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| FRGB > SEC Filings for FRGB > Form 10-K on 16-Mar-2009 | All Recent SEC Filings |
16-Mar-2009
Annual Report
The discussion and analysis of our financial condition and results of operations are based upon our consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America. The preparation of these financial statements requires management to make estimates and judgments that affect the reported amounts of assets and liabilities, revenues and expenses, and related disclosures of contingent assets and liabilities at the date of our financial statements. Actual results may differ from these estimates under different assumptions or conditions.
Executive Summary
First Regional Bancorp's financial results for both the year and the fourth quarter ended December 31, 2008 reflect higher loan loss provisions due to the continuing economic recession, the Company reported operating losses for both the fourth quarter and the full year. Core earnings (before loan loss provisions and taxes) declined from earlier periods but remained substantial.
The net loss for the quarter ended December 31, 2008 was $11.0 million, equal to 93 cents per diluted share, compared to net income for the fourth quarter of 2007 of $7.9 million, equal to 62 cents per diluted share. For the full year 2008, the Company recorded a net loss of $23.6 million, or $2.00 per diluted share, versus 2007 net income of $33.6 million, equal to $2.59 per diluted share.
At December 31, 2008, total assets were $2.465 billion, compared to $2.174 billion one year earlier. Total deposits grew to $2.130 billion from $1.721 billion a year earlier, and net loans rose to $2.257 billion from $2.020 billion at December 31, 2007. The increase in loans was the result of a decline in loan payoffs due to slower sales of completed condominium units and the ongoing funding of previously approved construction loan commitments. At the end of 2008, equity totaled $150.1 million. As First Regional has no "intangible" assets on its books, all of the Company's equity is tangible. First Regional continues to exceed all financial ratio requirements under applicable regulations for "Well Capitalized" status, the highest level established by banking regulators.
Reflecting the impact of the economic downturn, in the fourth quarter of 2008 First Regional made a $27.4 million provision to its loan loss reserve and charged off a total of $20.9 million in loans. These transactions brought the loan loss reserve to $61.3 million, or 2.64% of gross loans, at December 31, 2008. Nonperforming assets as of the same date totaled $120.7 million, or 5.19% of gross loans plus other real estate owned, compared to $10.5 million at December 31, 2007.
Clearly, these are challenging times for the nation and for financial institutions, and obviously, our results have been adversely affected by these difficult conditions. The impact of the economic climate on real estate values has been of particular concern. Our 2008 loan loss provisions reflect our ongoing review of our loan portfolio, and our current assessment of collateral values and borrower performance. It should be emphasized that the vast majority of our loan portfolio continues to be well secured and to perform as agreed. Nonetheless, our nonperforming assets increased in the fourth quarter of 2008. First Regional is continuing its long-standing practice of confronting challenges fully, directly, and realistically. We do not hesitate to place loans on non-accrual status (rendering them "nonperforming" by definition) as part of our enhanced collection program. Most of our nonperforming assets are secured by real estate, and thus our risk of loss is mitigated by the value of the underlying collateral even in a declining market. Reflecting the economic environment in which we now operate, we remain highly selective on loan transactions. While we believe we are dealing effectively with our problem loans, the economic future remains unclear, and additional loan loss provisions will be made if warranted based on our ongoing analysis of First Regional's loan portfolio performance and economic conditions in general.
First Regional's long-standing emphasis on capital strength has enabled us to deal realistically with the economic environment while maintaining "well capitalized" capital ratios, the highest standard established by banking regulators. Moreover, our core earnings (before loan loss provisions and taxes), though reduced, remain substantial despite the decline in operating margins in 2008 due to the Federal Reserve's actions to reduce interest rates in an attempt to stimulate the economy.
During February 2009, the Bank signed an order to cease and desist with the FDIC and DFI to further strengthen the Bank's operations. The agreement between First Regional Bank and its regulators is expected to help guide the Bank in addressing the impacts of today's challenging economic environment. The agreement formalizes many of the initiatives, which the Bank has already adopted, and provides useful milestones for measuring the Bank's progress as it moves forward.
As we move forward, we will continue to benefit from our skilled and experienced management and our capable and professional staff. These members of the First Regional team have shown the talent and experience to confront the challenges and to capitalize on the opportunities that will doubtless arise as the economy and the credit markets return to health. We will continue to provide our clients with our unmatched level of service and the efficient, cost-effective operation they have come to expect.
While we foresee many challenges, we remain confident regarding the future. The current environment continues to require difficult measures, but we are committed to taking those actions as necessary steps in enhancing value over time for First Regional's shareholders.
