and sustained 100 basis point increase
and decrease (shock) in interest rates. The following table shows our projected
change in net portfolio value for this set of rate shocks and the resulting
ratio of net portfolio value to net book value as of September 30, 2001.
Projected change of net
Change in interest rates Net portfolio portfolio value Net book Ratio of NPV
------------------------
(dollars in millions) value ("NPV") Dollars Percentage value ("NBV") to NBV
---------------------------------------------------------------------------------------------------------------
100 basis point rise $ 808.8 $ 22.2 2.82% $ 406.6 198.92%
Base scenario 786.6 406.6 193.46%
100 basis point decline 765.3 (21.3) -2.71% 406.6 188.22%
38
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS (CONTINUED)
The market value of portfolio equity is based on the net present values of
each product in the portfolio, which in turn is based on cash flows factoring in
recent market prepayment estimates from public sources. The foregoing analysis
attributes significant value to our non-interest-bearing deposit balances. The
discount rates are based on recently observed spread relationships and adjusted
for the assumed interest rate changes. Some valuations are provided directly
from independent broker quotations.
Net Interest Income Simulation
The impact of interest rate changes on net interest income and net income
are measured using income simulation. The various products in our balance sheet
are modeled to simulate their income (and cash flow) behavior in relation to
interest rates. Income for the next 12 months is calculated for current interest
rates and for immediate and sustained rate shocks.
The income simulation model includes various assumptions regarding the
repricing relationships for each product. Many of our assets are floating rate
loans, which are assumed to reprice immediately, and to the same extent as the
change in market rates according to their contracted index. Our non-term deposit
products reprice more slowly, usually changing less than the change in market
rates and at our discretion. As of September 30, 2001, the analysis indicates
that our net interest income for the next 12 months would increase 2.12% if
rates increased 200 basis points, and decrease by 1.45% if rates decreased 200
basis point
This analysis indicates the impact of change in net interest income for the
given set of rate changes and assumptions. It assumes the balance sheet grows
modestly, but that our structure is to remain similar to the structure created
during the third quarter of 2001. It does not account for all the factors that
impact this analysis including changes by management to mitigate the impact of
interest rate changes or secondary impacts such as changes to our credit risk
profile as interest rates change. Furthermore loan prepayment rate estimates and
spread relationships change regularly. Interest rate changes create changes in
actual loan prepayment rates that will differ from the market estimates
incorporated in the analysis. In addition, the proportion of adjustable-rate
loans in our portfolio could decrease in future periods if market interest rates
remain at or decrease below current levels. Changes that vary significantly from
the assumptions may have significant effects on our net interest income.
The results of this sensitivity analysis should not be relied upon as
indicative of actual future results.
Gap Analysis
In addition to the above analysis, we also perform a Gap analysis as part
of the overall interest rate risk management process. This analysis is focused
on the maturity structure of assets and liabilities and their repricing
characteristics over future periods. An effective interest rate risk management
strategy seeks to match the volume of assets and liabilities maturing or
repricing during each period. Gap sensitivity is measured as the difference
between the volume of assets and liabilities in our current portfolio that is
subject to repricing at various time horizons. The main focus is usually for the
one-year cumulative gap. The difference is known as interest sensitivity gaps.
39
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS (CONTINUED)
The following table shows interest sensitivity gaps for different intervals
as of September 30, 2001:
Immediate 2 days To 7 months to 1 Year 4 years
(Dollars in thousands) or one day 6 months 12 months to 3 years to 5 years
---------------------------------------------------------------------------------------------------------------------
Assets:
Cash and due from banks $ -- $ 31,687 $ -- $ -- $ --
Federal Funds Sold 117,000 -- -- -- --
Investment securities 76,044 424,025 331,570 784,748 334,401
Loans 1,889,922 776,437 266,609 681,355 262,505
Loan losses/unearned fees -- -- -- -- --
Other assets -- 558 558 2,232 2,232
-------------------------------------------------------------------------------
Total assets $ 2,082,966 $ 1,232,707 $ 598,737 $ 1,468,335 $ 599,138
===============================================================================
Liabilities and Equity:
Deposits $ 2,018,224 $ 1,198,156 $ 217,253 $ 24,688 $ 3,397
Other borrowings -- 1,112,751 452,200 205,568 --
Trust preferred securities -- -- -- -- --
Other liabilities -- -- -- -- --
Shareholders' equity -- -- -- -- --
-------------------------------------------------------------------------------
Total liabilities and equity $ 2,018,224 $ 2,310,907 $ 669,453 $ 230,256 $ 3,397
===============================================================================
Gap $ 64,742 $(1,078,200) $ (70,716) $ 1,238,079 $ 595,741
Cumulative Gap $ 64,742 $(1,013,458) $(1,084,174) $ 153,905 $ 749,646
Cumulative Gap/total assets 0.95% -14.81% -15.84% 2.25% 10.95%
Total
More than Total rate non-rate
5 years sensitive sensitive Total
--------------------------------------------------------------
Assets:
Cash and due from banks $ -- $ 31,687 $ 181,124 $ 212,811
Federal Funds Sold -- 117,000 -- 117,000
Investment securities 464,007 2,414,795 6,706 2,421,501
Loans 17,852 3,894,680 -- 3,894,680
Loan losses/unearned fees -- -- (90,414) (90,414)
Other assets 15,901 21,481 266,465 287,946
-------------------------------------------------------------
Total assets $ 497,760 $ 6,479,643 $ 363,881 $ 6,843,524
=============================================================
Liabilities and Equity:
Deposits $ 1,062 $ 3,462,780 $ 851,570 $ 4,314,350
Other borrowings -- 1,770,519 -- 1,770,519
Trust preferred securities 218,000 218,000 -- 218,000
Other liabilities -- -- 133,995 133,995
Shareholders' equity -- -- 406,660 406,660
-------------------------------------------------------------
Total liabilities and equity $ 219,062 $ 5,451,299 $ 1,392,225 $ 6,843,524
=============================================================
Gap $ 278,698 $ 1,028,344 $(1,028,344) $ --
Cumulative Gap $ 1,028,344 $ 1,028,344 $ -- $ --
Cumulative Gap/total assets 15.03% 15.03% 0.00% 0.00%
The foregoing table indicates that we had a one year negative gap of $(1.1)
billion, or (15.84)% of total assets, at September 30, 2001. In theory, this
would indicate that at September 30, 2001, $1.1 billion more in liabilities than
assets would reprice if there were a change in interest rates over the next 365
days. Thus, if interest rates were to decline, the gap would indicate a
resulting increase in net interest margin. However, changes in the mix of
earning assets or supporting liabilities can either increase or decrease the net
interest margin without affecting interest rate sensitivity. In addition, the
interest rate spread between an asset and our supporting liability can vary
significantly while the timing of repricing of both the asset and our supporting
liability can remain the same, thus impacting net interest income. This
characteristic is referred to as a basis risk and, generally, relates to the
repricing characteristics of short-term funding sources such as certificates of
deposit.
Gap analysis has certain limitations. Measuring the volume of repricing or
maturing assets and liabilities does not always measure the full impact on the
portfolio value of equity or net interest income. Gap analysis does not account
for rate caps on products; dynamic changes such as increasing prepay speeds as
interest rates decrease, basis risk, or the benefit of non-rate funding sources.
The relation between product rate repricing and market rate changes (basis risk)
is not the same for all products. The majority of our loan portfolio reprices
quickly and completely following changes in market rates, while non-term deposit
rates in general move more slowly and usually incorporate only a fraction of the
change in rates. Products categorized as non-rate sensitive, such as our
noninterest-bearing demand deposits, in the Gap analysis behave like long term
fixed rate funding sources. Both of these factors tend to make our actual
behavior more asset sensitive than is indicated in the Gap analysis. In fact, we
experience higher net interest income when rates rise, opposite what is
indicated by the Gap analysis. In fact, during the recent period of declines in
interest rates, our net interest earning assets has declined. See "Results of
Operations Net Interest Income - The Quarter Ended September 30, 2001 Compared
to June 30, 2001". Therefore, management uses income simulation, net interest
income rate shocks and market value of portfolio equity as our primary interest
rate risk management tools.