Summary
First Regional Bancorp, a bank holding company (the "Company"), and one of its subsidiaries, First Regional Bank, primarily serve Southern California through their branches. First Regional Bancorp has six other subsidiaries, First Regional Statutory Trust III, First Regional Statutory Trust IV, First Regional Statutory Trust V, First Regional Statutory Trust VI, First Regional Statutory Trust VII and First Regional Statutory Trust VIII, that exist for the sole purpose of issuing Trust Securities and investing the proceeds thereof in junior subordinated deferrable debentures issued by the Company and engaging in certain other limited activities; see Note 7 of the Consolidated Financial Statements. The following discussion and analysis relates primarily to the Bank and its three reportable business segments consisting of core bank operations, the administrative services provided by the Bank's division, Trust Administration Services(TAS), and the Bank's Trust Services Division. For segment reporting financial information see Note 19 of the Consolidated Financial Statements.
Core Bank Operations-The principal business activities of this segment are attracting funds from the general public and originating real estate and commercial loans for small and midsize businesses in Southern California. This segment's primary sources of revenue are interest income from loans and investment securities, and fees earned in connection with loans and deposits. This segment's principal expenses consist of interest paid on deposits, personnel, and other general and administrative expenses. The Bank's Core Bank Operations also include the Bank's Merchant Services Division, which provides credit card and ACH processing for Merchants.
Administrative Services-The principal business activity of this segment is providing administrative services for self-directed retirement plans. The primary source of revenue for this segment is fee income from self-directed accounts. The segment's principal expenses consist of personnel, rent, data processing, and other general and administrative expenses.
Trust Services-The principal business activity of this segment is providing trust services for living trusts, investment agency accounts, IRA rollovers, and all forms of court-related matters. The primary source of revenue for this segment is fee income. The segment's principal expenses consist of personnel, data processing, professional fees, and other general and administrative expenses.
Average assets in 2008 were $2,386,189,000 compared to $2,059,903,000 in 2007, compared to $1,940,575,000 in 2006. As was the case in 2007 and 2006, the Company's asset growth in 2008 was funded by an increase in deposits. The Company generated a net loss of $23,641,000 in 2008 compared to net income of $33,610,000 in 2007 and net income of $38,336,000 in 2006.
Distribution of Assets, Liabilities and Shareholders' Equity
The following table shows the yearly average balances of the Company's
assets, liabilities, and shareholders' equity for each of the past three years:
For Year Ended December 31,
2008 2007 2006
(Dollars in Thousands)
Assets
Cash and due from banks $ 30,036 $ 65,992 $ 81,934
Federal funds sold 19,607 11,772 5,946
Interest bearing deposits in financial 4,050 6,203 5,397
institutions
Investment Securities 24,596 24,683 11,425
Net Loans 2,222,893 1,886,332 1,781,140
Other Assets 85,007 64,921 54,733
Total Assets $ 2,386,189 $ 2,059,903 $ 1,940,575
Liabilities & Shareholders' Equity
Deposits:
Demand (non-interest bearing) $ 392,012 $ 419,981 $ 482,601
Savings and NOW Accounts 64,180 57,487 51,657
Money Market Accounts 818,615 939,424 813,581
Time 639,380 234,264 198,626
Total Deposits 1,914,187 1,651,156 1,546,465
FHLB Advances 187,053 125,439 163,992
Federal Funds purchased and other 1,132 210 34
borrowings
Subordinated Debentures 100,517 94,840 85,328
Other Liabilities 15,371 24,888 18,906
Total Liabilities 2,218,260 1,896,533 1,814,725
Shareholders' Equity 167,929 163,370 125,850
Total Liabilities and Shareholders' $ 2,386,189 $ 2,059,903 $ 1,940,575
Equity
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Critical Accounting Policies
Allowance For Loan Losses
Accounting for the allowance for loan losses involves significant judgments and assumptions by management which have a material impact on the carrying value of net loans. Management considers this accounting policy to be a critical accounting policy. The judgments and assumptions used by management are based on historical data and management's view of the current economic environment as described in "Loan Portfolio and Provision for Loan Losses".
We generally cease to accrue interest on any loan with respect to which the loan's contractual payments are more than 90 days delinquent, as well as loans classified substandard for which interest payment reserves were established from loan funds rather than borrower funds. In addition, interest is not recognized on any loan for which management has determined that collection of our investment in the loan is not reasonably assured. A non-accrual loan may be restored to accrual status when delinquent principal and interest payments are brought current, the loan is paying in accordance with its payment terms and future monthly principal and interest payments are expected to be collected.
Properties acquired through foreclosure, or deed in lieu of foreclosure, are transferred to the other real estate owned portfolio and carried at the lower of cost or estimated fair value less the estimated
costs to sell the property. The fair value of the property is based upon a current appraisal. The difference between the fair value of the real estate collateral and the loan balance at the time of transfer is recorded as a loan charge-off if fair value is lower. Subsequent to foreclosure, management periodically performs valuations and the property is carried at the lower of carrying value or fair value, less costs to sell. The determination of a property's estimated fair value includes revenues projected to be realized from disposal of the property less construction and renovation costs.