40
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS (CONTINUED)
Recent Accounting Developments
Transfers and Servicing of Financial Assets and Extinguishments of Liabilities
------------------------------------------------------------------------------
In September 2000, the Financial Accounting Standards Board ("FASB") issued
SFAS No. 140, "Accounting for Transfers and Servicing of Financial Assets and
Extinguishments of Liabilities" ("SFAS No. 140"). SFAS No. 140 replaces SFAS No.
125 "Accounting for Transfers and Servicing of Financial Assets and
Extinguishments of Liabilities" ("SFAS No. 125"), issued in June 1996. It
revises the standards for accounting for securitizations and other transfers of
financial assets and collateral and requires certain disclosures, but it carries
over most of SFAS No. 125's provisions without reconsideration.
SFAS No. 140 is effective for transfers and servicing of financial assets
and extinguishments of liabilities occurring after September 30, 2001. SFAS No.
140 is effective for recognition and reclassification of collateral and for
disclosures relating to securitization transactions and collateral for fiscal
years ending after December 15, 2000. Disclosures about securitizations and
collateral accepted need not be reported for periods ending on or before
December 15, 2000, for which financial statements are presented for comparative
purposes. SFAS No. 140 is to be applied prospectively with certain exceptions.
Implementation of SFAS No. 140 is not expected to have a material effect on
our financial position or results of operations.
Business Combinations
---------------------
On July 20, 2001, the FASB issued SFAS No. 141 "Business Combinations"
("SFAS No. 141"). The standard concludes that all business combinations within
the scope of the statement will be accounted for using the purchase method.
Previously, the pooling-of-interests method was required whenever certain
criteria were met. Because those criteria did not distinguish economically
dissimilar transactions, similar business combinations were accounted for using
different methods that produced dramatically different financial statement
results. SFAS No. 141 requires separate recognition of intangible assets apart
from goodwill if they meet one of two criteria, the contractual-legal criterion
or the separability criterion. SFAS No. 141 also requires the disclosure of the
primary reasons for a business combination and the allocation of the purchase
price paid to the assets acquired and liabilities assumed by major balance sheet
caption.
The provisions of SFAS No. 141 apply to all business combinations initiated
after June 30, 2001. SFAS No. 141 also applies to all business combinations
accounted for using the purchase method for which the date of acquisition is
July 1, 2001 or later. Our definitive merger agreement with SJNB Financial Corp.
was signed on June 25, 2001, before the required implementation date, and
therefore SFAS No. 141 will not affect our ability to account for the merger as
a pooling of interests.
As a portion of our business strategy is to pursue acquisition
opportunities so as to expand our market presence and maintain growth levels,
the change in accounting could have an impact on our ability to realize those
business strategies. As SFAS No. 141 has just been released, the impact of these
changes has yet to be fully determined.
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MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS (CONTINUED)
Goodwill and Other Intangible Assets
------------------------------------
On July 20, 2001, the FASB also issued SFAS No. 142 "Goodwill and Other
Intangible Assets" ("SFAS No. 142"). It addressed how intangible assets that are
acquired individually or within a group of assets (but not those acquired in a
business combination) should be accounted for in the financial statements upon
their acquisition. SFAS No.142 adopts a more aggregate view of goodwill and
bases the accounting on the units of the combined entity into which an acquired
entity is aggregated. SFAS No. 142 also prescribes that goodwill and intangible
assets that have indefinite useful lives will not be amortized but rather tested
at least annually for impairment. Intangible assets that have definite lives
will continue to be amortized over their useful lives, but no longer with the
constraint of the 40 year ceiling. SFAS No. 142 provides specific guidance for
the testing of goodwill for impairment which may require re-measurement of the
fair value of the reporting unit. Additional ongoing financial statement
disclosures are also required.