Other Real Estate Owned
Other real estate owned is recognized when a property collateralizing a loan is foreclosed upon or otherwise acquired by the Bank in satisfaction of the loan. Other real estate owned is recorded at the lower of outstanding loan balance or estimated fair value. Reductions in value at the time of foreclosure are charged against the allowance for loan losses. Allowances are recorded to provide for estimated declines in fair value and costs to sell subsequent to the date of acquisition.
Stock Based Compensation
The Company has two nonqualified employee stock option plans that are more fully described in Note 12 of the notes to the consolidated financial statements. On January 1, 2006, the Company adopted SFAS No. 123R, Share-Based Payment, using the modified prospective method. SFAS No. 123R requires companies to account for stock options using the fair value method, which generally results in compensation expense recognition. Prior to January 1, 2006, the Company accounted for its fixed stock options using the intrinsic-value method, as prescribed in Accounting Principles Board Opinion No. 25. Accordingly, no stock option expense was recorded in periods prior to January 1, 2006. The modified prospective method requires application of the new Statement to new awards and to awards modified, repurchased or cancelled after the required effective date. Accordingly, prior-period amounts have not been restated. Commencing with 2006, stock compensation cost is comprised of costs related to share-based awards granted prior to, but not yet vested as of January 1, 2006, based upon the grant date fair value estimated in accordance with the original provisions of SFAS No. 123, which will be recognized as the requisite services are rendered after January 1, 2006 and costs related to all share-based awards granted subsequent to January 1, 2006 based upon the grant date fair value estimated in accordance with the provisions of SFAS No. 123R.
Investment securities available for sale are reported in the accompanying consolidated balance sheets at fair value, and the net unrealized gain or loss on such securities (unless other-than-temporary) is reported as a separate component of shareholders' equity. The fair values of the investment securities are generally determined by reference to quoted market prices obtained from independent external brokers or independent external pricing service providers who have experience in valuing these securities. In obtaining such valuation information from third parties, the Company has evaluated the methodologies used to develop the resulting fair values.
Premiums and discounts on debt securities are amortized or accreted as adjustments to interest income using the level-yield method. Realized gains and losses on sales of securities are determined on a specific identification basis and reported in earnings.
At each reporting date, management assesses whether there are any "other-than-temporary" impairments to investment securities. Such impairment is required to be recognized in current earnings rather than other comprehensive income or loss. In assessing impairment, the severity and duration of the loss and the financial wherewithal of the issuers of the securities is considered, as well as the ability and positive intent of the Company to hold the securities until their fair values recover, which may be maturity.
Net Interest Income
Net interest income is the excess of interest income earned on interest-earning assets over interest expense incurred on interest-bearing liabilities. Interest income or expense are determined by the average volume of interest-bearing assets or liabilities, and the average rate of interest earned or paid on those assets or liabilities. As was the case during 2007, in 2008 the Company's continued growth efforts resulted in an increase in interest earning assets, including loans. The Bank's core loan portfolio increased by 12% during 2008. Although net interest income decreased primarily due to the Federal Reserve's series of rate decreases, it was mitigated by an increase in the loan portfolio. The deposit growth was centered in time deposits, while there was a decline in non-interest bearing and money market deposits and a slight decline in savings deposits. Average time deposits increased in 2008 as compared to the prior year. Interest expense for the year 2008 decreased primarily due to a decrease in interest rates during the period.
Interest Rates and Interest Differential
The following table sets forth the average balances outstanding for major
categories of interest earning assets and interest bearing liabilities and the
average interest rates earned and paid thereon:
For Year Ended December 31,
2008 2007
Interest Average Interest Average
Average Income(2)/ Yield/ Average Income(2)/ Yield/
Balance Expense Rate% Balance Expense Rate%
(Dollars in Thousands)
Interest Earning
Assets:
Loans(1) $ 2,270,792 $ 147,155 6.5 % $ 1,916,249 $ 169,303 8.8 %
Investment
securities 24,596 1,330 5.4 % 24,683 1,289 5.2 %
Federal funds sold 19,607 325 1.7 % 11,772 576 4.9 %
Time deposits with
other financial
institutions 4,050 147 3.6 % 6,203 293 4.7 %
Total Interest
Earning Assets $ 2,319,045 $ 148,957 6.4 % $ 1,958,907 $ 171,461 8.8 %
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For Year Ended December 31,
2008 2007
Average Income(2)/ Yield/ Average Income(2)/ Yield/
Balance Expense Rate% Balance Expense Rate%
(Dollars in Thousands)
Interest Bearing
Liabilities:
Savings deposits $ 64,180 $ 1,024 1.6 % $ 57,487 $ 1,331 2.3 %
Money market accounts 818,615 19,464 2.4 % 939,424 36,921 3.9 %
Time deposits 639,380 24,439 3.8 % 234,264 11,873 5.0 %
FHLB advances 187,053 4,350 2.3 % 125,439 6,414 5.1 %
Fed Funds purchased
and other borrowings 1,132 33 2.9 % 210 16 7.6 %
Subordinated
debentures 100,517 5,253 5.2 % 94,840 7,095 7.5 %
Total Interest
Bearing Liabilities $ 1,810,877 $ 54,563 3.0 % $ 1,451,664 $ 63,650 4.4 %
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º (2)
º Includes loan fees of $8,280,000 in 2008 and $10,838,000 in 2007.
The following table shows the net interest earnings and the net yield on average interest earning assets:
For Year Ended
December 31,
2008 2007
(Dollars in Thousands)
Total interest income(1) $ 148,957 $ 171,461
Total interest expense 54,563 63,650
Net interest earnings $ 94,394 $ 107,811
Average interest earning assets $ 2,319,045 $ 1,958,907
Average interest bearing liabilities $ 1,810,877 $ 1,451,664
Net yield on average interest earning assets 4.1 % 5.5 %
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º (1)
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The following table sets forth changes in interest income and interest expense. The net change as shown in the column "Net Increase (Decrease)" is segmented into the change attributable to variations in volume and the change attributable to variations in interest rates. Non-performing loans are included in average loans.
Increase (Decrease)
December 31,
2008 over 2007
Volume Rate Net
(Dollars in Thousands)
Interest Income(1)
Loans(2) $ 50,276 $ (72,424 ) $ (22,148 )
Investment securities (5 ) 46 41
Federal Funds sold (38,595 ) 38,344 (251 )
Interest on time deposits
with other financial
institutions (88 ) (58 ) (146 )
Total Interest Earning Assets $ 11,588 $ (34,092 ) $ (22,504 )
Interest Expense(1)
Savings deposits $ 184 $ (491 ) $ (307 )
Money market accounts (4,287 ) (13,170 ) (17,457 )
Time deposits 14,648 (2,082 ) 12,566
FHLB advances 18,773 (20,837 ) (2,064 )
Federal Funds purchased and
other borrowings 20 (3 ) 17
Subordinated debentures 456 (2,298 ) (1,842 )
Total Interest Bearing
Liabilities $ 29,794 $ (38,881 ) $ (9,087 )
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º (2)
º Includes loan fees of $8,280,000 in 2008 and $10,838,000 in 2007.
Because customer deposits are the Company's principal funding source outside of its capital, management has attempted to match repricing characteristics of its deposits with its investment and loan portfolios as part of its liquidity and asset and liability management policies. The
objective of these policies is to manage the Company's interest rate sensitivity and limit the fluctuations of net interest income resulting from interest rate changes. The table which follows in section 7A indicates the repricing or maturity characteristics of the major categories of the Bank's assets and liabilities as of December 31, 2008, and thus the relative sensitivity of the Bank's net interest income to changes in the overall level of interest rates.
Other Operating Income
Other operating income increased for 2008 to $12,165,000, versus $11,421,000 in 2007 and $8,307,000 for the year 2006. Trust Administration Services (TAS), the Bank's division that provides administrative services to self-directed retirement plans, had revenue that totaled $2,332,000 during 2008 and $2,464,000 during 2007 and $2,428,000 during 2006. The Bank's merchant services operation, which provides credit card deposit and clearing services to retailers and other credit card accepting businesses, had revenue that totaled $1,568,000 in 2008, $1,103,000 in 2007 and $1,458,000 in 2006. The Bank's trust services department, which provides trust services for living trusts, investment agency accounts, IRA rollovers, and all forms of court-related matters had revenue that totaled $2,219,000 in 2008, $2,084,000 in 2007 and $1,632,000 in 2006. During the first quarter of 2008, the Company realized a gain of $2,758,000 on the redemption of restricted stock in VISA, Inc. During the fourth quarter of 2007, the company realized a gain of $2,455,000 on the redemption of restricted stock in MasterCard International.
Loan Portfolio and Provision for Loan Losses
The loan portfolio consisted of the following at December 31, 2008 and 2007:
2008 2007
(Dollars in Thousands)
Commercial loans $ 276,885 $ 255,077
Real estate construction loans 603,866 591,334
Real estate loans 1,438,758 1,199,070
Government guaranteed loans 1,337 2,661
Other loans 2,601 2,412
Total loans 2,323,447 2,050,554
Less-Allowances for loan losses 61,336 22,771
-Deferred loan fees 4,632 7,566
Net loans $ 2,257,479 $ 2,020,217
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The Bank offers a full range of lending services including commercial, real . . .
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