The provisions of the statement are required to be applied starting with
fiscal years beginning after December 15, 2001. The statement is required to be
applied at the beginning of the fiscal year and applied to all goodwill and
other intangible assets recognized in the financials at that date. Impairment
losses are to be reported as resulting from a change in accounting principle.
As SFAS No. 142 has just been released, the impact of these changes has yet
to be fully determined.
Selected Loan Loss Allowance Methodology and Documentation Issues
-----------------------------------------------------------------
A Staff Accounting Bulletin No. 102 "Selected Loan Loss Allowance
Methodology and Documentation Issues" ("SAB No. 102") was released on July 10,
2001. It expresses certain of the staff's views on the development,
documentation and application of a systematic methodology as required by
Financial Reporting Release No. 28, Accounting for Loan Losses by Registrants
Engaged in Lending Activities, for determining allowances for loan and lease
losses in accordance with generally accepted accounting principles. In
particular, SAB No. 102 focuses on the documentation the staff normally would
expect registrants to prepare and maintain in support of their allowances for
loan losses. We have a systematic methodology for determining an appropriate
allowance for loan losses, consistently followed and supported by written
documentation and policies and procedures. In light of SAB No. 102, however, our
methodology and documentation is currently in the process of review. Any
resulting changes are not expected to have a material impact on the financial
statements.
42
PART II. OTHER INFORMATION
ITEM 1. Legal Proceedings -- Not applicable
ITEM 2. Changes in Securities and Use of Proceeds -- Not applicable
ITEM 3. Defaults Upon Senior Securities - Not applicable
ITEM 4. Submission of Matters to a Vote of Security Holders - Not applicable
ITEM 5. Other Information -- Not applicable
ITEM 6. Exhibits and Reports on Form 8-K
The Exhibits listed below are filed or incorporated by reference as part of this
Report.
(a) Exhibits
2.1 Agreement and Plan of Reorganization, dated as of June 25, 2001 by and
between Greater Bay Bancorp and SJNB Financial Corp. (Incorporated by
reference to Exhibit 2 of the Current Report on Form 8-K filed on June
26, 2001).
2.2 Amendment No. 1, dated as of September 5, 2001, to the Agreement and
Plan of Reorganization, dated as of June 25, 2001, by and between SJNB
Financial Corp. and Greater Bay Bancorp (Incorporated by reference to
Exhibit 2.3 of the Amendment No. 1 to the Registration Statement on
Form S-4 (Reg. No. 333-68336) filed by Greater Bay Bancorp on September
13, 2001.
10.1 Stock Option agreement, dated as of June 25, 2001, by and between
Greater Bay Bancorp and SJNB Financial Corp. (Incorporated by
references to exhibit 10.1 of the Current Report on Form 8-K filed on
June 26, 2001).
(b) Reports on Form 8-K
During the quarter ended September 30, 2001, the Registrant filed the
following Current Reports on Form 8-K: (1) Form 8-K filed July 18, 2001
(containing press releases regarding second quarter earnings and completion of a
$15 million trust preferred securities private offering.)
43
SIGNATURES
IN ACCORDANCE WITH THE REQUIREMENTS OF THE SECURITIES EXCHANGE ACT OF 1934, AS
AMENDED, THE REGISTRANT HAS CAUSED THIS REPORT TO BE SIGNED ON ITS BEHALF BY THE
UNDERSIGNED THEREUNTO DULY AUTHORIZED.
GREATER BAY BANCORP
(Registrant)
By:
/s/ Steven C. Smith
-------------------
Steven C. Smith
Executive Vice President, Chief Administrative Officer and
Chief Financial Officer
Date: November 14, 2001
44